Mr. Rajesh Ravi, Institutional Research Analyst, HDFC Securities
We believe the north and central cement markets in India are in a sweet spot. Despite muted demand, cement prices in these regions have been buoyant, driven by troika of considerable regional consolidation, high clinker utilisation, and a limited influx of new entrants. Companies in these regions are also enjoying low input cost inflation (high PPC sales and higher usage of low cost WHRS power). We believe these benefits will continue to sweeten profitability, validating our preference for companies in these regions. We initiate coverage on two prominent names in these regions: Birla Corporation (BCORP, target price Rs 1,191) and Heidelberg Cement (HEIM, target price Rs 234) with BUY recommendations. Top picks- UltraTech and Ambuja (large caps), JK Cement and Birla Corp (mid-caps).
Dissecting industry's pricing power: Our analysis of regional demand and supply suggests that demand is not the key driver for pricing power. During FY15-20, north/central regions witnessed a robust 4.5% price CAGR, despite a modest 3% demand CAGR. South and west regions with similar demand growth rate experienced 0% and 2% price CAGRs respectively. Concurrently, prices in east grew at a flattish rate of 1%, despite robust ~12% demand CAGR. We believe a combination of three factors explain this dichotomy better: regional capacity consolidation, clinker utilisation, and influx of new entrants.
North and central regions in a sweet spot: These two regions have uniquely enjoyed the troika of massive capacity consolidation, high regional utilisation, and the absence of disturbance from new entrants in the past five years. Our analysis suggests these forces to remain mostly favourable during FY21-23E. Thus, despite a high base, we expect cement prices to continue to firm up in these regions, driving profit momentum.
Additional cost triggers: Moreover, players in north and central regions are largely retail-focused and, hence, major producers of PPC (fly ash based). This has driven low input cost inflation. As cement kilns in these regions are operating at high utilisation, WHRS based low-cost electricity availability is also the highest in these regions, further boosting margins.
Initiate coverage two prominent names in these regions - BCORP and HEIM: We initiate coverage with a BUY on BCROP with a target price of Rs 1,191/sh. It has built a strong retail franchise and is also working on multiple cost reduction programs, which should support its robust margin and boost cashflows. We also initiate coverage on HEIM with a BUY and a target price of Rs 234/sh. HEIM has bolstered its distribution and opex, increased capacity through low cost debottlenecking. All these have led to its industry-leading margin and highest RoE, both of which are sustainable, in our view.
Coverage outlook: We roll forward valuations for our coverage universe on Sep'22E (from Jun'22E earlier), leading to target price upgrades. Post the recent fall in stock price of Shree Cement (a major player in north and central regions), we upgrade it to ADD from REDUCE earlier. We also continue to like other major sellers in north and central regions - Ambuja Cement, JK Cement, and JK Lakshmi. Top picks- UltraTech and Ambuja in the large caps, JK Cement and Birla Corp in the mid-cap space.