>INDIA CEMENT SECTOR (CITI)

Rising Demand, But Oversupply None the Same

■ Raising demand growth estimates — Demand has been stronger than expected at ~12% in 1QFY10. Based on this and the expected infrastructure impetus, we raise demand growth to 10-11% for FY10-11 (from 9-10%) and maintain 12% for FY12. We support our estimates using 1) a higher GDP growth multiplier of 1.44x vs. 10- year average of 1.23x and 2) expected growth for cement consuming sectors.

■ Oversupply impact likely shorter; Jan-Jun10 biggest risk — The 114m tpa of capacity (FY08-11) is likely to have the biggest impact in FY11 with an expected surplus of 14m tonnes (6.5% of demand). While we expect a surplus in FY10, strong 1Q prices should prevent a YoY decline in prices. The extent of oversupply should fall meaningfully in FY12, as the demand-supply gap contracts. This has been a precursor to an increase in valuations in the past.

■ Wait for oversupply impact to get more constructive — Cement companies are going through a beneficial period of robust prices/demand and low costs, reflected in valuations exceeding replacement costs for most majors. The oversupply impact is yet to come, but we believe should come through in the next 6 months. Any near-term slackness in demand could be the pressure point on stock values. We believe then, rather than now, would be the time to get more constructive.

■ Sell — We change our valuation methodology to replacement cost (more stable parameter) and discount it due to shortened oversupply period and stronger balance sheets. We raise earnings estimates on price/cost trends so far and continue to see FY10 as peak earnings and a sharp fall in FY11. We value stocks at EV/t of US$85-90 (vs. 4.2-6.3x Sep10 EV/EBITDA) and raise our target prices 1- 76%. We see most downside in ACC/ACL, and our preferred play is ULTC.

To see full report: CEMENT SECTOR