Introduction: Cherat Company was incorporated in 1981, and is listed on Karachi, Lahore and Islamabad stock exchanges. It is a part of the Ghulam Faruque Group which also includes Cherat Paperstock Limited and Mirpurkhas Sugar Mills Limited, among others. The factory, located near Nowshera, Khyber Pakhtunkhwa, is built on land bordering the Cherat Hills, the company's source of high-quality limestone.
Cherat Company has an ISO 9001:2000 certification and manufactures high quality grey Portland cement using modern and sophisticated production facilities. It is also equipped with advanced production and quality control systems. The combination of these factors has developed a strong brand presence for Cherat Company in Afghanistan, KPK and Punjab.
Industry Overview
After a tough FY11 when the country was hit by the Great Floods of 2010, FY12 saw the cement industry growth by a sturdy 3.45 percent. This growth was largely fuelled by local dispatch expansions fuelled by post-flood reconstruction activities; a boom in the rural economy of Pakistan; and inward remittances from expatriate Pakistanis leading to new construction - all of these factors culminated in an 8.84 percent volumetric growth in local sales. Local cement retention prices also saw an upward trend, lending some price-based support to local cement manufacturers.
Exports, however, continued to stifle the growth of the cement industry. Exports declined by 9.12 percent from FY11. This was largely due to two coinciding factors: the first being surplus capacity for cement production in the Middle East; and the second being a 15.7 percent decrease in exports to India due to persisting non-tariff trade barriers such as deficiencies in transport infrastructure and procedural opacity.
Key challenges to the industry during the year were the exorbitant increases in fuel prices; persisting high costs of borrowing; and low prices in the international market combined with higher import costs due to the depreciating rupee.
Performance Snapshot FY12
FY12 showed a remarkable turnaround for Cherat Cement. The company posted a 29 percent increase in turnover, largely driven by better domestic prices for cement coupled with a 7.85 percent increase in local dispatches. This growth was in line with the overall improvement in market conditions for the cement industry, where most cement companies have registered a highly profitable year. The 8.04 percent decline in export dispatches was offset to a great extent by the upward adjustment in the selling price of cement for Afghanistan.
In terms of profitability and overall returns, Cherat Cement increased the Return on Equity to 15.9 percent compared to an ROE of 2.94 percent in FY11. In conducting a DuPont analysis of this return, it is phenomenal that this increase has come in despite a decrease in financial leverage (from 2.3 times to 1.71 times) and a hike in costs of several critical input items such as electricity, freight, furnace oil and packaging material. The rupee depreciation against the dollar also took its toll. In quantitative terms, the cost of production rose by a steep 17 percent, while operating costs were a slightly more dramatic 19.96 percent increase.
However, these factors were offset by improving margins and the company's drive towards alternate sources of energy that are cheaper and more stable in price terms. Much like most other cement companies in the industry, Cherat Cement also saw production costs being reduced to a manageable level due to its efficient utilisation of Water Heat Recovery (WHR) plant coupled with the use of other alternate sources of fuels. This translated into an operating profit margin of 16.17 percent over the 8.05 percent from the yesteryear.
The next big relief was the reduction of financing costs. With the unwinding of non-current liabilities taken on by the company for capital expansions and efficiency-enhancement projects, the Times Interest Earned Ratio increased from 1.19 to 2.84. The recent reduction of 150bps in policy rates by SBP also contributed to this improvement.
The bottom line improved from a margin of 1.62 percent to eight percent - in absolute terms, the year-on-year growth in net profit between FY11 and FY12 was a whopping 536 percent.
In terms of market share, sales in Afghanistan drove a six basis point increase in the exports-segment to 4.56 percent of the export market. However, the decline in the local market share of the company to 2.55 percent caused the company's overall market share to fall from 3.15 percent in FY11 to 3.08 percent in FY12.
In terms of the company's gearing ratios, the retirement of capital expenditure associated non-current liabilities resulted in a healthy improvement in the balance sheet position of the company. The Debt-to-Equity reduced from 1.3 to 0.71. This displays a reduction in the riskiness of the company's earnings, and also reflected in the contribution of reduced financing costs to the augmented net profit margin.
Finally, the liquidity position of Cherat Cement increased to above one. After two years' worth of negative working capital, the company improved its liquidity to a positive position. However, in comparison with an industry where working capital levels were generally above two times, the improvement was inadequate at the least.
Performance over the years
FY10 was a particularly harsh year for Cherat Company. Across the industry, surplus capacity led to severe price competition which resulted in margins being squeezed out. Cherat Cement registered net losses of Rs 13.76 million. The operating losses were magnified by the high degree of financing costs which was a result of dichotomous factors - high levels of financial gearing, and high interest rates.
Since then, margins have increased significantly. Operating margins in FY10 were at -3.93 percent and have spiked up to 8.05 percent in FY11, and then to 16.17 percent in FY 12. The spike in net profit margins was even steeper. From -0.4 percent in FY10, they had gone up to 1.62 percent in FY11. Following the retirement of non-current liabilities, the net profit margin soared to eight percent in FY12.
While local market shares have shown an overall stable trend between FY10 and FY12, the high-water mark of 3.28 percent in 2009 has still not been regained. The export market share has shown steady growth patterns from 3.25 percent in FY09 to 4.56 percent in FY12, which is encouraging. However, in terms of total market share, much is left desired in terms of regaining the FY09 position of 3.27 percent as against the FY12 share of 3.08 percent.
Future Outlook
The cement sector as a whole is poised for a promising FY13, with favourable budgetary policies, such as an enhancement of PSDP expenditures and reduction in FED. FED on cement was reduced by a further Rs 100 per ton for FY13, and the budgeted increase in PSDP is also more than 19 percent of last year's outlays - aspects that bode well for cement players like Cherat Cement.
More factors are to be watched out for. Local demand is projected to increase based on increased private spending fuelled by increased remittances from expatriate Pakistanis and improvements in the performance of the agricultural sector. Furthermore, with interest rates already slashed by 150bps, and speculations abound for further slashes, the cost of borrowing for the cement sector will likely reduce, which will allow for greater expansion and reduced costs of business. The ICCI President has shown a remarkable amount of interest in the sector which contributes Rs 30 billion to the exchequer on an annual basis and employs approximately 150,000 people - that interest is now translating into a bid to establish export ties with Sri Lanka, where the demand for Pakistani cement is expected to be high.
Furthermore, Cherat's own efforts display healthy prospects. Firstly, the clinker kilns which were down for maintenance during FY12 will now be fully operational, and the benefits of the maintenance and enhancement work will be felt over the coming few years. Furthermore, energy costs are expected to fall further with the new drive towards alternate fuels through RDF technology - a deal has been signed with a German company to implement this cost-management strategy.
The healthy growth in profitability and margins in FY12 have elicited positive comments from research analysts about the company.
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Cherat Cement Company Limited
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2012 2011 2010 2009
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PROFITABILITY
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Gross profit margin % 21.12% 13.36% 2.57% 14.69%
Interest Burden % 64.79% 16.16% 217.90% 69.20%
Tax Burdern % 76.42% 124.38% 4.63% 62.00%
Operating profit Margin % 16.17% 8.05% -3.93% 8.13%
Net profit margin % 8.00% 1.62% -0.40% 3.49%
ROCE % 11.90% 1.93% -0.43% 4.34%
ROA % 9.27% 1.28% -0.28% 3.36%
ROE % 15.90% 2.94% -0.61% 7.02%
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LIQUIDITY
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D/E times 0.71 1.30 1.16 1.09
Net Working capital Rs In mm 249,044 -82,362 -382,934 272,437
Current ratio times 1.24 0.95 0.76 1.25
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ACTIVITY
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Total asset turnover times 1.16 0.79 0.71 0.96
Inventory turnover times 2.89 2.84 3.58 3.49
Fixed asset turnover times 1.59 1.16 0.96 1.34
Debtor turnover times 39.87 37.16 23.95 26.50
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LEVERAGE
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Financial Leverage times 1.71 2.30 2.16 2.09
Times Interest Earned times 2.84 1.19 -0.85 3.25
Debt-to-Equity Ratio times 0.71 1.30 1.16 1.09
Debt-to-Asset Ratio times 0.42 0.57 0.54 0.52
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