Cement – Q2FY20 result preview – Demand pangs; recovery in H2FY20 key
The muted cement demand trend seen in Q1FY20 (owing to general elections) persisted through Q2FY20 amid ongoing economic slowdown and furious rains. While government data indicate flat volumes for H1FY20, industry participants estimate a dip of about 3%. Cement prices succumbed to volume pressure and, thus, may have dipped 7–8% QoQ versus a 9–10% surge in Q1FY20. Yet, results for companies under our coverage are expected to be a mixed bag with a few likely to post continued strong EBITDA growth given their high realisations over the past year and benefits of benign fuel cost. We estimate aggregate EBITDA would rise 18% YoY. Going ahead, demand recovery (November onwards) holds key to our positive sector hypothesis even as other parameters – continued high industry clinker utilisation and benign fuel cost trend – remain intact.
Demand weighs on prices
Cement demand remained muted in Q2FY20 owing to the economic slowdown and heavy rains/floods across major states in the country. The lack of pickup in government orders added to the woes. Even as cement prices remained resilient in Q1FY20, weak demand impacted prices with all-India average prices coming off 7–8% QoQ. Prices corrected the most in the eastern and southern regions; cuts in northern and central regions were smaller.
Costs likely to offer solace
Even as sluggish demand and declining cement prices raise concern, we expect declining fuel prices to offer respite. International/domestic pet coke prices have declined >13%/10% with international coal witnessing a fall of >5% (average Q2FY20 versus Q1FY20). Industry is also expected to benefit from increased availability of domestic coal (cheaper on a landed cost basis for plants closer to coal mines) as Coal India ramps up supply to non-power sectors. With crude oil giving up its recent gains (back to sub-USD60/bbl level), we expect diesel prices to remain range-bound.
Outlook: Demand recovery remains pivotal
With H1FY20 demand being flat, recovery in H2 (from November 2019) will be a key event to watch out for. Being optimistic, we estimate industry to grow 3–4% in FY20 while maintaining a 6% CAGR estimate for the medium term. With volumes and prices likely to recover in H2FY20 as well as continued benefits of low fuel cost, we expect the cement industry to post robust earnings growth going ahead. Lack of aggressive capacity addition further bolsters our view of improving industry clinker utilisation. All in all, we maintain our positive stance on the sector given favourable demand outlook over the medium-to-long term, high industry clinker utilisation and a low fuel cost trend. Our top picks are UltraTech Cement in large-caps and JK Cement in mid-caps.