Cement - Weakness persists, near term triggers lacking - Centrum

Cement companies under our coverage are expected to post weak numbers in Q3FY14E led by decline in volume and weak realization. Led by volume and realization decline, average operating margin of our coverage price is expected to contract on a YoY basis, though on a sequential basis, there could be some improvement led by lower repair & maintenance costs. Cement realization is facing continuous pressure due to lower demand which will keep OPMs of cement companies under pressure in the near term. Our interactions with cement dealers suggest that cement prices continue to remain volatile and there have been price declines recently. We believe the pressure on realization with no-near term triggers for volume recovery will suppress stock prices for the next 2-3 quarters and hence, maintain our cautious stance on the sector. We have also downgraded our rating on Kajaria Ceramics to Hold (earlier: Buy) considering the steep 24% increase in the stock price in the past month.

- Sluggish volume growth: Aggregate sales volume of our coverage universe is expected to decline 3% YoY due to subdued demand. In our coverage universe, volume is set to decline 4-8% YoY for large cement players. Shree Cement is expected to post a volume growth of 11.5% YoY in the quarter.

- Realization to remain under pressure: Average realization for our coverage universe is expected to decline 4.8% YoY in the quarter primarily due to sharp fall in realization of Ambuja Cements, Shree Cement and JK Cement. Realization of Ambuja and Shree cement is expected to remain under pressure due to higher non-trade sales. UltraTech Cement is expected to post realization growth of 2% YoY during the quarter.

- Pressure on cement price and sales volume leads to downward revision in earnings estimates: Lower-than-expected improvement in cement price (average 1.6% QoQ vs. est. 4% earlier) and delayed recovery in cement consumption growth forces us to cut EBITDA estimates sharply for our coverage universe. We expect Bloomberg consensus estimate to be revised downwards sharply post the result season. We have revised EBITDA estimates for coverage universe downwards by 9-18% for FY14E and 6-14% for FY15E.

- Recommendation and key risks: We maintain a cautious stance on the cement sector for the next 2-3 quarters as cement price is under continued pressure due to lower demand. Our interaction with industry participants suggest that cement demand will only improve post general elections. We are also concerned over the sharp deterioration in earnings quality of cement companies under our coverage. Key upside risks to our thesis could be a) sharp recovery in cement consumption, b) higher-than-estimated cement price and c) lower energy costs.

Source : Equity Bulls

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