DGKC-FCCL: Comebacks

Cement firms as an industry are delivering a strong comeback with margins moving into double-digits and earnings turning from red to a profound green. The third largest player in the industry DG Khan Cement (PSX: DGKC) and Fauji Cement (PSX: FCCL) are both sailing in smooth waters with costs of production down, domestic demand strengthening and retention prices becoming ever more favourable.

It’s not a unique tale. Most players have already recovered from the losses of the preceding few quarters after sales began to gain momentum and higher demand provided a catalyst for prices to increase. There was plenty of pent-up demand up for grabs and companies raced to capture the market (though invariably remaining in their own lane by maintain market share rather than raising it). Domestic volumes as a result have been more than robust.

DGKC’s interests seem to have diversified since its expansion into south. The Hub plant has allowed the company to take a more proactive approach to sales outside the country and in the growing region (exporting clinker to Sri Lanka, China and Bangladesh). In fact, in 1HFY21, estimates exports stood at 40 percent of the company’s total volumetric sales (2HFY20: 31%). North players are limited by geography—they only typically export to locations that are cross-border with India and Afghanistan being primary markets for north players.

However, fewer export avenues works for north players as they have plenty of domestic demand to cater to right now which also gets them higher margins compared to more competitive export markets. Post-covid, cement dispatches have been leaving faster to serve both private sector and public development projects. As dam construction and private sector activity picks up—the latter on the back of the construction package—dispatches will go out even faster.

Despite DG’s growing export share, the company’s estimated revenue per unit sold rose 8 percent in 1HFY21. The same for Fauji was higher at 13 percent as it sold more cement dispatches during the first half compared to the corresponding period last year. Average coal prices have also been lower—in 1HFY21, average (South African) coal price stood at about $64.5 per ton, 4 percent lower compared to $67.45 per ton in 1HFY20. Together with a fairly stable currency, cost of production could be kept in check. DGKC experienced 4 percent lower costs per unit sold compared to Fauji that saw these lower further by 6 percent in 1HFY21.

DGKC being more leveraged incurred a higher finance cost compared to Fauji—7 percent of revenue versus a negligible 0.28 percent. But the period last year, Fauji’s finance costs were 12 percent of revenue which has come down after the policy rate cuts. Meanwhile, overheads for Fauji are also better controlled at 4 percent of revenue, staying still (DGKC: 6%).

As a result, Fauji’s earnings have more than tripled in 1HFY21. DGKC stuck behind recording only about half the earnings of Fauji even though its revenues are double the latter firm’s. DGKC is out of the woods but it will have to work doubly hard to optimize its sales mix, keep overheads in control specially since its exporting more now and offload debt to make way for another round of debt-financed expansion if the plans materialize. Undoubtedly, the industry will need another round of capacity additions with the current demand expectations in mind.