AKD Securities Limited – Pakistan Cement: Is the top-line secure?

Karachi, May 08, 2015 (PPI-OT): While continuing with AKD Securities Limited’s bullish stance on the Pakistan Cements, AKD Securities Limited tests the industry’s fundamental strength through a top-line analysis, in AKD Securities Limited’s report today.

After exhibiting an overall dispatches growth of 2.6%YoY in Apr’15, the same for 10MFY15 is up 3.9%YoY (on the back of 8.0%YoY uptick in local dispatches. 9.1%YoY decline in exports). On the exports front, dispatches to Afghanistan are expected to remain fragile following down turn in overall Afghan demand and supply of Iranian cement in south western part of the country.

On the local front, Iranian cement is hurting the industry as it has made its way to the Pakistani market and in effect restricting local players from maximizing their respective dispatches. That said, AKD Securities Limited believes the next leg of growth in the local market would come from infrastructural projects under the China Pakistan Economic Corridor (CPEC) on the back of certain positives which make Pakistani cement preferable over its Chinese counterpart.

Few of the Chinese projects are expected to come online in the coming quarters, which would ensure a strong top line (ultimately the bottom-line), considering already-strong local demand. DGKC (Jun’15 TP of PkR153.8/sh), along with MLCF (Jun’15 TP of PkR71.9/sh), are AKD Securities Limited’s top picks within the cement space.

10MFY15 dispatches: As per the recently released numbers by APCMA, 3.29mn tons of cement was dispatched in Apr’15 vs. 3.21mn tons dispatched in Apr’14, up 2.6%YoY. Conversely, on the exports front a decline of 4.7%YoY (due to weakening Afghan market) dragged down the 4.6%YoY improvement seen in local dispatches in Apr’15. Subsequently, 10MFY15 dispatches are up 3.9%YoY where major support came from increasing local demand (up 8.0%YoY) which diluted the negativity brought on by faltering exports (down 9.1%YoY). Within the AKD Universe (as per provisional numbers), MLCF’s dispatches grew by ~8.8%YoY in Apr’15, followed by DGKC (up 2.6%YoY) and LUCK (up 1.8%YoY).

Afghan market: Pakistan exported highest ever 4.73mn tons cement to Afghanistan in FY11. However, ever since then similar figures could not materialize due to: 1) a down turn in the Afghani local cement demand and 2) availability of cheap Iranian cement. The situation is getting more worrying as post decline of 24.0%YoY in 10MFY15, exports to Afghanistan have brought the total cement exports down by 9.1%YoY.

With Eastern and Southern Afghanistan (areas like Jalalabad, Kabul, Kandahar etc.) expected to continue with importing cement from Pakistan, other parts of the country (like Mazar-e-Sharif, Herat, Zaranj etc.) are anticipated to benefit from excessive production in Iran. AKD Securities Limited flags a possibility of transfer of 300k-600k tpa cement from being exported to be dispatched locally, which considering healthy local demand over the short to medium term may not hurt cement dynamics.

Recall, over the past 3yrs Pakistani exports to Afghan market have posted a negative CAGR of 8.2%, where AKD Securities Limited estimates FY15 dispatches to reach 3.0mn tons, down 17.9%YoY (lower by massive 36.5% from its FY11 peak).

Iran – adding sourness to dream run! As per AKD Securities Limited’s channel checks, Iran faced an oversupply of ~14mn tons of cement in 2014 (local demand of ~54mn tons vs. supply of ~68mn tons), and is sighted to continue with similar situation in coming years. This has helped the country to tap a decent percentage of the Western and Central Afghan market, posting threat to Pakistani exports. Adding insult to injury, Iranian cement is reported to enter Pakistan as well via unofficial channels, denying local players from maximizing their utilization. Going forward, AKD Securities Limited feels this phenomenon may continue troubling Pakistan Cements, adding unwanted sourness to the sector.

India balancing AKD Securities Limited’s numbers: While the Afghan market is going through a lean phase, dispatches to India have picked pace (up by 40%YoY in FY14 to 677k tons). The particular trend continued in 10MFY15, as dispatches to India increased by 15.4%YoY totaling at 584k tons. Considering the existing govt. relationship with the neighbour (India), AKD Securities Limited believes that such increase in exports might cover up the negativity brought on by Afghan market, thus supporting the players to continue with swelled top-line.

Chinese projects, higher dispatches projected: The recent visit by the Chinese President where agreements for large scale infrastructural projects were signed, is anticipated to create additional demand for cement manufacturers. However, given China’s status as the largest cement producer in the world, there could be a potential threat of cement coming in from China. Pakistan shares its north-eastern border with China’s Xinjiang region, while majority of Chinese cement production is concentrated in regions other than Xinjiang and Tibet (also near to the Pakistani border but disputes and lesser number of producers are likely to restrict supplying cement to Pakistan).

That said, AKD Securities Limited sees few barriers that might keep the Chinese cement away from entering Pakistani projects like: 1) increased transportation costs due to a longer route (1300km long Karakorum highway) , 2) heavy presence of Pakistani players in the northern side can lead to competitive cements pricing, 3) quality and packaging concerns might erode the financial feasibility, 4) with falling Pakistani exports, players are expected to be aggressive in winning contracts to ensure current high capacity utilization levels. Keeping these developments in mind, AKD Securities Limited believes concerns of Chinese cement supply making its way to Chinese funded projects in Pakistan are a bit overblown. Conversely, AKD Securities Limited sees these projects being a major positive for the local construction industry.