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UltraTech Cement & Ambuja Cements: Built To Last

While the cement sector, which is key to economic growth, is going through some rough times, two leading companies, UltraTech Cement and Ambuja Cements, have emerged unscathed. Chandrakant Shukla tells us more.

KEY POINTS:

  • UltraTech Cement and Ambuja Cements together account for almost 25 per cent of the total cement production capacity in the country, and have seen a strong recovery in their business from the lows seen in 2011.
  • Both companies are leaders in terms of market share and have a strong pan Indian presence, which insulates them from any major variations in regional demand and price volatility.
  • The companies have shown a decent operating performance despite a continuous rise in input costs. They have sustained their margins on the back of efforts to improve efficiency and reduce internal costs.
  • Both companies have been on an expansion spree over the last five years, which is expected to drive volume growth in the coming years.

The cement industry has been in the news for quite some time now. Whether on account of scrips trading at their 52-week highs despite a lull in the overall market or for negative reasons like the alleged involvement of companies in cartelisation, there has been a lot of talk about the sector and the companies therein. This is hardly surprising, as the cement sector plays an important role in the overall economic landscape and is a major contributor to inclusive growth. Cement is a critical input for the construction and infrastructure sectors – these are expected to drive India’s economy and consequently, the demand for cement.

The cement business largely depends on the demand-supply situation in the country. Over the last five years, supply has outpaced demand. The industry has added capacity at a CAGR of 12 per cent over this period, while demand has seen a CAGR of nine per cent. Due to this, there has been a continuous decline in the utilisation levels from 85 per cent in 2009 to almost 73 per cent in 2011.

Despite this, the stocks of leading companies are trading at their highest levels. What is the rationale behind this? Here is an analysis of two major cement companies – UltraTech Cement and Ambuja Cements – which should help you understand this. However, before moving ahead with the analysis, let’s understand the current scenario.[PAGE BREAK]

Current Scenario

2011 was a very difficult year for the cement industry, in which it went through a high supply and low demand phase. Faced with a surplus scenario, capacity utilisation hovered around 73 per cent. Operating costs soared, particularly
energy and freight costs.

From the year’s low, however, the turnaround for the sector began from November 2011 onwards. With this recovery, almost all cement companies benefited and their stock prices too moved in tandem. Cement stocks have jumped by as much as 25-100 per cent on a YTD basis. For instance, ACC and Ambuja gave around 25 per cent returns to investors, while Madras Cements has gone up by around 75 per cent. JK Cement is also in line with its peers with a 158 per cent increase, along with UltraTech, which saw its share price move up by around 50 per cent.

UltraTech Cement and Ambuja Cements together account for almost 25 per cent of the total cement production capacity in the country. Both have seen a strong recovery in their business from the lows seen in 2011. Further, given their huge capacity, their pan India presence and their market share in the industry, we are quite certain that these two companies will raise the bar of performance in the coming years too and leverage the opportunities that the sector presents.

Background

Over the last ten years, the cement industry has been in a consolidation phase with the entry of foreign players like Holcim, Lafarge, Italcementi, etc. Smaller players, which were unable to survive the tough market conditions, got merged with bigger players. As a result of this today, three major players, viz. UltraTech Cement, ACC and Ambuja Cements account for as much as 35 per cent of the total cement capacity of 310 million tonne.

UltraTech’s first cement plant was set up in 1980 in Madhya Pradesh, while Ambuja came into existence in 1986. UltraTech in its current form came into being when Grasim acquired a controlling stake in L&T Cement in 2004. Swiss major Holcim acquired a controlling stake of 50 per cent in Ambuja Cements in 2005.

UltraTech has focussed on both organic as well as inorganic growth to garner capacities. It has outpaced Ambuja in terms of capacity after it was merged with Samruddhi Cement (an  erstwhile cement division of Grasim) in 2010. The capacity of UltraTech jumped to 48.75 mtpa from 23.1 mtpa in 2009. After the merger, UltraTech became the largest cement player in India. Ambuja is the third largest player with a total capacity of 27 mtpa.

In terms of size and market presence, UltraTech dominates the cement industry. It commands a market share of 17 per cent compared to the nine per cent share of Ambuja and the 10 per cent share of ACC. UltraTech has a strong pan Indian presence, with 11 plants located across major states. Its wide presence insulates it from any major variations in regional demand and price volatility. On the other hand, Ambuja has focussed on the northern, western and eastern regions of India, with no plants in southern India. Its largest markets are north India (40 per cent of sales volumes) and western India (another 40 per cent). Eastern India accounts for 20 per cent of its volumes. Ambuja benefited the most from its negligible presence in south India in the year 2011, when most of the pan India and south India-based cement companies were facing an oversupply problem and the slowest rate of demand growth.[PAGE BREAK]

Product And Brand Building

In terms of product portfolio, Ambuja is mainly into ordinary cement and Portland Pozzolano Cement (PPC) or fly ash-based cement. UltraTech isinto ordinary cement, PPC and white cement. However, 98 per cent of the revenues for UltraTech come from the ordinary and PPC cement business, while only two per cent comes from the sale of white cement.

Both the companies have a good brand image in the market as well. Cement is basically viewed as a commodity, and the industry is fragmented, with around 47 big and small players. So, brands have to show a significant differentiation in order to command a premium. Ambuja was the first to start advertising activities to build its brand since the eighties. One can easily recall its ad campaigns which concentrated on its core brand promise of ‘Virat Compressive Strength’. On the other hand, UltraTech (earlier Grasim) after taking over L&T’s cement business, rebranded through its campaign in 2005 with the slogan ‘UltraTech Cement: The Engineer’s Choice’.

Operating Strength

In the last five years, both these companies have shown a decent operating performance despite a continuous rise in input costs. They have sustained their margins on the back of efforts to improve efficiency and reduce internal costs.

Ambuja is well known for its operating efficiencies and for being the lowest-cost cement producer with a relatively higher EBITDA margin. If we look at the trailing 12-month numbers, the EBITDA margin of Ambuja stood at 24.1 per cent and that of UltraTech stood at 22 per cent. Ambuja’s high margin is mainly on account of lower raw material costs, which differentiates it from other cement companies. The raw material cost/tonne for Ambuja stood at Rs 296, while that of UltraTech stands at Rs 616. Various cost efficient measures, high proportion of blended cements and very efficient operations using fly ash to produce cement have kept Ambuja ahead of UltraTech on the raw material consumption side.

UltraTech too is not lagging behind and has shown a similar operating performance. If we look at the overall operating performance on an EBITDA/tonne basis, UltraTech has sustained its margins on the back of its pan India presence and a higher market share. The company’s EBITDA/tonne for the last four quarters stood at Rs 995 against that of Ambuja, which stood at Rs 982.70.

EBITDA/Tonne (Rs)
Company FY07 FY08 FY09 FY10 FY11 TTM
UltraTech 1216 1146 1113 851 1157 995
Ambuja  1262 1026 1049 796 954 983
EBITDA Margins (%)
UltraTech 33 28 28 19 25 23
Ambuja  38 29 28 26 23 24

Both companies have also put in efforts to reduce their major costs through improvement in fuel consumption norms, improved efficiency of equipments, use of captive power plants, optimum utilisation of capacity, etc. They have augmented the use of alternative fuels over the last one year, which has helped them to reduce the dependence on coal, thus lowering their power and fuel costs. Coal prices have jumped significantly in the last one year, which is why most of the cement companies are using a substitute fuel like pet coke and blending this with other alternative fuels.[PAGE BREAK]

Expansion Plans

On the capacity expansion side, both these companies have been on an expansion spree over the last five years. Ambuja beats UltraTech as far as greenfield and brownfield expansions are concerned. In this period, the company has increased its cement capacity by 48 per cent to 27.35 mtpa. Despite the huge expansion, Ambuja has reserves of Rs 8330 crore, a cash balance Rs 2298 crore and a negligible debt of just Rs 34 crore in its books as on 30th June 2012.

Hence, the company is going ahead with its plans of setting up a 3.5 mtpa cement capacity in Rajasthan. The plant is expected to be commissioned by the end of FY14, with a total capex of Rs 1800-2000 crore. The capex will be funded through internal accruals. Further, the company is putting in its best efforts in de-bottlenecking some of its plants, which will further enhance its total capacity.

In contrast, UltraTech’s capacity almost doubled in the last five years, but only because of the huge inorganic expansion. This significant jump is mainly on the back of the merger with Samruddhi Cement in 2010. Its capacity increased from 23 mtpa in 2009 to 48.75 mtpa in 2010. Further, anticipating growth in demand in the coming years, UltraTech has embarked on a huge plan of increasing its capacity by another 10.2 mtpa, which will take its total capacity to 59 mtpa. The plant is expected to get operationalised by FY 2014 or 2015, with a total capex of Rs 12000 crore. The expansion will be funded through a judicious mix of internal accruals and borrowings. As on 31st March 2012, the company’s debt–to-equity ratio stood at 0.28x, which lends comfort for further expansions plans.

At present, UltraTech is developing clinkerisation plants at Chhattisgarh and Karnataka. Besides, the company also plans to augment its power capacity from the current 529 MW to 659 MW by the end of the next fiscal. Increased use of captive power for its overall power requirements would help the company maintain healthy operating margins. We expect these capacity expansions to drive volume growth for both the companies in the coming years.[PAGE BREAK]


Financial Performance

On the financial front, both the companies have done well over the last one year, mainly on the back of a revival in demand and a jump in realisations. The topline of UltraTech grew by 19.6 per cent on a YoY basis to Rs 19114 crore, while that of Ambuja grew 20.6 per cent to Rs 9430 crore. The higher growth in Ambuja’s topline was because of its marginal presence in south India, which has the highest level of oversupply and the slowest rate of demand growth. This factor, in fact, impacted the sales volumes of UltraTech. The sales volume of Ambuja grew by 8.3 per cent on a YoY basis to 21.91 mtpa, while that of UltraTech grew by 4.3 per cent to 40.20 mtpa.

The operating profit of UltraTech grew by 24 per cent on a YoY basis, while that of Ambuja grew by 21 per cent. The jump was mainly on account of better realisations. The realisations of UltraTech grew by 14 per cent YoY, while those of Ambuja grew by 11 per cent. UltraTech’s pan India presence has helped the company achieve better realizations, which in turn, has resulted in a better operating performance as compared to that of Ambuja.

Therefore, on the financial front, we believe that both the companies have their own strengths and have done equally well over the last one year.


 UltraTechAmbuja
ParticularsLast Four QuartersLast Four Quarters
Yearly Capacity (MTPA) 48.75 27.35
Sales (Rs Cr) 19113.86 9430.73
Market Cap (Rs Cr) 48678 29309
Production (MTPA) 40.3 21.82
Sales Volume (MTPA) 40.2 20.23
Utilisation (%) 82.5 79.78
Realisation/Tonne (Rs) 4754.7 4661.8
RM Cost/Tonne (Rs) 616.9 296.3
P&F Cost (Rs Cr) 4349.88 2192.37
P&F Cost/ Tonne (Rs) 1079.4 1004.8
Freight Cost (Rs Cr) 3713.21 2111.57
Freight Cost/Tonne (Rs) 923.7 1043.8
Operating Profit (Rs Cr) 4,323.28 2,275.95
EBITDA (Rs Cr) 4000 1988
EBITDA Margin (Rs Cr) 22.6 24.1
EBITDA/Tonne (Rs) 995 982.7
[PAGE BREAK]

Outlook And Valuations

The cement sector has done pretty well in the last nine months. A revival in demand and the rise in cement prices have helped both UltraTech and Ambuja to post decent numbers for the last two quarters. However, there are certain problems which still persist in the short-to-medium term.

At present, the demand is firm and has grown at 9.6 per cent. Any fall in the demand will result in a fall in the cement prices. This, coupled with spiralling input costs in every area, particularly energy and freight, will put pressure on the margins.

Further, regulatory uncertainty with regard to the investigation by the Competition Commission of India (CCI) of allegations of cartelisation by cement companies is another major overhang. The CCI has charged a penalty of Rs 1175 crore on UltraTech and Rs 1163 crore on Ambuja. We believe that even if the report is true, it will take a lot of time to be proved in the court of law as companies will initially appeal in the competition appellate tribunal, then in the High Court and finally, in the Supreme Court. Both the companies have already appealed against the alleged cartelisation order of CCI, and the matter is still prejudice. However, there are concerns that if the CCI order is proven, it will definitely have a negative impact on the profitability of cement companies.

Nevertheless, we believe that the demand for cement is slated to remain firm and will see a CAGR of 8-8.5 per cent in the near future. So, while the short term does present unique challenges, the sector offers good growth potential over the mid to longer term. Imported coal prices have come off from their peak of early 2012, and this works to their advantage. Further, the government’s thrust on inclusive growth and the need to put infrastructure projects on track again will provide growth opportunities for companies in this sector.

Major drivers for both the companies other than the rising demand are capacity expansion, a pan Indian presence, rising realisations and their operating strength. Also, we expect the oversupply situation to gradually ease on the back of limited capacity additions in the coming years, which will be in line with the incremental demand.

On the valuations front, UltraTech is trading at a PE of 18.91x whereas Ambuja is trading at a higher PE of 24x, discounting their TTM EPS of Rs 92.74 and Rs 8.17 respectively. On an EV/tonne basis, the valuations of both the companies stood at almost similar figures of Rs 11167/tonne and Rs 11234/tonne. Given their strong performance in the last one year and a strong run up of the stock prices on the bourses, both the companies are available at a fair valuation but marginally above the replacement cost. Therefore, we believe that any major upside potential in the stocks is limited in the short term, but any fall from here on offers a great opportunity for investors to accumulate the stocks on dips from a long-term perspective.

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