Prefer Grasim Industries, India Cements: Kotak Securities

Cement companies reported a moderate 4% yoy growth in profitability in 3QFY13 which, coupled with a 2% yoy decline in volumes, contained earnings growth (1% yoy). Interestingly, company-wise volume profile was more disparate with players reporting volume growth of ±10% and price volatility increasingly distorting earnings predictability. Recent under-performance moderated valuations (8-9X EV/EBITDA), though they still do not make for a compelling investment argument, given earnings volatility.

Our coverage universe registered an 18% sequential drop in profitability (+4% yoy) mainly due to sedate volumes (-2% yoy, +8% qoq) and weak pricing (+7% yoy,-4% qoq). Cost-side inflation (14% yoy, 5% qoq) was led by higher freight and raw material cost, even as power and fuel costs showed some signs of abatement (+15% yoy, -5%qoq).

While the sector’s overall volume trend was sluggish (-2% yoy, 8% qoq), we are intrigued by the disparity in volume growth reported by sector participants. While ACC (-1% yoy) and Ultratech (-1% yoy) reported modest declines in volumes, Ambuja reported a sharp 10% yoy decline. However, regional players such as Shree Cement (5% yoy) and India Cement (11% yoy) posted better volume growth. The current quarter (March 2013) is also likely to see sedate growth given the high base of March 2012.

Cement prices have seen a mixed trend-remaining firm through the monsoon season (a departure from past seasonal trends) and then coming off sharply in November and December. Our recent channel checks indicated cement price hikes in key regions in January, in line with previous years, though lower in absolute quantum.

The recent under-performance likely prompted by (1) continued price volatility, (2) sluggish demand and (3) unexciting quarterly results brought down valuation multiples to more palatable levels—and within the long-term range. However, valuations are precariously balanced when seen in the context of the ongoing investigation of the Competition Commission. Valuations being the benchmark, for a largely homogenous business profile among coverage companies, we prefer Grasim Industries and India Cements to Ultratech , and ACC and Ambuja appear fairly-valued.

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