ABOUT a fortnight ago, D.G. Khan Cement (DGKC) — a Mansha group company

— gave a subtle hint that it planned to go ahead with its stalled expansion of a 2.5m-tonne new cement plant in the Hub region at a cost of $300m.

Although no formal announcement has been made, cement shares went into a tailspin ever since reports about the expansion first emerged and concerns over ‘sustainability’ of margins in the sector have been revived.

The cement industry had a wonderful first half of the fiscal (1HFY15), with profits up 15pc to Rs16bn on a 6pc rise in sales. Gross margins were reported at a satisfactory 37pc on the back of low coal prices and declining interest rates.

Yet, the big worry is that DGKC’s expansion would mess up the current ‘pricing dynamics’ of the industry. The expansion poses a significant risk to the positive fundamentals of the industry’s southern region, where most plants are operating at 90pc capacity.

At about the same time last year, DGKC had stepped back from going ahead with expansion as daggers were drawn. Industry experts believe that the resumption of DGKC’s expansion plan is not likely to go well mainly with the country’s largest cement producer, Lucky Cement. The anticipated addition of 2.5m tonnes would increase the southern region’s capacity by 34pc to 10.2m tonnes — a move likely to dim the bottom lines of existing southern players, with Lucky possibly taking the brunt of the blow.

But Lucky Cement CEO Muhammad Ali Tabba, told Dawn that the fears were misplaced. He said it made little sense to expand at a time when exports are sliding.

A Letter of Credit amounting to $23.6m for the 30MW coal-based captive power project at the DGKC site has been opened in favour of Sinoma Energy Limited of China

“Besides, DGKC has merely given a ‘plan’ and made no firm commitment to start the project,” said Tabba, who is also the chairman of the All Pakistan Cement Manufacturers Association (Apcma). He added that if the company goes ahead, it would take three years for the plant to come online, which is why immediate concerns were unfounded.

A senior official of another large cement company counted three reasons which, he believes, renders the expansion unfeasible at this time. First, the severe shortage of water in Hub; second, lack of power from the K-Electric grid, which would force DGKC to spend a huge sum of around Rs1.5bn to set up the necessary infrastructure; and third, the perennial problem of law and order in Hub, Balochistan.

A source close to the company, however, affirmed that while a Letter of Credit had not been opened yet, DGKC was planning to begin work in the first half of the next financial year and roll out cement bags from the new plant in 1HCY18.

As per its 2014 financials, DGKC operates at 95pc capacity. Investment analyst S.M. Jawad Shamin at AKD Securities says “In order to further grow volumetrically, the company will have to undertake expansion in the near future or modify its current 75pc to 25pc local-to-export ratio”.

Market experts contend that there is a standard three-year time lag between the announcement of expansion and the actual commissioning of the plant.

Mohammad Ali Amin at KASB Securities observed that “even if 20pc (8-9m tonnes) capacity is added by FY18, the industry is likely to absorb the additional supplies due to the projected cumulative growth in cement demand by about 15-20pc over the same period”.

Taha Bin Yamin, an analyst at Shajar Capital, concurred. “Since the plant will come online three years from now, disputes on pricing are unlikely in view of the maturing price arrangement between the players and their focus on installing cost-efficient projects.”

DGKC is amongst the largest cement manufacturers in the country, with a production capacity of 14,000 tonnes per day. It has three plants, of which two are located at Dera Ghazi Khan and one at Khairpur, Chakwal district. It produces clinker, ordinary Portland and sulphate-resistant cement.

DGKC’s paid-up capital stands at Rs4.381bn; this is in addition to the big Rs59.6bn it holds in reserves and accumulated profit. This produces shareholders’ equity at Rs64.1bn. It had paid a cash dividend of Rs3.50 per share in FY14. Total assets of the company stood at Rs79bn with market capitalisation at Rs56bn.

The company has an estimated free float of 55pc. Its majority shareholding of 31.4pc rests with the Mansha group’s flagship company, Nishat Mills. The local public holds12.47pc and foreign investors 18.81pc of the shares, while modarabas and mutual funds have a 9pc stake. The DGKC stock traded in the range of Rs71.71 and Rs133.14 over the last one year, and was quoted at Rs123.86 at the close of trading last Thursday.

For 2QFY15, the company posted an unconsolidated profit-after-tax of Rs2.25bn, up 40pc year-on-year. Net profit for 1HFY15 amounted to Rs3.4bn, translating into earnings-per-share of Rs7.75, up 27pc over a profit of Rs2.7bn and eps of Rs6.09 in 1HFY14. Analysts said the earnings turned out to be higher than market forecasts.

Regarding future prospects, Mian Raza Mansha, CEO of DGKC, stated in the directors’ report for the period that “the company foresees present cement prices to persist and sales may grow in the second half as the winter is over and the remaining months of the financial year are sunny”.

He added that a weak euro could cast a positive spell on the company’s import bills. The reduction in the discount rate, low furnace oil prices and a decrease in electricity costs are believed to improve the company’s income going forward. The CEO affirmed that a “Letter of Credit amounting to $23.6m for the 30MW coal-based captive power project at the DGKC site has been opened in favour of Sinoma Energy Limited of China. The project is expected to be commissioned in about the next 16 months”.

Published in Dawn, Economic & Business, March 2nd , 2015

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