Cement players from South catch up

With demand improving and price rises sustaining, profitability will improve for South-based companies

As pan-India and North-based cement companies’ scrips continue rallying on the bourses, those having exposure to the southern region have joined the party. Ramco Cements hit an all-time high of Rs 362.10 on Wednesday and Orient Cement scaled a new high of Rs 130.85 last week, now trading at Rs 125.50. India Cements, after a sharp run-up, trades at Rs 122.80, close to its 52-week highs.

This rally has been driven by the expectation that demand in South India will get a boost after the Telangana state formation, ending the political uncertainty. Prices in South India and especially Andhra Pradesh, that had remained weak, have been looking up since June. Price increases helped boost the average per bag in the south to almost Rs 300, at par with the national average.

Thus, an improvement in realisations and demand are likely to help improve profitability. Which should help these companies narrow the valuation gap with pan- India and other regional entities. Currently, enterprise value (EV) per tonne for CLSA cement universe stands at $170 based on FY15 capacities. Ramco Cements, Orient Cement and India Cements trade at replacement costs of $135, $86 and $71, respectively, based on FY15 estimated capacities. While some gap is warranted, given the size of larger players, there is potential for the discount to narrow.

Ramco
Ramco, with yearly capacity of 15.5 million tonnes (mt), remains a top pick of most analysts. The company, which has seen earnings contract in the past four years, is estimated to see much better growth. Consensus suggests its earnings are expected to grow at a compounded annual (CAGR) 65-66 per cent over FY14-16. The company has capacities in Andhra, Tamil Nadu and Karnataka, helping it have a diversified exposure. The only concern analysts have is that there is no major capital expenditure lined for the near term. However, looking at low capacity utilisations currently, there is enough leeway to cater to a possible rise in demand. Trading at an EV per tonne of $117 on FY16 capacities, most analysts have a strong 'Buy' rating on the stock. While the target price is close to the current market one, the potential for upgrades exists. Investors could, thus, consider it on dips.

Orient Cement
Orient Cement, which sells about 30 per cent of its produce in Telangana, sells the rest in the western part of the country. Like Ramco, this adds to geographical diversification and helps sustain higher capacity utilisation.

Operating at 80-plus per cent of capacity, it is ahead of both pan-India and regional peers. While capacity utilisation is already high, volumes are likely to get a boost from the upcoming three mt facilities in Karnataka to be commissioned at the start of FY16, which would take the total to eight mt.

Based on an FY16 EV per tonne of $90, Ravi Sodah at Elara Capital has a target price of Rs 154 for the stock, trading at Rs 125 levels. By Bloomberg, the target price range is Rs 119-154.

India Cements
India Cements has faced the highest slowdown heat in the recent past. Having a majority of its capacities in Andhra Pradesh not only saw over-supply of cement but also demand getting hit due to the Telangana issue. As a result, the stock had been an underperformer. However, after the price increases undertaken by companies at the end of June, the stock has seen good upside.

Formation of the new state keeps analysts optimistic on demand growth driving India Cements’ fortunes. However, some remain concerned on excess capacity and await more action on the ground before revising their view.

Of 25 analysts polled on Bloomberg after the June quarter results, eight have 'Buy' ratings and an equal number have either 'Hold' or 'Neutral' on the stock. The consensus target price is about Rs 120. While this means the stock is fairly valued, a correction could provide an entry point.