Prism Cement

Though cement stocks have been battered in recent times on concerns about input pressures and pricing controls, select companies in the sector hold the potential to deliver reasonable earnings growth over the medium term and, thus, offer a good investment option (Rs 36).

Prism Cement, now trading at a price-earnings multiple of just five times its FY-08 earnings, is one such option. Promising growth prospects in the central region, strong operating efficiencies and ongoing capex suggest that the company may deliver reasonable earnings growth over the next five years.
Business overview

Prism Cement Ltd is a mid-sized cement manufacturer with an annual production capacity of 2.5 million tonnes, catering to markets in the Central and Northern regions. The uptick in the cement cycle saw the company managing a turnaround in 2004-05, following it up with a 53 per cent rise in operating profit in 2005-06 and 137 per cent rise in 2006-07.

Operating margins over this period expanded from 17.2 per cent to 37.5 per cent in 2006-07. With Prism Cement’s plant at Satna catering mainly to Uttar Pradesh and Madhya Pradesh, these two States together account for nearly 80 per cent of sales. A captive limestone mine at Hinauti and Sijahatta in Madhya Pradesh cater to the company’s raw material requirements.

The company’s operating margin for financial year ended June 2007 was over 43.6 per cent.

Margins for the latest March 2008 quarter saw a decline relative to the previous year on account of higher costs. Power and fuel costs rose by 35 per cent year-on-year and 15.6 per cent quarter-on-quarter.

This resulted in a slowdown in the rate of net profit growth (16 per cent against similar sales growth) in the March quarter.

However, this was reasonable in the light of substantial profit declines for Prism’s larger peers. Operating profit margins were maintained at a healthy 40 per cent levels for the quarter, against average margins of 30-35 per cent for peers.
Strength in margins

The company’s strength in margins can be attributed to efficiencies on the logistics and other overheads front. The markets served by the company (Uttar Pradesh, Madhya Pradesh and, to some extent, Bihar) are within 340-360 km from the Satna plant. The limestone mine is also near the plant.

The short lead distance to markets could turn out to be an advantage at a time when freight costs are likely to trend up, following the recent fuel price hike. Further, the company also uses six-stage pre-heaters and power rollers to reduce power consumption in cement grinding. The company supplements power supply from the State with captive power generated mainly through DG sets.

Consumption in the company’s target markets continue to show strong trends. During April, cement consumption showed a 17.6 per cent year-on-year growth in Uttar Pradesh and 9.6 per cent growth in Madhya Pradesh. The region saw an overall growth of 15 per cent y-o-y in April 2008 compared to 11.4 per cent in the South and 5 per cent in the North. With potential for strong infrastructure growth in Central India, the markets could see sustained growth in consumption (cement) over the next few years.

To cater to strong demand in the region, Prism has announced a two million tonne per annum brownfield clinker expansion at Satna to be commissioned in the second half of FY-10 and also a three million tpa green field clinker expansion at Kurnool, Andhra Pradesh, to be commissioned by the second half of FY-11.

The plant in Andhra Pradesh is expected to extend the company’s reach. These will together take capacity to at least 7.5 million tonnes by 2011, from the present 2.5 million tonnes. The company has not outlined the means of funding for these projects. However, having utilised its excess cash to clean up the debt on its balance-sheet, the company has been debt-free since 2007. Room to leverage on the back of substantial cash reserves, may allow expansion to be funded to a significant extent, through internal accruals.

Prism Cement had in last July announced venturing into insurance through a joint venture with QBE International, Australia’s largest general insurer. Given the competitive landscape for insurance, it may be best not to factor in payoffs from this venture at this juncture.