The Gulf construction materials sector is moving into a new period of flux following several months of stability. Cement prices are under pressure due to oversupply in key markets. Meanwhile, steel prices have been rising as global events hit raw material costs.

Despite the pressures in the Saudi market, analysts do not expect the export restrictions to be lifted … soon

With supply outpacing demand, cement prices have fallen in most markets since late 2010. In the UAE, the cost of a 50kg bag of cement fell to $3-4 in March, from $3.25-4.05 a bag in October 2010. Small decreases were also reported in Bahrain and Lebanon.

Qatar and Saudi Arabia bucked the trend, with levels remaining stable at $4.4 a bag and $3.6 a bag respectively.

Export ban on cement

Cement demand is more robust in Saudi Arabia with major construction projects, particularly in Riyadh and Jeddah, absorbing production. But the market is not without its challenges.

There is currently a ban on cement exports from the kingdom. Since Qatar won the bid to host the 2022 football World Cup in early December, producers have renewed their calls for the ban to be lifted. 

In January, they lobbied the government saying the kingdom would lose out on valuable export opportunities by continuing to prevent international sales. Qatar is set to invest more than $60bn in developing major infrastructure projects leading up to the 2022 tournament. The country has limited cement production of around 6 million tonnes a year and Saudi producers are keen to meet the expected increase in demand.

Aside from movements in the cement and steel markets, the prices of other … raw materials remained stable

There are three conditions in place that have effectively prevented Saudi producers from exporting cement since June 2008. The first is a requirement for producers to keep 10 per cent of capacity as inventory and the second is the need to meet all local demand before making international sales. The third condition, seen as the most significant, is that if a company wants to export cement, all domestic sales must be made at SR200 a tonne ($53.3 a tonne).

“Once these conditions are met a company can export as much as it likes, but with market prices at around SR228 a tonne, to sell at SR200 a tonne is a big hit,” says Farouk Miah, cement equity research analyst at Saudi Arabia’s NCB Capital.

According to figures from the Dubai office of UK consultancy Davis Langdon, the cost of cement in the kingdom is even higher at $3.6 a 50kg bag – equivalent to SR270 a tonne. Ready-mix concrete, meanwhile, is fetching SR210-262 a cubic metre.

Selling at SR200 a tonne would have a dramatic impact on the profits of cement companies and for this reason few are now active in export markets. MEED understands that the only Saudi cement producer doing business overseas, (except for the allocations to Bahrain) is Tabuk-based Al-Jouf Cement. Al-Jouf is exporting to Iraq, according to NCB Capital. “They have told the government that they will comply with the conditions. For them, it is okay as they are located to the very north where demand is low anyway,” says Miah.

Eastern Cement and Saudi Cement Company also export to Bahrain, which is classed as an exception to the rules and has an allocation of 25,000 tonnes a week. The present civil unrest in the tiny island state could cause this demand to dry up, but the impact on Saudi producers is expected to be minimal.

“Saudi Cement and Eastern Cement both say in any month, Bahraini exports only account for 8-10 per cent of total sales,” says Miah.” So if Bahrain demand totally disappeared, the worst case scenario would be a 10 per cent hit in terms of volumes. So its not huge, but it would have an impact.” That prices of cement in Bahrain fell from an average of $4.85 a bag in October to $4.25 a bag in March is an indication that consumption is already falling.

Cost benefits to cement producers

So far, Saudi Arabia’s government has not relented on the export ban. NCB Capital expects that if it were to be lifted, east coast-based producers would benefit the most. Firms, such as Eastern Cement and Saudi Cement Company, are geographically well placed to export to Qatar.

The kingdom’s other cement producers would also stand to benefit from reduced competition from east coast firms, who have reduced their prices to try to lure contractors away from more centrally located companies. NCB Capital says that on average Eastern Cement sells at SR10 a tonne lower than Riyadh-based Yamama Cement. As the only one of the big eight cement firms to be located in Riyadh, Yamama Cement has been able to maintain its prices, averaging SR233 a tonne in 2010.

Despite the pressures in the Saudi market, analysts do not expect the export restrictions to be lifted any time soon. The government is aware that other markets, including Pakistan and the UAE, are experiencing serious oversupply. According to Kuwait-based Global Investment House, cement prices in the UAE fell by 39 per cent between 2009-10, with consolidated revenues among producers down 30 per cent to $511.5m. At the same time, production capacity has risen to 30 million tonnes a year, against demand of 18 million tonnes a year.

NCB Capital estimates that Pakistan has an oversupply of as much as 20 million tonnes a year.  “Our position is that even if the export ban is completely lifted under the premise of exporting into Qatar, it won’t really materialise because there is the Pakistani guys, the UAE guys, even the Iranian and Turkish guys all trying to sell and Qatar just wants the cheapest available. We think that the effects would be negligible,” says Miah.

If producers were to cut prices to beat international competitors, the Saudi government would then see the benefit of subsidies granted to its producers for raw materials and energy passed over to its neighbour Qatar.

The reason for introducing export restrictions in the first place was that the focus on exports was driving up domestic prices and causing supply constraints. Prices are now stable and the kingdom has all the cement it needs. Although producers complain about increasing competition, they still have the highest margins in the region estimated at 52.6 per cent in the third quarter of 2010 by Global Investment House. The industry average at the same time was 43.7 per cent.

Steel price hike

Contractors can only dream of margins like this in the current climate and rising costs of other raw materials are further undermining profits.

At the start of the year, steel producers were predicting stratospheric price rises as Australia’s floods disrupted supplies of coking coal and iron ore prices hit an all-time peak. Reduced exports from India and delays on projects in Brazil and Australia saw iron ore prices rise to $190 a tonne. According to Davis Langdon, a 25 per cent rise in iron ore translates into an 8 per cent increase in steel prices.

This, in part, explains the sharp increase in the price of reinforcing steel bars (rebar), which rose by an average of 15 per cent in the region between October 2010 and March 2011. The biggest rise was in the UAE, which saw rebar prices hit $845 a tonne from $685.5 a tonne six months earlier, equivalent to a 23 per cent rise.

Steel prices are also generally more volatile than before following the decision by the world’s three largest iron ore producers Brazil’s Vale, the UK/Australian Rio Tinto and Australia’s BHP Billiton in early 2010 to switch from annual pricing to quarterly contracts. For 40 years, iron ore producers entered into annual fixed-price contracts with major consumers. But rising Chinese demand, in particular, led to an increase in spot prices and a large disparity between contract and the spot markets, prompting the change. The result has seen iron ore prices soar from about $60 a tonne in 2009 to the February high of $190 a tonne and analysts predict there are more rises to come.

However, rebar increases as high as the 60 per cent predicted by steel makers in January seem unlikely to materialise as political unrest has begun to affect the regional project market. Although the figures from Davis Langdon show steel prices have risen over the past six months, contractors are reporting that levels have softened during the past couple of weeks. Weakened demand for Turkish steel in Egypt is one of the reasons behind this drop, and this a concern for Gulf steel producers, who face the unwelcome prospect of greater competition.

Diesel price rise

Aside from movements in the cement and steel markets, the prices of most other construction raw materials remained stable between October 2010 and March 2011. The exception was Qatar, which saw a rise in fuel prices. The cost of diesel climbed 42 per cent from an average of $0.19 a litre in October 2010 to $0.27 a litre in March. Some say the increase was pushed through by the country’s new Energy and Industry Minister, Mohammed bin Salah al-Sada. Al-Sada was sworn in just five days earlier, taking over from the long-serving Abdullah bin Hamad al-Attiyah. The increase reflects growing inflationary pressure in the Qatari market. According to the Qatar Statistics Authority’s latest consumer price update, the transport and communication price index shows a rise of 5.93 per cent compared with January 2010.

The move to raise the cost of diesel comes as other states, such as Saudi Arabia, Kuwait and Bahrain, have been increasing subsidies to quell civil unrest. Despite the rises, Qatar remains one of the cheapest locations in the Gulf to buy diesel, with prices in Saudi Arabia just marginally lower at $0.07 a litre. The UAE is the most expensive at $0.8 a litre.

Stability is also the defining characteristic of labour market, with wages for local and expatriate project managers and engineers unchanged since October 2010. Looking ahead this may change. Consultants say the increased risk profile in locations such as Bahrain, where many international staff have been taken out of the country, is likely to affect salaries.

Overall, input costs present a mixed picture. From rising steel prices to stable labour costs and falling cement rates, the region is showing its vulnerability to international pressures. The steel industry is at risk as raw material prices hit producers and international steel makers seek to increase market share.

Steel firms may struggle to pass on increased costs to the region’s contractors. At the same time, cement surpluses are keeping prices low and with political unrest affecting demand, a price recovery is unlikely in the short term.