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Industry Analysis: Banking – Part 1

First a warning – Banking is not within my circle of competence. This post is an attempt to put forward whatever little I have studied and know about this industry. It’s now upon you to build on the same and learn more about how this industry works.

About Banking
Wikipedia defines a bank as…

…a financial intermediary that accepts deposits and channels those deposits into lending activities, either directly by loaning or indirectly through capital markets. A bank links together customers that have capital deficits and customers with capital surpluses.

Banks have come a long way from the temples of the ancient world, but their basic business practices have not changed.

Banks issue credit to people who need it, but demand interest on top of the repayment of the loan. Although history has altered the fine points of the business model, a bank’s purpose is to make loans and protect depositors’ money. Even if the future takes banks completely off your street corner and onto the internet, or has you shopping for loans across the globe, the banks will still exist to perform this primary function.

Now, due to their importance in the financial system and influence on national economies, banks are highly regulated in most countries.

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How to Analyze Any Industry

This is Lesson #18 of my Mastermind Value Investing Course. I am sharing it here given a lot of request from readers.

One of the legendary investors, Peter Lynch, who successfully ran Fidelity’s Magellan mutual fund for more than a decade, has often mentioned that investors are well advised to buy a business that’s so good that an idiot can run it, because sooner or later an idiot will run it.

Now, Lynch’s comment begs an important question – What dictates a company’s economic returns?

I am not asking what determines a company’s share price performance or what determines stock price returns for shareholders. Instead, it’s more important to know what drives a company’s economic profitability and sustainable value creation.

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Industry Analysis: Cement – Part 2

Click here to read Part 1

7. Competition and Consolidation

  • Although the Indian cement industry has some multinational cement giants, like Holcim and Lafarge, which have interests such as ACC and Ambuja Cement, the Indian cement industry is broadly home-grown.
  • Ultratech Cement, the country’s largest firm in terms of cement capacity, holds over 18% of the domestic market, with ACC (50%-owned by Holcim) and Ambuja (50%-owned by Holcim) having 10% and 9% shares respectively (as per FY13 capacity numbers). Many of the remaining dozen top players are India Cements, Shree Cements, Ramco Cements, Lafarge, Birla Cement and Binani Cement.
  • Between them, the top 6 and top 12 cement firms have around 50% and 70% respectively of the domestic market. Around 100 other smaller companies produce and grind cement on a wide range of scales but are often confined to small areas.
  • The industry has seen some consolidation in the past, and the same is going to be the mantra for most large payers in the years to come. With larger capacities, companies enjoy a better cost structure driven by significant vertical integration and location advantage with respect to sourcing of raw materials and market access. Most small companies, because of lack of one or more of these factors, have a weaker competitive position.
  • The industry economics and the regulatory actions exhibited by the Competition Commission of India (see here and here) may push marginal players to consolidate. However, not all marginal companies would be attracting acquirers. Companies with either access to resources (raw material and power/fuel) or proximity to relatively underserved markets or both are most likely to be targeted for consolidation.
  • A few compelling reasons why Indian and foreign cement majors appear to be gung-ho about acquiring cement capacities in India include a). Excess capacity of the existing players which can be used to fulfil the global demand at lower cost of production; b) Rising cost of greenfield/new projects which also tend to have longer gestation period.

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Industry Analysis: Cement – Part 1

As part of my initiative to help you enhance your “circle of competence”, I am starting on a new series on analyzing key industries that can offer you profitable, long-term investment opportunities. I start this series by analyzing the Cement industry.

1. About Cement
Wikipedia defines ‘cement’ as…

…a binder, a substance that sets and hardens as the cement dries and also reacts with carbon dioxide in the air dependently, and can bind other materials together. The word “cement” traces to the Romans, who used the term opus caementicium to describe masonry resembling modern concrete that was made from crushed rock with burnt lime as binder. The volcanic ash and pulverized brick additives that were added to the burnt lime to obtain a hydraulic binder were later referred to as cementum, cimentum, cäment, and cement.

At the basic level, cement is a binding substance that is intended for use in building or construction material and can withstand varying environmental conditions. The four elements necessary for its creation are iron, aluminum, silicon, and calcium.

These elements are burned together in a kiln and are finely pulverized to create the powder and used as an ingredient of mortar and concrete we then call cement. This powder hardens once it is mixed with water but water does not break the bond once it is formed.

The manufacturing process of cement consists of mixing, drying, and grinding or limestone, clay, and silica into a composite mass. The mixture is then heated and burnt in a pre-heater and kiln to be cooled in an air-cooling system to form clinker. This is the semi-finished form of cement. This clinker is cooled by air and subsequently ground with gypsum to form cement.

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