Why large cap cement stocks face downgrades
ET Bureau, 13 January 2017:
Large cement companies are likely to face another bout of earnings downgrade by analysts following low demand, both in urban and rural areas, and rising cost of raw materials, which will put pressure on profitability . Earnings estimates of companies including UltraTech Cement BSE -0.85 %, ACCBSE -0.54 %, Ambuja CementsBSE -0.54 % and Shree Cement BSE -0.25 % for FY17 are likely to fall 10-15%.
The government's decision to replace high denominated notes has affected cement manufacturers. With the exception of the southern region, cement sales in the rest of India take place in cash. Therefore, the cash crunch due to demonetisation has hurt cement volumes.
In the urban areas, cement demand is impacted due to no new launches of real estate projects and drop in sales of the existing ones. According to real estate consultancy firm Knight Frank India, real estate sales were down 44% year-on year in the December 2016 quarter, while new project fell by 61%. In the semi-urban and rural areas, due to liquidity crunch, decision to repair, renovate or build individual housing has been delayed. Housing demand from rural areas contributes 40% to total cement demand.
Rising raw material costs is another concern. In the six months ended December 2016, international pet coke prices rose by 30% while coal prices increased by 40%. Pet coke forms 30-40% of power and fuel expenses of cement companies. This will affect their operating margin.
Due to these factors, analysts have reduced the FY17 estimate of volume growth to 4-5% from earlier 6-7%. This should hurt cement realisations of the top pack by 5-10%.Stocks of top cement companies have fallen by 11-16% since demonetisation announcement. The enterprise values of the top cement makers are currently in the range of 12-15.5 times EBITDA compared with the historical range of 13-18.