162-Cement Industry in India

CEMENT INDUSTRY IN INDIA Contents: Executive summary 1. Introduction 1.1. Objective 1.2. Methodology 2. Cement Industry : An Overview 2.1. Market Structure 2.2. Demand and Supply Analysis 2.3. Pricing Strategy 2.4. Complementary Goods 2.5. Implication of Indirect Taxes 2.6. Demand Estimation 3. Findings 4. Conclusion and Recommendations 5. References 6. Appendix IBS Hyderabad Cement Industry in India Page | 8

Executive Summary

Indian cement industry is the second largest in the world in terms of its production capacity (1.06 billion )tones and this constitutes 6% of the total installed capacity. This industry employs over 0.14 million people and constitutes 1.3% of the GDP. Cement demand has posted a healthy growth rate in tandem with the strong economic growth rate of the country. This sector is highly fragmented with the top six players

accounting for about 60% of the total installed capacity. The major demand was witnessed from growth in IT sector, Shopping malls and integrated township segments and other infrastructural development projects. With buoyancy in the housing construction, continued emphasis on infrastructure along with the new industrial projects expected to materialize, the industry is braced with better times ahead. The demand of cement in the country can be termed as inelastic in nature, this can be authenticated by the fact that irrespective of continued price hike by the industry the demand for cement has continuously increased over the years. In order to maximize their profits the major players sometimes resort to restrictive practices by colluding among themselves and forming cartels. In determining the price of cement collusive oligopoly plays a major part. The concept of the pricing strategy and game theory was applied to analyze the price determinant of cement. Construction chemicals like admixtures, flooring compounds, water proofing compounds which are used along with cement are categorized as complimentary goods to the cement industry. These days the increased demand for cement also influences the growth of these complimentary goods. The impact of indirect tax is very pronounced in case of their effect on the price of cement. Owing to its inelastic demand cement manufacturers invariably pass on the tax burden to the end consumer. IBS Hyderabad Cement Industry in India Page | 9

1. Introduction

The growth of the Indian economy is no more limited to the IT and the ITES sectors , the

manufacturing sector is growing over 11 % while the growth of India’s GDP is close to 9%. A study on the sector that is increasingly driving the country towards being a super power was imperative. With the thrust on infrastructure projects, boom in housing and real state business, cement industry is growing at a tremendous pace . Growth of the cement industry is over 10% which is more than the country’s growth rate. The entry of world’s top five players in the Indian market and the ongoing mergers and acquisitions has made the Indian Cement Business very dynamic in nature. The project deals with the analysis of various factors affecting the cement industry .It focuses on the way firms behave in the highly fragmented market .By applying basic economic theory, the demand supply position has been analyzed . What are the drivers of demand and how they affect the demand – supply equilibrium is discussed. The pricing strategy pertaining to the cement market structure and demand estimation is also dealt with.

1.1. Objectives

1. To study the market structure of the cement industry in India. 2. To study the demand-supply analysis. 3. To analyze the pricing strategy adopted by the players. 4. To study the influence of indirect taxes on the sector. 5. To estimate the future demand of cement in the country. 6. To understand the future prospect of the industry. IBS Hyderabad Cement Industry in India Page | 10

1.2. Methodology

1. Analysis of the Market Structure on the basis of secondary data. 2. Analysis of drivers of demand and the demand and supply situation prevailing in the country on the basis of secondary data. 3. Analysing pricing strategy of the product on the basis of game theory. 4. Cross price elasticity of demand for the study of complementary goods. 5. Study of implication of indirect taxes and price rationing on the basis of demand – supply model. 6. Demand estimation using regression analysis.

2. Cement Industry - An Overview

Major players and their endeavors With an installed capacity of around 157 million tons per annum (mtpa) at end-March 2006, large cement plants accounted for 93% of the total installed capacity in India. The installed capacity is distributed over approximately 129 large cement plants owned by around 54 companies. The structure of the industry is fragmented, although, the concentration at the top is increasing. The fragmented structure is a result of the low entry barriers in the post decontrol period and the ready availability of technology. However, cement plants are capital intensive and require a capital investment of over Rs. 3,500 per ton of cement, which translates into an investment of Rs. 3,500 million for a 1 mtpa plant. The Indian cement industry is on a roll. Driven by booming housing sector, global demand and increased activity infrastructure development such as state and national highways, the cement industry outpaced itself, ramping production capacity, attracting IBS Hyderabad Cement Industry in India Page | 11 the top cement companies in the world, and sparking off a spate of mergers and

acquisitions to spur growth. The result of this hectic activity is: 1. Net profit of the top ten cement companies more than doubled during the quarter ended June 30, 2006. 2. Cement production has logged on an impressive growth of 13.3 percent in 200506 as compared to only 3.6 percent in the previous year. 3. Cement and clinker exports are poised to touch the 10 million tonnes (mt) marked by the end of 2006-07, further boosted by a 12 percent rise in the consumption in Gulf countries and massive redevelopment efforts in Iraq and Afghanistan. In 2005, India produced 142 million tones of cement, accounting for about 6.4% of the global production of 2.22 billion tones. This position has been achieved because of India’s sustained growth at an average rate of 8.1 percent over the past two decades. Housing and Infrastructure Boom The recent boom in housing and construction industry in India has worked wonders for cement manufacturing companies as they registered an average growth of 95 percent in their net profits for the quarter ended March 31, 2006. Major cement companies witnessed a 32 percent surge in their sales volume and, across the board, companies registered high production, higher sales and lower production costs. 1. Ultra Tech Cement reported a whopping 1550 percent rise in net profits at US $17.69 million in the last quarter 2005-2006. 2. Gujrat Ambuja grew by 109 percent to US$ 64.81 million. 3. ACC net profit rose 27 percent to US $ 50.17 million. 4. Sanghi cement recorded a 455 percent growth in the net profit. 5. Mangalam cement saw its bottom line swell by 173 percent. IBS Hyderabad Cement Industry in India Page | 12 Mergers and Acquisitions

The booming demand for cement, both in India and abroad, has attracted global majors to India. Within a short spam 2005-06, four of the top five cement companies entered India through mergers, acquisitions, joint ventures or greenfeild projects. These include France’s Lafarge, Holcim from Switzerland, Italy’s Italcementi and Germany’s Heidelberg cements. The Indian cement industry has also witnessed a flurry of mergers and acquisitions within the domestic players, bringing smaller players under the umbrella of the larger companies, and larger companies coming under the umbrella of the global players like Holcim and Heidelberg Cements. Some examples of the consolidation witnessed among domestic players in the recent past include: 1. Gujrat Ambuja taking a stake of 14 percent in ACC. 2. Gujrat Ambuja taking over DLF cements and Modi cements. 3. ACC taking over IDCOL. 4. India Cement taking over Rassi cements and Sri Vishnu Cement. 5. Grasim’s acquisition of the cement business of L&T. 6. Grasim taking over Indian Rayon’s Cement division. Grasim taking over Sri Digvijay cements. 7. L&T taking over Narmada cements. Multinational cement companies have been aggressively picking up stakes in large Indian cement companies. 1. Holcim: Swiss cement major Holcim has picked up 14.8 percent of the promoters’ stake in Gujrat Ambuja Cements (GACL). In January 2006, IBS Hyderabad Cement Industry in India Page | 13 Holderind Investment (Holcim Mauritius), an indirect, wholly owned subsidiary of Holcim, had acquired 200 million equity shares of GACL at a

price of US$ 2.28 per share from the promoters. Holcim had entered a strategic alliance with GACL, and acquired a 67 percent controlling stake in Ambuja Cement India. Through this holding company Holcim acquired a majority in Ambuja Cement Eastern and a substantial stake in ACC. Ambuja Cement India holds 35 percent shares in ACC and a 97 percent stake in Ambuja Cement Eastern. Holcim’s acquisition has led to the emergence of two major groups in the Indian cement industry, the Holcim-ACC-Gujarat Ambuja Cements combine (capacity of 33.5 mt) and the Aditya Birla group through Grasim industry and Ultratech cement combined capacity of 31.1 mt. 2. Lafarage: The French cement major has acquired the cement plants of Raymond and Tisco in the recent past and has an installed capacity of 5 mtpa. 3. Italcementi: Italy based Italcementi has acquired a stake in the K.K. Birla promoted Zuari Industry cement in Andhra Pradesh with a capacity of 3.4 mpta. 4. Heidelberg: Recently, Heidelberg cement has entered into an equal joint –venture agreement with S P Lohi controlled Indo-Rama cement. Heidelberg cement is expected to take 50 percent controlling stake in Indo Rama’s grinding plant of 0.75 mtpa at Raigad in Maharashtra. Heidelberg is also taking over the Mysore Cement KK Birla group at a consideration of US $ 93 million. IBS Hyderabad Cement Industry in India Page | 14 The Top Ten The consolidation of the cement companies has lead to the top ten cement companies dominating cement production in India. As on March 2007: 1. ACC is the largest player with a capacity of 18.64 mtpa. 2. Ultratech Cemco ltd. Now occupies the second slot with a capacity of 17 mtpa.

3. Gujrat Ambuja group has emerged as the third largest group with a capacity of 14.86 mtpa. 4. Grasim ranks fourth with a capacity of 14.12 mtpa. 5. Other leading players include India Cements, Jaypee Group, Century textiles, Madras cements, Lafarge cements and Aditya Birla corp. NAME OF THE MAUFACTURER 2001 2002 2003 2004 2005 2006 ACC LIMITED 11.20% 12.20% 12.80% 13.50% 13.00% 12.60% ULTRATECH CEMENT COMPANY LIMITED 11.90% 11.10% 10.50% 10.10% 10.10% 9.70% GUJARAT AMBUJA 10.60% 8.70% 9.50% 10.10% 11.30% 10.60% GRASIM INDUSTRIES LIMITED 9.20% 10.30% 10.90% 10.90% 10.30% 10.30% CENTURY TEXTILES AND INDUSTRIES LIMITED 5.40% 5% 4.80% 4.80% 4.80% 4.70% BIRLA CORP LIMITED 4.20% 4% 4.10% 4.10% 3.90% 3.60% THE INDIAN CEMENTS LIMITED 7.30% 5.80% 5.40% 5.40% 5.10% 5.90% JAIPRAKASH INDUSTRIES LIMITED 2.30% 3.80% 3.80% 3.60% 4.30% 4.50% LAFARGE 3.80% 3.90% 3.40% 3.20% 3.40% 3.20% OTHERS 34.10% 35.20% 34.80% 34.30% 33.70% 34.80% IBS Hyderabad Cement Industry in India Page | 15 ENVIRONMENT ANALYSIS—PORTER’S MODEL IBS Hyderabad Cement Industry in India Page | 16 Sustained growth Top players like ACC and Aditya Birla Group have reported higher production and dispatches in 2006 as compared to figures of the corresponding period in 2005. ACC: ACC’s January 2006 cement production stands at 11.13 mt and dispatches at 11.08

mt as compared to 10.28 mt and 10.3 mt for January-July 2005. Grasim and UltraTech: The Aditya Birla group’s combined dispatch of cement and clinker during April/August 2006 is 12.73 mt is up by 6.6 percent over the corresponding last year. The combined dispatch of cement and clinker at 2.33 mt in August 2006 is higher by 4.9 percent over Aug 2005. Given the sustained growth in the housing sector, the government’s emphasis on infrastructure (at both national and state level) and increased global demand, the outlook for India’s cement Industry is exceedingly high. As discussed above, the cement industry is witnessing a number of Mergers & Acquisitions (M&As). The extent of concentration in the industry has increased over the years. This concentration is mainly because of the focus of the larger and the more efficient units to consolidate their operations by restructuring their business and taking over relatively weaker units. The relatively smaller and weaker units are finding it difficult to withstand the cyclical pressure of the cement industry. Some of the key benefits accruing to the acquiring companies from these acquisition deals include: 1. Economies of scale resulting from the larger size of operations 2. Savings in the time and cost required to set up a new unit 3. Access to new markets 4. Access to special facilities / features of the acquired company 5. And, benefits of tax shelter. IBS Hyderabad Cement Industry in India Page | 17

2.1. Market Structure

Predominantly there are four types of competition in a market : 1) Monopolistic competition

2) Oligopoly a) Duopoly b) Triopoly etc.. 3) Perfect Competition Oligopoly- Oligopoly is said to prevail when there are a few firms or sellers in market producing or selling a product in other words when there are two or more than two, but not many, producers or sellers of a product oligopoly is said to exist. 1) Market Share- In the context of Indian cement industry falls under the oligopolistic competition as majority of the market share is controlled by a few players. The graph below depicts the above mentioned statement. IBS Hyderabad Cement Industry in India Page | 18 2) Group Behavior Cartelization A cartel is a group of formally independent producers whose goal is to increase their collective profits by means of price fixing, limiting supply, or other restrictive practices. Cartels typically control selling prices, but some are organized to control the prices of purchased inputs and this phenomenon is known as cartelization. In the Indian cement industry the major players often resort to cartelization to increase their profits margins by creating artifitial shortages in the market. The aforesaid statement can be validated by the recent summoning of the major players by the Monopolies And Restrictive Trade Practice (MRTP)

2.2. Demand and Supply of Cement industry in India

Factors affecting the demand of Cement 1. Economic growth 2. Industrial activity

3. Real estate business 4. Investments in core infrastructure projects 5. Population 6. Number of consumers Economic Growth- Cement industry is an industry whose demand depends upon the economic growth of the country because a high growth rate will require a good infrastructure which will require cement thus driving its demand .In the Indian context it is a very important factor as now the economy of the country is growing at 8.9% of GDP. IBS Hyderabad Cement Industry in India Page | 19 Hence, the demand for quality infrastructure has increased. Many mega projects such as the metro rail project in many cities of India is an example where growth rate has influenced the demand of cement. Industrial Activity- Industrial activity directly influences the demand of cement. A growth in the industrial activity influences the demand for cements directly as cement is the basic raw material which is used in the construction process. As we know that India is now among the two fastest growing economies of the world and hence there are a huge number of industrial projects in the offing such as POSCO in Orisssa, Mittal Arcelor etc.. Investments are also coming up in the hydel power sector where there is no substitute for cement. Hence we can say that there has been an increase in demand due to the increase in industrial activity. Real estate sector- As the nation today is witnessing a high growth rate consequently the real estate sector is also witnessing a boom. The demand for office spaces, Residential complexes has increased by leaps and bounds it is estimated that New Delhi alone will require a two times increase in hotel rooms due to the commonwealth games. The demand for residential spaces has also increased due to an increase in population etc. Investments in the core sectors – India is now a preferred destination for investments in

recent years. India has seen major corporate houses setting up shops in India including Greenfield projects of POSCO, Arcelor-Mittal to name a few. This has led to an increase in demand of cement. Population- India is the second largest populated country of the world. As a result of this the demand for housing has increased which has led to a no of housing projects coming up which has driven the demand for cement. The graph below gives the demand for cement for the year 2006. As we can see that the demand is highest in the month of August which drops down to its lowest value in the month of September and again rises in the month of December. Changes in the price of related goods- Demand for a good is also affected by the price of the other goods especially those which are related to it as substitutes. Therefore when IBS Hyderabad Cement Industry in India Page | 20 the price of related goods falls the demand for that good decreases and when the price of the related good increases the demand for that particular good rises. In the context of the cement industry this factor is more or less insignificant as there are no close substitutes. Steel and glass are trying to emerge as an alternative to concrete but it is still far away from being a supplement to cement. Number of consumers- The greater the number of consumers greater is its demand . As there are a large number of real estate developers with a flurry of new projects the demand for cement is on the rise. Elasticity of Demand Price Elasticity of demand is defined as the percentage change in quantity demanded resulting from one percent change in the price of the good, other things remaining constant. Ep = Percentage change in quantity demanded Percentage change in price

IBS Hyderabad Cement Industry in India Page | 21 The demand for a good is said to be inelastic if a change in price howsoever large causes less than proportionate change in the quantity demanded i.e %change in quantity demanded < % change in price Ep < 1 The demand for cement is inelastic in nature ie, a small change in price produces less than proportionate change in the quantity demanded. The market for cement can be termed as oligopolistic in nature ie, a small number of players control the majority of the market share this is because the entry barriers to this sector is quite high and hence only about 10 players control majority of the market share. Determinants of Elasticity of Demand Closeness of substitutes – As cement has no close substitutes hence we can say that closeness of substitutes doesn’t play an important role in determining the elasticity of demand. Although some big players in the construction industry have started using steel structures with glass to build integrated structures but this concept is in nascent stage in India and hence we can not consider this to be a true substitute for concrete structure. Effect of elasticity on revenue – As cement has an inelastic demand hence we can infer that as revenue decreases when price decreases as the percentage change in quantity demanded is less than the percentage change in price. IBS Hyderabad Cement Industry in India Page | 22 Supply of Cement in India Factors affecting the supply of cement industry in India 1. Price of factors 2. Taxes and subsidies

1. Price of Factors- In general when the price of factors namely labor and raw materials increases the cost of production increases as a result the supply decreases. In case of cement the main raw material for is limestone if the price of limestone increases the cost of production increases resulting in decrease in supply. 2. Taxes and subsisdies- Taxes and subsidies influence the supply of a product. If an excise/ sales tax / duty is levied on a product then the firm will supply the same amount at a higher price or a lesser quantity at the same price ie, imposition of sales tax causes a leftward shift in the supply curve. The government levies taxes and excise duties to control the inflation rate. In case of the cement industry in India the price of cement was increasing, there was rampant cartelization and RBI had exhausted all its resources to control the inflation and the demand was still robust even after price hike. 2.2. Pricing Strategy of Cement Since cement industry is oligopolistic in nature, few characters which are found in oligopolistic market also affects here in determining the price of cement. The most important factor is the interdependency of various players in decision making which comprises the industry. Because in this segment since the major players are few, IBS Hyderabad Cement Industry in India Page | 23 the change in price by one player directly affects the price, output or product of its rival player which then retaliate by adjusting his price. Another important factor in price determination is the advertising expense. In view of the fact that a firm in a oligopolistic industry competes by changing the advertisement cost, quality of product, price, output etc, the presence of competitive condition can hardly be denied. The third aspect which determines the price of cement in an oligopolistic environment is

group behavior. Do the members pull together in promotion of common interests or will they fight to promote their individual interest is going to determine the price. GAME THEORY The game theory seeks to explain what is the rational course of action for an individual or firm who is faced with an uncertain situation, the outcome of which depends not only upon his own action but also upon the actions of others who too confront the same problem of choosing a rational strategic course of action. In the case of oligopoly markets the various possible alternative strategies which are relevant are 1. Change in price 2. Change in level of output 3. Increasing advertisement expenditure 4. Varying the product Various rules of game theory which are practiced in an oligopolistic economy are described briefly below and depending on these principles how the price of cement is determined is also discussed here. 1. If the player in an oligopolistic economy are competitive and are non-cooperative then ultimately industry price and also the quantity of production tends towards perfectly competitive market. The price cutting strategy and relative low price is an outcome of this. IBS Hyderabad Cement Industry in India Page | 24 2. The 2nd rule states that if the player in the oligopolistic economy decides to collude among themselves rather than competing among themselves, then both price as well as production tend towards monopolistic trends. This is the case of cement sector in India. In Indian context few major players like ACC, Grasim,Lafarge, Ultratech, Ambuja generally decides the price of cement. In the case of such co-operative equilibrium when players act in unison and set strategies to maximize joint payoffs. They often form a

cartels setting high price and dividing all profits in equal proportions but it is not always easy to achieve and sustain co-operative monopoly as cartel and collusion are basically restrained and are considered to be illegal in most of the market economies. But the loophole in the law is that it is very difficult to detect cartelization. 3.In many cases there is no stable equilibrium for the oligopolistic market . Strategic interplay often leads to unstable outcomes as firms start indulging in price wars, capitulation to stronger firms, punishing weaker players etc. Recent frequent mergers and acquisition taking place in the cement industry is an example of this. The Collusion Game It states that a cooperative equilibrium comes in to play when the players in oligopolistic market act in unison to find strategies which will maximize their joint payoffs. So this can be termed as collusive oligopoly. IBS Hyderabad Cement Industry in India Page | 25 Here DA is the demand curve for a player A and the assumption is that other few players also follows A in increasing or lowering the price. So the firm’s demand curve has the same elasticity as the Industries’ demand curve. So the market share remains unchanged. Here maximum profit equilibrium reaches at point E, the intersection of firm’s Marginal cost(MC) and marginal revenue(MR) curve. The optimal price for collusive oligopolistic is shown as point G on DA just above point E.

2.4. Construction chemicals as a complimentary product to cement

Construction chemical is a generic name assigned to describe a wide range of chemicals that are used in pre and post-construction stages. Construction chemicals are used as an additive to concrete/mortar or as an application on masonry surfaces. These chemicals modify and enhance the properties of concrete in fresh and hardened state. A large

variety of formulations and chemistries are used for diverse applications during both pre and post-construction stages in order to impart special properties to concrete structures. For the sake of convenience, construction chemical market can be segregated into, 1. Admixtures 2 .Flooring Compounds, 3. Repair & Rehab and other products. (Examples are Grouts, Adhesive etc) IBS Hyderabad Cement Industry in India Page | 26 4. Water Proofing Compounds Complementary good is defined as a good that should be consumed with another good; its cross elasticity of demand is negative. This means that, if goods A and B were complements, more of good A being bought or consumed would result in more of good B also being bought or consumed. Now since the application of construction chemicals are directly related to the use of concrete/cement products, it can be very well categorized as a complementary good to cement. The Indian Construction Chemical Industry. The Indian construction chemical industry, termed as a `sunrise industry`, is already showing colours .From a scratch in late nineties this industry has emerged as a force to reckon with having an annual turn over of more than 350 crore and is growing at a rapid pace. Easy adaptability to foreign technology and the entry of foreign companies in the construction sector have helped to change the mindset of the people that has eventually resulted in quicker growth of the construction chemicals sector. The major players present in this sector in India are FOSROC,CICO,MBT ,Dr FIXIT, etc As per the estimation , out of the total construction chemicals (exploited market at this stage), Admixtures contribute about 30-33 percent, industrial flooring about 20to 23 percent, water-proofing products about 20 percent, repair and rehab products 15 percent,

and the rest is contributed by sealants and other auxiliary products. Major factor attributed to the growth of construction chemical Industry 1. For several projects funded by multilateral agencies like the ADB and World Bank, the use of construction chemicals is mandatory. 2. The new skill set practiced by skilled worker force in construction activity now a day due to the boom in this sector made it possible the extensive use of IBS Hyderabad Cement Industry in India Page | 27 construction chemicals, as construction chemicals are sensitive products and its use requires basic technical expertise. 3. Since the use of Ready Mix Concrete (RMC) is the norm of the day and this product ultimately demands higher workability for a longer period as it is to be transported from one place to another, so use of admixture is must for this. 4. It is used to impart more strength to concrete at pre and post construction stages and hence used extensively now a day. So it can be concluded that rapid growth in construction industry has resulted in rapid growth of cement industry and ultimately the growth of construction chemicals as complementary goods to cement

2.5 . The implication of indirect taxes on the cement industry in India:

Cement is a capital intensive sector. Thus the industry has always shown that the impact of direct and indirect taxes on this core infrastructure product has always been high. With levies ranging close to Rs. 1000 per tonne or Rs. 50 per bag this is close to the highest tax rate that the sector pays in any other country. The fact is that in the past several years cement was sold at an un-remunerative price (due to governmental regulations viz. price rationing) but recent liberalization(opening up to demand-supply forces) of the sector due

to market dynamics has resulted in a more reasonable price for cement. But the government believes that the current price of cement is still very high, vis-à-vis the international price. Thus the government in a bid to reduce the burden on the end consumer, and to promote imports, has decreased the import duty for cements to zero. But inspite of all these limitations on them the cement manufacturers are of the view that the price of cement in the country is competitive with respect to the international prices. IBS Hyderabad Cement Industry in India Page | 28 The following table shows the effect of indirect taxes on the price of 1 ton of cement in the country as on financial year ending 2006. This table clearly shows that the sum total of the levies on the sector viz. ( excise duties, sales tax, royalties on limestone and Coal, Cess et al) is quite high. The industry has always pleaded for a reduction in the tax rates, in order to reduce cement prices which it can ultimately pass on to the consumers. The industry is the second largest contributor of excise duty. In 1980, it contributed Rs 170 crore to the exchequer, and if State and Central levies are taken, it will be more than Rs 12,000 crore. Cement has traditionally been the beast of burden. It carries the largest burden for an infrastructure building material. The Government must understand that for years they have collected a substantial levy from the industry when the economy was in the doldrums. So it should not deny the industry its due share of profit when the market is better and the economy is looking up. This will facilitate much-needed infrastructure development as also the construction activity in the country which is the need of the hour, if India has to become a developed country. Duties and levies on cement (Rs/Ton) VAT 362

Excise 408 Royalty on limestone 69 Royalty on coal 22 Duties on power tariff 27 Octroi 23 Others 20 Total 931 IBS Hyderabad Cement Industry in India Page | 29 Budget 2003-04 Budget 2004-05 Budget 2005-06 Excise duty on cement hiked by Rs 50 to Rs 400 per tonne. Major announcements on the infrastructure side including roadways, airports and convention centres. Tax breaks on specified housing projects have been extended till 2005. Additional 2% education cess on all direct and indirect tax. Customs duty on pet coke reduced from 20% to 10% Excise duty on clinker increased to Rs 350 per tonne from Rs 250 per tonne. Customs duty on cement

reduced from 20% to 15% in line with the reduction in peak customs duty rate. Deduction of upto Rs 1 lakh on the repayment of principal amount of housing loan. Cement has an inelastic demand curve,(owing to the relative unsubstitutibility) i.e. even if there is a upward shift (increase) in prices of cement even then the demand does not decrease or vary to a large extent. In such a scenario the basic concept of the tax implication on the demand-supply dynamics is given as follows: Since the manufacturers (sellers) know that even if the tax burden (set by the government) is passed on to the consumers (buyers) even then there is no loss from their side, cause the demand remains the same. Thus the entire tax burden is passed on to the end consumer, as a result the price of cement goes up. Thus in-effect the consumer has no alternative but to pay the higher prices. Incase of the domestic cement industry the government has tried to nullify this increase of price (by the domestic players) by cutting down on the imports duty on cement, thereby hoping to increase the supply from abroad. To understand this concept better lets study the following graphical depiction: In this graph the demand is shown by the line DD, now this is a straight line given the inelastic demand. The supply is shown by the lines SS(before excess tax) and S’S’(after excess tax). Now when the market forces were allowed to control the price the price was at P, however when the government decided to impose additional tax to the industry then the cement manufacturers (suppliers) decided to pass the burden to the end consumers IBS Hyderabad Cement Industry in India Page | 30 (buyers). Hence the price of cement went up, and the consumers had to pay higher money for the same quantity of cement. So in this case the tax is given by (p’-p) which is the

extra money that buyers had to pay. The effect of price rationing on the industry Till the year 1982 the cement industry was subjected to unlimited regulations by the government, the government used to set a fixed price at which the sellers had to sell their produce. The market dynamics had no influence on the pricing. In view of this limitation that was imposed on the industry the cement prices remained at artificially low levels, inspite of the sustained demand. The manufacturers had to stick to the predetermined price set by the government, hence this affected their profit margins of the companies to a large extent. IBS Hyderabad Cement Industry in India Page | 31 Lets try to understand this through a graph: In this graph the demand (DD) supply(SS) dynamics determined the equilibrium price of the cement. Now due to governmental intervention on the price, the price was kept very low, i.e price ceiling was established. At this price the cement manufacturers did not have the incentive to produce more and more cement because their profit margins were considerably decreased. Thus although there was sustained demand in the market, the suppliers were only (producing/supplying) Q quantities of cement. This led to a severe shortage (shown by the portion AB) in the period prior to the early 1980’s. IBS Hyderabad Cement Industry in India Page | 32

2.6. Demand estimation

Demand for cement is forecasted and tabulated in the Table --------. Assumptions made :

1. Demand for cement is inelastic . 2. The variables for demand estimation are Price, Annual Production , Population , GDP . These are directly related to the drivers of demand. 3. GDP will not change drastically and will continue to show the rising trend .The growth rate will be sustainable. 4. Price per bag used in calculation is the average price of cement per bag (50 Kg bag). Cement has a fragmented market and the price per bag differs from one state to other state depending upon the duties. Also, the local players charge lesser price than players having national presence. 5. Production increased by 14mtpa (million tons per annum) within a short span of one year , from 2005 – 2006due to entry of foreign players like Holcim and Lafarge who are leaders in the cement globally. But, we have assumed for the purpose of forecasting that production will not rise drastically .Their expansion plans to meet the rising demand , green field projects as well as brown field projects , is not taken into account because investment depend upon the prevailing market situation which is highly uncertain. 6. Linear model is used to estimate demand. 7. Variables are also forecasted. Regression Analysis was carried out using Microsoft Excel and the result is shown in ………..appendix no……for a confidence level of 95 %. IBS Hyderabad Cement Industry in India Page | 33 The residual plots (figure no._____ show that the assumption of a linear model is appropriate as the points are scattered evenly above and below the reference line. From the regression analysis we obtain the following equation: Y = 0.5484Xg + 0.775Xpo + 0.80876XPdn – 0.0138Xp – 56.3568 Where Y = Demand in million tons per annum

Xg = GDP in percentage Xpo = Population in crores. Xp = Average price of a 50 Kg bag Xpd = Annual Production in million tons per annum. We have already analyzed that demand for the cement is inelastic and discussed the drivers of demand. For an elastic good, with the increase in price the quantity demanded will decrease but for cement we have observed that the increase in price has not affected the demand and hence we can conclude that it is price inelastic. Thus , we can not directly correlate the variables average price ( Xp ) and Demand (Y) of cement. If the present growth rate of economy is sustained then the government will increase the infrastructure spending which will further increase the demand of the cement. YEAR GDP IN PER POP IN crs PRICE PDN CON Xg Xpo Xp Xpd Y 2000 5 100.1 120 94.2 87.6 2001 5.6 102.86 140 93.6 90.3 2002 6.3 104.59 150 102.4 99 2003 8.5 106.54 165 111.4 107.6 2004 7.5 108.12 170 117.5 113.9 2005 8.4 109.71 185 127.6 123.1 2006 8.9 111.42 195 141.8 135.6 2007 9 113.1043 195 146.407 140.77 2008 9.2 114.7677 200 149.0426 144.0378 2009 9.4 116.4127 204.954 151.6782 147.3563 2010 9.5 118.0409 207.41 152.996 149.5255 2015 10.5 125.9729 231.97 166.174 165.6596

2020 11 135.324 244.25 172.763 177.5345 IBS Hyderabad Cement Industry in India Page | 34 A number of green field projects are coming up especially in limestone rich states like Andhra Pradesh and Himachal Pradesh which will increase the production capabilities of companies.

3. Findings

1. Demand estimation- As the country marches ahead in its bid to become a superpower, the increased spending on infrastructural development will be the be the primary driver for the growth of the industry. Using regression analysis it was found that the demand for cement will be in tandem with the corresponding growth in GDP. 2. Pricing strategy- Cement price is determined by the oligopolistic market behavior and theory of collusion (Game theory) plays an important part in deciding the price. 3. Indirect taxes- The impact of indirect tax is very much pronounced in case of the cement industry. Owing to its inelastic demand, cement manufacturers invariably pass on the tax burden to the end consumers. 4. Complimentary goods- Construction chemicals like admixtures waterproofing compounds etc.. can be considered as complimentary goods to cement . The recent growth trend of these products supports the above mentioned view. IBS Hyderabad Cement Industry in India Page | 35

4. Conclusion and Recommendations

We have observed that the demand for the cement looks robust and our view is further augmented by the fact the budgetary provisions done by the government for infrastructure spending is increasing. From the demand perspective, cement demand in the medium term is expected to grow by around 9%. The Planning Commission's Working Group on Cement Industry predicts cement production in India to grow at a rate of 10% during the next five year plan. And they have further predicted that Growth of 9% per annum from FY2006-10 would result in cement production to around 190 mt in FY2010. Even though we have 59 cement players in India but we have observed that the top ten dominate the entire market and rest are dominant only in the local segment. So, it can be concluded that the market structure is oligopolistic in nature . Cement enterprises are the favourite flavour of competition authorities around the world. This is because they almost always collude as a cartel and fix prices, thus adversely affecting the market. In India, the scene is no different. But they have never been prosecuted, because our extant competition law, the Monopolies and Restrictive Trade Practices (MRTP) Act, is just not adequate to deal with them. This is one reason why we adopted a new Competition Act in 2002, but it remains dysfunctional, awaiting amendments in the Parliament . What the government can facilitate? Mining and green field projects 1. Streamlining the limestone mine licensing policy in line with the consolidation within the industry and should encourage new capacity additions in the coastal districts . 2. Simplifying and streamlining the process of leasing limestone mines and reduces the number of agencies involved in the process . 3. Increasing the ceiling on the mining area that can be held by a single company, in tune with the requirements of the industry.

4. Encouraging creation of additional grinding capacities near demand points IBS Hyderabad Cement Industry in India Page | 36 5. Incentives for mini cement plants for contract grinding 6. Incentives for large cement plants putting up grinding units based on availability of blending material 7. Incentives for large cement plants sourcing the clinker from kilns set up near lime-stone mines in remote locations. Manufacture 1. Identifying the best cement plants (which compare favourably with global standards of operations) in the country based on agreed technical and operational parameters, (including nearness to the sea) and promoting exports from these plants 2. Providing the identified plants with preferential mining leases, statutory clearances and liberalise other statutory requirements which would otherwise add on their cost and competitiveness. 3. Creating special cement export processing zones on the lines with other EPZs, SEZs, in areas within 300km of the coastline to promote export oriented cement manufacture 4. Lowering the import duties on coal used by cement plants on par with the reduced duties for coal imported by other industries (eg.: steel manufacturers) 5. Encouraging fuel management enterprises, to whom cement manufacturers outsource the activities related to fuel management 6. Providing tax and other incentives for the same and exploring the possibilities of bringing in participation from the industry 7. Directing state governments to remove restrictions on choice of power source imposed on the cement manufacturers

8. Incentivising the cement companies to source / develop the technology for power cost reduction, eg.: Cogeneration, Waste heat regeneration etc IBS Hyderabad Cement Industry in India Page | 37 Grinding – Blended Cement Removing the restrictions on usage of blended cement (of acceptable quality) for large infrastructure projects Packing 1. Introducing policy initiatives to discourage the usage of packed cement bags for large infrastructure projects and by ready mix concrete plants. 2. Incentivising setting up of bulk handling facilities especially in coastal zones, to enable competitive exports Logistics 1. Introducing policy measures to represent to the railways to endow a favoured preferential treatment to cement on par with coal and petroleum products 2. Promoting cement specific inland waterways and encouraging development of inland ports and handling facilities dedicated to cement 3. Identifying major / minor ports that would be able to support the requirements of cement exports from major clusters 4. Removing the restrictions on constructing port based cement handling facilities Finance Sourcing inexpensive global funds and on-lending the same to the Indian cement manufacturers, thereby reducing the cost of finance for the Indian cement industry Consolidation 1. Developing a suitable exit policy for enabling easy reorganisation of manufacturing capacity to increase the overall competitiveness of cement manufactured in India

IBS Hyderabad Cement Industry in India Page | 38 2. Encouraging consolidation by providing access to the inexpensive funds from global sources to the large Indian players intending expansion / lateral consolidation within Indian industry How the industry can assist? Manufacture 1. Proactive investments in introduction of technology for flexible fuel operations 2. Proactive creation of organized markets for alternate fuels for domestic / imported alternate fuels such as agricultural wastes, tyres etc. 3. Commitment for usage of alternate fuels, especially no ash fuels such as natural gas . 4. Outsourcing power generation to specialized utility companies. 5. Commitment to invest in efficiency improvement of the older plants in a timebound manner Grinding – Blended Cement 1. Proactive investments in pozzolona material handling facilities 2. Proactive development of independent bodies to manage the supply and distribution of pozzolona material on a cluster basis (on line with shared infrastructure for limestone and coal handling). Packing Proactive investments in Bulk material handling and transport facilities to bring down the overall cost of cement .In India still the concept of selling cement in 50Kg bags prevail which increases the packing charges , material handling charges where as in developed countries cement nowadays primarily is sold in bulk and by this approach they are able to cut down the costs. IBS Hyderabad

Cement Industry in India Page | 39 Logistics Cement is a highly capital incentive industry and majority of the players of this sector here operate on very low profit margin .Cost incurred on logistics are very high and that is the reason why cement needs to be sold near to the factory . Following measures can be suitable for the industry 1. Proactively pursuing common cluster based approach for railway siding and railway transport handling 2. Proactively pursuing common service providers (experts) for logistics handling, across multi-modal transport facilities of road, water and rail - in line with Automotive Industry 3. Proactive industry investments in feasible cement handling ports at identified centres 4. To have grinding units away from the plants . Clinker can be transported to these grinding units which can be set up in neighboring states and the product can be marketed to a larger segment. IBS Hyderabad Cement Industry in India Page | 40

5. References

1.Ahuja , H L , ― Modern Microeconomics ― . 12th edition , S.Chand. New Delhi. 2.Nordhaus , Samuelson , ―Economics ― . 18th edition , Tata MacGraw Hill. New Delhi. 3.‖Microeconomics ― , ICFAI Centre for Management research.

4. www.wikipedia.edu. 5. www.icra.in. 6. www.acclimited.com. 7. www.cma.com. 8. Statistical report SRS , Registrar General of India Levine , Stephan , ―Statistics for Managers Using Microsoft Excel‖ ,4th edition , Prentice Hall of India. New Delhi. IBS Hyderabad Cement Industry in India Page | 41

6. Appendix

SUMMARY OUTPUT Regression Statistics Multiple R 0.9996968 R Square 0.9993936 Adjusted R Square 0.9989894 Standard Error 0.675842 Observations 11 ANOVA df SS MS F Significance F Regression 4 4516.9685 1129.2421 2472.2743 8.914E-10 Residual 6 2.7405748 0.4567625

Total 10 4519.7091 Coefficients Standard Error t Stat P-value Lower 95% Upper 95% Lower 95.0% Upper 95.0% Intercept -56.356835 36.999524 1.5231773 0.1785458 -146.89141 34.177737 146.89141 34.177737 GDP IN PER 0.5484018 0.3539216 1.5495009 0.1722358 -0.3176131 1.4144167 0.3176131 1.4144167 POP IN LACS 0.6753018 0.4542895 1.4865009 0.1876998 -0.4363047 1.7869082 0.4363047 1.7869082 PRICE -0.0138146 0.0783881 0.1762336 0.8659083 -0.2056233 0.177994 0.2056233 0.177994 PDN 0.8087695 0.0399749 20.231907 9.473E-07 0.7109543 0.9065846 0.7109543 0.9065846 A.1 Regression Analysis output

A.2 Residual plot of GDP growth rate IBS Hyderabad Cement Industry in India Page | 42 A.3 Residual plot for price A.4 Residual plot for production A.5 Residual plot for population IBS Hyderabad Cement Industry in India Page | 43 A. 6 Graph showing the rise in production as compared to GDP IBS Hyderabad Cement Industry in India Page | 44 A. 7 Graph showing the rise in price of cement as compared to GDP