Cherat Cement Company Limited

CHCC) started as a small cement firm with a production capacity of 1100 tons per day (about 300,000 tons annually). After going through a series of expansions with the line-II and line-III added during FY17 and FY19-the third production line has 2 million tons of capacity - allowed Cherat to garner a good capacity share in the market. Its total capacity in FY19 stood at 4.5 million tons supplying cement to the local markets in the north particularly KP, Punjab and Azad Kashmir while also exporting to Afghanistan.
Back in 2002, Cherat merged with Cherat Electric while its new production lines come with waste heat recovery plant as well as three new Wartsila Diesel 34 Dual-Fuel engines of about 9.7MW each. These can run on gas, diesel and furnace oil. Over the years, the company has also added tyre derived fuel processing plant and refuse derived fuel processing plant along with WHR and diesel power plants to the mix for energy self-sufficiency and cutting power costs down. At present, power costs are about 60 percent of the total costs of production for Cherat and in the same range or above for other cement manufacturers so energy conservation and captive production goes a long way to keep costs down.
Cherat is part of the Ghulam Faruque Group (GFG) where Cherat's shares are primarily held by its holding company Faruque (Private) limited. As on June 2018 (FY19 annual report is not out yet), nearly 22 percent of the shares were held by that company while other associate companies together held 7.26 percent of the company's shares including Cherat Packaging, Mirpurkhas Sugar Mills and Greaves Pakistan. The Directors and family held a little over 5 percent shares while the general public held nearly 21 percent of Cheat's shares. The GFG has a range of businesses part of group that deal in the manufacturing of cement, sugar, energy & power, appliances as well as packaging.
Cherat's operational and financial performance
Cherat cement has been a consistent performer operating on near-full capacity since 2010, though it took the company some time to turn to profitability despite such high utilisation. The company had to become more cost effective and over the years, captive power generation options have helped. As a result, margins jumped from 3 percent in FY10 to 35 percent in FY13.
On the demand side, Cherat primarily supplies to local markets but also exports clinker and cement to nearby markets such as Afghanistan. Most recently, sales to the Afghan market have dropped as cement from Iran started pouring through the borders. At the time when domestic demand was lower, exports was a great force. Cherat's exports in FY10 were 43 percent of all sales but as overall sales increased, and domestic demand improved, exports took a backseat. In FY17 and FY18, when exports declined organically, it was helpful that the domestic economic situation allowed for greater infrastructure and development expenditure by the publics, which helped cement sales grow.
Revenues grew not only because of improving demand domestically, but also because of higher prices fetched locally. Revenue per ton of clinker shows marked improvement since FY10-growing by 41 percent till FY18. At peak demand during FY16-FY18, Cherat saw its revenues double in just two years. It had just brought a new expansion during FY18 which help ramp up production and grab a higher market share, consequently a bigger top line.
On the other hand, costs have been shaky. In FY18, despite a bigger top line, Cherat saw its margins dramatically drop to 22 percent, against 33 percent during FY17 (FY16: 37%). According to its annual report, imported material was 70 percent of the total raw material used for manufacturing while the imported material and local raw material were 37.5 percent and 16.7 percent of the cost of sales respectively. Pretty significant. As calculated by the company, the cost of sales of the company moves up or down by 3.75 percent and 7.51 percent in case of foreign currency fluctuation of 10 percent and 20 percent respectively.
Import raw material is vulnerable to the exchange rate. The loss in margins during FY18 and FY19-coming down to 18 percent-was partly due to the exchange risk. Global coal which serves as a primary raw material also plays a role in margins as their price movements can shake up costs. Better inventory management and contract negotiations with coal suppliers can mitigate this risk.
According to the annual report, the company believes that it shielded margins from falling too much by controlling power costs and using the right mix of WHR, national grid and own generation. That may be true because the real bleeding is happening now during FY19 and only lower effective tax are shielding cement manufacturers from landing in single-digit net profit margins.
Latest financials and outlook
During FY19, the new expansion allowed the company to get a higher market share, though overall domestic demand has been lethargic. The company saw revenue grow by 10 percent. In the nine-month period, the company's dispatches fell by 14 percent but year-long estimates suggest that dispatches grew by 2 percent. Demand was down throughout the year as cuts in PSDP and lower appetite for commercial real estate and housing projects while there was a ban on property purchase for non-filers. Exports to Afghanistan and India have also come down. With that outlook, Cherat's revenue growth is positive, driven by better retention prices.
Costs in FY19 remained a thorn on its side. South African coal prices have come down-they averaged $93 per ton in FY18 and came down to an average of $87 per ton. Coal prices grew 27 percent during FY18 while they fell 33 percent since Jul-18 till Jun-19. However, electricity and fuel prices were higher, while rupee also depreciated significantly which put pressure on the cost of imports.
The company has kept a check on its various expenses, but finance costs due to expansion related long term debt and short borrowing rose as well, exacerbated by KIBOR rates. As a result, finance costs as a share of revenue grew to 5 percent (FY18: 2%). The company's tax credit saved the day for Cherat. The company's investments in line-II made it eligible for tax credit under section 65B of the Income Tax Ordinance 2001. Cherat's third production line is also now online. Cherat Cement needs to manage its exchange, interest rate and concentration risk, while managing its inventory optimally as coal prices are at their very low right now.

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Unconsolidated full year                          Cherat Cement

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Rs (mn)                              FY19        FY18       YoY

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Sales                           15,862.65   14,388.35     10.2%

Cost of Sales                   12,979.53   11,249.15     15.4%

Gross Profit                     2,883.11    3,139.20     -8.2%

Distribution costs                 396.34      337.13     17.6%

Administrative                     293.93      245.26     19.8%

Other operating expenses           109.36      133.97    -18.4%

Other income                       106.84       81.11     31.7%

Operating profit                 2,190.33    2,503.95    -12.5%

Finance costs                    1,142.56      356.59    220.4%

Profit before tax                1,047.77    2,147.37    -51.2%

Taxation (Credit)                (715.00)       15.25

Net profit for the period        1,762.76    2,132.12    -17.3%

Estimated cement sales (tons)   2,495,905   2,442,531      2.2%

Earnings per share (Rs)              9.98       12.07    -17.3%

GP margin                             18%         22%    -16.7%

EBIT margin                           14%         17%    -20.7%

NP margin                             11%         15%    -25.0%

Indirect expenses % of revenue         5%          5%

Finance costs % of revenue             5%          2%

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Source: Calculations based on 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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