Earning money in the cement business nowadays is not as simple as the manufacturers had expected at the time of approval of proposals for cement plant expansion. At the start of the last decade, prospects for the cement industry looked attractive; the industry increased production capacity drastically from around 16 million tons in the year 2000 to 44 million tons in 2010.
But as economic growth faltered in the latter part of the decade, the cement industry, where scale is very important, became a victim of a supply glut. The industry was not able to sell more than 34 million tons of cement in FY10 -- of which, total domestic consumption stood at 23 million tons.
With around one quarter of cement capacities lying idle, even slight changes in demand are damaging to the industrys profit margins. As demand fell on account of heavy rains and floods that ravaged Pakistan in the first quarter, the industrys domestic sales fell to 10 million tons in the first half of the current fiscal year - a fall of 8 percent over the same period last year.
Poor domestic cement demand has come at a time when the cement makers are already reeling from dull exports. This can be gauged from the fact that cement exports during the first half of FY11 squeezed by 17 percent to 4.62 million tons.
Although, cement exports to Afghanistan surged by 23 percent to 2.26 million tons, sales through the sea route plummeted by around one-third. Sale through land to India also fell by 36 percent.
The decline in the latter was mainly due to delays in renewal of BIS (Bureau of Indian Standards) certification for some local manufacturers. At the same time, loose cement (bulk cement) exports more than halved to 0.381 million in the first half of FY11 from 0.916 million same period a year-ago period.
Behind the weak exports is the decline in exports to the Middle Eastern countries. Previously, Middle Eastern countries were favourable export destinations, but new production capacity in the region has reduced the regions dependence on imported cement. At the same time, other countries in the region, such as Turkey and Iran, are also growing their presence in the export market.
"The geographic closeness to the Middle Eastern countries and higher load factor has put Turkey at a competitive advantage compared with cement exports from Pakistan" one cement exporter told BR Research.
Growing capacity also comes at a time when major cement importing countries have reduced infrastructural spending in order to curb fiscal deficits.
Moreover, countries that had witnessed robust cement demand during the last decade -- such as China and Far Eastern countries -- are also expected to experience a drop in the cement demand in the future.
The market expects demand to remain weak in China, which accounts for roughly half of the global cement demand, on account of property tightening measures being adopted by the government to arrest a housing bubble.
Therefore, cement manufacturers in Pakistan are eyeing African countries and the war-torn countries, such as Afghanistan, Sri Lanka and Iraq etc for exports.
Cement demand in African countries is growing on the back of strong GDP growth, huge government infrastructure projects, energy resource exploration, and a growing middle class population.
In this backdrop, a cold war is brewing between cement makers around the world to utilize their excess capacity, as a result of which cement FOB prices have been hauled lower, making the exports option unfavourable for cement makers.
Average cement FOB prices stood at $52 per ton during the first half of the current fiscal year, a level low enough to hardly break-even, primarily for small manufacturers. On top of that, since a majority of Pakistans cement makers are located in the countrys north, it is not viable to export due to high freight cost.
With the industry already working below capacity, poor cement off-take, since the start of the current fiscal year, has forced the countrys top two largest cement manufacturers to record lower profits.
Lucky Cement Ltd, Pakistans largest cement manufacturers saw its bottom line shrink by 23 percent to Rs1.46 billion during the first half of the fiscal year as Luckys dispatches for the period also fell by around 12 percent to 2.8 million tons.
Likewise, the bottom line of the second largest cement manufacturer, D.G Khan Cement Company, fell by more than half to Rs192 million in the first half of the current fiscal year as DGKCs total volumetric sales dropped by 13 percent to 2.02 million ton in 1HFY11.
On the other hand, being a highly energy intensive industry, cement manufacturers are also facing massive cost pressures arising due to the rising coal, electricity cost and furnace oil prices.
At present, coal prices are hovering around $140 per ton compared to average $92.5 per ton during the last fiscal year. Moreover, furnace oil prices average around Rs53,670 per ton in 1HFY11 as against Rs 46,692 in FY10. While a cost of paper bags has reached Rs22.82 from Rs 16.60 in FY10.
Realizing the tough times, cement manufacturers have started evolving strategies to cut energy costs which accounts for around 40-60 percent of the total production cost.
To generate electricity at a lower cost, some of the domestic cement manufactures have been installing Waste Heat Recovery (WHR) plants. Few have already installed the WHR, such as Lucky and DG khan, while for others similar projects are in their initial phases.
To add efficiency to the system, players have also undertaken Refused Drive Fuel projects, aimed at making more efficient use by reducing coal contents in the kiln. Similarly, Lucky has also signed an MoU with Oracle Coal Fields for the supply of indigenous coal.
DGKC has been looking forward to further invest Rs3.5 billion to install a WHR plant at the Khairpur site, and also towards the expansion of Refused Derived Fuel projects. In this regard, it has planned to issue 20 percent ordinary right shares at Rs20 per share, which will generate a total of Rs1.4 billion. The company is aiming to raise a total of Rs2 billion through loans.
Cement manufacturers expect local cement demand to reach 21-22 million in FY11 as against 23.5 million tons sold last year. At the same time, cement export are likely to reach around 9 million tons compared to 10.6 million tons exported last year.
The upshot is that local demand at the end of the current fiscal year might reach or cross last years level, but given the current scenario chances remain slim that the industry may realize enough growth in the second half of the fiscal year to offset negative growth registered in 1HFY11.
The writer is a Research Analyst at Business Recorder. She can be reached to manal.iqbal@br-mail.com
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