Contents
n Research Update Included
Cement Sector Update March 2010 ; Costly times ahead – lowering rating & targets
Cement stocks outperform significantly - EV/ton of $113 at recent peaks
Cement stocks have outperformed the broader market by 20-30% over the last 3 months, driven by news flows on cement price hikes and double digit dispatches growth. This sharp outperformance has resulted in the sector trading at an EV/ton of USD 113, the peak valuation it attained in July 2009. However, we believe the street has failed to notice the gradual rise in prices of key materials. International coal prices are up 60% from its July 2009 lows, domestic linkage coal prices have been hiked by 11%, fly ash cost is up by ~ 20%.
Cement cost of sales to cross previous highs; up 9% yoy to Rs3203/ton
We expect the cement sector to witness increasing cost pressures and estimate the total cost of sales of cement to increase by 9% yoy to Rs3203/ton in FY2011, or approximately Rs13/bag. Out of this, Rs9/bag is increase in cost of production, which means cost of production at Rs137/bag is likely to cross its previous highs of Rs133/bag, seen in Q3FY09.
Price unlikely to cross previous highs
While we remain bullish on cement demand (factoring in 10% yoy growth in demand), we see that the bunching up of capacities in Q2FY11 (expect close to 48 mtpa of new capacities to be added over H2FY10 and H1FY11) is likely to put pressure on cement prices. Hence, we believe that prices are unlikely to cross previous highs (Rs257/bag in July 2009).
Sector profitability to remain subdued in FY2011
With cement prices unlikely to cross previous highs, but costs headed towards previous highs, we expect the sector profitability to remain subdued in FY11, with an EBIDTA/ton of Rs852 (or Rs43/bag - declining by ~22% yoy), which is way below FY10 levels (EBIDTA/ton of Rs1089 or Rs54/bag).
Downgrading earnings by 3-9%
On account of increasing cost pressures, we are downgrading earnings estimates of our coverage universe by 3.5% to 8.8%. We would like to highlight that the downgrade in earnings is despite factoring continued pricing strength till June 2010.
Lowering ratings & price target on stocks - Downside of 10-21%
We had been positive on the cement sector as the sector, till now, was enjoying firm pricing scenario and was benefiting from the sharp moderation in costs. This had given companies enough headroom to protect its profitability in a weak cement pricing scenario also. However, we believe that the recent increase in cost pressures has significantly squeezed that head room while the likely reversal of recent pricing power by Q2FY11 have created downside risk to sector profitability. We turn cautious on the sector and lower our rating from POSITIVE to NEUTRAL and downgrade rating & price target of companies under our coverage. Our price targets imply a 10-21% downside in stocks. Higher than expected cement prices and any sharp decline in coal prices remain key risk to our call.
Below 20-HSMA
In the midst of negative market breadth, the overall sentiment for the day remained in the corner of bears. Finally, Nifty closed below 20-hourly simple moving average, with a loss of 20 odd points on account of selling in Metal and Oil & Gas space. With the break below the support of 5090 level the near term trend seems to have matured and some profit taking is likely, which means that Nifty has a very high probability of sliding upto 4954. In doing so, some momentary pause can be expected near 5050 (i.e. 50-HEMA). However on upside the clearance of 5148 will stretch Nifty for higher targets of 5200 and above.
BSE Metal:
Selling was witnessed in the BSE Metal index and it finally closed at 17272 with a loss of -1.56%. As on the daily chart this index had made Bearish Engulfing pattern, thus in the coming days we will witnessed further downside in this index and it can come down to 16987 and 16736 levels, which are 38.20% and 50% retracement level of the recent rally from 15670 to 17801.
BSE Oil & Gas :
BSE Oil & Gas index broke the 200DEMA and further closed below that at 9649 with a loss of 1.25%. On the daily degree this index had already retraced 61.80% of the recent rally from 9470 to 9903, thus now we believe that in the coming days if this index starts trading below 9633 levels, then we will witnessed further downside in this index and it will test its recent low of 9470.
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Emkay Research
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