Analysis Last year, prices of cement were so high a black market began to emerge but now good times are over for producers.
Setting for hard times
DUBAI // It cost contractors Dh6,239 (US$1,700) for a tonne of reinforced steel (rebar) and close to Dh400 a tonne for cement when they went shopping this time last year. There was even a black market, as traders were willing to ignore government-imposed price restrictions and contractors were desperate to lay their hands on building materials. However, with construction projects worth trillions of dollars being scrapped in the once red-hot Gulf construction market, the good times are over for cement manufacturers and steel traders.
Prices have plunged, with steel down almost 70 per cent in a year and cement down roughly 22 per cent. The decline in prices is now stabilising, but a sustained upwards price push in the second half of the year could only happen if the construction sector comes to life again, industry experts say. In the meantime, manufacturers are pinning their hopes on government support to remove price caps and control dumping from foreign firms, giving the market a chance to recover.
The cement sector in the GCC will have a capacity of 92 million metric tonnes per annum (mtpa) this year, up from 85 million mtpa last year, and a capacity of 112 million mtpa by 2011. A research note by Global Investment House, a Kuwaiti investment bank, said the sector would be facing overcapacity in the coming years if construction did not pick up to consume the additional capacity. Projects in the Gulf valued at Dh8.07 trillion have been postponed, with the UAE - where project announcements fell to $960bn from $1.32tn last month - leading the downturn, Global Investment House said.
In the UAE, where cement producers are meeting 60 per cent of local demand, annual consumption is expected to fall by 10 per cent this year, while oversupply could push producers into price wars, Khaled Gahal Hegazy, the vice president of Hegazy, one of the largest Egyptian cement trading companies, told a conference last week. Producers in the UAE are under more pressure than others to maintain profitability. The anti-inflationary price caps introduced last year by the Ministry of Economy and the expected 11.5 million tonnes of overcapacity in the country by 2011 could squeeze their margins even further.
Price caps were introduced by Gulf states to curb the soaring costs of construction, which fuelled inflation across the region last year. The rate of inflation - which accelerated as oil-fuelled economic growth sent property prices higher, while the weaker dollar made imports more expensive - has eased this year among GCC states. Inflation in the Emirates may drop to 7.1 per cent this year from a peak of 12.2 per cent last year, according to Citigroup.
However, analysts say that price caps of Dh280 a tonne on bulk cement and Dh14 for a bag, revised in March this year, are not favouring producers. Cement firms are already struggling with losses of more than Dh127m in the first quarter of this year on their investments portfolio, after they sought to generate profits from stock markets last year as a way of making extra money while they struggled with the anti-inflationary price caps. "Price caps are not the best idea. It was unfair to cap prices when demand was high and now in a weak market there is no government support," Mr Hegazy said. "With the added capacity coming online, we expect cement prices to fall another 10 to 15 per cent in the UAE."
Mostafa el Maghrabi, an analyst at Prime Securities in Abu Dhabi, said: "Factories on average are selling at Dh310 to Dh320 per tonne, down from a high of Dh400 in the middle of last year. The new price cap this year is still not implemented. Manufacturers are refusing to accept the government prices, and they are still negotiating." The earnings of cement companies in the country declined by an average of 35 per cent last year. The sector lost $42m in the final quarter of the year, against a profit of $469m a year earlier, according to research by Global Investment House.
Economies around the Gulf have announced plans for infrastructure projects worth billions of dollars to keep the construction boom going and support economic growth through public spending. However, producers in the cement sector are wary of what the second half of the year may hold for them. Manufacturers are lobbying governments for measures such as bans on licences to set up new cement production plants, revised energy pricing strategies, import duties to save markets from flooding by overseas suppliers, reconsidering taxes and tariffs for local firms, and extending tax exemption periods.
Mr Hegazy, who supports favourable government intervention, said the Arab Cement Manufacturers Association and individual producers were already talking to their governments. "We [traders] are helping them in negotiations and drawing up plans that could be implemented to rescue the cement sector," he said. Steel, on the other hand, which had seen prices declining more than $1,000 a tonne from its peak in July last year of $1,500 a tonne, is seeing fresh interest from traders who are hedging into dwindling steel inventories at a time when producers globally have restricted output.
Traders in Dubai said steel prices rose from $430 to nearly $500 a tonne last month, helped by a rise in oil prices and increasing freight charges. Freight costs more than doubled last month to $650, from $300 in March, for a 20-foot container from China and Malaysia. A 40-ft container rose from $550 to $800. Rizwan Sajan, the chairman of Danube Building Materials, said companies buying to replace stock accounted for increased demand for materials such as reinforced steel. "For the last six months in the GCC, there was hardly any buying. People started buying in March-April," he said.
But this is not the long awaited recovery, according to analysts and traders, who are worried about the unpredictability of construction sector performance. Their biggest fear is a surge in production by the steel manufacturers. Steve Mackrell, the director of operations at the Iron and Steel Statistics Bureau in London, told a steel conference in Sharjah last week: "In the short term, steel prices will remain stable and could recover further in the second half. This is, however, subject to factories remaining disciplined and not increasing production in a rush to replenish dwindling stocks."
Prices for rebar touched highs of $1,700 a tonne in July last year, according to Reuters. "It was a mix of extraordinary growth in production cost, coupled with incredible growth in the Middle East. We will not see these levels again," Mr Mackrell said. The Middle East had been the largest importer of steel last year, when demand rose 39 per cent over 2007. The region is expected to see a 20 per cent decline in demand this year, followed by growth of just 2 per cent in 2010 and 10 per cent in 2011, according to the Iron and Steel Statistics Bureau. The UAE was the largest steel importer among the Gulf countries, where imports last year rose 45 per cent compared with 2007.
However, there has been an 84 per cent drop in monthly consumption, from 1.84 billion tonnes in August last year to 300 million tonnes in February, reflecting developers' liquidity problems in the credit crunch and the subsequent delays to, and cancellations of, more than half of announced construction projects in the country since last autumn. "Some buyers are still holding back to see if the prices are going to fall further. But a further drop is unlikely," Mr Mackrell said. "We expect the second quarter this year to be better than the first."
* Additional reporting by Nathalie Gillet