Cement demand fatigue

In a great twist of fate, cement exports are saving the day for the cement industry that is going through a grueling time. Against an export growth of 39 percent in the three months into the fiscal year, local demand in the north fell by 5 percent which carries 80 percent of the weight in total local dispatches. According to the All Pakistan Cement Manufacturers Association (APCMA), this scenario translated to 80 percent capacity utilization, against 84 percent in 3MFY18. Exports share has encouragingly crossed 15 percent of all sales.

In times when most cement manufacturers are expanding (or have already expanded) capacity, the trajectory local demand will take has become more uncertain than ever. The new PTI government in its run to 100-days has cut down development funding by axing over 400 projects under the CPEC and Gwadar planning in a bid to stabilize the economy. Other measures such as hiking up the interest rates, reinstatement of the restriction on non-filers to purchase property, and overall economic slowdown does not bode well for the construction sector and will adversely impact manufacturers of materials such as cement and steel.

The battle to safeguard margins has been set in motion. With the rupee depreciation (over 25% since Dec-17) and coal commodity prices globally rising (up 14% since Jul-18), costs for the manufacturers have been rising which have led them to raise prices of cement bags. Uptil Sep-18, on average, cement prices were raised by Rs20-40 per bag by players in the north while south players also followed suit. But slowing demand together with expanding capacity does not paint a very conducive picture for cement manufacturers to keep raising prices. In fact, they would have to lower them as price competition grows in light of diminishing capacity utilization.

It is evident that cement manufacturers have been reaching out to far flung markets to clear out excess cement which they are probably doing at a cost. To ensure competitiveness, they have to take a price cut in export markets. Traditional markets such as Afghanistan have given the industry a tough time—Pakistani cement taking a thrashing from the cheaper Iranian cement since sanctions on the country were lifted in 2016. The country which brags over 80 million tons of capacity exports to Iraq, Central Asia and Afghanistan. Before Iran came into the picture, Pakistan catered to 99 percent of the cement demand in the Afghan market, now it is probably less than 60 percent, and quickly declining.

It is also true that the country wants to become self-sufficient and is in the process of commissioning cement plants for the purpose. The magnitude is such that, in Pakistan’s own total cement exports, Afghanistan used to have more than 60 percent share back in 2015. Even until FY18, this share used to be pretty high (3MFY18: 51%); however, in 3MFY19, cement being sent to Afghanistan has dramatically fallen to 27 percent of all cement exports.

Other markets are showing receptiveness. Seaborne exports are now thrice of what they were last year. If the local demand slowdown persists, cement manufacturers will be looking towards these markets. Though domestic government policies are pointing toward demand stagnation to a great extent, if the Naya Pakistan Housing Program is actually implemented and a good chunk of houses are put into construction, it will open a new stream of revenue for cement manufacturers. Given the promise of one million houses each year, the additional demand that could be created is as much as 22 million tons of cement. This is a rough estimation assuming a house with covered area of 1000 sq.ft requires 400 cement bags. Numbers would differ of course, if the construction is vertical, and if house dimensions are different. But needless to say, even half of this demand, if materialized, will be welcome.

Meanwhile, though PSDP funding has been cut, a lot of projects that were eliminated from the list were either unapproved or had negligible spending. The new government still seems committed to on-going CPEC and construction projects which might retain some of the projected demand, if not create additional. The organic demand forthcoming from the commercial real estate sector will however definitely recede.
The challenge is to keep capacity utilization at least as much as 80 percent and keep retention prices in line with cost accretion. But that is not a straightforward task when so many external forces are working against these objectives.