In terms of demand revival, there seems to be no light at the end of the tunnel for cement companies. Limited fiscal room to fix the consumption slowdown has renewed concerns about government spending.

Analysts are worried about its repercussion on the already weak cement demand. Subdued demand and consequently correcting prices would result in valuation erosion for cement stocks.

Graphic by Santosh Sharma/Mint
Graphic by Santosh Sharma/Mint

Rating agency Crisil Ltd recently cautioned that it expects cement demand growth to witness a mid-cycle slowdown to 5-5.5%. “This is down sharply from 12% in fiscal 2019. Growth would be lower compared with even fiscal 2018, when it had printed 9%," it said in a report on 7 September.

In the first half of FY20, other factors such as shortages of water and labour due to the general election also had a bearing on cement demand.

Lately, cement producers have been reliant on government spending on infrastructure and related activities, which is estimated to contribute to nearly 35-40% of the building material’s demand. The dependence on the government has increased thanks to the lull in the real estate housing market—the biggest driver of cement demand. But clearly, this one source won’t be enough to move the needle on overall cement demand.

On the capacity side, analysts expect around 20 million tonnes per annum to get added in FY20. However, the existing capacity overhang is estimated to keep utilization moderate at around 70% in FY20.

And the ongoing correction in cement prices is clearly reflecting this pain. Dealers channel checks by various brokerage houses show that cement prices remained weak in August. Average cement price at an all-India level was at 335/bag, down 10/bag from the previous month. One cement bag weighs 50kg.

Of course, there is some respite coming from softening input costs. But that can offset subdued prices only to a certain extent.

Not surprisingly, valuation estimates for key cement producers for FY21 have been toned down in recent months.

“Driven by sharp price hikes in April and May, 1QFY20 was one of the best quarters for profit growth for most cement companies. But cement prices moderated since mid-June in most markets. This reflects pressure due to flat volumes in 1HFY20. The sector’s one-year forward EV/Ebitda corrected by 20% (since April 2019) and currently trades at 12 times one-year forward EV/EBITDA," said an Ambit Capital Ltd report dated 27 August. EV stands for enterprise value and Ebitda is short for earnings before interest, tax, depreciation and amortization.

Needless to say, the reality check on the cement industry’s valuations was long due.