Brokerage Report: With Edition:

Cement price set to decline:

The first sign of oversupply in India's Southern region and its impact on cement prices post incremental capacity addition of 20mn tones during FY09 and Q1FY10 in the region, have been witnessed.

On pan India basis, industry have added around 30mn tones in FY09 and 15mn tones in Q1FY10 and is expected to further add 30mn tones in H2FY10 which will exert downward pressure on cement prices, most likely from Q4FY10.

While we can expect overall capacity utilization for the industry to drop from 95% in FY07 to 75% by FY10 and cement price would correct around 4% in Q4FY10 and 7% in FY11.

We can thus expect the impending oversupply coupled with declining trend in cement price would have a negative effect on the stocks, and hence we maintain our underperformer rating for the sector.

Over-supply in southern region: Cement industry has increased the price by around Rs. 20/bag across regions except for southern region where price has gone down by around Rs 15-20/bag in last six months. This could be the first sign of impact of oversupply (20mn tones of incremental capacity in last fifteen months) in the region which has resulted into cement price decline despite demand growth at moderate rate.

We can also expect the situation of southern India would spread out to across region in next six months and would lead to sharp price correction.

The additional capacity to bring down utilization to 75% in FY10 and 74% in FY11, can be expected an a sharp correction in cement prices is inevitable. Apart from that focus towards retaining market share would also fuel the price war in the industry. It can be safely assumed that cement prices could fall around 11% over the next two years due to a glut of supply and lower capacity utilization.

We have factored a 4% drop in Q4FY10, followed by a 7% decline in FY11 in our earning model.

Input cost has bottomed out: Most of the key raw material for cement production have bottomed out and have started moving upward (~ coal up by around 20%, crude oil price increased by 80%, baltic dry index up by ~50%). Apart from that government has recently increased royalty on limestone by Rs. 18/tone which has increased the cost of cement production by Rs. 22/tones. Coal India has proposed to increase the coal price by 11%, which will increase the cost of production by around Rs. 26/tones.

On one side cost of production is increasing and the other side cement price has started going down which will be a double whammy for the decline in sectors profitability.

This will also going to have some NEGATIVE effect on companies which have some bearing on the cement industry, like Premier Explosives Ltd, AIA Engineering Ltd, etc.