Cement: Setting local precedence

Pakistan's cement sector performance over the past year and phenomenal firm level margins should be aspirational for other manufacturing sectors struggling to survive locally tackling energy woes, high cost of doing business, and getting a beating in export markets. But while cement exports have dramatically fallen, the sector is standing firmer than ever.

The sector ended the fiscal year FY16 with total dispatches of 38.8 million tons against 35.3 million tons in FY15 and 34.2 million tons in FY14. The year-on-year growth has been 10 percent, 3 percent and 2 percent respectively, showing how fast the growth has come on in the past year.

Year-long performance has been exemplary: the sector reached its highest ever dispatches sold in May of FY16 (3.6 million tons). Both the north and south blocks have outperformed themselves: local dispatches in the north for the fiscal reached 27.1 million tons; a 15 percent increase from FY15, whereas local dispatches in the south reached 5.9 million tons in FY16 from 4.7 million tons in FY15; an increase of 27 percent.

June of FY16 saw a slight dip in dispatches (8 percent) where recorded dispatches stood at 3.35 million tons driven by a 5 percent fall in local dispatches from the north and a 31 percent drop in exports between May and June.

When it comes to exports, it was hoped that they would resuscitate eventually but year-long problems in major exporting markets have persisted.

It was predicted a year ago that once sanctions from Iran would lift, Iran would find a keen market in Afghanistan straight to the Kandahar region closer to the border. Iran's production capacity is around 85 million tons, almost double of Pakistans current production.

Even though local producers here at home were cautious, they claimed that since Pakistan supplied cement to Kabul and Jalalabad, Iranian cement will not be competitive there due to higher transportation costs. However, numbers do not corroborate this optimism.

Exports to Afghanistan have plummeted, falling by 18 percent between FY16 and FY15 and by 93 percent since FY12. Meanwhile, while Iran dumps cement into Afghanistan affecting Pakistani exports, Pakistan was accused of dumping from South Africa that led to a hefty anti-dumping duty (up to 77 percent to different Pakistani suppliers) that still stands, leading to a drop in exports there.

There was news that Lucky cement filed legal action with the International Trade Administration Commission of South Africa (ITAC) to contest the duty but the duty was imposed anyway and would potentially last five years.

India was expected to be a growing market too and Pakistani exports have seen an upward trend for several years but cumulatively the share of exports to India is much lower (17 percent) and barely reached the 1 million ton mark in FY16.

Though Pakistan has been a top cement supplier to India owing to its lower prices, the country is itself a major producer of cement and is building local capacities to fight the cheaper cement coming in from Pakistan and other countries.

Having said all that, there hasn't been a huge change to the bottom line of cement players, not to mention the top lines that have persevered. Exports share was always much lower in total dispatches-27 percent in FY12 coming down to 15 percent in FY16 but thriving local demand has more than offset the effects of falling exports. Before tax profits in 9MFY16 stood at Rs43 billion against Rs33 billion in 9MFY15 whereas margins for cement firms currently average at 42 percent with Lucky and Fauji enjoying 47 percent margins.

Locally, producers charge premium prices for different brands and given the construction boom that Pakistan will see in the next few years, cement firms are well-placed for high profitability. Most of the firms run own captive power plants and waste heat recovery (WHR) units that help in reducing reliance on the national grid and securing themselves from the persistent energy crisis in the country. Cost of sales has dramatically reduced over the years for most firms with the exception of a few such as Dewan, and there is more to come.

Attock cement will have a 40 MW of coal-fired power plant running by FY18, DG Khan has set up a 30 MW coal fired captive power plant, whereas Fauji produces 12MW from its WHR Lucky cement will also have its 660MW coal power plant functional in the next few years. Pioneer, Kohat and Cherat have all announced similar plans.

Capacity utilization for the sector has also gone up to 85 percent (from 72 percent in FY12) and will likely reach 98 percent by FY18, according to industry estimates. Meanwhile, keeping in view the construction boom with the onset of CPEC projects and higher PSDP spending, most major firms have announced expansion plans to increase capacity by 9-10 million tons in the next few years, adding to its existing 45.6 million tons capacity.

The sector has not been devoid of criticism for charging higher prices locally than in export markets, earning soaring margins, where import duties for cement are significant enough to restrict competition from international suppliers - analysts argue that the cement sector is a cartel. Even so, there is no breaking this tight ship.

For now, firms are not worried about falling exports and excited about growing domestic markets, as they should be. Investors are equally confident and sector out performance against the benchmark index is proof.

Luck may also have a lot to do with it since local infrastructure investments are burgeoning and opportunities are aplenty in the coming years, which for many other sectors is not the case. But high productivity and margins are also owing to the sectors own efforts in becoming cost and energy efficient. For this, no criticism can be levelled.

Once local capacities increase against rising demand, and if greater competition is allowed through imports, perhaps prices would come down and be a win-win for both sides of the demand-supply dynamic.