Cherat Cement Company Limited

Cherat Cement (PSX: CHCC) has in a matter of a year gone from 2 percent share in total industry capacity to 4 percent, and is all set for a third expansion. Previously one of the smaller players, Cherat is joining the mid-tier players of the industry located in the north. Cherat was set up in 1981 and started production back in 1985 with a capacity of 1,100 tons per day (more than 300,000 annually), and later went through a series of expansions, doubling capacity by 1994. The company also added power generation and diesel power plants to the mix for energy self-sufficiency. The company merged with Cherat Electric in 2002, a few years later entered a second wave of expansion.
It expanded to 3,300 tons per day (990,000 tons annually) and commissioned a second production line in 2014 which went online in 2017. The company is now working on its third production line which alone will have a capacity of more than 6,700 tons per day (over 2 million tons per 300 working days). The company installed its first Waste Heat Recovery (WHR) in 2010, later commissioning a tyre derived fuel processing plant and refuse derived fuel processing plant to cut down on power costs that generally take up more than 60 percent of the total costs of production for cement manufacturers.
Cherat's plant is located in Nowshera, KP and supplies cement to the markets in the north particularly KP, Punjab and Azad Kashmir while also exporting to Afghanistan.
Shareholding and expansions
Cherat is part of the Ghulam Faruque Group (GFG) which has a range of businesses as part of its operations dealing in cement, sugar, energy & power, appliances and packaging. Cherat's shares are primarily held by its holding company Faruque (Private) limited-21.7 percent of the shares as at June, 2018. Other associate companies of Cherat together hold 7.26 percent of the company's shares including Cherat Packaging, Mirpurkhas Sugar Mills and Greaves Pakistan. The directors and family hold a little over 5 percent shares whereas the general public holds nearly 21 percent of Cheat's shares.
The third cement line it is adding will come at a name plate capacity of 2.4 million tons which will double the existing capacity. The company is financing the expansion through long-term debt and the new line is expected to become operational earlier than its scheduled time of May-19. The plant comes with a WHR. Alongside, three new Wartsila Diesel 34 Dual- Fuel engines of about 9.7MW each have been installed. These can run on gas, diesel and furnace oil. The gas pipeline is being laid for the same and the company has obtained approval for gas connections from Sui Northern Gas Pipelines Limited. Once functioning, they will help reduce power costs.
Operational and financial performance
Cherat has managed to grow its revenues gradually with its growing capacity utilization, and improving overall prices per ton sold. After the second line, the company's top-line jumped 36 percent and 49 percent in FY17 and FY18 respectively, against a sales growth of 50 percent and 68 percent during these years. A dip in price per ton came during FY17-as expansion came through, retention prices dropped in light of growing competition in the north. Many companies were also selling cement on discounts which led to lower revenue per ton during that year.
Price of cement has fluctuated a lot over the past two years as demand for exports waned and expansions started to come through. Volatility in costs of inputs and the exchange rate has also been the bane of growth in the industry in terms of margins. The company uses a mix of imported and local coal but coal prices internationally have been on the rise. Together with lower retention prices during FY17, margins dropped to 33 percent from 37 percent for the company and further plummeted down to 22 percent during FY18 though prices in the market did improve. The rupee depreciation during the year of 5 percent and the increase in coal (up: 21%) and other fuel prices are the culprit. According to its annual report, the company believes it shielded the loss to margins by controlling power costs and using the right mix of WHR, national grid and own generation.
Demand so far is holding on. Even after the expansion, the company recorded 92 percent utilization during FY18 which is testament to its market presence. It has grown outreach to newer markets and exports after the drop during FY17 has remained between 12-13 percent. Non-traditional markets may be explored should the need arise.
Latest financials
During 1QFY19, Cherat registered a decline in revenues (14%). This is likely because of the massive surge in revenue during 1QFY18 year on year when the new expansion came through. However, nothing could shield Cherat from its margins from declining further. In the north, there was an improvement in retention prices of cement bags-the end of Sep-18 recorded average cement prices at Rs591 against Rs553 during Apr-18. In cities like Islamabad and Peshawar, price for a cement bag went up by Rs70 per bag.
On the other hand, high inland transportations cost owing to more expensive fuels, high input costs owning to global coal prices and the continued depreciation of the rupee. Coal export price (Richard Bay) grew by 14 percent between Mar-18 and Sep-18. Meanwhile, the dollar fetched less than Rs120 in Jun-18 but rose to Rs129 in Jul-18 and remained between Rs122-124 in Sep-18. Margins fell to 17 percent during the quarter from 25 percent this period last year. Finance costs as a share of revenues rose to 3 percent (previous: 2%). The bottom-line also declined, though it did receive a tax reversal which may have provided a buffer.
Opportunities and outlook
Demand for the cement industry is heavily dependent on local markets, particularly driven by CPEC and infrastructure spending, and housing and commercial real estate development. Though most of the planned CPEC projects are continuing, the new government does not match the same devotion to infrastructure development as its predecessor. Commercial development demand may wane as the country moves into the austerity drive. Interest rates have already been raised to 10 percent which raises the costs of borrowing.
With adding capacity, the industry may have to sell its cement abroad which may not fetch it the desired prices per ton sold and margins may not improve. Especially since the fate of the industry's costs are tied to coal prices and rupee parity against dollar. If China continues to restrict supply in its new mission to protect its deteriorating environment, and global demand for coal grows as it is expected, coal mining companies abroad will be enjoying some neat profits but coal importers-like Pakistani cement manufacturers-will watch their costs balloon, and margins shrink. Another risk is price competition-as more capacities come online, and local demand cannot keep up with it-prices may take a nosedive.
Some new opportunities have arisen though-which may or may not materialize. The potential construction of the dams and the promised million houses per year under the Naya Pakistan Housing Program are the two that may provide additional demand for cement manufacturers. The latter could add nearly 22 million tons of capacity, as per BR Research calculations. Even if half of that can be achieved, it's a decent enough growth on top of existing demand.
Cement manufacturers could be seeking market access into growing economies that need high quality cement and negotiate better price points-this cannot be India (as that market has a very small space for Pakistani cement as is), but it could be other Central Asian economies and some African countries. Diversification is the name of the game.

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CHERAT CEMENT (Financial performance in 1Q)

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Rs (mn)                        1QFY19     1QFY18       YoY

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Sales                        3,340.94   3,891.02      -14%

Cost of Sales                2,788.33   2,901.70       -4%

Gross Profit                   552.61     989.33      -44%

Distribution costs              91.04      81.17       12%

Administrative                  64.74      56.58       14%

Other operating expenses        18.60      41.10      -55%

Other income                    24.65      20.41       21%

Finance cost                    97.64      95.43        2%

Profit before tax              305.24     735.46      -58%

Taxation                       125.87    (129.36)

Net profit for the period      431.11     606.11      -29%

Earnings per share (Rs)          2.44       3.43      -29%

GP margin                          17%        25%     -35%

NP margin                          13%        16%     -17%

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Source: PSX notice

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Pattern of Shareholding (as on June 30, 2018)

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Categories of Shareholders                                         %

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Directors and their spouse (s) and minor children               5.39

Omar Faruque                                                    1.23

Shamain Akbar Faruque W/O Omar Faruque                          0.20

Azam Faruque                                                    1.42

Samia Faruque W/O Azam Faruque                                  0.03

Akbarali Pesnani                                                0.05

Sakina Pesnani W/O Akbarali Pesnani                             0.04

Shehryar Faruque                                                0.68

Arif Faruque                                                    1.71

Saquib H. Shirazi                                               0.03

Associated Companies, undertakings and related parties         29.04

Faruque (Private) Limited                                      21.77

Cherat Packaging Limited                                        2.74

Mirpurkhas Sugar Mills Limited                                  3.27

Greaves Pakistan (Private) Limited                              1.25

Zensoft (Private) Limited                                       0.01

Executive                                                       0.81

Public Sector Companies and Corporations                        0.75

Banks, development finance institutions,                        9.97

 non-banking finance companies, insurance

 companies, takaful, modarabas and pension funds

Mutual Funds                                                   15.48

General Public                                                 20.90

Foreign companies                                               5.07

OTHERS                                                         12.59

Total                                                            100

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