23 June 2007
THE good times are set to roll for the country's cement manufacturers now that it has been decided that the price of cement would be reviewed every four months. Changes in the price would be made according to an automatic pricing mechanism (APM), starting from Jan 1 next year. The blended ceiling price would be abolished.
The move comes at a time when the domestic construction sector is coming out of a dry spell and is gearing up for increased construction and infrastructure activity on the back of the roll-out of projects under the Ninth Malaysia Plan (9MP).
Analysts that track the cement industry are forecasting a significant upturn in the sector's recovery and, by virtue of that, in the earnings of the cement manufacturers.
Domestic selling prices were bumped up by about 8%-9% this year following a 10% increase in the blended ceiling price of the product to about RM218 per tonne in late December last year.
The industry had earlier asked for a 30% increase in the ceiling price but the Government only allowed a 10% increase.
As such, the introduction of an APM took the industry by surprise, as it was totally unexpected. Industry observers say they are awaiting more details about the APM but the general tone seems to be that the potential for prices to be changed once every few months would work to the advantage of the cement makers as it would likely result in some margin expansion.
The rise in the cost of electricity, water, petrol and even packaging material in recent times has taken a toll on the profit margins of most of the players.
JP Morgan believes that the implementation of the APM will not result in a short-term spike in cement prices. Rather, cement prices would become more dynamic and is likely to result in just one universal spot price in the market.
Industry observers also say it is heartening that the December price increase has been passed through fully to customers without any problems.
A foreign research house notes that local construction companies were prepared for a price hike as the proposal to raise the ceiling price had been submitted by the cement players as early as May last year.
"Furthermore, there are cost escalation clauses, pegged to cement ceiling prices, for government awarded infrastructure projects that allow the contractors to pass through the costs to the government," the house says.
Part of the reason the new mechanism is being introduced is to ensure a continuous supply of the building material as major developments across the country take shape over the next few years.
Good Demand Growth
The rollout of projects under the 9MP is expected to mop up the excess supply in the industry over the next few years.
The brutal price war in the first half of 2005, which saw average selling prices per tonne dropping from RM158 to RM100, resulted in many of the major players reporting lower earnings for the first time since the Asian financial crisis.
It did not help that the construction sector slowdown created an overcapacity situation or that the increase in fuel prices bumped up the raw material costs of the manufacturers. The situation was brought under control after the cement producers agreed to coordinate prices. Furthermore, organised plant shutdowns helped address the demand-supply imbalance.
Many of them dealt with the overcapacity in the industry by exporting a portion of their stock to overseas markets.
The export price of cement remains stable at around US$35 per tonne. Even there, the recent appreciation of the ringgit means a much lower rate upon conversion now.
For instance, export sales account for about 30% of Lafarge Malayan Cement Bhd's group revenue.
All that could change. Analysts are now beginning to anticipate a situation where much of the demand would come from the domestic market. With the APM in force and taking into consideration the manufacturers' cost increases, an industry watcher says cement makers are likely to cut back on their exports to channel the additional supply to meet the higher domestic demand.
In fact, a foreign research house points out that its demand growth projection of 4% and 5% for 2007 and 2008 veers on the conservative side. "Cement is basically a 2007 and beyond growth story. The government's proposed spending in 2007 is proof of this. Out of the budgeted RM44.5bil, RM27.5bil will go towards construction and supplies.
"That is easily 2.5 times the amount of work awarded in 2006. Therefore for 2007, we see a significant pickup in cement demand that could beat our 4% growth forecast, and the market's expectation of 4%-5% growth," the house says.
Given the homogeneous nature of the product, analysts say those companies with plants located close to where all the action is taking place would stand to benefit more than the others.
More Consolidation In The Future?
Some consolidation too could be on the cards. The higher cement prices and strong demand for the commodity would mean that some players might be willing to sell as they would be able to fetch higher prices for their stakes.
YTL Cement Bhd, for one, has been on acquisition mode in recent years. The slowdown in the construction sector in the last few years had prompted management to grow by way of acquisitions.
Fresh from acquiring Pahang Cement in 2003, YTL Cement went on to buy up to 65% of Perak-Hanjoong Cement in 2004. In an effort to expand regionally, the management acquired a 21% stake in Singapore's Jurong Cement Ltd a year later.
Says JP Morgan, "Although Jurong Cement has been making losses over the last five years, this would be considered a small entry fee for YTL Cement to potentially scale-up regionally and penetrate the Singapore and China markets.
"We expect a substantial portion of cement demand to come from within the group, given all the talk about the RM11bil KL-Singapore bullet train project that could be spearheaded by its parent company, YTL Corp Bhd," the house says.
JP Morgan, which initiated coverage on YTL Cement in April with an overweight call and target price of RM5.90, revised the figure upward to RM7 last week after factoring in the latest development to do with the APM.
On the other hand, some industry observers view Tasek Cement Bhd as being a prime takeover candidate. The company forms part of the Hong Leong group, whose acquisition trail in the past few years seems to be skewed towards the oil and gas sector. The group's chief Tan Sri Quek Leng Chan is also known for his willingness to part with some of his assets if the price is right.
Cement Industries of Malaysia Bhd (CIMA), which is considered a non-core asset of the UEM group, featured significantly in the merger and acquisition scene late last year when France's Vicat Group expressed its interest to buy CIMA's cement assets. CIMA countered by offering the French company a 49% stake in the company. The option, however, lapsed in January.