Shree Cement: Why it is a good long-term bet

Prolonged project delays and funding issues have weighed on the infrastructure and construction activities in the country. While there are growing concerns over the economic slowdown, the Centre’s measures to open up the clogs in funding channels and its thrust on reviving the real- estate sector should improve the economic activities over the medium term, though near-term hiccups could persist.

Against this backdrop, cement companies, which are direct beneficiaries of a pick-up in economic activity, appear a good long- term bet. Consistent cost savings have also yielded good operational performance for major cement companies in the previous June quarter. Hence, many cement players have seen a rise their EBITDA per tonne in H1FY20.

Of the major players in the cement industry, Shree Cement is a good stock to buy at this juncture. At the current market price, the stock is marginally over-valued — the one-year forward PE is at 44.5 times, compared with the three-year average of 41 times.

The stock has, however, corrected by 10 per cent since its recent 52-week high, owing to weak demand witnessed in Q2, which presents long-term investors with a good opportunity.

Also, the premium valuations are justified, given its cost advantage over peers in terms of power and energy costs. This is thanks to its in-house power generation plants (659 MW capacity). External sales of remaining power units also contribute 6-7 per cent of its EBITDA.

Shree Cement’s leadership position (in terms of capacity) in the North region is an added advantage, as construction activity in the region has slowly started gathering steam. The company’s recent greenfield expansion in the South region has helped sustain volume growth despite industry-wide weak volumes in the recent September quarter.

Organic growth strategy

In terms of installed capacity, Shree Cements is the third- largest player in the country with 37.9 million tonnes per annum (MTPA) (domestic) capacity. That apart, the company recently acquired an overseas plant, which takes its consolidated cement capacity to 41.9 MTPA.

The firm, through vigorous brownfield and greenfield expansions, has increased its capacity by over three times from 13.5 MTPA in FY13.

While the company has relied on external debt for most of the expansions, the cash flows generated have been promising. The net debt skyrocketed in the quarter ended September 2018 to ₹3,498 crore from ₹969 crore in FY18. However, it came down to ₹1,050 crore in the latest September quarter, thanks to the company’s healthy cash flows. The operating cash flows were at ₹1,770 crore in H1FY20 compared with ₹573 crore in the corresponding period last year.

That apart, the company’s efficiency is also evident from the timely execution of its previous expansion projects since 2015.

The brownfield expansion plans in pipeline, in Odisha and Maharashtra — adding about 3 MTPA to its capacity — are hence likely to aid growth in the coming quarters.

Power savings

While the company’s net revenue grew 16 per cent CAGR over FY15 to FY19, EBITDA grew 19 per cent. This is thanks to the consistent cost savings.

While axle load norms and lower diesel prices helped save on the logistics front, falling import prices of pet coke and coal helped lower the energy costs for most cement manufacturers.

That aside, Shree Cement’s operating costs are marginally lower than its peers. The energy costs, in particular, have been the lowest — at ₹888 per tonne in FY19 compared with the industry average of ₹1,067 per tonne — thanks to captive power plants and higher share of petroleum coke in fuel mix.

The company has also been able to save on logistics costs, thanks to its centralised plant location.

From the June quarter last year, the company’s quarterly EBITDA margins (18.7 per cent) have seen a consistent uptick.

The firm reported an EBITDA margin of 30.1 per cent in the September quarter (a 11 percentage point increase from June quarter last year).

Cost savings on pet coke and diesel prices are likely to continue in the coming quarters.

With Railways waiving the peak season surcharge, cement companies are banking on further savings on logistic costs.

All this is likely to augur well for the company in the coming quarters, along with the expected revival in demand.

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