Cement Elra

Closer to dawn Ravindra Deshpande [email protected] +91 22 4062 6805 Ravi Sodah [email protected] +91 22 4062 6817

India Cement 9 November 2010 Elara Securities (India) Private Limited

9 November 2010

India | Cement

Initiating Coverage  

Cement Closer to dawn

Sluggish capacity additions 18

300

15

250

12

200

9

150

6

100

FY13E

FY12E

FY10

FY11E

FY09

FY08

0 FY07

0 FY06

3

FY05

50

FY04

(Million tonne )

Indian cement industry witnessed massive capacity additions during the past three to four years on the back of a strong pricing regime. The nameplate cement capacity in the country went up by nearly 38% from FY08 till FY10. However, the same was reciprocated by a demand growth of only 20% which pulled down utilizations and therefore, the cement pricing as well as profitability of the industry. Lower profitability and cash inflows slowed down the capacity additions. Besides, the hurdles in acquiring land for greenfield projects as well as obtaining approvals and clearances for mining have taken a toll on capacity additions. Therefore, we believe, capacity utilizations in the sector would start improving post FY12 with the decelerating pace of capacity additions.

350

(Million tonne )

Effective capacity (LHS) Increase in effective capacity (RHS) Source: CMA, Elara Securities Estimates

All India Demand & Supply(mn tonnes)

Pricing: The worst is behind us

All India

We believe the actual cement pricing will depend upon the demand supply equations in the region, actual cost of production and players’ individual as well as collective actions. However, we expect the worst to be over for the cement pricing considering the improving demand supply equations and the resultant utilization levels in the industry. Although, we expect utilization levels to drop again in the Q2&Q3 FY12, we also assume that the higher cost push might arrest the fall in prices. Our RoCE based methodology to forecast prices, denotes that prices will rise the maximum in the Western region.

FY09 FY10 FY11E FY12E FY13E

Year end capacity

212

247

276

301

318

Effective Capacity

205

232

270

296

310

Dispatches

181

200

216

238

263

89

86

80

81

85

Capacity utilization (%)

Source: CMA, Elara Securities Estimates

Cement prices improve in major cities (INR per bag)

330

Upside in large caps limited, mid-caps flaunt superior potential We expect the upcycle in the cement cycle to be at least one year away. Our historical valuation analysis as well as comparative analysis suggests that current valuations enjoyed by large cap players are close to the discounted upcycle valuations. Hence, we believe the upside in these large cap stocks will be limited. However, mid-cap players are trading way below their distress case valuations hence warrant a favorable risk reward ratio even considering the regional risk.

280 230 180

Mumbai Chennai

Delhi Hyderabad

Oct-10

Jul-10

Apr-10

Jan-10

Oct-09

Jul-09

Apr-09

Jan-09

Oct-08

Jul-08

Apr-08

130

Kolkata

Source: CMIE, Elara Securities Research

Valuation FY12

FY11

FY10

FY09

FY08

FY07

FY06

FY05

FY04

FY03

FY02

Mid caps: Valuation gap swells FY01

With a sharp increase in cement prices in past two months, we believe that earnings of cement companies will bottom out in Q2FY11. We also expect the cement demand to gradually improve on the back of a strong construction and infrastructure demand. However, we believe the valuations of frontline stocks have already factored in the potential up-cycle in the sector. Yet `value buy opportunities’ are still available among mid-cap cement stocks.

20 0 (20) (40) (60) (80) (100)

(%)

Global Markets Research

Slower capacity addition to maintain demand-supply balance

Valuation disc for mid caps EBITDA/tonne disc Source: Elara Securities Estimates

Key Financials MCAP CMP Target Upside INR bn USD mn (INR) (INR) (%) UltraTech Reduce 310 6,976 1,122 1,139 1.5 Ambuja Sell 226 5,099 148 119 (19.8) ACC Accumulate 200 4,495 1,062 1,123 5.7 India Cements Accumulate 36 803 116 131 12.5 Shree Cem Accumulate 75 1,698 2,165 2,501 15.5 JK Cement Buy 12 264 168 220 31.4 Orient paper Buy 12 265 61 87 41.7 JK Lakshmi Buy 8 174 63 78 24 Source: Company, Elara Securities Estimates 1 USD= INR44.4 Company

 

Rating

EV/EBITDA(x) FY11E FY12E 10.4 8.5 9.8 9.2 10.2 8.0 7.9 4.2 6.6 4.8 6.7 5.2 3.4 2.9 3.8 3.6

P/E(X) FY11E FY12E 17.5 15.3 17.2 16.9 16.7 15.0 18.4 10.7 19.2 12.6 16.1 8.9 6.0 5.8 6.4 4.8

EV/tonne(USD) FY11E FY12E 144 138 184 180 131 122 62 56 98 82 54 51 50 40 47 55

RoE(%) FY11E FY12E 20.9 18.4 18.8 16.8 18.5 17.9 5.2 7.8 19.4 24.1 6.5 10.8 23.2 19.7 11.1 13.8

Ravindra Deshpande • [email protected] • +91 22 4062 6805 Ravi Sodah • [email protected] • +91 22 4062 6817 Elara Securities (India) Private Limited

Cement

Table of Content Executive Summary………………………………………………………………………………………………………………

3

The worst is behind us…………………………………………………………………………………………………………

5

Demand to quicken from H2FY11……………………………………………………………………………………..

7

Pricing: Downside remains limited…………………………………………………………………………………….

10

Comparative analysis……………………………………………………………………………………………………………

12

Valuation & Recommendation……………………………………………………………………………………………

20

Company Section Ultratech Cement Restructuring priced in………………………………………………………………………………………………………..

23

Ambuja Cements Melody from clinker……………………………………………………………………………………………………………..

33

ACC In the region of comfort………………………………………………………………………………………………………

43

India Cement Warming South winds…………………………………………………………………………………………………………

53

Shree Cement Regional champ at reasonable value…………………………………………………………………………………

63

JK Cement

 

Grey eminence……………………………………………………………………………………………………………………..

69

Orient Paper Lord of low cost, master in a downturn…………………………………………………………………………….

75

JK Lakshmi Cement Cementing its true place……………………………………………………………………………………………………..

81

 

2

 

Elara Securities (India) Private Limited

Executive summary Capacity additions to slowdown on lower prices After adding record capacities addition of a ~ 87mn tonnes between FY07 and FY10, the country has witnessed a marginal slowdown in the pace of addition. Primarily, the capacity additions were the result of higher operating cash flows on the back of high cement pricing regime. However, due to cost push and low cement prices, operating cash flows of cement companies have come under pressure resulting in a slowdown in new project announcement. Besides, long procedures related to the acquisition of land and obtaining environment clearances have delayed the commissioning of many cement plants. Thus, after capacity additions of whooping ~35mn tonnes by FY10, the cement industry is expected to add ~29mn tonnes in FY11, ~24mn tonnes in FY12 and 17mn tonnes in FY13. Between FY10FY13, the industry is expected to add 71mn tonnes while in the same period, the demand is expected to increase by only 63mn tonnes. Demand to accelerate in second half Growth in cement demand has been sluggish (4.9%) during the first half of FY11 due to heavy monsoons and a higher base effect. We believe the demand will accelerate from H2FY11 onwards on the back of a higher demand from infrastructure and construction sectors. As we approach the last two years of XIth Five Year Plan, we believe there will be a higher thrust on the infrastructure since the Government plans to spend ~52% of the target expenditure in the last two years. Buoyant order book of construction companies also indicate that construction activities will pick up in the near future. On the back of the firm demand from the user industry, we expect the demand to grow at 8% in FY11, followed by 10.4% in FY12 as well as in FY13. Therefore with the moderating pace of capacity additions and a steady demand growth, we expect capacity utilizations in the industry to gradually improve going ahead. We consider that the pan India capacity utilizations will improve to 81% in FY12 only to better to 85% in FY13. However, we expect a dip in capacity utilizations in monsoons of FY12 (Q2 & Q3 of FY12). Pricing : The worst seems to be over We believe that in terms of pricing, the worst is behind us. A gradual improvement in utilization levels on the back of an enhancement in cement demand (supported by an increase in cost of production) will prevent a sharp fall in prices in future. We believe, Q2FY11 is likely to be the worst quarter for cement producers as low cement prices in Q2FY11 had resulted in a negative EBITDA/tonne for some Southern

 

Elara Securities (India) Private Limited 

players and an RoCE of well below WACC for majority of players. Therefore, we expect things to perk up going ahead as cement companies are likely to opt for price increases rather than higher volumes. Earnings of cement companies are more sensitive to pricing changes (~4% variation with 1% change in pricing) than volume changes (~2% change with a 1% change in volume sales). Due to the mature behavior of cement players, prices have already gone up by INR20 -100 per bag in the past two months. Further, discount in the cement price in trade and non-trade has also been reduced from INR40 per bag to INR20/bag. We believe, the concerted action of the players might not be a long term phenomenon, but with improving capacity utilizations and a strong cost push, cement prices might have a little downside from the current levels. We have built in our estimates, a price increase of ~INR25/bag in H2FY11 from Q2FY11 levels. For FY12, we have built in a decline of ~INR17/bag over H2FY11 levels (On annual basis, our cement prices for FY12 are 23% higher than FY11).

Cement

Cement

Scenario to look up from FY13; Upcycle a year away As discussed earlier, we expect utilizations to gradually improve from FY12 before reaching a level of 85% in FY13. The demand on the other hand, is expected to grow at a steady pace after suffering hiccups in the first half of FY11. The XIth 5 Year Plan envisages an investment of INR 10,750 bn with a focus on infrastructure activities which will ensure a steady demand growth for cement. Therefore, we believe that the stable pace in demand and lack of strong capacity additions will create a healthy cement market in the country. Little upside in large caps, value lies in midcaps For valuation of cement companies, we have used EV/tonne based methodology as the earnings based valuations have historically failed to provide a fair picture of the stock performance. The entire large cap pack is already trading at a premium to its replacement cost as well as close to its peak cycle EV/tonne valuations. As we believe, the upcycle is still one year away, for valuing large cap players, we have discounted the average bull cycle EV/tonne multiples at a WACC of 13%. However, for mid cap players, we have used a distress case EV/tonne valuation of USD62/tonne, considering the regional risk. Historically, mid cap players have traded at a discount to the large cap peers as the profitability of mid caps too was lower than their large cap counterparts. But due to the cost cutting initiative undertaken by mid cap cement 3

Cement players, the EBITDA/tonne discount of these companies has gone down from 63% in the last down cycle to 10% in FY10. However, the valuation gap has increased from 30% to 56% during the same period. We believe that the sharp valuation gap between frontline and midcap cement companies is unjustified. Hence, we believe the mid cap players offer more upside than their large cap peers while the risk reward ratio is more favorable to mid caps as these are trading at a significant discount to their large cap peers as well as the replacement cost of cement assets. We initiate our coverage on large cap cement stocks with Accumulate rating on ACC (TP: INR1,123;Upside:6% ) Sell rating on Ambuja (TP: INR119;Upside:-20% ) and Reduce on UltraTech (TP: INR1,1139; Upside: 2% ). Considering

the potential upside, the IPL franchise might hold for India Cements, we initiate our coverage with a Accumulate recommendation (TP: INR136; Upside: 13%). We have considered the minimum bid price for Indian Premier League (IPL) 4 franchise as a valuation for Chennai Super Kings team. Any upside in the same will warrant an upside for the India cements stock. We continue to maintain our Buy rating on Orient Paper (TP: INR87; Upside: 42%), JK Lakshmi (TP: INR78; Upside: 24% ), JK Cement (TP: INR220; Upside: 31%), considering the below distress case valuations the stocks are currently trading at and the favorable risk reward ratio these stocks offer. We have assigned Accumulate rating on Shree Cements (TP: INR2,501; Upside: 16%), taking into account its superior fundamentals and low valuations.

 

 

4

 

Elara Securities (India) Private Limited

Cement

The worst is behind us

Capacity addition in listless mode Riding on the firm cement prices during the FY06 to FY08, cement companies had generated huge operating cash flows. The period witnessed a demand growth of ~10% CAGR, matched by only ~6% CAGR in capacity additions. The increased capacity utilizations during the period augured well for a high cement pricing regime. Cement prices in fact surpassed the inflation during the period. Exhibit 1: Cement prices shoot up during FY06-10

(INR per bag)

260 220 180 140

2009-10

2008-09

2007-08

2006-07

2005-06

2004-05

2003-04

2002-03

2001-02

2000-01

1999-00

1998-99

1997-98

1996-97

1995-96

1994-95

100

Source: CMA, Elara Securities Research

On the back of huge increase in the operating cash flows and favorable demand supply scenario, the industry lined up huge capacity addition programs. As was evident, the country witnessed highest capacity additions during FY09 and FY10. The country added a total capacity of ~63 mn tonnes in these two years. Exhibit 2: Operating cash flows step up in FY07-10 50 Strong operating cash flows generated by the industry

(INR bn)

40 30

in the domestic cement market in the medium term. Hence, companies have been cautious in going ahead with the cement capex which curtailed the pace of capacity additions in the country. Some of the cement companies (like Shree Cement, JK Lakshmi and Orient Paper) have utilized their accumulated cash flows to diversify into other businesses like merchant power. This was reflected in the capacity addition announcements as the industry passed the euphoria stage. Besides the land acquisition, procedures related to forest as well as environment clearances are likely to delay the implementation of the already announced greenfield projects. Even brownfield projects have faced delays of at least three to six months as seen by the precedents. After record nameplate capacity additions of ~35mn tonnes in FY10, the industry is expected to add ~29mn tonnes in FY11 followed by ~24 mn tonnes in FY12 and 17 mn tonnes in FY13. Going forward, the industry will add another ~46 mn tonnes of capacity over next 32 months (ie: from August 2010 till March 2013), putting the total capacity at 318 mn tonnes by the end of FY13. So considering the slowing pace of capacity additions, increasing timelines for completion of greenfield as well as brownfield projects and the current depressed profitability enjoyed by the sector, we believe the capacity additions will not reach the peak levels of FY09 to FY11. We believe any new plant announcement will take at least two years (for brownfield) and at least three to four years (for greenfield) to come on stream. Therefore, we believe the demand supply equations will improve only gradually. Exhibit 3: Capacity addition - Missed deadlines Company

20 10

Orient Paper

Capacity Type (mn tonnes) 2.4

FY10

FY09

FY08

FY07

FY06

FY05

FY04

FY03

FY02

FY01

FY00

Source: Capitaline, Elara Securities Research

The higher capacity additions coupled with financial slowdown, led to subdued cement pricing. With such a subdued cement pricing and high cost regime, operating cash flows of cement companies have been under pressure since FY10. Despite a steady growth in the demand, the oversupply scenario has become inevitable Elara Securities (India) Private Limited 

Madras Cement GrasimShambhupura:

State

Initial Actual timeline

Brownfield Maharashtr Mar-10 a /Andhra Pradesh

Sep-10

4,000 TPD Brownfield Jayanthipur Sep-09 kiln. am

Jan-10

0

 

Cement

‰ Capacity additions decline as unfavorable pricing, land acquisition issues crop up ‰ Demand subdued in H1FY11; to firm up from H2FY11 on higher infra spend ‰ Large caps not attractive, but mid caps in favorable risk reward zone

4.4

Brownfield Rajasthan

Q4FY08 Q1FY10

Clinker

 

Q4FY08 Q2FY09

Grinding

  

Q4FY08 Q1FY10

Source: Elara Securities Research

 

5

Cement Exhibit 4: Capacity addition momentum down 18

Pace of capacity addition slows down

300 250

15 12

200

9

150

6

100

Effective capacity (LHS) Increase in effective capacity (RHS)

FY13E

FY12E

FY11E

FY10

FY09

FY08

FY07

FY06

0 FY05

3

0 FY04

50

(Million s tonnes)

(Million tonne s)

350

prices crashed in Hyderabad and Chennai, down from the peak by ~40% and 35% respectively in Aug’10 before recovering sharply in month of September and October. Due to the oversupply scenario in the region and reduced profitability of cement players, the pace of new capacity additions has slowed down. Hence, out of new capacities that are expected to hit the market by FY13, the share of South has reduced to mere 25%. Hence, we believe capacity utilization in South will increase to 77% in FY13. Exhibit 6: Capacity adds more secular by FY13 North 22%

South 25%

Source: CMA, Elara Securities Estimates

South to witness massive capacity additions The new supply coming on stream has been skewed towards the Sothern region due to huge limestone reserves, strong demand growth between FY06 to FY09, particularly in Andhra Pradesh (South grew at a CAGR of 12.8%, Andhra Pradesh grew at CAGR of 20.4%), and larger size of the market (south is the largest market in India and even bigger than Russia, Brazil. Japan, and South Korea). Exhibit 5: South faces brunt of excess supply North 26%

 

East 10%

West 7% Central 6%

Source: CMA, Elara Securities Research

During Apr’08-Aug’10, a whopping 51% of new capacities that came on stream were in South India. Due to such massive capacity additions, utilizations in South has declined from 94% in FY08 to 74% in FY10. Cement

6

 

Central 20% Source: Elara Securities Estimates

Exhibit 7: Region wise capacity additions (mn tonnes) Year end capacity FY10

North Eastern Southern

Western Central

All India

54

35

93

37

29

247

13.8

2.2

9.3

1.0

3.0

29.1

FY11

68

37

102

38

32

276

+Capacity additions

1.8

2.1

8.3

5.9

6.4

24.4

FY12

70

39

110

43

38

301

+Capacity additions

4.5

4.8

2.5

2.5

2.9

17.2

FY13

74

44

113

46

41

318

Total

20.0

9.0

20.0

9.0

12.0

71.0

+Capacity additions

South 51%

West 18%

East 15%

Source: Elara Securities Estimates

 

Elara Securities (India) Private Limited

Cement Demand to quicken from H2FY11

We believe the cement demand will accelerate from H2FY11 onwards, driven by infra spend and a recovery in the real estate sector. We believe the last two years of the current Five Year Plan (FY11 and FY12) will provide enough impetus to infrastructure investments. Similarly, higher residential as well as commercial construction activities backed by Government schemes like Indira Away Yojana (IAY) and Interest Subsidy scheme will consume higher cement in the next two years to come. As we approach the last two years of XIth Five Year Plan (FY11 & FY12), we expect nearly INR10,750bn to be spent on infrastructure activities. The total planned expenditure of the entire XIth Plan is INR20,562bn and nearly 52% of the same will be spent in the last two years. Hence assuming that only 70% of the target expenditures materialize in the last two years (FY11 & FY12) of the Plan, we expect cement demand of ~154mn tonnes to be generated due to infrastructure activities. Exhibit 8: Infra spending to sustain high consumption 12,000

8,000

6

7

7

8

9

10 10 10 10

12 10 8 6

(%)

FY17E

FY16E

0 FY15E

0 FY14E

10

FY13E

50

FY12E

20

FY11E

100

FY10

30

FY09

150

Projected cement demand (LHS) % of total Infra spending projected each year (RHS) Source: Planning Commission, Elara Securities Research

Exhibit 10: Share of infra in total demand to go up Projected cement demand from infra (mn tonnes)

Total projected cement demand (mn tonnes)

% of total

FY11E

69

216

32

FY12E

85

238

36

FY13E

92

263

35

Year

Source: Planning Commission, Elara Securities Research

A sizable chunk of these infrastructure investments has been on roads in these five year plans. The Government has planned to invest INR3,141.5bn (USD69.8bn) on roads and bridges in the XIth Five Year Plan. Of the total investments, ~47% is planned to be spent in the last two years (FY11 and FY12) of the plan. A major thrust has been on building national highways which consume higher cement than other roads. A sum of 22,921km of national highways are being planned to be built in three years from FY10 to FY12. We believe, the average execution per day of national highways will increase as we approach the end of the XIth Plan. According to our infrastructure analyst, the execution per day is likely to be ~15.2km/day in FY11 which will increase to 16.8km/day in FY12 and 19.2km/day in FY13.

4

XIth Plan: Investments in road sector

4,000

2

Exhibit 11: Roads to gather momentum (INR bn)

2,000

0

INR bn

FY17E

FY16E

FY15E

FY14E

FY13E

FY12E

FY11E

FY10

FY09

6,000

FY08

(INR bn)

10,000

9

40

Investment in infrastructurein (LHS) Investment as % of GDP(RHS)

Centre

State

Private

Total

FY08

183.2

175.3

159.7

518.2

FY09

194.5

181.5

171.9

547.9

FY10

206.7

188.9

196.4

592.0

Source: Planning Commission, Elara Securities Estimates

FY11E

226.2

206.1

251.4

683.7

In the XIIth Five Year Plan, the Government has planned to spend ~INR40,750bn on infrastructure activities. Hence even post FY12, we expect the infra related cement consumption to remain strong.

FY12E

263.0

248.2

288.5

799.7

 

Elara Securities (India) Private Limited 

Cement

Scenario brighten up on infra, real estate push

200

FY08

After reporting an impressive growth of 10.1% in FY10, the cement demand has decelerated to only 4.8% YoY in Apr –Sep’10 period due to seasonal weakness and a higher base. The delayed monsoons last year accounted for the higher base in Q2FY10 as compared to the Q2FY11 consumption. Apart from this, flood like situation in few states and near completion of some of the major projects (such as Common Wealth) also impacted the cement demand.

(mn tonne)

First two quarters register below average growth

(%)

Exhibit 9: Infra-related spending to be strong

Total

3,141.5

Source: Planning Commission, Elara Securities Research

7

Cement

460

8.7

440

FY11E

15.2

420

FY12E

16.8

FY13E

19.2

FY14E

19.5

360

FY15E

16.1

340

FY16E

4.5

FY17E

1.6

4,500 4,000

400

3,500

380

3,000

Exhibit 16: Real estate revenues recover 40

1050

Exhibit 14: Build-up in order-book seen for majors

1000 (INR bn)

3.4

3.2 3.1

3.2

950 900

2.8

2.8

2.2

Sep-10

Jul-10

May-10

Mar-10

Jan-10

Nov-09

Sep-09

2.4

Jul-09

2.6

May-09

850 2.5

Mar-09

Order book to sales ratio(x)

Q1FY11

Exhibit 17: HDFC’s loan book remains buoyant

Source: CMIE, Elara Securities Research

2.4

Q4FY10

Source: Capitaline, Elara Securities Research

New order during the quarter (LHS) Total order book (RHS)

3.0

Q3FY10

1,000 Q1FY10 Q2FY10 Q3FY10 Q4FY10 Q1FY11

Q2FY10

0

Q1FY10

0 Q4FY09

1,500

10

Q3FY09

100

20

Q2FY09

2,000

(INR bn)

200

30

Q1FY09

(INR bn)

2,500

26-Feb-10

The real estate sector is also showing signs of recovery which has been visible from the revenue trends of real estate majors which has increased 65% YoY in Q1FY11. The credit flow to the housing sector also indicates improvement in the housing volume. An indication of this can be seen from the Q2FY11 outstanding loan book of HDFC Limited which was up 19% YoY.

 

300

Infrastructure(RHS)

Source: CMIE, Elara Securities Research

(INR bn)

3,000

20-Nov-09

22-May-09

Construction(LHS)

Exhibit 13: Construction order book on an uptick 400

21-May-10

2,500

Source: Planning Commission, Elara Securities Estimates

Leading indicators show that construction activities will pick up sharply in years to come. The total outstanding order book of the major construction players was up 40% YoY at the end of Q1FY11. The order book to bill ratio has also been consistently on an uptrend. At the end of Q1FY11, the average order book to bill ratio of major construction players stood at 3.2x (as compared to last year’s average of 2.4x). Furthermore, credit flow to construction and infrastructure sectors has shown a positive trend. As of 22nd May, 2010, the total loans outstanding to construction and infrastructure sectors were up (YoY) 16% and 44% respectively.

(INR bn)

KM/day

FY10

(INR bn)

Average Execution per day

Exhibit 15: Credit flow to infra, construction soars

28-Aug-09

Exhibit 12: Execution visibility high till FY15

Source: HDFC, Elara Securities Research

Q1FY10

Q2FY10

Q3FY10

Q4FY10

Q1FY11

 

Source: CMIE, Elara Securities Research

8

 

Elara Securities (India) Private Limited

Cement

Exhibit 18: Shift to Pucca houses gathers speed Year

Households Total Housing (mn) Stock (mn)

Pucca Semi-pucca (mn) (mn)

Kutcha (mn)

1961

14.9

13.3

6.44

4.9

1.96

1971

19.1

18.5

11.8

4.35

2.35

1981

29.3

28

18.09

6.8

3.11

1991

40.7

39.3

29.79

6.21

3.3

2001

55.8

50.95

41.17

8.08

1.7

Source: Planning Commission, Elara Securities Research

The private sector has also maintained its capex buoyant. At the end of Q1FY11, value of projects under implementation in the private sector stood at 59 trillion, up by 17% (YoY). Exhibit 19: Pvt capex growing rapidly 59

60 55 (INR trillion)

55 50

50 45

51

52

53

44

Exhibit 20: Cement to GDP multiple to stay constant

20

4

r=0.94

15

3

10 5 0

2 1.11.51.02.01.22.4

1.72.30.71.11.11.01.11.21.4

(0.4)

0 (1)

FY95 FY96 FY97 FY98 FY99 FY00 FY01 FY02 FY03 FY04 FY05 FY06 FY07 FY08 FY09 FY10

(5)

1

Cement consumption growth to GDP multiple (RHS) GDP Growth (LHS) Cement Consumption Growth (LHS)

Cement

Avg. GDP to cement consumption multiple of last 15 years is 1.3X GDP YoY Growth(%)

With the Government’s extension of the 1% interest subvention on a housing loan of INR1mn (where the cost of the house does not exceed INR2mn) and increased spending in the Rajeev Awaas Yojana (RAY) by 700% from the last the financial year to INR12.7bn for FY11, we believe that housing demand will continue to remain strong in rural areas.

have depended upon the GDP multiplier factor to estimate the cement demand in the country. For the last five years, the cement consumption in India has grown at an average multiplier of 1.3 x GDP growth. Over the past ten years, the same has shown a growth of 1.1x GDP, which was due to a negative growth in cement consumption in FY01.

Cement consumption to GDP Multiple

Past trends indicate that with rising income levels, people are shifting from semi-pucca and kutccha houses to pucca houses which create demand for cement. Besides, incentives provided by the Central as well as state Governments are likely to provide an impetus for the rural and semi-urban housing. The Planning Commission estimates a growth of ~4% CAGR (2001 to 2012) in pucca houses denoting higher cement consumption. Central Government initiatives like Indira Away Yojana (IAY) and several state Government initiatives like construction subsidy (Gujarat, Himachal Pradesh, Punjab, Jharkhand etc) have provided incentives for pucca houses which is evident from the trends witnessed in the past.

Source: CMA, CMIE,Elara Securities Research

Considering the slowdown in the cement demand due to factors mentioned earlier in this report, we have used the GDP multiplier of 1.0x for FY11. However, taking into account the fact that we are approaching last two years of XIth Plan and the buoyant activities expected in the commercial as well as residential construction spaces, we have relied on a multiplier factor 1.3x GDP for estimating the demand growth in FY12 and FY13. Accordingly, we expect the cement demand to grow by 8% in FY11 and 10.4% in FY12 -FY13 period. Hence, we estimate the cement consumption to reach a level of 263mn tonnes by the end of FY13, registering a CAGR of 9.6% over the next three years. Exhibit 21: Demand estimates at different multiples Real GDP YoY growth (%)

FY11E

FY12E

FY13E

8.0

8.0

8.0

Bull Case Multiple Cement to GDP Multiple (x)

1.2

1.5

1.5

Cement Demand growth (%)

9.2

12.0

12.0

Capacity utilization (%)

81

83

88

Cement to GDP Multiple (x)

1.0

1.3

1.3

Cement Demand growth (%)

8.0

10.4

10.4

Capacity utilization (%)

80

81

85

Base case Multiple 40 Dec-08 Mar-09 Jun-09 Sep-09 Dec-09 Mar-10 Jun-10 Source: CMIE, Elara Securities Research

Bear Case Multiple

Domestic demand to grow at a CAGR of 9.6%

Cement to GDP Multiple (x)

0.9

1.1

1.1

Historically, the cement consumption has shown a strong direct co-relation with the country’s GDP growth. The correlation between the two was as high as 94% between FY05 to FY09. Due to lack of reliable data, we

Cement Demand growth (%)

6.8

8.8

8.8

Capacity utilization (%)

79

78

81

 

Elara Securities (India) Private Limited 

Source: Elara Securities Research

9

Cement Capacity utilization rebound in FY12

Exhibit 25: Monsoon utilization to remain low 90

93

90

89

90 85

89

87

83

80

82

84

81

79

75

74

70

81

78

76

Q3FY13

Q1FY13

Q1FY12

Q1FY11

Q3FY10

Q1FY10

65

Q3FY11

69 Q3FY12

95

(%)

In first eight months of CY10 (Jan- Aug’10), the industry added 38mn tonnes of capacity, (16.4% increase over CY09). However, during the same period (Jan- Aug’10) cement demand grew by only 6.3%. Considering the demand slowdown in FY11 and higher capacity additions in the last two to three years, we expect capacity utilizations to come down to 80% (7-year low) from 86% in FY10. However, we expect the demand to revive in FY12 and FY13 and with the slowing down pace of capacity additions, we expect utilizations to improve to 81% in FY12 and 85% in FY13. Exhibit 22: Capacity utilization: Gradually improving

Source: CMA, Elara Securities Estimates

All India Year end capacity Effective Capacity Dispatches Capacity utilization (%)

Pricing: Downside remains limited

FY13E 318 310 263 85

Source: CMA, Elara Securities Estimates

Quarter wise analysis Due to the sharp increase in supply and moderate growth in demand, capacity utilization of the industry has declined from 90% in Q4FY10 to 69% in Q2FY11, lowest since Q2FY99. We expect capacity utilization to improve in FY12 except the monsoon period when we anticipate the same to drop to 74% in Q2FY12 and 76% in Q3FY12. However, we see the same to remain close to 80% levels or above in the FY13. Exhibit 23: Peak capacity addition behind us 10

Exhibit 26: ACC: Higher costs pump up realizations

% increase in capacity (RHS)

60 50

All India Cement Despatches (LHS)

 

Q3FY13E

Q1FY13E

Q3FY12E

Q1FY12E

Q3FY11E

Q1FY11

Q3FY10

Q1FY10

40

Cost

Source: Capitaline, Company, Elara Securities Research

(%)

(Mn tonnes)

Relisation 18 15 12 9 6 3 0

CY09

FY96

Exhibit 24: Steady growth in cement dispatches 70

2,000 1,500

Source: CMA, Elara Securities Estimates

80

2,500

CY08

Capacity addition (LHS)

3,000

CY07

0

CY06

0

3,500

CY05

2

FY05

5

4,000

FY04

4

FY03

6

10

Q1FY10 Q2FY10 Q3FY10 Q4FY10 Q1FY11 Q2FY11 Q3FY11E Q4FY11E Q1FY12E Q2FY12E Q3FY12E Q4FY12E Q1FY13E Q2FY13E Q3FY13E Q4FY13E

15

FY02

8

FY01

 

(Mn tonnes)

20

12

(INR per tonne)

Capacity additions bunch up in H1CY10

25

Prices of key raw material (imported coal as well as petcoke) have been on a consistent uptrend. Diesel prices have recently gone up thereby raising the transport cost for players. Hence we believe the cost push factor will arrest the cement pricing fall as we go ahead. Historical data too indicates that higher costs have supported higher cement prices.

(%)

30

We believe the actual cement pricing will depend upon the demand supply equations in the region, actual cost of production and players’ individual as well as consolidated actions. However, we anticipate the downside for cement prices to be restricted mainly due to the rising cost of production, increasing levels of consolidation in the industry, better financial position of the industry players and the bettering demand supply equations post H2FY12.

FY00

FY12E 301 296 238 81

FY99

FY11E 276 270 216 80

FY98

FY10 247 232 200 86

FY97

FY09 212 205 181 89

YoY (RHS)

Source: CMA, Elara Securities Estimates

10

 

Elara Securities (India) Private Limited

Cement

1,500

an average net debt equity ratio of ~2.6x in FY03 when the industry witnessed a steep ~7.4% price decline. The last few years of the `Bull Run’ had transformed the balance sheets of these companies which now have 0.4x debt equity ratios. Besides, the companies are almost in the final leg of their capacity additions which might not put a stress on the operating cash flows for the company in the period of stress.

1,000

Exhibit 30: Industry’s balance sheet improves

4,000

3,000 2,500

CY09

CY08

CY07

CY06

FY05

Cost (x) INR per tonne

Limestone Royalty

20

Increase in other raw material cost

45

Fuel

138

Electricity

41

Freight

54

Excise duty

83

Total

380

Source: Elara Securities Estimate

The consolidation levels in the industry have increased as compared to the last downcycle with top five players now controlling close to ~54% of capacities as compared to 31.3% in 2000 (the last downcycle). The consolidated action of players was visible recently in South where despite lowest capacity utilizations in the region, cement prices increased in the range of INR75 – 100/bag. Historically as well, benefits of consolidation were witnessed in the Northern region, where players resorted to lower production to control the prices during the initial part of FY09. Hence, we believe, the increased consolidation in the industry will negate any significant price falls in the cement industry. Exhibit 29: Industry consolidation increases 100

(%)

60

46.0 68.7

40 20

54.0 31.3

0 FY2000 Share of top 5 players

At present Others

Source: CMA, Elara Securities Research

Besides, the companies have better balance sheets now as compared to the earlier downturn. The industry had

 

Elara Securities (India) Private Limited 

15

2.0

10

1.5 1.0

(%)

Exhibit 28: Reliance on imported coal to increase cost

80

20

2.5

Source: Capitaline, Company, Elara Securities Research

Cost Item

3.0

5

0.5

0

0.0 FY95 FY96 FY97 FY98 FY99 FY00 FY01 FY02 FY03 FY04 FY05 FY06 FY07 FY08 FY09 FY10

Realizations

CY05

FY04

FY03

FY01

FY00

FY99

FY98

FY97

2,000

FY96

(INR per tonne)

3,500

Net debt equity ratio (LHS) % increase in Effective Capacity (RHS)

Cement

Exhibit 27: Ambuja: Costs inflate realizations

Source: CMA,Capitaline, Elara Securities Research

We have tried to compute the cement pricing based on the minimum RoCE the players would desire in the coming years. Accordingly, we have considered Southern companies to desire at least 8% (equal to risk free rate of return) RoCE in the years to come considering the looming oversupply concerns in the region. Similarly, we have assumed a desired RoCE of 12% for Western players as excess capacities in the Southern market are likely to spoil equations in the Western region. In the northern region, we have assumed desired RoCE of 10% considering the possible slowdown in demand post the Common Wealth Games. Apart from this, among the major regions, Northern region is expected to witness the second highest capacity addition (ie: 22%). For the Eastern as well as Central regions, we have assumed the highest desired RoCE of 14% as the demand supply equations in these regions are likely to be more favorable as compared to other regions in the country. Accordingly, the prices are expected to rise the most in the Western region, where the prices were depressed due to spillover effect of low prices in Southern region. However, we expect the pricing in the Eastern region to remain flat as the same had not declined sharply. We expect the prices in the Southern region to have risk of downside than upside considering the unfavorable demand supply equations and the quantum of hikes taken recently. For rest of the country, we expect prices to increase ~4% in the coming years. Despite higher cement prices, the profitability of cement players may come under pressure in Q2 and Q3FY12 when the capacity utilization is expected to reach 74% 11

Cement and 76% respectively. Post these quarters, the capacity utilization is expected to bounce back in Q4FY12 to 89%. Exhibit 31: Cement prices bounce back

(INR per bag)

330 280 230 180

Mumbai Chennai

Delhi Hyderabad

Oct-10

Jun-10

Aug-10

Apr-10

Feb-10

Oct-09

Dec-09

Jun-09

Aug-09

Apr-09

Feb-09

Dec-08

Oct-08

Jun-08

Aug-08

Apr-08

130

Kolkata

Source: CMIE, Elara Securities Research

Exhibit 32: Implied cement price increase from RoCE (%)

The nature of the cement industry does not provide any barriers to entry; companies gain an edge over peers due to the inherent characteristics like plant location, sourcing of key raw material and capital structure etc. We have tried to analyze few of the key parameters which have a significant bearing on the profitability of these companies. We have tried to rank the large cap companies on different parameters with 1 being lowest and 3 being the highest rating. Regional presence: The cement industry is characterized by regional demand supply as it is uneconomical to transport cement over long distances, being a low priced commodity. Our analysis shows that if cement companies transport outside the radius of ~1,000- 1,200 kms by rail and/or road, these players would not be making profits at the EBITDA level. Therefore, the regional demand supply equations play an important role in the pricing dynamics and profitability of the cement players.

INR

South Central

East

West

North

Realization per tonne (present)

4,292

3,712

3,644

3,570

3,661

Greenfield capex cost per ton

5,000

5,000

5,000

5,000

5,000

400

700

700

600

500

Average Q1FY11 EBITDA/tonne prior to Freight expenses

8.0

14.0

14.0

12.0

10.0

Transport cost per tonne per km by road

100

100

100

100

100

Maximum distances viable by road

Cost (inc dep) per tonne

2,949

3,096

2,672

2,979

3,108

EBIT / tonne

1,343

617

972

591

553

26.9

12.3

19.4

11.8

11.1

Implied Realization per tonne

3,349

3,796

3,372

3,579

3,608

Implied price change (INR)

(943)

83

(272)

9

(53)

% change

(22.0)

2.2

(7.5)

0.2

(1.5)

72

98

89

84

85

Cost (inc dep) per tonne

3,244

3,158

2,806

3,128

3,263

EBIT per tonne

1,048

555

838

442

398

15.1

10.9

15.0

7.4

6.8

Implied Realization per tonne

3,937

3,869

3,595

3,797

3,822

Implied price increase (INR)

(355)

157

(49)

228

161

(8.3)

4.2

(1.3)

6.4

4.4

Target EBIT/tonne Target RoCE(%) At Capacity utilization (%)

RoCE(%)

 

Comparative analysis

At Capacity utilization (%)

RoCE(%)

% change

Exhibit 33: EBITDA neutral lead distances

Transport cost per tonne per km by road

Source: Elara Securities Estimates

Maximum distances viable by rail

1,506 1.5 1,004 1.35 1,115

Source: Elara Securities Estimates

We expect the capacity utilization in the South to decline from 74% in FY10 to 69% in FY11 due to an increase in capacity and subdued demand. However, this situation is likely to improve to 72% in FY12 and 77% in FY13 due to the slower pace of capacity additions. Despite improving capacity utilizations, the same will be the lowest in the Southern region hence, we prefer companies having minimum presence in this region. In the case of East, we expect the capacity utilization to increase from 86% in FY10 to 88% in FY11, 90% in FY12 and 93% in FY13. The capacity additions in this region have been low while the demand has remained strong. In the Central region, the utilizations are expected to decline due to capacity additions. Capacity utilization is likely to decline from 104% in FY10 to 100% in FY11 and further to 92% in FY12. However in FY13, capacity utilization is expected to improve to 96%.The scenario in the Northern and Western regions might remain close to the all India average.

 

12

 

Elara Securities (India) Private Limited

Cement

Exhibit 34: Region wise yearly capacity utilization (%) 110 100 90 80 70 60 FY19 North Eastern

FY10

FY11E

FY12E

Western Southern

FY13E Central All India

83

85

82

82

80 73

75 70 Central Eastern Western All India

North Southern

(Average for FY11-FY13)

Exhibit 36: Region wise capacity break-up (%) North

East South

West Central

UltraTech Cement post merger

26

14

23

26

11

UltraTech Cement pre merger

0

18

35

48

0

Ambuja

42

14

0

37

7

ACC

24

18

36

4

18

India Cements

0

0

92

8

0

Shree Cement

100

0

0

0

0

JK Cement

62

0

38

0

0

JK Lakshmi

88

0

0

12

0

0

0

60

40

0

Orient Paper

Cement

Source: Elara Securities Estimate

Source: Company, Elara Securities Research

Exhibit 37: India Cements leads Southern capacity 100

90

75

60 38

50

35

32

26 0

0

0

JK Lakshmi

Ambuja

UltraTech Cement post merger

ACC

0

Shree Cement

25

UltraTech Cement pre merger

India Cements has the worst regional mix in mid-cap cement companies as ~92% of its capacity is in South India. Players such as Shree Cement and JK Lakshmi Cement have restricted presence in the Northern region. We do not expect Northern region to be hit as badly as the South.

90

90

JK Cement

Due to Ambuja’s superior regional mix in frontline cement players, we have assigned it the highest rating of 3. The other two frontline players UltraTech and ACC too do not have very high regional risk due to pan-India presences. However, due to ACC’s relatively higher capacity in low priced Southern market (ACC has 36% of its capacity in South as compared to 23% for UltraTech), we have assigned it the lowest rating 1 while UltraTech gets a rating of 2.

96

95

Orient Paper

In our coverage universe, Ambuja has the best regional mix as it does not have presence in the Southern region. Apart from this, about 14% of the capacity of the company is in the Eastern region and 7% in the Central region. We expect these regions to have better pricing environments as compared to other regions in India. The average capacity utilization of Eastern and Central region is likely to be ~1,400bps and ~900bps higher than pan India. We expect players having presences in Central and Eastern region to earn ~21% higher EBIT per tonne as compared to players having pan-India presences.

100

India Cement

Due to supply overhang, we expect cement players in the South to earn ~36% lower EBIT per tonne than players in other regions. Players having higher presence in the Southern region will continue to earn lower return ratios and margins as compared to players having presences in other regions.

Exhibit 35: Utilization to stay firm in Central India

(%)

As mentioned earlier, we expect cement prices to remain firm in H2FY11. The price increase is expected to be sharper in the western region, as the prices in western region were depressed by low prices in south. Though among all regions cement prices are highest in the southern region, we expect cement prices in south to fall by 8%.

Source: Company, Elara Securities Research

Power and fuel cost: Power and fuel constitutes 25-35% of the total expenditure for cement manufacturers who mainly use coal and petcoke as fuel for manufacturing cement. The coal is usually sourced from three sources viz linkage coal, open market purchases in domestic market and imports. Prices of petcoke and imported coal are presently hovering around INR7,250/tonne and INR5,175/tonne respectively. Prices of domestic coal vary, depending on its calorific values. Players having presence in the Southern region (particularly Tamil Nadu) are likely to have the cost disadvantage due to higher dependence on imported

Source: CMA, Elara Securities Estimates

 

Elara Securities (India) Private Limited 

13

Cement Exhibit 38: Power and fuel cost per tonne of cement manufactured using different fuels Fuel cost

Electricity Power & Electricity consumption Electricity cost Fuel cost per per tonne tonne of cement (h) (i) J=f+i

(a)

(b)

c=b/a

(d)

kcalry per tonne of cement (e)

f=a*d

Per unit Electricity VC cost INR (g)

Domestic

3,000

4,000

0.75

18.5%

740

555

2.3

85

198

753

Imported

5,175

6,000

0.86

12.3%

740

639

2.7

85

227

866

Pet Coke

7,250

8,000

0.91

8.8%

740

634

2.8

85

239

873

Fuel

INR Per Calorific INR per tonne Values kcalry

Input out put ratio

Fuel cost

Source: Elara Securities Research

coal. As these are located distantly from mines, players with plants in Tamil Nadu (such as India Cements, Madras Cement, Dalmia Cement) are heavily dependent on imported coal.

 

The price of imported coal has increased 42% YoY due to the improvement in global sentiment while petcoke has also gone up ~100% YoY in line with a hike in crude oil prices. Going ahead, we do not expect the price of pet coke to soften as RIL (the largest manufacturer of pet coke in India) has reduced the sale of petcoke in the open market as it has started using petcoke for captive power and petrochemical products manufacturing. As far as the linkage coal is concerned, Coal India has increased coal prices by ~10% to 11% in Q3FY10. At present prices, we expect power and fuel cost for players dependent on the domestic coal, imported coal and petcoke to be approximately INR753, INR 856 and INR 873 respectively for every tonne of cement produced. The player dependent on domestic coal is likely to have cost advantage of INR 113 per tonne as compared to player using imported coal and INR 121 as compared to player using petcoke. Thus, players dependent on domestic coal such as Orient Paper and ACC are likely to have lowest power and fuel cost per tonne of cement. Historically, petcoke prices (adjusted for differences in the kcalr) have been cheaper by 20-30% as compared to imported coal. However, due to supply disturbances as mentioned above, current prices of petcoke are at a marginal premium to landed price of imported coal. If this premium increases, we expect cement players dependent on petcoke such as Shree Cement, JK Cement and JK Lakshmi Cement to gradually shift towards imported coal.

Exhibit 39: Fuel mix of cement players Imported Petcoke Other P&F cost Coal (%) (%) (%) FY10/CY09

Company

Domestic Coal (%)

UltraTech

62

29

9

0

711

JK Lakshmi

0

0

90

10

633

ACC

85

15

0

0

715

India Cements

45

55

0

0

913

Shree Cement

0

0

100

0

544

JK Cement

10

0

90

0

*903

JK Lakshmi

0

0

90

10

633

100

0

0

0

635

Orient Paper

Source: Company, Elara Securities Research *Higher as compared to peers due to production of white cement

As ACC meets only 15% of its fuel requirements through imports we have assigned it a rating of 3 on this parameter. We have assigned UltraTech 2 rating and Ambuja 1 due to their relatively higher dependence on imported coal (UltraTech 29% and Ambuja 30%). Players dependent on grid for power, such as India Cements, are likely to have cost disadvantage of INR161 per tonne as compared to player dependent on CPP for power such as Shree Cement. Apart from this, players dependent on grid also run the risk of loss of production due to power cuts which have curtailed cement production particularly in the states of AP and TN in last few years during the summer. Exhibit 40: Savings from CPP INR Grid cost

4.5

Average variable cost

2.6

Electricity consumption per tonne of cement Saving per tonne

85 161

Source: Elara Securities Estimates

 

14

 

Elara Securities (India) Private Limited

Cement

9

9

37

Shree Cement

97

97

97

JK Cement

83

97

97

Orient Paper

24

94

97

JK Lakshmi

70

95

95

Source: Company, Elara Securities Estimates

In frontline players, UltraTech meets about 90% of its electricity needs through CPP as compared to 68% for ACC and 65% for Ambuja. Thus we have assigned rating of 3 to UltraTech, 2 for ACC and 1 for Ambuja. Transport mix/freight costs: Freight costs constitute ~25– 30% of the total cost of sales for cement companies who normally dispatch through rail and/or road. Rail transport is cheaper as compared to road transport as it warrants a saving of 0.25paise/tonne/km. Assuming an average lead distances of 600kms, the rail transport generates savings of INR150/tonne vis a vis road. Thus in the downturn, when lead distances to market are expected to increase and in the scenario of high crude prices, a player having a higher dependence on rail as a mode of transport such as ACC is likely to have an edge over others. Exhibit 42: Road dominates transport mix (%)

Exhibit 43: OPI least sensitive to price decline (%) 7.5 6.5 4.5 3.5

2.7

2.9

3.4

3.5

5.5

3.8

2.5

Source: Elara Securities Estimates

Fixed cost: Players having lower fixed cost will be betteroff than peers in the downturn as this edge ensures a lower breakeven point. In our coverage universe of large caps, UltraTech has the lowest fixed cost (20%) and ACC has the highest (25%). Thus we have assigned a rating of 3 for UltraTech, 2 for Ambuja and 1 for ACC. In the midcaps, Shree Cement (12%) and OPI (15%) have the lowest fixed cost while JK Cement (24%) has the highest.

Rail

Ultra Tech Cement

62

35

3

Ambuja Cement

55

30

15

ACC

50

50

0

India Cements

46

54

0

30

Shree Cement

77

23

0

25

JK Cement

85

15

0

20

Orient Paper

80

20

0

JK Lakshmi

52

48

0

Exhibit 44: ACC has the highest fixed cost

15

12

19

20

20

22

24

25

15

10 5 Shree Cement

ACC dispatches about 50% of its volume by rail as compared to 35% by UltraTech and 30% by Ambuja. Thus we have assigned rating of 3 to ACC. As Ambuja dispatches about 15% of the cement by sea, we have assigned rating of 2 to Ambuja and 1 to UltraTech.

5.1

5.5

Road

Source: Company, Elara Securities Research

8

8.5

(%)

Sea

In the midcaps OPI (2.7%) and Shree Cement (2.9%) have the lowest earnings sensitivity to price decline while India Cements (8%) has the highest earnings sensitivity.

Cement

India Cements

India Cement

91

ACC

95

83

JK Cement

95

68

JK Cement

65

ACC

JK Lakshmi

Ambuja

India Cement

95

ACC

96

Ambuja

90

Ultra tech

UltraTech

Ultra Tech

CY11/FY12E

Ambuja Cement

CY10/FY11E

JK Lakshmi

CY09/FY10

Shree Cement

% of power meet through CPP

Orient Paper

Company

Earning sensitivity: Lower earnings sensitivity to cement price decline will prevent the earnings of the company from sharp erosion in a downturn. A one percent price change is likely to impact the EPS of Ambuja, UltraTech and ACC by 3.4%, 3.5% and 3.8% respectively. Thus we have assigned a rating of 3 for Ambuja, 2 for UltraTech and 1 for ACC.

Orient Paper

Exhibit 41: Players look for self sufficiency in power

Source: Elara Securities Research

 

Elara Securities (India) Private Limited 

15

Cement

Exhibit 45: Operational parameters Region wise

Volume Growth

Fixed Earning cost sensitivity capacity breakup YoY (%) Company as a Capacity to price % of CY09/ CY10/ CY11/ Domestic Imported Petcoke Other CY09/ CY10/ CY11/ decline North East South West Central sales FY10 FY11E FY12E Coal (%) Coal (%) FY10 FY11E FY12E (%) (%) % of power meet through CPP

UltraTech

90

96

Fuel Mix

95

62

29

9

0

26

14

23

26

11

14

5

12

3.5

20

52

Ambuja

65

95

95

70

30

0

0

42

14

0

37

7

7

6

13

3.4

20

25

ACC

68

83

91

85

15

0

0

24

18

36

4

18

1

(4)

16

3.8

25

31

India Cements Shree Cement JK Cement

9

9

37

45

55

0

0

0

0

92

8

0

20

13

6

8

22

16

97

97

97

0

0

100

0

100

0

0

0

0

21

1

9

2.9

12

14

83

97

97

10

0

90

0

62

0

38

0

0

13

18

15

5.5

24

8

Orient Paper

24

94

96.9

100

0

0

0

0

0

60

40

0

11

21

5

2.7

15

5

JK Lakshmi

70

95

95

0

0

90

10

88

0

0

12

0

14

(9)

12

5.1

19

5

Source: Company, Elara Securities Estimates

 

Volume growth: We also expect players who have recently completed capacity expansions such as OPI, Ambuja and JK Cement to be better off as volume growth will prevent a sharp erosion in absolute earnings of a company. Players who have not yet completed capacity expansions such as JK Lakshmi Cement are likely to witness a serious decline in earnings due to the subdued volume growth on account of capacity constraints. In the large cap space, Ambuja is expected to report a volume CAGR of 9.4% as in Q1CY10, the company has added two grinding units of 1.5mn tonnes each at Nalgarh (HP) and Dadri (UP). UltraTech is expected to report a CAGR of 8.2% while ACC is expected to report volume CAGR of 5.7% during the same period. Thus, we have assigned 3,2,1 rating to Ambuja, UltraTech and ACC respectively. In mid-cap space, JK Cement is expected to report a strong volume CAGR of 17% as its 3mn tonnes Karnataka plant has come on stream. JK Lakshmi Cement is expected to report lowest volume CAGR of ~1% due to capacity constraints.

EBITDA per tonne As UltraTech is in the process of restructuring, we have looked at FY12 EBITDA per tonne of cement players. In frontline cement companies, we expect Ambuja to earn the highest EBITDA per tonne (INR978) as compared to its peers due to its superior regional mix and operational efficiency. ACC is expected to have an EBITDA per tonne of INR892 due to its cost advantage while UltraTech is expected to earn an EBITDA per tonne of INR 769. Thus, we have assigned rating of 3, 2 and 1 for Ambuja, ACC and UltraTech respectively. Return ratios: Among the frontline players, ACC is expected to earn RoE of 18%-29% between in CY10-CY11 as compared to 17%- 26% earned by others. The superior RoE is enjoyed by ACC on the back of its cost advantage resulting from its higher dependence on domestic coal as a fuel and rail for dispatching cement. Ambuja is expected to have lower ROE than that UltraTech despite higher EBITDA/tonne because of the higher cash on the balance sheet which is earning a lower yield than the core cement business. Thus, we have assigned a 3, 2 and

Exhibit 46: Financial parameters Net debt equity ratio(x) Company UltraTech

CY09/ FY10

CY10/ FY11

RoE(%)

CY11/ FY12

EBITDA per tonne

CY09/ FY10

CY10/ FY11

CY11/ FY12

CY09/ FY10

CY10/ FY11

CY11/ FY12

Q1FY11

MCAP (bn)

0.3

0.3

0.1

26.1

20.9

18.4

979

832

769

792

310

Ambuja

(0.2)

(0.2)

(0.3)

20.1

18.8

16.8

993

1,061

978

1,108

226

ACC

(0.2)

(0.1)

(0.3)

29

18.5

17.9

1,117

888

892

1,115

200

0.7

0.5

0.4

10.5

5.2

7.8

758

494

833

376

36

India Cement Shree Cement

0.1

0.1

(0.3)

49.2

19.4

24.1

1,364

907

863

1,027

75

JK Cement

0.9

0.7

0.6

22.6

6.5

10.8

964

535

568

668

12

Orient Paper

0.6

0.1

(0.1)

22.6

23.2

19.7

892

879

785

887

12

JK Lakshmi

0.2

0.3

0.4

27.2

11.6

13.8

925

710

857

551

8

Source: Company, Elara Securities Estimates

16

 

Elara Securities (India) Private Limited

Cement

Cement

Exhibit 48: ACC: EV/EBITDA (x) and RoCE (%) EV/EBITDA is the highest when the return ratio is the lowest - which is a theoretical sign to sell shares 30

18

9

15

6

10

3

5

0

0

EV/EBITDA(LHS)

CY06

CY08

20

FY05

25

12

FY03

15

FY01

In frontline cement companies, Ambuja and ACC are expected to have net cash on balance sheets between CY09 to CY11. Thus, we have assigned Ambuja and ACC rating of 2. UltraTech, though is not likely to have a stretched balance sheet, with a comfortable net debt equity ratio of 0.3x in FY10, it is placed a notch below the rest. Considering the same, we have assigned UltraTech rating of 1.

Traditionally, earnings based valuation ratios have failed to time the cement cycles correctly. As is evident from the chart, the peak EV/EBITDA multiple made a good case to buy the stock and vice versa. Hence, we believe, the EV/tonne is a better representation of the valuations of companies in the volatile cement sector.

RoCE(%)

Balance sheet: We believe that as the industry enters the downturn phase, players having a healthy balance sheet will be better off than others. Lower debt equity ratio will not only reduce the interest and principal repayment burden on cash flows but will also enable the company to take advantage of any distress opportunities that might be available.

Earning based valuation irrelevant for industry

FY99

By the end of FY11, UltraTech will have capacity of ~52.4 mn tonnes (globally 9th largest) and will be 1.7x of ACC and 2.1x of Ambuja. Thus, we have assigned the highest rating to UltraTech on this parameter. We have assigned rating of 3, 2 and 1 to UltraTech, Ambuja and ACC respectively. In our midcap coverage universe, Shree Cement and India Cements are mid-size player who will have a capacity of close to 15.6mn tonnes and 13.5 mn tonnes by end of FY11.

FY97

Size: The larger size provides the benefit of economics of scale, pricing power and a bigger balance sheet to comfortably fund major projects.

FY95

In the midcap space, Shree Cement is expected to earn RoE of 19% in FY11 while Orient Paper is expected to earn 23%. These players are expected to have a superior ROE due to their low cost structure, diversfied revenue stream and volume growth due to completion of expansion. JK Lakshmi is expected to have lowest ROE i.e 11.6% (13.6% adjusted for CWIP) due to a sharp decline in earnings on account of subduded volume growth and funds getting blocked in CWIP.

Conclusion: Thus, in the environment of high energy prices, we believe that players dependent on rail for transport such as ACC and players dependent on domestic coal such as Orient Paper will be better off than players dependent on imported coal (such as India Cements ) and petcoke (such as JK Cement and Shree cement). We also believe that in the case of a downturn, players having a lower debt equity ratio such as ACC, Ambuja and Shree Cement will be better off than those with a higher ratio such as India Cements and JK cement. Lower debt equity ratio will help reduce the pressure on a companys opertaing cash flows to serve the interest and principal.

EV/EBITDA(x)

1 rating to ACC, UltraTech and Ambuja respectively.

RoCE(%)(RHS)

Source: Capitaline, Elara Securities Research

 

In the mid-cap space, only India Cements and JK Cement are likely to have debt equity ratio of more than 0.5x. Rest of the mid-cap spectrum is likely to have a healthy balance sheet. Exhibit 47: Vital statistics of frontline cement players Region

Fuel mix

CPP

Transport mix

Balance sheet

Earning sensitivity to price decline

Fixed cost

Volume growth

EBITDA per tonne

RoE

Size

Total

ACC

1

3

2

3

2

1

1

1

2

3

2

21

Ambuja

3

1

1

2

2

3

2

3

3

1

1

22

UltraTech

2

2

3

1

1

2

3

2

1

2

3

22

Note: 3 indicates the best. As we have given equal weight to all parameters we have just added the score At end of CY11 Acc and Ambuja both are expected to have same net debt equity ratio we have assigned 2 rating to both on balance sheet strength parameter Source: Company, Elara Securities Research

 

Elara Securities (India) Private Limited 

17

Cement

EV/EBITDA(LHS)

50

40

40 30

30

20

20

10

(%)

(x)

50

10

0

0 CY08

CY06

FY05

FY03

FY01

FY99

FY97

FY95

(10)

RoE(RHS)

Source: Capitaline ,Elara Securities Research

Exhibit 51: ACC: Cash P/E (x) and Mcap (INR bn) 2.5

40

2.0

30

1.5

20

1.0

10

0.5

0

0.0 CY08

CY06

FY05

FY03

FY01

FY99

FY97

FY95

(INR bn)

P/CEPS(x)

 

50

Mcap (RHS)

Source: Capitaline ,Elara Securities Research

250

60

200

40

150

20

100

(%)

Exhibit 52: ACC: EV/tonne, RoE and RoCE (USD per tonne)

0

50 0 CY08

CY06

FY05

FY03

FY01

FY99

FY97

(20) FY95

0

0

EV/Tonne in USD (RHS)

Mid cap vs large cap: Valuation gap widens

Exhibit 50: ACC: Cash P/E (x)and RoE(%)

EV/Tonne in USD (LHS) RoCE (RHS)

50

Source: Capitaline, Elara Securities Estimates

Source: Capitaline ,Elara Securities Research

P/CEPS(LHS)

50

Market Cap (LHS)

Market Cap

P/CEPS(LHS)

100

CY10

CY08

CY06

FY05

FY03

FY01

0 FY99

0 FY97

1

FY95

3

100

CY08

6

150

CY06

1

150

FY05

9

200

FY03

(x)

2

(INR bn)

12

200

FY01

2

250

FY99

3

15

250

(USD)

18

EV per tonne is highest when stock has peaked out

EV per tonne bottom outs when stock bottom outs

FY97

If someone had brought ACC stock when EV/EBITDA was highest despite lower return ratio he would have made money at a CAGR of 22% over 5 years

FY95

If someone had brought ACC stock when EV/EBITDA was lowest he would have lost money at a CAGR of 22%

Exhibit 53: ACC: Market cap and EV/tonne

(INR bn)

Exhibit 49: ACC: EV/EBITDA (x) and MCAP (INR Bn)

RoNW (RHS)

Usually, mid cap cement companies have traded at a discount to their large cap peers. A major reason for the same is the pan-India presence of large cap peers which reduces the risk of regional concentration and lower free float. In terms of profitability, the mid-cap cement companies were less profitable in terms of EBITDA/tonne till FY07. But post FY07, when the pan-India witnessed a pricing increase in excess of ~25% coupled with cost cutting measures undertaken by cement companies, the profitability of mid-cap players has been aligned in line with that of large cap players. However, the gap of valuations in terms of EV/tonne has widened significantly, increasing from ~30% pre-FY07 to more than ~60% post FY07. The large cap players have consistently traded at a premium to their replacement costs in the past four years (excluding the period of subprime crises). In fact, they traded at nearly twice the replacement cost in FY07 and FY08 whereas mid-cap players have barely traded above their replacement cost. The maximum valuation that mid cap players managed was a ~10% to 15% discount to the replacement cost in FY06-FY07 period. Since then, these mid-cap players have traded well below their replacement cost. However, the valuation gap for mid-cap players has been consistently coming down which now lies in the range of ~50 -60% discount to large cap peers. We believe with improving cement pricing and bettering EBITDA/tonne for cement players, the valuation discount for mid-cap players will gradually narrow down. Therefore, we have valued mid-cap cement players at ~38% discount to the replacement cost. Our valuation of USD62/tonne assigned to mid-cap players indicates the distress case EV the cement plants deserve in case of a continued downturn.

Source: Capitaline, ,Elara Securities Research

18

 

Elara Securities (India) Private Limited

Cement

Source: CMIE, CMA, Elara Securities Estimates

(USD per tonne)

Exhibit 56: Better profitability justifies rich valuations 250

1,200

200

1,000 800

150

600

100

400

50

200 FY12E

FY11E

FY10

FY09

FY08

FY07

FY06

0 FY00

0

Cement

(%)

FY12E

FY10

FY11E

Average Large Caps EV per tonne (LHS) Capacity Utilization of the Industry (RHS)

(INR EBITDA/tonne)

The cement industry is likely to operate at capacity utilizations of 80% in FY11 and 81% in FY12; similar to the FY03-FY04 period. During FY03-FY04, large cap was trading at EV per tonne of USD67-80. Present valuations of cement players are 1.9x last down cycle. However there has also been corresponding improvement in EBITDA/tonne for cement players due to improvement in cost efficiency. Frontline cement players are expected to earn 1.9x higher EBITDA/tonne as compared to last down cycle. Thus we believe that present valuations for the frontline companies are fair.

FY09

FY00

Large cap valuations across business cycles

FY08

75 FY07

60 Source: Elara Securities Estimates

FY06

80 FY05

90 FY04

EBITDA/tonne disc

85

r=0.86

120

FY05

Valuation disc for mid caps

90

150

FY03

(100)

95

180

FY04

(80)

100

210

FY02

(60)

Run up in the stock prices much sharper than improvement in fundamentals of the industry

240

FY03

(40)

(USD Per tonne)

(%)

(20)

FY01

0

In last down cycle when industry operated at capacity utilizations of 80-81 the EV/tonne of large cap was USD67-80.With similar capacity utilizations expected for the industry valuations are 1.5x higher

FY02

20

Exhibit 55: All India capacity utilization, EV per tonne

FY01

FY12

FY11

FY10

FY09

FY08

FY07

FY06

FY05

FY04

FY03

FY02

FY01

Exhibit 54: Margin gaps narrows, valuation broadens

Average Large Caps EV per tonne (LHS) Average Large Caps EBITDA/tonne (RHS) Source: Capitaline, Elara Securities Estimates

 

Elara Securities (India) Private Limited 

19

Cement

Valuation & Recommendation ‰ Earnings based valuation multiples not useful for cement stocks ‰ Large cap valued on discounted bull case EV per tonne multiple ‰ Mid cap valued on distress EV per tonne multiple, to factor in higher regional risks

Valuations With earnings based valuation multiples failing to provide a correct historical trend, we have used EV/tonne as our valuation multiple for all companies under our coverage. With the industry in the midst of a downturn and cement prices as well as profitability in a highly volatile zone, we have tried to value companies based on discounted upcycle valuations that these deserved. Considering the uncertain cement market scenario and given the outperformance of large cap cement players as well as the premium they command over mid-cap segment, we have tried to find whether large cap stocks still make value proposition at the current level.

 

In order to find a fair EV per tonne for frontline cement companies we have looked at the historical average upcycle valuation and theoretical bull cycle valuation. As mentioned earlier, our industry analysis indicates that the pace of capacity addition will slow down and the demand will grow at steady pace. We expect the demand to catch up with supply post FY12 and the pricing power to return to industry. However, in the intermediate period, we expect the profitability of the cement players to remain subdued. As we expect the bull cycle in the cement industry to be still 1 year away, we have discounted average up cycle valuation by 1 year using WACC of 13%. Upcycle average benchmark valuation for large caps We have used two approaches for the same viz. 1. Historical upcycle valuation and 2 Theoretical bull cycle valuation. 1.

Historical upcycle valuations

In this approach, we have considered average upcycle EV per tonne for Ambuja and ACC. As per our working, these players have traded at an average EV/tonne of USD155. However, as we anticipate the upycle for cement sector to be 1 year away from now, we have discounted the same for 1 year using WACC of 13%. The computation leads to an average benchmark valuation of USD137/tonne under this approach.

Exhibit 57: Historical upcycle valuations USD per tonne Ambuja

178

ACC

132

Average

155

PV multiple

0.88

PV EV per tonne

137

Source: Elara Securities Research

2.

Theoretical bull cycle value

This approach is based on the notion as to what should be the fair valuation for acquiring the existing company to reap benefits of an upcycle rather than going for a greenfield expansion. In our view, the industry player would pay replacement cost of ~USD100 per tonne + PV of profitability of three years (as it takes minimum three year to set up a greenfield plant) in order to reap the benefits of an upcycle in the cement industry. Exhibit 58: Bull case DCF Year (INR /tonne)

1

Capex cost INR mn

5,000

Debt INR mn

2,500

Capacity in tonne

2

3

1,000,000 1,000,000 1,000,000

Capacity Utilization (%)

100

Production in tonnes

100

100

1,000,000 1,000,000 1,000,000

EBITDA per tonne

1,200

1,200

1,200

Depreciation@ 5%

250

250

250

Interest

238

238

238

PBT per tonne

713

713

713

Tax per tonne

214

214

214

PAT per tonne

499

499

499

Increase WC per tonne Free cash flow per tonne

10

10

10

976

976

976

Free cash flow to firm INR mn

976

976

976

PV multiple

0.88

0.78

0.69

PV of Cash

864

765

677

Sum INR mn

2,305

Terminal value= replacement cost

5,000

EV per tonne in USD

162

PV multiple

0.9

PV EV per tonne

144

WACC (%)

13.0

Source: Elara Securities Research

20

 

Elara Securities (India) Private Limited

Cement

However as discussed earlier, we anticipate the up cycle for cement sector to be 1 year away. Hence, we have discounted the average up cycle valuation of USD162/tonne for 1 yr using WACC of 13%. According to this method, we get a valuation of USD144/tonne under this approach. In order to decide the target multiple for large cap stock, we have used the average of the above two methods. Exhibit 59: Bull case DCF USD per tonne

distress value of the company in an extended down cycle. 1.

DCF

We have tried to calculate the distress value for cement players by using DCF. We have assumed that cement players will earn an EBITDA/tonne of INR350 for the next 20 years and will operate at a capacity utilization of 75%. In this method, we have assumed that the industry is in a structural down cycle for a continuous period of twenty years and the profitability of cement players will not improve. We have assumed the terminal value for the plant to be zero. The DCF based target multiple works out to be USD40 per tonne. Exhibit 61: Bear Case DCF

Method 1

137

Year

1

Method 2

144

Capex cost (INR mn)

3,500

Average

140

Debt (INR)

1,750

2

….

20

Cement

As shown in the table, assuming the upcycle operating parameters (100% capacity utilization and EBITDA of INR1,200/ tonne), the fair valuation works out to be USD162 per tonne.

Source: Elara Securities Research

Target multiple for frontline cement players

Capacity (tonne)

Our comparative analysis have shown (kindly refer to exhibit no 47 on page no 17) steep valuation differences in frontline cement companies is unjustified. Thus, we have valued UltraTech and Ambuja at par to our discounted up cycle valuations (USD 140 per tonne). We have valued ACC at 5% discount to Ambuja and UltraTech taking into account its smaller size and lower profitability.

Capacity Utilization (%)

Exhibit 60: Target multiple

1,000,000 1,000,000

1,000,000

75

75

75

Production (tonne)

750,000

750,000

750,000

EBITDA (per tonne)

350

350

350

EBITDA (INR mn)

263

263

263

Depreciation@ 5%

175

175

175

Interest

166

166

166

PBT (per tonne)

9

9

9

Tax (per tonne)

3

3

3

PAT (per tonne)

6

6

6

10

10

10

Total

Target EV per tonne

UltraTech

22

140

Increase WC (per tonne)

Ambuja

22

140

Free cash flow (per tonne)

347

347

347

ACC

21

133

Free cash flow to firm (INR mn)

260

260

260

PV multiple

0.88

0.78

0.09

PV of Cash

230

204

23

Sum in mn

1,829

Source: Elara Securities Research

Target EV per tonne for mid-cap cement companies As is evident from the historical perspective, mid-cap companies have always traded at a discount to their large cap peers as well as to the replacement cost. The discount has prevailed despite having a minor difference between the profitability and return ratios for these players. The regional concentration and the lower free float are some of the reasons for the discount. However, over the past few years, though the discount has been consistently narrowing down, there exists a huge gap (~56%) between the large cap and small cap companies. We have valued mid-cap companies at a distress EV per tonne where we have factored in most of negative surprises. We have also used a uniform multiple for all mid-cap players irrespective of their profitability and size. Three methods have been applied for calculating the

 

Elara Securities (India) Private Limited 

EV per tonne in USD

40

WACC (%)

13

Source: Elara Securities Research

2.

Lowest M&A deals in last two decades

The lowest M&A deal in the cement industry had taken place at an EV per tonne of USD41-42. However, these deals had taken place in 1998. The inflation adjusted value for the deal works out to be USD75-77 per tonne.

 

21

Cement Exhibit 63: PV of a plant assuming nil free cash flows

Exhibit 62: M&A deal valuations on an uptrend Year

Acquirer

Target

Capacity (Million tonne)

EV/ tonne (US$)

Inflation adjusted

1998

Guj Ambuja Modi

2.0

42

77

1998

Grasim

1.1

41

75

1999

Guj Ambuja ACC

12.0

144

248

2003

Grasim

L&T

17.0

82

119

2005

Holcim

ACC

18.0

110

143

2006

Holcim

Guj Ambuja

13.4

195

242

2007

Cimphor

Sri Digvijay

1.0

152

179

2008

CRH

My Home

3.0

220

247

2008

Vicat

Sagar

2.5

Shri Digvijay

Replacement cost USD

100

PV multiple

0.7

Fair value of replacement cost

69

Source:

The average of above three methods works out to be USD62 per tonne. We have used this multiple for valuing the mid-cap cement players in our coverage universe. Our target valuation for mid-cap is at a 38% discount to the replacement cost and 56% discount to our target multiple for UltraTech.

105

118

Exhibit 64: Average of three distress case valuations

Average for 20 years

121

161

Distress value by method (a)

40

Average for 5 years

168

197

Distress value by method (b)

76

Source: Elara Securities Research

Distress value by method d (c)

69

3.

Average

62

Discounted value of a plant in downturn

Source: Elara Securities Research

 

In this method, we have assumed that the profitability of mid-cap players will remain depressed for three years (3x of what assumed for large cap). Thus, we have assumed that for the next three years, midcap players will not be able to earn any operating cash flow. Even after three years, return ratios of the plant will be very close to the cost of capital. In such a case, the fair EV per tonne will be the present value of USD100.

22

 

Elara Securities (India) Private Limited

9 November 2010

India | Cement

Initiating Coverage 

 

 

Restructuring priced in

Rating : Reduce

Merger with Samruddhi Cement creates a global giant

Target Price : INR1,139 Upside: 2% CMP : INR1,122 ( As on 2 November 2010)

UltraTech Cement Limited (UltraTech) has emerged as the world’s ninth largest cement manufacturer following the merger of Samruddhi Cement Limited (SCL) with itself. It will be the largest cement company in India, having a capacity of 52.4mn tonnes - almost double the capacity of the second and third players, viz: ACC and Ambuja. Apart from this, post the merger, UltraTech has a presence in all five major regions, thereby eliminating the regional risk. Furthermore, the merger is also expected to increase FY12 EPS of the company by 10.3%.(Kindly refer to Exhibit 4 on page no 27) Healthy balance sheet to ensure smooth capex deployment At the end of FY10, UltraTech’s net debt to equity ratio was 0.3 and gross cash and investment was INR17.5 bn. Lower debt equity ratio and bigger size of the balance sheet will enable the company to smoothly fund its next round of expansion. The company has already announced the second round of expansion to increase (consolidated) the capacity by 9.2mn tonnes to 61.6 mn tonnes.

Key data* Bloomberg /Reuters Code: Current /Dil. Shares O/S (mn) Mkt Cap (INRbn/USDmn) Daily Vol. (3M NSE Avg.) Face Value (INR)

ULTC.BO /UTCEM IN 276/276 310/6,976 240,353 10

1 USD= INR44.4 Source: Bloomberg ; * As on 2 November 2010

Price & Volume 1,200

2,000

1,100

1,500

1,000

1,000

900

500

800 700

Valuation discount to ACC, Ambuja to diminish UltraTech has historically traded at a discount of~18% to ACC and ~33% to Ambuja due to various reasons including lower free float, higher regional risk and dependence on expensive sources of power. Post the restructuring, UltraTech’s free float as well as regional mix has improved. Further, UltraTech has added 211MW of CPP capacities in the last two years. Due to an increase in CPP capacity, its dependence on the external source of power is expected to come down to ~5% in FY11 and FY12 from 75% prior to FY10. We expect the CPP to result in a saving of INR 137/tonne(INR 5.2 bn) from FY11 and INR165/ tonne (INR 7.8bn) in FY12 .Thus with the improving profitability and better free float, we expect the valuation gap between UltraTech and Ambuja to be bridged in the medium term.

Valuation

0

Oct-09 Mar-10 Vol. in '000s (RHS)

Jul-10 Nov-10 Ultratech Cement (LHS)

Source: Bloomberg

Share holding (%)

Q3FY10 Q4FY10 Q1FY11 Q2FY11

Promoter

54.8

54.8

54.8

64.1

Institutional Investors

21.3

22.6

22.2

18.7

Other Investors

8.6

7.8

8.0

8.6

General Public

15.3

14.8

15.0

8.5

Source: BSE

Price performance (%)

3M

6M

12M

Sensex

12.3

17.0

32.1

Ultratech

30.1

17.5

51.5

ACC

28.0

17.5

51.9

Ambuja Cements

26.4

23.1

74.7

Source: Bloomberg

UltraTech will enjoy benefits of higher scale of operations coupled with cost savings due to increased consumption of captive power. However, the stock is already trading at close to 38% premium to its replacement cost and close to our discounted upcycle EV/tonne. We have valued UltraTech’s grey cement business at EV/tonne of USD140 and the white cement business at a conservative valuation of USD186/tonne. Accordingly, we initiate our coverage on UltraTech with a Reduce and a target price of INR 1,139.

Stock performance 180 Rebased to 100

Global Markets Research

Ultratech Cement

160 140 120 100 80 Nov-09

Feb-10 May-10 Ultratech

Aug-10 Nov-10 Sensex

Source: Bloomberg 

Key Financials Y/E Mar (INR mn) FY08 FY09 FY10 FY11E FY12E

Rev

YoY (%)

EBITDA

EBITDA (%)

Adj PAT

55,092 63,831 70,497 140,614 185,837

12.2 15.9 10.4 NA NA

17,201 17,064 19,711 30,659 36,334

31.2 26.7 28.0 21.8 19.6

10,076 9,770 10,696 15,298 20,216

YoY (%) Fully DEPS 28.8 (3.0) 9.5 NA NA

80.4 77.4 84.6 64.1 73.3

RoE (%) 45.2 31.0 26.1 20.9 18.4

P/E (x) EV/tonne (USD) EV/EBITDA (x) 14.0 14.5 13.3 17.5 15.3

189.6 153.8 135.1 143.9 138.5

9.0 8.9 7.1 10.4 8.5

Source: Company, Elara Securities Estimates Note: Financials for FY09 & FY10 are prior to restructuring of cement business of AV Birla group and hence not strictly comparable

 

Ravindra Deshpande • [email protected] • +91 22 4062 6805 Ravi Sodah • [email protected] • +91 22 4062 6817 Elara Securities (India) Private Limited

Ultratech Cement Valuation trigger

  Recovery in cement prices

1,400 1,200

2

1

Investment summary ƒ

Pan India presence to reduce regional risks

ƒ

Healthy balance sheet

ƒ

Power cost to reduce

1,000

 

800

Valuation trigger

Target price reached

600

1. Recovery in cement prices

400 200

  Key risks Oct-11

Jun-11

Aug-11

Apr-11

Feb-11

Oct-10

Dec-10

Jun-10

Aug-10

Apr-10

Feb-10

Oct-09

Dec-09

Jun-09

Aug-09

Apr-09

Feb-09

Oct-08

Dec-08

Jun-08

Aug-08

Apr-08

0

Source: Bloomberg, Elara Securities Estimates

ƒ

Sharp decline in cement prices

ƒ

Slow down in cement demand

  Our assumptions

Valuation overview - EV/tonne based valuations FY12E

ƒ

Cement Volume to grow at a CAGR of ~8.2%

ƒ

Realizations to increase at a CAGR of 0.9%.

Grey Cement Capacity

mn tonnes

48.8

EV /tonne multiple

USD/tonne

140

Grey Cement business EV

INR Mn

307,440

White Cement Capacity

mn tonnes

0.6

EV /tonne multiple

USD/tonne

186

White Cement business EV

INR mn

5,022

EV

INR mn

312,462

Less: Net Debt

INR mn

(1,920)

Target Market Capitalization

INR mn

314,382

Diluted Shares outstanding

mn

Target Price

INR/ share

1,139

276

Current Market Price

INR/ share

1,122

Potential Upside/(downside)

(%)

1.5

Source: Company, Elara Securities Estimates

Valuation driver - EV/tonne , RoE and RoCE 60

160

120 40

100

(%)

(EV/tonne)

140

80 60

20

40 20

EV/Tonne(US$) (LHS))

RoNW(%) (RHS)

FY02

FY01

FY00

FY99

FY98

FY97

FY96

0 FY95

0

ROCE (%) (RHS)

Source: Elara Securities Research

  24

  

Elara Securities (India) Private Limited

Ultratech Cement

Financials (Y/E Mar) FY10

FY11E

FY12E

63,831

70,497

140,614

185,837

EBITDA

17,064

19,711

30,659

36,334

1,036

1,227

2,409

4,333

18,100

20,938

33,068

40,667

3,230

3,881

7,668

8,451

14,870

17,057

25,400

32,216

1,255

1,175

2,903

2,485

13,615

15,882

22,498

29,730

OPBIDTA Less :- Depreciation & Amortization EBIT Less:- Interest Expenses PBT Less :- Taxes

3,844

5,185

7,199

9,514

Adjusted PAT

9,770

10,696

15,298

20,216

Reported PAT

9,770

10,696

15,298

20,216

Balance Sheet (INR mn)

FY09

FY10

FY11E

FY12E

Share Capital

1,262

1,265

2,760

2,760

10 5

0

0 FY09

FY10

FY11E

Net Revenues (LHS)

FY12E

EBITDA Margin (RHS)

  Adjusted profits growth trend

34,759

44,822

97,830

116,029

16,045

41,473

37,973

Total Liabilities

57,437

62,132

142,063

156,762

Gross Block

74,010

80,781

176,559

199,059

Less:- Accumulated Depreciation

27,653

31,365

69,185

77,636

Net Block

46,357

49,417

107,374

121,423

5,000

6,773

2,594

20,000

12,930

0

10,348

16,696

16,696

16,696

1,189

1,733

15,481

23,201

Net Deferred Tax

(7,229)

(8,307)

(17,487)

(17,487)

Total Assets

57,437

62,132

142,063

156,762

FY09

FY10

FY11E

FY12E

Cash profit adjusted for non cash items

15,682

16,856

25,799

29,740

Add/Less : Working Capital Changes

(1,106)

(752)

(1,295)

895

Operating Cash Flow

14,576

16,104

24,504

30,635

Less:- Capex

(8,500)

(2,592)

(18,867)

(15,430)

Free Cash Flow

6,075

13,512

5,637

15,205

Financing Cash Flow

1,917

(7,410)

(4,921)

(8,004)

Investing Cash Flow

(7,954)

(6,300)

(6,300)

1,414

Net change in Cash

38

(198)

(5,584)

8,615

FY09

FY10

FY11E

FY12E

Ratio Analysis

15

50,000

21,416

Cash Flow Statement (INR mn)

25 20

100,000

Borrowings

Net Working Capital

19.6

150,000

Reserves

Investments

30 21.8

Source: Company, Elara Securities Estimates

Add/Less: - Extra-ordinaries

Add:- Capital work in progress

28.0

26.7

200,000

25,000

(INR mn)

20,000 15,000 10,000

FY09

15.9

10.4

NA

(0.8)

15.5

NA

NA

PAT Growth

(3.0)

9.5

NA

32.1

EBITDA Margin

26.7

28.0

21.8

19.6

Net Margin

15.3

15.2

NA

10.9

FY11E

FY12E

Source: Company, Elara Securities Estimates

  Return ratios (%) 40 31.0 30

28.5 24.9

29.2

21.6 26.1

20

20.9

18.4

10 FY09

EBITDA Growth

FY10

Adjusted PAT

Income Statement Ratios(%) Revenue Growth

Cement

Add:- Non operating Income

Revenue & margins growth trend

(%)

FY09

Net Revenues

(INR mn)

Income Statement (INR mn)

FY10 ROE (%)

NA

FY11E

FY12E

ROCE (%)

Source: Company, Elara Securities Estimates

   

Return & Liquidity Ratios Net Debt/Equity (x)

0.5

0.3

0.3

0.1

ROE (%)

31.0

26.1

20.9

18.4

ROCE (%)

29.2

28.5

24.9

21.6

Diluted EPS (INR/Share)

77.4

84.6

64.1

73.3

EPS Growth (%)

(3.7)

9.2

(24.2)

14.3

DPS (INR/Share)

4.9

6.2

6.5

6.5

14.5

13.3

17.5

15.3

8.9

7.1

10.4

8.5

Comfortable debt equity ratio

Per Share data & Valuation Ratios

P/E Ratio (x) EV/EBITDA (x) EV/Sales (x) EV/tonne (USD)

2.4

2.0

2.3

1.7

153.8

135.1

143.9

138.5

0.4

0.6

0.6

0.6

Dividend Yield (%)

Trading at a premium to replacement cost 

Source: Company, Elara Securities Estimates Note: Financials for FY09 & FY10 are prior to restructuring of cement business of AV Birla group and hence not strictly comparable

 

Elara Securities (India) Private Limited 

25

Ultratech CementCement Ultratech

Investment rationale ‰ ‰ ‰ ‰

Restructuring of AV Birla group cement business to eliminate regional risks Dependence on imported coal to increase cost pressures Lower dependence on expensive power to improve cost efficiency Overseas acquisitions to provide exposure to cement markets outside India

A global giant emerges post revamp

Exhibit 2: UltraTech sneaks into global top 10

Grasim and UltraTech have consolidated their cement business. The restructuring was carried out in two steps: Grasim demerged its cement business into a separate company viz: SCL and then, SCL was merged with UltraTech.

Lafarge - France Holcim - Switzerland CNBM - China Heidelberg - Germany Cemex - Mexico Anhui Conch - China ItalCementi - Italy Taheiyo - Japan UltraTech + Samruddhi CRH - Ireland Buzzi Unichem - Italy Eiro Cement Cimpor - Portugal Jdong- China Hauxin- China

The swap ratio for the merger was of four shares of UltraTech for every seven shares of SCL. After the restructuring, Grasim now owns ~60.3 % in UltraTech. The company has now emerged as the world’s ninth largest manufacturer having capacity of 52.4 mn tonnes almost double the capacity of distinct second and third players - ACC and Ambuja - in the Indian cement industry.

263 257 133 115 101 95 74 57 52 50 44 39 37 35 35

The larger size provides the benefit of economics of scale and a bigger balance sheet to comfortably fund major projects.

Source: Company, Elara Securities Research

Exhibit 1: Group structure: Pre and post restructuring

Exhibit 3: UltraTech leads by miles

Grasim Shareholders

(35%)

0

1)UltraTech + Samruddhi

Ultratech Public Shareholders 45%

Grasim

65%

2)ACC

26

3)Ambuja Cement

25

Samrudhhi

UltraTech

Cement

Cement

22

5) India Cement

55%

14

6) Shree Cement

12

7)Madras Cement

10 0

UltraTech Public Shareholders

Grasim VSF / Others 60.3% UltraTech + Samrudhhi

300

52

4) JP

VSF / Others

Grasim Shareholders

100 200 (mn tonne)

20 40 (mn tonne)

60

Source: Company, CMA ,Elara Securities Research

Apart from this, post merger, UltraTech will have a presence in all five major regions, thereby eliminating regional risk. Further, the merger is also expected to increase FY12 EPS of the company by 10.3% as proportion of the volume from low price Southern region will reduce.

 

Cement Source: Company, Elara Securities Research

26

 

Elara Securities (India) Private Limited

Ultratech Cement

Post Pre restructuring restructuring Sales volume (mn tonnes)

Var (%)

23

47

109.1

Realization per tonne

3,649

3,933

7.8

Costs per tonne

2,964

3,164

6.8

685

769

12.2

Net Sales(INR Mn)

82,474

185,837

125.3

EBITDA (INR Mn)

15,491

36,334

134.5

Net Profit(INR Mn)

8,398

20,216

140.7

126

276

118.2

66

73

10.3

EBITDA per tonne

No of share (mn) EPS Source: Elara Securities Estimates

Exhibit 5: UltraTech pre-merger: Region wise capacity East 18% South 35%

compared to 36% of ACC. Thus the regional risk of the UltraTech has also been substantially reduced. Prior to FY10, UltraTech used to meet about 75% of its electricity requirement through expensive source of power -: grid, DG sets and naphtha based power plants. However, with the company increasing its coal based CPP capacity by 211MW in last two years, UltraTech’s dependence on expensive source of power has been reduced to 10% in FY10 and is expected to reduce to 5% in FY11 &FY12.The CPP have resulted into savings of INR INR 127/tonne (INR 146 / tonne) in FY10. We expect company to save INR 221 bn (INR 167 per tonne ) in FY11 and INR 231bn ( INR 164/ tonne) in FY12. Thus, with an improvement in free float, cost structure and regional mix, we expect UltraTech to trade at par to Ambuja and close to 5% premium to ACC. Exhibit 7: EV/tonne gap reduces

Cement

Exhibit 4: Key financials for FY12

(USd per tonne)

300

West 48%

200 150 100 50 0

Source: CMA, Elara Securities Research

Exhibit 6: Post-merger: Region wise capacity break-up

North 26%

FY05 FY06 FY07 FY08 FY09 FY10 FY11E FY12E UltraTech

East 14%

Central 11%

250

ACC

Ambuja

Source: Company, Elara Securities Estimates

West 26%

South 23% Source: CMA, Elara Securities Research

Valuations discount to ACC, Ambuja to shrink Historically, UltraTech has traded at a discount of 18% to ACC and 33% to Ambuja, primarily on account of: ƒ

High regional risk

ƒ

Dependence on expensive source of power

ƒ

Lower free float

Acquisition of ETA Star Cement would provide exposure to cement market outside India though it is likely to adversely impact the profitability in the medium term. UltraTech has acquired the management control of ETA Star Cement at an EV INR1.7bn (at EV/tonne of USD120). ETA Star Cement’s manufacturing facilities include a 2.3mtpa clinkerisation plant, and 2.1mtpa of cement grinding capacity in the UAE, 0.4mtpa and 0.5mtpa of cement grinding capacity in Bahrain and Bangladesh respectively. The acquisition of ETA Star Cement has provided the company an opportunity to explore cement market outside India. However, due to low profitability in Middle East vis a vis India, the acquisition is likely to act as a drag. Nevertheless, due to small size of acquisition, we expect its impact on overall profitability to be marginal. We expect the acquisition will dilute FY12 EBITDA margins by 20 bps and RoCE by 30 bps.

 

Dependence on imported coal to heighten cost stress

Post restructuring, free float is no longer an issue for UltraTech who will be a pan India player, and will enjoy a better regional mix as compared to ACC. UltraTech will have 23% of its capacity in low price southern region as

Power and fuel costs constitute ~24% of cost of goods sold for UltraTech which meets 29% (on a consolidated basis) of its fuel requirements through imports. The prices

 

Elara Securities (India) Private Limited 

27

Ultratech Cement of imported coal have increased by 42% YoY (7.6% QoQ) due to an improvement in the global sentiment. Thus the hike in power and fuel costs will partly lessen the benefit of saving from CPP. Exhibit 8: Fuel mix: Dependent on imported coal Company

Domestic Coal (%)

FY10 Net Debt Equity (x)

0.3

0.1

31,279

39,894

FY10

FY11E

FY12E

16,856

25,799

29,740

(752)

(1,295)

895

Operating Cash Flow

16,104

24,504

30,635

Less:- Capex

(2,592)

(18,867)

(15,430)

Free Cash Flow

13,512

5,637

15,205

Free Cash Flow as a % of Mcap

10

2

5

Free Cash Flow as a % of EV

10

2

5

Source: Company, Elara Securities Estimates

Imported Petcoke (%) Other (%) Coal (%)

Exhibit 10: Summary of free cash flow INR mn

15

0

0

UltraTech

62

29

9

0

Cash profit adjusted for non cash items

0

0

100

0

Add/Less : Working Capital Changes

45

55

0

0

JK Lakshmi

0

0

90

10

JK Cement

10

0

90

0

100

0

0

0

70

30

0

0

Orient Paper Ambuja

Source: Company, Elara Securities Research

Healthy balance sheet, capex to take off smoothly UltraTech had a comfortable net debt equity ratio, of 0.3x at the end of FY10. The company also had gross cash and equivalents of INR17.5bn. Lower debt equity ratio bigger and stronger balance sheet will enable the company to smoothly fund it’s next round of expansion. The company has announced brownfield expansions aggregating to 9.2mn tonnes at Chhattisgarh and Karnataka units with related grinding units and bulk terminals at the investments of INR56bn. Post the implementation of expansion UltraTech Cement (consolidated) capacity will increase to 61.6mn tonnes from 52.4mn tonnes at present. The aggressive expansion by the company will enable the AV Birla group to maintain its market share at close to 18% in domestic market.

 

FY12E

0.3

85

India Cement

FY11E

17,533

Gross Cash & Investments(INR mn)

ACC

Shree Cement

28

Exhibit 9: Key balance sheet ratios

Source: Company, Elara Securities Estimates

Key risk Increase in fuel prices More than expected increase in coal prices may adversely affect profitably of the company. Sharp decline in cement prices Cement prices may decline due to slow down in cement demand or bunching up of capacities addition.

 

Elara Securities (India) Private Limited

Ultratech Cement

Valuation & Recommendation ‰ At EV/tonne of USD139, restructuring gets priced in ‰ Initiating coverage with Reduce, target price of INR1,139 on limited upside visibility ‰ Valuing at EV/tonne of USD140 on FY12 capacity, at par with Ambuja

Traditionally UltraTech has traded at a discount to the other large cap peers viz. Ambuja and ACC. However, with the consolidation of Grasim’s cement business and steps to address operational inefficiencies, we believe, the valuation discount between these players will narrow down. We have valued the grey cement business of UltraTech at an upcycle EV/tonne valuation of USD140/tonne. We have used a conservative valuation multiple of USD186/tonne for its white cement business. The white cement business is characterized by significantly higher realizations (~4.6x as that of grey cement) as well as EBITDA. Accordingly we arrive at a valuation of INR 1,139 which leaves an upside of ~2% in the stock.

Exhibit 11: EV/tonne based valuations FY12E Grey Cement Capacity

mn tonnes

EV /tonne multiple

USD/tonne

Grey Cement business EV

INR Mn

48.8 140 307,440

White Cement Capacity

mn tonnes

0.6

EV /tonne multiple

USD/tonne

186

White Cement business EV

INR mn

5,022

EV

INR mn

312,462

Less: Net Debt

INR mn

(1,920)

Target Market Capitalization

INR mn

314,382

Diluted Shares outstanding

mn

Target Price

INR/ share

1,139

Current Market Price

INR/ share

1,122

Potential Upside/(downside)

(%)

Cement

Valuations

276

1.5

Source: Company, Elara Securities Estimates

 

Elara Securities (India) Private Limited 

29

Ultratech Cement

Company description UltraTech Cement Limited, the erstwhile L&T Cement, is India’s leading cement player. It is also one of the largest exporters of cement clinker from India. Post the merger of Samruddhi Cement, UltraTech has emerge as the world ninth largest manufacturer having capacity of 52.4mn tonnes - more than double the capacity of distinct second and third players - ACC and Ambuja - in the cement industry. UltraTech will have presence in all five regions in India.

Board of Directors & Management Kumar Birla, Non-Executive Chairman

O Puranmalka - Whole-time Director

Kumar Mangalam Birla is Non-Executive Chairman of the Board of UltraTech. He obtained his MBA degree from London Business School.

O Puranmalka has been appointed the Group Executive President, Chief Marketing Officer and Whole-time Director of UltraTech, effective April 01, 2010.

K C Birla - Chief Financial Officer K C Birla is the Chief Financial Officer and Senior Executive President of UltraTech.

30

 

Elara Securities (India) Private Limited

Ultratech Cement

Coverage History 1,400 1,200

1

1,000 800 600

200

Not Covered

Date 1

Rating

02-Nov-2010 Reduce

Target Price

Closing Price

INR1,139

INR1,122

Covered

Nov-10

Oct-10

Sep-10

Aug-10

Jul-10

Jun-10

May-10

Apr-10

Mar-10

Feb-10

Jan-10

Dec-09

Nov-09

Oct-09

Sep-09

Aug-09

Jul-09

Jun-09

May-09

Apr-09

Mar-09

Feb-09

Jan-09

Dec-08

Nov-08

Oct-08

Sep-08

Aug-08

Jul-08

Jun-08

May-08

Apr-08

0

Cement

400

Guide to Research Rating BUY

Absolute Return >+20%

ACCUMULATE

Absolute Return +5% to +20%

REDUCE

Absolute Return -5% to +5%

SELL

Absolute Return < -5%

 

 

Elara Securities (India) Private Limited 

31

Ultratech Cement 

 

Notes

32

 

Elara Securities (India) Private Limited

9 November 2010

India | Cement

Initiating Coverage 

 

 

Melody from clinker

Rating : Sell

Capacity expansion to drive volume growth

Target Price : INR119 Downside : 20% CMP : INR148 ( As on 2 November 2010)

Ambuja Cements Limited (Ambuja) would complete its expansion in CY10 to take the total cement grinding capacity to 27mn tonnes. In Q1CY10, the grinding capacity of the company rose to 25mn tonnes (from 22mn tonnes), and is expected to be 27 mn tonnes by end of CY11. However, the clinker capacity of the company will remain at 16.7mn tonnes enabling the company to produce up to 25mn tonnes of cement. We expect this to lead to a 9.4% volume CAGR over CY0911. On the back of volume growth, we expect earnings to grow at a CAGR of 4.6% despite the subdued pricing regime and higher cost of production.

Key data* Bloomberg /Reuters Code Current /Dil. Shares O/S (mn) Mkt Cap (INRbn/US$mn) Daily Vol. (3M NSE Avg.) Face Value (INR)

ACEM IN/ABUJ.BO 1,524/1,524 226/5,099 2,107,833 2

1 US$= INR44.4 Source: Bloomberg ; * As on 2 November 2010

Price & Volume

Lower clinker purchases to cushion margins

150

Ambuja’s CY09 earnings were depressed due to the purchase of clinker from the open market. With its 4.6mn tonnes clinker capacity that came on stream in Q1CY10, we expect the company to save ~INR165/tonne in CY10 and ~INR236/tonne in CY11. Hence EBITDA margins of Ambuja are expected to hold around 25-28% in CY10 as well as in CY11 despite an increase in cost per tonne (ex raw material) at a CAGR of 5.2% between CY09 and CY11.

15

130

10

110 5

90 70

0

Oct-09 Mar-10 Vol. in mn (RHS)

Dependence on imported coal to neutralize savings from clinker

Jul-10 Nov-10 Ambuja Cement (LHS)

Source: Bloomberg

Power and fuel costs constitute ~26% of Ambuja’s cost of goods sold. Ambuja meets 30% of its fuel requirements through imports. The prices of imported coal have increased by 42% YoY. Thus any increase in power and fuel cost will partly neutralize the benefit of saving from lower clinker purchase.

Share holding (%)

Q4CY09 Q1CY10 Q2CY10 Q3CY10

Promoter

46.4

46.4

46.4

46.4

Institutional Investors

39.8

40.7

41.5

42.4

Other Investors

4.7

4.3

3.6

3.3

General Public

9.1

8.6

8.6

7.9

Source: BSE

Favorable regional mix: Absence in South to be a boon

Price performance (%)

We like Ambuja’s regional mix as it does not have any presence in the Southern region - which is expected to have the worst demand supply equation. Ambuja has better a regional mix than the other large cap players hence will be better off as compared to the rest.

Valuation

3M

6M

12M

Sensex

12.3

17.0

32.1

Ambuja Cements

26.4

23.1

74.7

Ultratech

30.1

17.5

51.5

ACC

28.0

17.5

51.9

Source: Bloomberg

At the CMP of INR148, Ambuja is trading at 17.2x and 16.9x its CY10 and CY11 earnings, respectively. On an EV/tonne basis, it is trading at USD184/tonne and USD180/tonne of its CY10 and CY11 capacities, respectively. The stock is currently trading at a premium to its replacement cost as well as large cap peers having a pan India presence. Although, Ambuja has the benefits of efficient operations and possibilities of volume growth, we believe, the stock price has already factored in both. Current valuations are already close to the average peak EV/tonne that Ambuja has traded at. Therefore, considering the steel valuations and steep premium to its large cap peers as well as replacement cost, we initiate coverage of Ambuja Cements with a Sell rating and a target price of INR119.

Stock performance 180 Rebaed to 100

Global Markets Research

Ambuja Cements

160 140 120 100 80 Nov-09

Feb-10

May-10

Ambuja

Aug-10

Nov-10

Sensex

Source: Bloomberg 

Key Financials Y/E Dec (INR mn) CY08 CY09 CY10E CY11E

 

Rev YoY (%) EBITDA 62,347 9.3 17,087 70,769 13.5 18,669 76,429 8.0 21,226 87,701 14.7 21,998

EBITDA (%) 27.4 26.4 27.8 25.1

Adj PAT 11,335 12,184 13,103 13,334

YoY (%) Fully DEPS (9.8) 7.4 7.5 8.0 7.5 8.6 1.8 8.8

RoE (%) 21.9 20.1 18.8 16.8

P/E (x) EV/tonne (USD) EV/EBITDA (x) 19.9 260.4 12.7 18.5 213.6 11.3 17.2 184.5 9.8 16.9 179.8 9.2

Source: Company, Elara Securities Estimate 

Ravindra Deshpande • [email protected] • +91 22 4062 6805 Ravi Sodah • [email protected] • +91 22 4062 6817 Elara Securities (India) Private Limited

Ambuja Cements Valuation trigger

 

Investment summary ƒ

Cement expansion to drive volume growth

ƒ

Lower clinker purchases to support margins

ƒ

Favorable regional mix

ƒ

Healthy balance sheet

Decline in cement prices

160 140 1

120

2

100 80 60 Target price reached

40

  Valuation trigger

20

1. Decline in cement prices Oct-11

Jun-11

Aug-11

Apr-11

Feb-11

Oct-10

Dec-10

Jun-10

Aug-10

Apr-10

Feb-10

Oct-09

Dec-09

Jun-09

Aug-09

Apr-09

Feb-09

Oct-08

Dec-08

Jun-08

Aug-08

Apr-08

0

Key risks

Source: Bloomberg, Elara Securities Estimates

Valuation overview - EV/tonne based valuations CY11E Grey Cement Capacity

mn tonnes

25.0

EV /tonne multiple

USD/tonne

140

Target EV

INR mn

157,500

Less: Net Debt

INR mn

(23,649)

Target Market Capitalizations

INR mn

181,149

Diluted Shares outstanding

mn

Target Price

INR/ share

Current Market Price

INR/ share

Potential Upside/(downside)

(%)

 

1,524 119 148

ƒ

Sharp decline in cement prices

ƒ

Slow down in cement demand

  Our assumptions ƒ

Cement Volume to grow at a CAGR of ~9.4%

ƒ

Cost per tonne to increase at a CAGR of 2.6%

ƒ

Realizations to increase at a CAGR of 1.7%.

(19.8)

Source: Company, Elara Securities Estimates

Valuation driver - EV/tonne , RoE and RoCE 300

60

200

40 (%)

(EV/tonne)

250

150 100

20

50 0 FY95 FY96 FY97 FY98 FY99 FY00 FY01 FY02 FY03 FY04 FY05 FY06 CY07 CY08 CY09 CY10E CY11E

0

EV/Tonne (USD) (RHS)

ROE(%) (LHS)

ROCE (%) (LHS)

Source: Elara Securities Research

 

34

 

Elara Securities (India) Private Limited

Ambuja Cements

Financials (Y/E Dec)

Cash Flow Statement (INR mn) Cash profit adjusted for non cash items Add/Less : Working Capital Changes Operating Cash Flow Less:- Capex Free Cash Flow Financing Cash Flow Investing Cash Flow Net change in Cash Ratio Analysis Income Statement Ratios (%) Revenue Growth EBITDA Growth PAT Growth@ EBITDA Margin Net Margin@ Return & Liquidity Ratios Net Debt/Equity (x) ROE (%) ROCE (%) Per Share data & Valuation Ratios Diluted EPS (INR/Share) EPS Growth (%) DPS (INR/Share) P/E Ratio (x) EV/EBITDA (x) EV/Sales (x) EV/tonne (USD) Dividend Yield (%)

CY11E 87,701 21,998 2,210 24,208 5,071 19,137 88 19,049 5,715 13,334 13,334

CY08

CY09

CY10E

CY11E

3,049 53,680 2,887 3,808 63,423 57,069 25,142 31,928 19,472 3,324 8,657 43 63,423

3,050 61,659 1,657 4,858 71,225 62,241 27,841 34,400 27,144 7,270 2,383 27 71,225

3,051 71,306 657 4,858 79,872 97,386 32,223 65,162 1,000 7,270 6,413 27 79,872

3,051 80,914 657 4,858 89,480 107,886 37,294 70,592 500 7,270 11,091 27 89,480

CY08

CY09

CY10E

CY11E

12,274 (2,612) 9,662 (16,415) (6,753) (4,821) 13,666 2,093

14,525 6,562 21,087 (12,844) 8,243 (4,859) (3,093) 291

16,531 (1,089) 15,442 (9,000) 6,442 (5,086) 1,585 2,941

17,057 609 17,665 (10,000) 7,665 (3,814) 1,436 5,287

CY08

CY09

CY10E

CY11E

Revenue & margins growth trend 27.8

100,000

28

27.4

90,000 80,000

27

26.4

(%)

CY10E 76,429 21,226 2,158 23,383 4,382 19,001 345 18,656 5,553 13,103 286 13,388

70,000

26

60,000

25.1

50,000

25

CY08 CY09 Net Revenues (LHS)

CY10E CY11E EBITDA Margin (RHS)

Source: Company, Elara Securities Estimates

  Adjusted profits growth trend 7.5

15,000

7.5

10 1.8

14,000 13,000 12,000

0 (5)

(9.8)

11,000

(10)

10,000

(15) CY08

CY09

Adjusted PAT (LHS)

CY10E

CY11E PAT Growth (RHS)

Source: Company, Elara Securities Estimates

  Return ratios 30

27.7

27.1 25.2

25

20

22.6 21.9 20.1

18.8

15

9.3 (16.4) (9.8) 27.4 18.2

13.5 9.3 7.5 26.4 17.2

8.0 13.7 7.5 27.8 17.1

14.7 3.6 1.8 25.1 15.2

(0.2) 21.9 27.7

(0.2) 20.1 27.1

(0.2) 18.8 25.2

(0.3) 16.8 22.6

7.4 (9.8) 2.2 19.9 12.7 3.5 260.4 1.5

8.0 7.4 2.4 18.5 11.3 3.0 213.6 1.6

8.6 7.5 2.1 17.2 9.8 2.7 184.5 1.4

8.8 1.8 2.1 16.9 9.2 2.3 179.8 1.4

5

Cement

Share Capital Reserves Borrowings Deferred Tax (Net) Total Liabilities Gross Block Less:- Accumulated Depreciation Net Block Add:- Capital work in progress Investments Net Working Capital Miscellaneous Expenses not written off Total Assets

CY09 70,769 18,669 2,558 21,227 2,970 18,257 224 18,033 5,849 12,184 12,184

(%)

Balance Sheet (INR mn)

CY08 62,347 17,087 1,754 18,841 2,598 16,243 321 15,923 4,588 11,335 2,688 14,023

(INR mn)

Net Revenues EBITDA Add:- Non operating Income OPBIDTA Less :- Depreciation & Amortization EBIT Less:- Interest Expenses PBT Less :- Taxes Adjusted PAT Add/Less: - Extra-ordinaries Reported PAT

(INR mn)

Income Statement (INR mn)

CY08

CY09 ROE (%)

CY10E

16.8 CY11E

ROCE (%)

Source: Company, Elara Securities Estimates

   

Strong balance sheet position with net cash per share of INR16 (CY11E)

Trading at steep premium to its peers, replacement cost

@ On adjusted bottomline Source: Company, Elara Securities Estimates

   

Elara Securities (India) Private Limited 

35

Ambuja Cements Ambuja Cements

Investment rationale ‰ To grow faster than industry in CY11 on capacity addition ‰ Lower clinker purchases to cushion profitability ‰ Strategically placed in high-growth Northern, Central and Eastern regions

400

140

(400) (800) (1,200)

2

Ambuja does not have a presence in the Southern region which is expected to have worst demand supply equations. About ~63% of the company’s capacity is located in the fast growing Northern, Eastern and Central regions. As compared to the all India growth of 12.1%, Northern, Central and Eastern region grew by 17.7%, 15.8% and 13.6% respectively. Furthermore we expect these Central and Eastern regions to have better pricing environments as compared to other regions in India. The average capacity utilization of Eastern and Central region is likely to be 1,400 bps and 900 bps higher than pan India. The capacity utilization of the North and Western region is expected to be very close to pan India average. Exhibit 3: Key markets report better growth in FY10 20

(%)

Lower clinker purchases to cushion margins

15.8

13.6

12

12.1

10.1

8.7

8.6

8 4 0 North

Due to mismatch between cement and clinker capacity, Ambuja had to purchase 1.7 mn tonnes of clinker from the open market. In Q1CY10 Ambuja commissioned clinker capacity of 4.6mn tonnes (at Himachal Pradesh and Chhattisgarh), taking clicker capacity to 16.7mn tonnes (current grinding capacity stands at 25mn tonnes). We expect the company to save INR165 per tonne in CY10 and INR236 per tonne in CY11. Saving from the clinker purchase will cushion the margins of the company from fall in cement realizations. Thus in our coverage universe, only Ambuja and OPI are expected to report an improvement in EBITDA margins in CY10/FY11.

17.7

16

Sothern

However, Ambuja’s efforts to expand capacities would enable it to grow its cement volume better than the industry average. In Q1CY10, the company has added two grinding units of 1.5mn tonne each at Nalgarh (HP) and Dadri (UP), increasing the grinding capacity to 25mn tonnes. It also plans to add another grinding unit of 1mn tonne each at Maharashtra and Chhattisgarh by the end of CY10, taking the cement capacity to 27mn tonnes. Thus, we expect Ambuja to post volume growth of 12.5% as compared to 10.4% of the industry in CY11. On the back of volume growth, we expect earnings of the company to grow at a CAGR of 4.6%.

Western

Source: Company, CMA, Elara Securities Research

All India ( ex ACC & ACL India) All India ( Inc ACC & ACL India)

CY09 ACL

Eastern

CY08 Industry

 

OPI

Favorable regional mix CY07

36

Ambuja

Source: Company, Elara Securities Research

4

Central

(%)

8

UltraTech

10

ICL

(1,410) SCL

(1,600)

(1,050)

(670) (620) (620)

ACC

12

(870)

JKL

Exhibit 1: ACL had moderate volume growth in past

6

130

0

JKCEM

For past three years, Ambuja’s cement volume grew at a CAGR 6% (as compared to 8.7% for the industry) due to capacity constraints and mismatch in clinker and cement capacity.

Exhibit 2: Ambuja to show improvement in margins

(bps)

Capacity addition to enhance volume

Source: CMA, Elara Securities Research

 

Elara Securities (India) Private Limited

Ambuja Cements Exhibit 4: Central zone dominates utilization in FY10

INR mn

104

Cash profit adjusted for non cash items

(%)

100

Add/Less : Working Capital Changes Operating Cash Flow

90

90 80

CY09

84

84

Less:- Capex

84

70 Sothern Western Eastern All India

North

14,525

16,531

17,057

6,562

(1,089)

609

21,087

15,442

17,665

(9,000) (10,000)

8,243

6,442

7,665

Free Cash Flow as a % of Mcap

4

3

3

Free Cash Flow as a % of EV

4

3

4

Source: Company, Elara Securities Estimates

Central

Source: CMA,, Elara Securities Research

Thus, Ambuja has a better regional mix than other large cap players. Exhibit 5: Focal presence in high growth North Centeral, 7 %

However, we do not expect the company to earn cash yield of more than 8% on its investments. Cement business is expected to earn RoCE of ~28%. Thus increase in proportion of cash in the balance sheet is expected to pull down the blended return ratios of the company. We expect the RoCE of Ambuja to decline from 23.4% in CY09 to 25.2% in CY10 and further to 22.6% in CY11. Dependence on grid, generators set to reduce

North, 42% West, 37%

East, 14% Source: Company, Elara Securities Research

Healthy balance sheet Ambuja has the strongest balance sheet among its peers. At the end of CY09, it had a net debt equity ratio of -0.22. As the operating cash flows of the company are likely to be much higher than its capex , we expect the company to generate free cash flow of INR14.1 bn over the next two years. Thus the net cash and investment of the company would increase from INR14.4bn at end of CY09 to INR23.6bn (INR16 per share, i.e. 10% of CMP) by the end of CY11. Free cash to firm as a percentage of EV is expected to be 4% in CY11. Exhibit 6: Key balance sheet data Net Debt Equity (x)

CY11E

(12,844)

Free Cash Flow

75

CY10E

Cement

110

Exhibit 7: Summary of free cash flow

CY09

CY10E

CY11E

(0.22)

(0.25)

(0.28)

Gross Cash & Investments(INR mn)

16,077

19,018 24,306

Net Cash & Investments(INR mn)

14,420

18,361 23,649

Net Cash & Investments(per share)

9

12

16

Net Cash & Investments as a % of CMP

6

8

10

In past 15 months, Ambuja has commissioned 93MW of CPP(15MW at Bhatapara in Chhattisgarh, 15MW at Maratha in Maharashtra, 33MW at Bhatapara in Chhattisgarh and 30MW at Ambujanagar in Gujarat ). The total power capacity of the company now stands at 400MW (265MW thermal and 135MW DG). On account of new thermal capacity coming on stream, dependence on grid and DG sets is expected to reduce. We expect company to save INR342mn (INR17 per tonne) in CY10 and INR720mn (INR 29 per tonne) in CY11. Apart from this we expect company to earn EBITDA of INR 125.4 mn, INR 84.6 mn in CY11 from sale of power. Exhibit 8: Source of power (%) CY09

CY10E

CY11E

Grid

20

3

3

DG

15

2

2

Thermal-CPP

65

95

95

Source: Company, Elara Securities Estimates

 

Source: Company, Elara Securities Estimates

 

Elara Securities (India) Private Limited 

37

Ambuja Cements Exhibit 12: Imported coal inflates power costs 315

3.6

310 305

3.6

300

3.5

295

3.5

290

3.4

285

3.4

280 CY10E

963

1,000 900

857

800

757

700

CY11E

600

Blended electricity cost (LHS) Electricity cost per tonne (RHS)

CY09

CY10E

CY11E

Source: Company, Elara Securities Estimates

Exhibit 10: Revenue, profit from merchant power

Exhibit 13: Imported coal prices remain firm

Mn KWh

CY09

CY10E

CY11E

75

79

83

INR mn

Baltick dry Index

Source: Company, Elara Securities Estimates

14,000 12,000 10,000 8,000 6,000 4,000 2,000 0

200 150

Revenue

425

394

372

Cost

248

269

288

EBITDA

177

125

85

42

33

29

Revenue

6

5

5

Baltick dry index (LHS)

Cost

3

3

3

Source: Bloomberg, Elara Securities Research

EBITDA

2

2

1

Key risk

Per Unit

Source: Company, Elara Securities Estimates

Ambuja meets 30% of its fuel requirements through imports. Prices of imported coal have gone up YoY by 42% due to recovery in the global economy. Prices of domestic coal on the other hand have increased by only 10%-11%. Thus despite decline in raw material cost at a CAGR of 22.7%, the total cost per tonne is expected to increase at a CAGR of 2.6%. Exhibit 11: Fuel Mix Domestic Coal (%)

Imported Coal (%)

Petcoke (%)

Other (%)

ACC

85

15

0

0

Ultra Tech Cement

62

29

9

0

Shree Cement

0

0

100

0

India Cement

45

55

0

0

0

0

90

10

JK Lakshmi JK Cement Orient Paper Ambuja Cement

0

Richards Bay Coal Spot (RHS)

Sharp increase in cement prices

Reliance on imported coal to intensify cost pressure

Company

50

Apr-07 Jun-07 Sep-07 Dec-07 Mar-08 May-08 Aug-08 Nov-08 Feb-09 May-09 Jul-09 Oct-09 Jan-10 Apr-10 Jun-10 Sep-10

EBITDA margins(%)

100

Internatinoal Coal Prices

CY09

1,100

(INR per tonne)

3.7

(INR per tonne)

(kWh)

Exhibit 9: CPP slashes electricity costs

10

0

90

0

100

0

0

0

70

30

0

0

A higher than anticipated improvement in cement prices may improve the profitability of the company. One per cent increase in cement prices will augment the earnings of the company by 3.4% Faster ramp-up of new plant Any significant ramp-up in cement volumes, higher than our current estimates, will put our earnings estimates at risk.

Source: Company, Elara Securities Research *Higher as compared to peers due to production of white cement

38

 

Elara Securities (India) Private Limited

Ambuja Cements

Valuation & Recommendation ‰ Stock trades at 80% premium to its replacement cost, steep premium to peers ‰ Initiating coverage with Sell, target price of INR119 for its unwarranted valuation ‰ Valuing company at EV/tonne of USD140 per tonne on CY11 capacity

At the CMP of INR 148, Ambuja is trading at 17.2x and 16.9x its CY10 and CY11 earnings, respectively. On an EV/tonne basis, it is trading at USD184/tonne and USD180/tonne of its CY10 and CY11 capacities, respectively. The stock is presently trading at a whopping 80% premium to its replacement cost. We believe that such huge premium is unjustified for any cement company in the downturn. In terms of relative valuations, Ambuja is trading at ~38% premium to other frontline cement companies. We believe going ahead, the valuation gap between Ambuja and other large cap companies will reduce, particularly post restructuring UltraTech. Thus, we are initiating coverage on Ambuja with a SELL rating and a target price of INR 119. We have valued the company at EV /tonne of USD 140 on CY11 capacity of 25mn tonnes (though company will have grinding capacity of 27mn tonnes, 2mn tonnes of grinding capacity will be purely for logistic purpose).

 

Elara Securities (India) Private Limited 

Exhibit 14: EV/tonne based valuations CY11E Grey Cement Capacity

mn tonnes

25.0

EV /tonne multiple

USD/tonne

140

Target EV

INR mn

157,500

Less: Net Debt

INR mn

(23,649)

Target Market Capitalization

INR mn

181,149

Diluted Shares outstanding

mn

Target Price

INR/ share

Current Market Price

INR/ share

Potential Upside/(downside)

(%)

1,524 119 148

Cement

Valuation

(19.8)

Source: Company, Elara Securities Estimates

   

39

Ambuja Cements

Company Description Ambuja Cements Limited was set up in 1986. The company is controlled by the Holcim group, which owns ~46%. The total capacity of the company, as on CY09, is 25 mn tonne with a 400 MW of captive power capacity. Ambuja has a presence in the north, east and western regions of India. Its plants are situated in Gujarat, Maharashtra, Himachal Pradesh, Punjab, Rajasthan, Uttarakhand, Chhattisgarh and West Bengal. Ambuja has bulk cement terminals at Muldwarka (Gujarat), Panvel, Navi Mumbai,Kochi and Surat. Ambuja is one of the major exporters of cement in India. The company largely exports to the Middle East.

Board of Directors & Management Narotam Sekhsaria, Non-Executive Chairman Narotam Sekhsaria is the Non-Independent NonExecutive Chairman of the Board of Ambuja effective from September 24, 2009. Sekhsaria holds a Bachelor's Degree in Chemical Engineering from the University of Bombay. He was the founder promoter and the Chief Executive and Managing Director of the company since its inception in April 1983 till January 2006. Sekhsaria relinquished the post of Managing Director when the management control was transferred to Holcim. In September 2009, he was appointed as Non-executive Chairman after Suresh Neotia relinquished the post of Chairman. Paul Hugentobler - Vice Chairman Paul Heinz Hugentobler serves as Non-Independent Non-Executive Director of Ambuja and has been appointed this position effective from September 24, 2009. Hugentobler obtained a degree in civil engineering from the Swiss Federal Institute of Technology, ETH, Zurich, and a degree in economic science from the University of St. Gallen. He joined

40

 

Holcim Group Support Limited as CEO of Siam City Cement, Bangkok, Thailand. He has been a Member of the Executive Committee of Holcim since January 2002 with responsibility for South Asia and ASEAN excluding Philippines. He joined the Board in May 2006. Onne Van Der - Managing Director Onne Van Der Weijde serves as CEO - Designate, Whole Time Director of Ambuja since February 17, 2010, and has been appointed as Managing Director effective May 1, 2010. He joined the Board as Non-executive Director in January 2009. Onne holds a Bachelors' degree in Economics & Accounting from Rotterdam, the Netherlands and a Master's degree in Business Administration from the University of Bradford, UK. In the year 1996 he joined Holcim and after holding various positions, he was appointed Director and General Manager for Holcim (India) Private Limited. in March 2005. He was the CFO of ACC for around 2 years during 2006-2008. He possess more than 15 years of experience in cement industry including 5 years in Indian cement industry.

Elara Securities (India) Private Limited

Ambuja Cements

Coverage History 160

1

140 120 100 80 60

20

Not Covered

Date 1

Rating

02-Nov-2010 Sell

Target Price

Closing Price

INR119

INR148

Covered

Oct-10

Nov-10

Sep-10

Aug-10

Jul-10

Jun-10

May-10

Apr-10

Mar-10

Jan-10

Feb-10

Dec-09

Nov-09

Oct-09

Sep-09

Aug-09

Jul-09

Jun-09

May-09

Apr-09

Mar-09

Feb-09

Jan-09

Dec-08

Nov-08

Oct-08

Sep-08

Aug-08

Jul-08

Jun-08

May-08

Apr-08

0

Cement

40

Guide to Research Rating BUY

Absolute Return >+20%

ACCUMULATE

Absolute Return +5% to +20%

REDUCE

Absolute Return -5% to +5%

SELL

Absolute Return < -5%

   

 

 

41

Ambuja Cements

 

Notes

42

 

Elara Securities (India) Private Limited

9 November 2010

India | Cement

Initiating Coverage 

 

 

In the region of comfort

Rating : Accumulate

Pan-India presence to reduce regional risks

Target Price : INR1,123 Upside : 6% CMP : INR1,062 ( As on 2 November 2010)

ACC Limited (ACC) has a presence in all five regions of India, hence runs a lower regional risk as compared to other major cement players. Out of the total ~27.5 mn tonnes of capacity, 36% is in South India, where, we believe due to the surplus situation, pricing power will be the lowest. However, we consider that the presence of the company in other regions with a better demand supply situation (23% in Eastern region and 19% in Central region) will improve its overall profitability. Thus, the pan-India presence of the company will insulate it from regional risks. Reliance on domestic coal to insulate margins from rising costs Power and fuel costs constitute ~27% of the ACC’s cost of goods sold. The company meets 85% (75% through linkages) of its fuel requirement through the domestic coal. Prices of domestic coal are not as volatile as that of imported coal. Thus dependence on domestic coal provides a greater cost visibility to ACC as compared to its peers. Prices of imported coal have increased ~42% YoY. We believe that ACC will have a cost advantage of ~INR 96/ tonne as compared to players depending on imported coal, and INR103/ tonne as compared to players dependent on petcoke.

Key data* Bloomberg /Reuters Code Current /Dil. Shares O/S (mn) Mkt Cap (INRbn/USDmn) Daily Vol. (3M NSE Avg.) Face Value (INR)

ACC IN/ACC.BO 188/188 200/4,495 432,034 10

1 USD= INR44.4

Source: Bloomberg ; *  As on 2 November 2010

Price & Volume 1,100

4

1,000

3

900

2

800

1

700 600

0

Oct-09 Mar-10 Vol. in mn (RHS)

Jul-10

Nov-10 ACC (LHS)

Source: Bloomberg

Healthy balance sheet to support distress acquisitions

Share holding (%)

At the end of CY09, ACC had a net cash and investment of INR16.6bn and net debt equity ratio of -0.15. We expect ACC to generate free cash flow of INR11.3bn over next two years. Thus, the net cash and investment of the company is expected to increase to ~INR28.5 bn (INR 152 per share, i.e. 14% of CMP) by end of CY11. Strong balance sheet will also enable the company to capitalize on any distress opportunity that might be available in the down turn.

Q4CY09 Q1CY10 Q2CY10 Q3CY10

Promoter

46.2

46.2

46.2

46.2

Institutional Investors

32.0

32.4

32.8

33.1

Other Investors

6.3

6.2

5.9

6.1

General Public

15.5

15.2

15.1

14.6

Source: BSE

Price performance (%)

3M

6M

12M

Sensex

12.3

17.0

32.1

ACC

28.0

17.5

51.9

Ultratech

30.1

17.5

51.5

Ambuja

26.4

23.1

74.7

Source: Bloomberg

Valuation At the CMP of INR 1,062 per share, the stock is trading at 16.7x and 15x its CY10 and CY11 earnings, respectively. It is trading at EV/tonne of USD131 and USD122 of its CY10 and CY11 capacities, respectively. With narrowing of the gap in debt equity ratio and EBITDA per tonne between ACC and Ambuja, we expect that the valuations gap between the two also to narrow down further. (Kindly refer to Exhibit no. 12 and Exhibit no. 13 on page no 49). Thus we are initiating our coverage on ACC with Accumulate rating and a price target of INR1,123 per share. We have valued the company at USD133 on CY11 capacity.

Stock performance 160 Rebased to 100

Global Markets Research

ACC

140 120 100 80 Nov-09

Feb-10

May-10

ACC

Aug-10

Nov-10

Sensex

Source: Bloomberg 

Key Financials Y/E Mar (INR mn) CY08 CY09 CY10E CY11E

Rev

YoY (%)

EBITDA

EBITDA (%)

Adj PAT

73,086 80,272 77,346 91,932

4.5 9.8 (3.6) 18.9

17,332 24,531 18,426 21,459

23.7 30.6 23.8 23.3

11,737 15,881 11,940 13,265

YoY (%) Fully DEPS (7.5) 35.3 (24.8) 11.1

62.5 84.5 63.5 70.6

RoE (%) 25.9 29.0 18.5 17.9

P/E (x) EV/tonne (USD) EV/EBITDA (x) 17.0 12.6 16.7 15.0

176.5 149.8 130.7 121.5

10.8 7.5 10.2 8.0

Source: Company, Elara Securities Estimates

 

Ravindra Deshpande • [email protected] • +91 22 4062 6805 Ravi Sodah • [email protected] • +91 22 4062 6817 Elara Securities (India) Private Limited

ACC

Valuation trigger

  Ramp up of Maharashtra cement capacity

Ramp up of Karnataka cement capacity

1,200 1

3

2

Investment summary ƒ

Pan-India presence to reduce regional risks

ƒ

Dependence on domestic coal to provide cost advantage

ƒ

Healthy balance sheet

1,000 800 600

Target price reached

400

Valuation trigger

200

1. Ramp up of Karnataka cement capacity Oct-11

Jun-11

Aug-11

Apr-11

Feb-11

Oct-10

Dec-10

Jun-10

Aug-10

Apr-10

Feb-10

Oct-09

Dec-09

Jun-09

Aug-09

Apr-09

Feb-09

Oct-08

Dec-08

Jun-08

Aug-08

Apr-08

0

2. Ramp up of Maharashtra capacity

cement

Source: Bloomberg, Elara Securities Estimates

Key risks Valuation overview - EV/tonne based valuations CY11E Capacity

mn tonnes

30.5

EV /tonne multiple

USD/tonne

133

EV

INR mn

182,543

Less: Net Debt

INR mn

(28,487)

Target Market Capitalization

INR mn

211,030

Diluted Shares outstanding

mn

ƒ

Sharp decline in cement prices

ƒ

Slow down in cement demand

Our assumptions ƒ

Cement volume to grow at a CAGR of ~5.7%

ƒ

Cost per tonne to increase at a CAGR of 6.4%

ƒ

Realizations to increase at a CAGR of 1.5%.

188

Target Price

INR/ share

1,123

Current Market Price

INR/ share

1,062

Potential Upside/(downside)

(%)

5.7%

Source: Company, Elara Securities Estimates

250

50

200

40 30

150

%

USD/tonne

Valuation driver - EV/tonne , RoE and RoCE

20 100

10

50

0

0 FY95 FY96 FY97 FY98 FY99 FY00 FY01 FY02 FY03 FY04 FY05 CY05 CY06 CY07 CY08 CY09 CY10E CY11E

(10)

EV/Tonne in USD (LHS)

RoNW (RHS)

RoCE (RHS)

Source: Elara Securities Estimates

 

44

  

Elara Securities (India) Private Limited

ACC

Financials (Y/E Dec) 91,932

EBITDA

17,332

24,531

18,426

21,459

2,887

2,411

3,053

3,256

20,219

26,942

21,479

24,715

Add:- Non operating Income OPBIDTA Less :- Depreciation & Amortization EBIT

2,942

3,421

3,953

5,397

17,277

23,521

17,526

19,317

Less:- Interest Expenses PBT Less :- Taxes Adjusted PAT

400

843

579

367

16,878

22,678

16,948

18,950

5,140

6,797

5,008

5,685

11,737

15,881

11,940

13,265

Add/Less: - Extra-ordinaries

391

186

-

-

12,128

16,067

11,940

13,265

Balance Sheet (INR mn)

CY08

CY09

CY10E

CY11E

Share Capital

1,879

1,880

1,880

1,880

47,399

58,282

67,176

77,396

Borrowings

4,820

5,669

5,109

2,049

Deferred Tax (Net)

3,358

3,493

3,493

3,493

Total Liabilities

57,455

69,324

77,658

84,818

Gross Block

58,357

68,263

106,325

109,575

Reported PAT

Reserves

Less:- Accumulated Depreciation

23,660

26,680

30,633

36,030

Net Block

34,697

41,583

75,692

73,545

Add:- Capital work in progress

16,029

21,562

500

250

Investments

Revenue & margins growth trend 100,000

35 30.6

90,000

30

80,000 23.8

23.7

23.3

70,000 60,000

20 CY08

CY09

Net Revenues (LHS)

CY10E CY11E EBITDA Margin (RHS)

Source: Company, Elara Securities Estimate

  Adjusted profits growth trend 35.3

20,000

40 30

15,000 10,000

11.1

10 0

5,000

(10)

(24.8)

(20)

0

(30) CY08

CY09

CY10E

CY11E

14,756

14,756

14,756

(61)

(8,578)

(13,291)

(3,733)

57,455

69,324

77,658

84,818

Source: Company, Elara Securities Estimate

CY08

CY09

CY10E

CY11E

 

16,081

21,857

15,419

17,815

1,003

2,504

(194)

3,667

17,083

24,362

15,225

21,481

(14,762)

(15,154)

(17,000)

(3,000)

2,321

9,208

(1,775)

18,481

(2,971)

(4,546)

(4,184)

(6,472)

Investing Cash Flow

3,058

(6,658)

1,052

1,215

Net change in Cash

2,408

(1,997)

(4,907)

13,224

Ratio Analysis

CY08

CY09

CY10E

CY11E

4.5

9.8

(3.6)

18.9

EBITDA Growth

(9.7)

41.5

(24.9)

16.5

PAT Growth@

(7.5)

35.3

(24.8)

11.1

EBITDA Margin

23.7

30.6

23.8

23.3

Net Margin@

16.1

19.8

15.4

14.4

Net Debt/Equity (x)

(0.3)

(0.2)

(0.1)

(0.3)

ROE (%)

25.9

29.0

18.5

17.9

ROCE (%)

32.8

37.1

23.8

23.8

Total Assets Cash Flow Statement (INR mn) Cash profit adjusted for non cash items Add/Less : Working Capital Changes Operating Cash Flow Less:- Capex Free Cash Flow Financing Cash Flow

Adjusted PAT (LHS)

PAT Growth (RHS)

Return ratios (%) 37.1

40 32.8 30

29.0 20

23.8

23.8

18.5

17.9

CY10E

CY11E

25.9

10

Income Statement Ratios(%)

CY08

Revenue Growth

20

(7.5)

6,791

Net Working Capital

25

Cement

CY11E

77,346

(%)

CY10E

80,272

(%)

CY09

73,086

(INR mn)

CY08

Net Revenues

(INR mn)

Income Statement (INR mn)

CY09 ROE (%)

ROCE (%)

Source: Company, Elara Securities Estimate

   

Return & Liquidity Ratios

Strong cash & investment book

Per Share data & Valuation Ratios Diluted EPS (INR/Share)

62.5

84.5

63.5

70.6

EPS Growth (%)

(7.5)

35.3

(24.8)

11.1

DPS (INR/Share)

37.5

43.2

26.0

26.0

P/E Ratio (x)

17.0

12.6

16.7

15.0

EV/EBITDA (x)

10.8

7.5

10.2

8.0

2.6

2.3

2.4

1.9

176.5

149.8

130.7

121.5

3.5

4.1

2.5

2.5

EV/Sales (x) EV/tonne (USD) Dividend Yield (%)

Trading at a discount to its peers

Source: Company, Elara Securities Estimate

 

  Elara Securities (India) Private Limited 

45

ACC ACC

Investment rationale ‰ Presence in all major regions to temper larger exposure to South ‰ Dependence on domestic coal to shield against volatility in imported fuel prices ‰ Healthy balance sheet

Pan-India presence assuages regional risks ACC, through its 16 plants, has a presence in all five regions of India. Out of total cement capacity of 26 mn tonnes, 23% is in the North, 36% in South, 19% in East, 4% in West and 18% in Central India. Though as of now, the share of the Western region is marginal, it is expected to increase post commissioning of the Chanda plant in Maharashtra. Exhibit 1: Lowest exposure to Western region East 19%

North 23%

West 4%

Central 18% South 36% Source: Company, Elara Securities Research

Exhibit 2: CY11 to improve Western presence East 16%

North 21%

However, we believe that the presence of the company in Eastern and Central regions would improve its overall profitability. We expect these regions to have a better pricing environment as compared to other regions in India. The average capacity utilization of Eastern and Central region is likely to be 1,400 bps and 900 bps (respectively) higher than the pan India average. We expect players having a presence in Central and Eastern regions to earn 21% higher EBIT per tonne as compared to players with a pan India presence. Even data indicates that historically, magnitude and timing of the price decline have been different for various regions of India. Thus with its presence in all five regions, ACC runs a lower regional risk. Lower fuel risk due to dependence on domestic coal

West 15%

South 32%

On a regional basis, ACC has the highest exposure in the Southern region where we expect average capacity utilizations between FY11-FY13 to be 900 bps below the all India average. We also expect prices in the Southern players to earn 36% lower EBIT per tonne than those having a presence in other regions.

Power and fuel costs constitute ~27% of ACC’s the cost of goods sold. It meets 85% (75% through linkage) of its fuel requirement through domestic coal.

 

Central 16%

Source: Company, Elara Securities Research

Exhibit 3: Relevance of pan-India presence: Magnitude, timing of price declines different for various regions 30

(% Change)

20 10 0 (10) (20) FY96

FY97

FY98 Northern

FY99 FY00 Central

FY01 FY02 FY03 Eastern Western

FY04 FY05 Southern

FY06 FY07 FY08 All India average

FY09

Source: Company, Elara Securities Research

46

 

Elara Securities (India) Private Limited

ACC

Imported Coal (%)

Petcoke (%)

Other (%)

ACC

85

15

0

0

UltraTech

Company

62

29

9

0

Shree Cement

0

0

100

0

India Cement

45

55

0

0

JK Lakshmi

0

0

90

10

JK Cement

10

0

90

0

100

0

0

0

70

30

0

0

Orient Paper Ambuja

Source: Elara Securities Research

Prices of domestic coal are not as volatile as that of imported coal. Coal India and its subsidiary have increased coal prices by 10% to 11% in Q3FY10, first time since Q3FY08. Thus, the dependence on domestic coal provides a greater cost visibility to ACC as compared to its peers. We believe that ACC will have a cost advantage of ~INR 96/ tonne as compeered to players dependent on imported coal. It would be INR 103 / tonne as compared to players dependent on petcoke.

effective long-term energy supply assurances. ACC has also entered into a joint venture (~14% stake) with five other partners, and has been allotted a coal mine in West Bengal with a geological reserve of ~685mt. Hence, in long run, we expect the cost leadership of ACC to strengthen further as some of the coal blocks that have already been allocated to ACC will start production. However, as the mine is unlikely to begin production prior to CY11, we have not factored in any benefit from these mines. Capacity constraints restrict volume growth In CY10 (Jan-Sep’10), ACC has reported a decline volume of on 3.3% (as compared to 6.2% increase for the industry) due to capacity constraints. Exhibit 6: ACC grows slower than industry 20 15 10

(5) (15)

Coal Receipts as % of Coal production

1992-93

11

238

4

1993-94

10

246

4

1994-95

10

254

4

1995-96

10

270

4

1996-97

11

286

4

1997-98

10

296

3

1998-99

8

291

3

1999-00

9

299

3

2000-01

10

310

3

2001-02

11

323

3

2002-03

12

324

4

2003-04

13

356

4

2004-05

15

377

4

2005-06

15

407

4

2006-07

14

431

3

2007-08

15

456

3

2008-09

15

493

3

Source: CMA, Elara Securities Research

With the coal production in India not matching cement output, the share of coal received by cement sector has been gradually declining. It has become increasingly difficult for new players to obtain coal linkages Coal block allocations to hike fuel security in long run ACC has entered into a JV with the Madhya Pradesh State Mining Corporation to mine four coal blocks with mineable reserves of ~200mt. The mines are expected to become operational in 4-5 years, and will provide cost-

 

Elara Securities (India) Private Limited 

0

May-09 Jun-09 Jul-09 Aug-09 Sep-09 Oct-09 Nov-09 Dec-09 Jan-10 Feb-10 Mar-10 Apr-10 May-10 Jun-10 Jul-10 Aug-10 Sep-10

Year

5

(10)

Exhibit 5: Sectoral coal allocation on a decline Receipts Coal production against linkage mn tonnes mn tonnes

Cement

Domestic Coal (%)

(%)

Exhibit 4: Dependent mainly on domestic coal

Industry

ACC

Source: CMA, Elara Securities Research

However, with the ramping up of the Karnataka plant and a new green field plant at Chanda expected to come on stream by end of CY10, we expect ACC to report a volume growth of ~15.8% in CY11. Healthy balance sheet At the end of CY09, ACC had a strong balance sheet with a net debt equity ratio of -0.15, with net cash and cash equivalents of INR16.6 bn. With operating cash flows of the company for next two years being much higher than the capex, we expect the net cash and investment of the company to INR ~28.5 bn (INR 152 per share, i.e 14% of CMP) by end of CY11. Exhibit 7: Key balance sheet data CY09

CY10E

CY11E

(0.15)

(0.07)

(0.27)

Gross Cash & Investments(INR mn)

22,220

17,313

30,536

Net Cash & Investments(INR mn)

16,551

12,203

28,487

88

65

152

8

6

14

Net Debt Equity (x)

Net Cash & Investments(per share) Net Cash & Investments as a % of CMP Source: Company, Elara Securities Estimates

  47

ACC

INR mn

Exhibit 10: Energy efficiency improves

CY10E

CY11E

Cash profit adjusted for non cash items

21,857

15,419

17,807

Add/Less : Working Capital Changes

2,504

(194)

3,668

Operating Cash Flow

24,362

15,225

21,476

(15,154)

(17,000)

(3,000)

Free Cash Flow

9,208

(1,775)

18,476

Free Cash Flow as a % of Mcap

5

NA

9

Free Cash Flow as a % of EV

5

NA

11

Less:- Capex

Source: Company, Elara Securities Estimates

Lower power, fuel costs improve efficiency The blended electricity cost per unit for ACC has declined from INR 3.4 per kwh in CY08 to INR2.9 kwh due an increase in the use of CPP. Apart from this, ACC has been gradually reducing electricity and energy consumption per tonne of cement. Thus, despite a 4% increase in landed price of coal for ACC, its power and fuel cost had declined by 4.6% (INR34 per tonne)in CY09.

4.3

80

3.8

70

3

3.3 3 2.8

3

3

3

2

3

40

2.3 1.8 FY01

FY03

FY05

50

CY06

CY08

% of Power meet through CPP(RHS) Blended CPU(LHS) CPP cost per unit(LHS) Grid cost per unit(LHS)

95

800

90

780

85

760

80

740 720

75 FY01

FY03

FY05

CY06

KWH/tonne(LHS)

CY08

Kcal/kg of Clinker(RHS)

Source: Company, Elara Securities Research

Acquiring smaller cement companies ACC has acquired 45% stake in Asian Cement and 100% stake in Encore Cement. Asian Cement has a 0.3mt grinding unit in HP, and is adding a 1mt grinding unit. Encore Cement has a 0.2mt slag grinding unit at Vishakapatnam, thereby strengthening its presence in Coastal AP. As ACC has a strong balance sheet, we believe it will be able to capitalize on any distress opportunity that might be available in downturn.

Slowdown in cement demand Slow down of cement demand may worsen oversupply and could lead to a sharp decrease in cement prices.

60 3

3

3

820

Key risk

(%)

(INR per KWH)

Exhibit 9: Reliance on CPP to increase

100

(Kcal/kg of Clinker)

CY09

(kwh per tonne)

Exhibit 8: Summary of free cash flow

Delay in capacity addition

30

Delay in capacity additions could result in lower than expected volume growth for the company.

20

Decline in linkages Decline in coal linkages may increase the dependence of the company on imported coal.

Source: Company, Elara Securities Research

48

 

Elara Securities (India) Private Limited

ACC

Valuation & Recommendation ‰ Stock trades at EV/tonne of USD122, discount to frontline players ‰ Valuing at EV/tonne of USD133 on CY11 capacity, 5% discount to Ambuja ‰ Initiating coverage with Accumulate rating, target price of INR1,123

0.0

CY11

CY10

CY09

CY08

Exhibit 13: EBITDA per tonne gap to narrow down

We also expect the net debt equity ratio for both companies to be almost at par at the end of CY11. Thus, we believe that valuation gap between two to come down to 5%.

1,200 INR per tonne

1,000 800 600 400 200

ACC

CY11

CY10

CY09

CY08

CY07

CY06

CY05

FY05

FY04

FY03

FY00

0

Ambuja Cement

Source: Company, Elara Securities Research

Exhibit 14: EV/tonne based valuations

290

CY11E

240

(USD per tonne)

CY07

CY06

CY05

FY05

FY03

FY04

Ambuja Cement

Source: Company, Elara Securities Research

1,400

Exhibit 11: Present valuation gap unjustified

FY02

ACC

(b) Dependences on domestic coal

We are initiating our coverage on ACC with an Accumulate rating and a price target of INR1,123 per share. We have valued the company at EV/tonne of USD133 (5% discount to Ambuja) on CY11 capacity of 30.5 mn tonne.

FY01

(0.5)

Cement

0.5

FY02

(a) Cost cutting initiatives undertaken by the company,

1.0

FY01

Historically, EBITDA per tonne gap between ACC and Ambuja has been ~37%. We believe that going ahead, the gap in EBITDA per tonne would reduce to 9% due to:-

1.5

FY00

Historically ACC has traded at 25% discount to Ambuja due to weaker balance sheet and lower profitability. However, going ahead we expect a gap in both debt equity and the EBITDA per tonne to reduce.

Exhibit 12: Debt equity of ACC, Ambuja to be at par

(x)

At the CMP of INR 1,062 per share, the stock is trading at 16.7x and15x its CY10 and CY11 earnings, respectively. It is also trading at EV/tonne of USD131 and USD122 of its CY10 and CY11 capacities, respectively.

190 140 90

ACC

Ambuja Cement

Source: Company, Elara Securities Research

CY11

CY10

CY09

CY08

CY07

CY06

CY05

FY05

FY04

FY03

FY02

FY01

FY00

40

Capacity

mn tonnes

30.5

EV /tonne multiple

USD/tonne

EV

INR mn

182,543

Less: Net Debt

INR mn

(28,487)

Target Market Capitalizations

INR mn

211,030

Diluted Shares outstanding

mn

133

188

Target Price

INR/ share

1,123

Current Market Price

INR/ share

1,062

Potential Upside/(downside)

(%)

5.7%

Source: Company, Elara Securities Estimates

 

Elara Securities (India) Private Limited 

49

ACC

Company description Established in 1936 by the merger of ten cement companies, ACC Limited is one of India’s oldest cement manufacturers. The company’s current capacity stands at 26mt. Swiss cement major Holcim has taken over the control and management of ACC through Ambuja Cement India Pvt Ltd (ACIL). With its stakes in Ambuja Cement and ACC, Holcim controls about 51mt of cement capacity (approximately ~19% of India’s capacity). ACC has a presence in all major regions. Since the entry of Holcim, ACC has decided to focus on its core cement business, and has divested most of its noncore businesses including its refractory and asbestos business. The company has also transferred its RMC business to a wholly-owned subsidiary, ACC Concrete Ltd, with effect from January 1, 2008.

Board of Directors & Management Narotam Sekhsaria, Non-Executive Chairman NS Sekhsaria serves is the Non-Executive Chairman of ACC He is also the founder-promoter and current Chairman of Ambuja. Paul Hugentobler - Non-Executive Deputy Chairman Paul Hugentobler serves as Non-Executive Deputy Chairman of the Board of ACC. He has a degree in Civil Engineering from the ETH, Zurich, and a degree in Economic Science from the University of St. Gallen. He joined Holcim Group Support Ltd in 1980 as Project Manager and in 1994, he was appointed as Area

50

 

Manager for Holcim. From 1999 until 2000, he also served as CEO of Siam City Cement, Bangkok, Thailand. He has been a Member of the Executive Committee since January 1, 2002 with the responsibility for South Asia and ASEAN excluding Philippines. He has been appointed as Vice Chairman of Ambuja Cements Ltd with effect from September 24, 2009. Sunil K Nayak - Chief Financial Officer Sunil K. Nayak serves as Chief Financial Officer. He has B.Com, LLB degrees, and is FCS, FCA, and AICWA. His last employment was with Clariant Chemicals (India) Limited.

Elara Securities (India) Private Limited

ACC

Coverage History 1,200 1 1,000 800 600

200

Not Covered

Date 1

Rating

02-Nov-2010 Accumulate

Target Price

Closing Price

INR1,123

INR1,062

Covered

Oct-10

Nov-10

Sep-10

Aug-10

Jul-10

Jun-10

May-10

Apr-10

Mar-10

Jan-10

Feb-10

Dec-09

Nov-09

Oct-09

Sep-09

Aug-09

Jul-09

Jun-09

May-09

Apr-09

Mar-09

Feb-09

Jan-09

Dec-08

Nov-08

Oct-08

Sep-08

Aug-08

Jul-08

Jun-08

May-08

Apr-08

0

Cement

400

Guide to Research Rating BUY

Absolute Return >+20%

ACCUMULATE

Absolute Return +5% to +20%

REDUCE

Absolute Return -5% to +5%

SELL

Absolute Return < -5%

 

 

Elara Securities (India) Private Limited 

51

ACC

 

Notes

52

 

Elara Securities (India) Private Limited

9 November 2010

India | Cement

Initiating Coverage 

 

 

Warming South winds

Rating : Accumulate

High exposure to South a concern; hopes pinned on better prices

Target Price : INR131 Upside : 13% CMP : INR116 (* As on 2 November 2010)

Out of total 14mn tonnes of cement capacity of India Cements Limited (ICL), about 92% of the capacity is in the Southern region. Due to lower consolidation and lower capacity utilizations, we expect south based players to earn 36% lower EBIT per tonne than players in other regions. However, in the recent past, South cement players have shown signs of maturity and better coordination. In past few weeks, cement prices in the region have increased by INR 75-100/bag.

Key data* Bloomberg /Reuters Code Current /Dil. Shares O/S (mn) Mkt Cap (INRbn/US$mn) Daily Vol. (3M NSE Avg.) Face Value (INR)

Cost rationalization in progress; return ratios to reflect the effort

ICEM IN/ICMN.BO 307.2/307.2 36 /803 1,800,771 10

1 US$= INR44.4

In order to rationalize the cost structure, ICL has acquired a coal mine in Indonesia, and is in the process of setting up CPP of 100 MW. We believe that the mine acquisition will result in savings of ~INR 200/tonne from FY12 onwards. The CPP is expected to generate additional savings of INR 50/tonne from Q3FY12. Historically return ratios of ICL have been below industry average due to lower profitability and inefficient utilization of capital. However, with the cost rationalization steps undertaken by the company and the recent rise in cement prices in South, we believe that return ratios will gradually improve going ahead.

Source: Bloomberg ; * As on 2 November 2010

Price & Volume 150

20

140

15

130 120

10

110

5

100 90

0

Oct-09 Mar-10 Vol. in mn (RHS)

IPL not factored in total valuation scoreboard

Jul-10 Nov-10 India Cement (LHS)

Source: Bloomberg

India Cements owns franchise rights of an IPL team (Chennai Super Kings). We believe that the present stock price does not reflect the valuations of IPL team. With few of the IPL teams expected to list in near future we believe that market will gradually start factoring IPL valuations in stock price. We have valued the investment in IPL at USD225mn which was the base price for the bidding of new franchises. Any increase in the valuation of IPL franchise will add to the potential upside in the stock. (Please refer to Exhibit 13 on Page 59 for target valuations at different IPL valuations).

Share holding (%)

Q3FY10 Q4FY10 Q1FY11 Q2FY11

Promoter

27.4

25.2

25.2

25.2

Institutional Investors

44.3

48.1

46.4

44.5

Other Investors

18.0

17.9

20.0

22.4

General Public

10.4

8.9

8.4

8.0

Source: BSE

Price performance (%)

Valuation

3M

6M

12M

Sensex

12.3

17.0

32.1

India Cements

13.2

(5.6)

18.3

Ultratech

30.1

17.5

51.5

ACC

28.0

17.5

51.9

Source: Bloomberg

At the CMP of INR116 per share, the stock is trading at 18.4x and 10.7x its FY11E and FY12E earnings, respectively. It is trading at adjusted EV/tonne of USD62 and USD56 of its FY11 and FY12 capacities respectively. We have assigned our distress case valuation of USD62/tonne for the cement business considering the unfavorable regional presence and relative cost disadvantage. We have valued the investment in IPL at USD225mn which was the base price for the bidding of new franchises. We recommend Accumulate on ICL with target price of INR 131.

Stock performance 140 Rebased to 100

Global Markets Research

India Cements

120 100 80 Nov-09

Feb-10

May-10

India Cement

Aug-10

Nov-10

Sensex

Source: Bloomberg 

Key Financials Y/E Mar (INR mn) FY09 FY10 FY11E FY12E

Rev

YoY (%)

34,974 38,293 42,565 46,738

14.8 9.5 11.2 9.8

EBITDA EBITDA (%) 9,898 8,153 6,417 11,367

28.3 21.3 15.1 24.3

Adj PAT

YoY (%)

Fully DEPS

RoE (%)

4,835 3,171 1,942 3,344

40.7 (34.4) (38.9) 72.5

16.8 10.5 6.3 10.9

16.1 10.4 5.2 7.8

P/E (x) EV/tonne (USD) EV/EBITDA (x) 6.9 11.0 18.4 10.7

65.0 67.1 62.4 55.7

4.6 6.2 7.9 4.2

Source: Company, Elara Securities Estimate 

 

Ravindra Deshpande • [email protected] • +91 22 4062 6805 Ravi Sodah • [email protected] • +91 22 4062 6817 Elara Securities (India) Private Limited

India Cements Valuation trigger

  CPP’s coming on stream

Any disinvestment or listing of IPL franchise in future

Ramping up of the coal production from mine

250 200 150

Oct-11

Jun-11

Aug-11

Apr-11

Feb-11

Oct-10

Dec-10

Jun-10

Aug-10

Apr-10

Feb-10

Oct-09

Dec-09

Jun-09

Aug-09

Apr-09

Feb-09

Oct-08

Dec-08

Jun-08

0

Aug-08

ƒ

Market leader in South India

ƒ

IPL valuations key to upside

1. Ramping up of the coal production from mine

Target price reached

Apr-08

New CPP’s and coal mine acquisition to reduce power and fuel cost

Valuation trigger

100 50

ƒ

3 4

2

1

Investment summary

Source: Bloomberg, Elara Securities Estimates

Valuation overview - SOTP Based valuations FY12E 15.6

2. CPP’s coming on stream 3. Any disinvestment or listing of IPL franchise in future

Key risks ƒ

Sharp decline in cement price

ƒ

Slower than expected ramp up of coal mine and CPP’s

Capacity

mn tonnes

EV /tonne multiple

USD/tonne

Grey Cement business EV

INR mn

43,580

Base price for the bids

INR mn

10,125

Total EV

INR mn

53,705

Our assumptions

Less: Net Debt

INR mn

13,588

ƒ

Target Market Capitalization

INR mn

40,117

Diluted Shares outstanding

mn

Cement realization to increase at a CAGR of 1.6%

Target Price

INR/ share

131

ƒ

Current Market Price

INR/ share

116

Cement volumes CAGR of 9.4%

Potential Upside/(downside)

(%)

12.5

62

Value of IPL Business

307.2

to increase at a

Source: Company, Elara Securities Estimates

Valuation driver - EV/tonne with change in RoCE & RoNW 60

180

40

140 20

120

0

100 80

%

EV/tonne

160

(20)

60 (40)

40 20 FY95 FY96 FY97 FY98 FY99 FY00 FY01 FY02 FY03 FY04 FY05 FY06 FY07 FY08 FY09 FY10 FY11E FY12E

(60)

EV/Tonne(USD)

ROE(RHS)

ROCE (RHS)

Source: Elara Securities Estimates

 

54

 

Elara Securities (India) Private Limited

India Cements

Consolidated Financials (Y/E Mar)

14.8 3.5 40.7 28.3 21.0

9.5 (17.6) (34.4) 21.3 8.4

11.2 (21.3) (38.9) 15.1 4.6

9.8 77.1 72.5 24.3 7.2

0.7 16.1 33.4

0.7 10.4 11.3

0.5 5.2 17.6

0.4 7.8 33.8

16.8

10.5 (37.6) 2.0 11.0 6.2 1.4 67.1 1.7

6.3 (39.8) 0.3 18.4 7.9 1.3 62.4 0.2

10.9 72.2 0.5 10.7 4.2 1.1 55.7 0.4

Revenue & margins growth trend 50,000

40

33.6

40,000

30

24.3

21.3

30,000

15.1

20

20,000

10

10,000 0

0 FY09

FY10

Net Revenues (LHS)

FY11E

FY12E

EBITDA Margin (RHS)

Source: Company, Elara Securities Estimates

  Adjusted profits growth trend 72.5

6,000

80

40.7

5,000

60 40

4,000

20

3,000

0

2,000

(34.4)

(38.9)

Cement

FY12E 46,738 11,367 269 11,636 3,547 8,089 3,442 4,647 1,303 3,344 1 0 3,343 0 3,343 FY12E 3,073 47,989 114 21,808 2,903 75,887 72,238 24,366 47,872 7,337 3,195 17,287 196 75,887 FY12E 10,516 10,469 20,985 (1,855) 19,130 (7,475) 11,655 FY12E

(%)

FY11E 42,565 6,417 468 6,885 2,711 4,174 1,455 2,719 781 1,938 (3) 0 1,942 0 1,942 FY11E 3,073 44,628 113 25,676 2,903 76,393 69,188 20,818 48,370 8,532 3,195 16,101 196 76,393 FY11E 11,717 6,079 17,796 (6,029) 11,767 1,115 1,953 14,835 FY11E

(%)

FY10 38,293 8,153 422 8,575 2,345 6,231 1,428 4,802 1,632 3,171 0 57 3,228 (291) 3,518 FY10 3,073 37,381 15 23,006 2,903 66,378 57,400 18,011 39,388 14,291 5,148 7,345 206 66,378 FY10 6,919 7,865 14,784 (10,238) 4,546 3,885 (1,623) 6,808 FY10

(INR mn)

FY09 34,974 9,898 544 10,442 2,045 8,397 1,123 7,274 2,439 4,835 8 (73) 4,754 529 4,224 FY09 2,825 32,518 31 19,888 2,744 58,006 53,360 15,121 38,239 9,040 3,556 6,828 158 185 58,006 FY09 9,132 6,816 15,948 (9,446) 6,502 (1,041) 289 5,750 FY09

(INR mn)

Income Statement (INR mn) Net Revenues EBITDA Add:- Non operating Income OPBIDTA Less :- Depreciation & Amortization EBIT Less:- Interest Expenses PBT Less :- Taxes Adjusted PAT Minority interest Profit from Associates Adj. after Minority interest & asso. Add/Less: - Extra-ordinaries Reported PAT Balance Sheet (INR mn) Share Capital Reserves Minority Interest Borrowings Deferred Tax (Net) Total Liabilities Gross Block Less:- Accumulated Depreciation Net Block Add:- Capital work in progress Investments Net Working Capital Miscellaneous Expenses not written off Deferred Tax Assets Total Assets Cash Flow Statement (INR mn) Cash profit adjusted for non cash items Add/Less : Working Capital Changes Operating Cash Flow Less:- Capex Free Cash Flow Financing Cash Flow Investing Cash Flow Net change in Cash Ratio Analysis Income Statement Ratios (%) Revenue Growth EBITDA Growth PAT Growth@ EBITDA Margin Net Margin@ Return & Liquidity Ratios Net Debt/Equity (x) ROE (%) ROCE (%) Per Share data & Valuation Ratios Diluted EPS (INR/Share) EPS Growth (%) DPS (INR/Share) P/E Ratio (x) EV/EBITDA (x) EV/Sales (x) EV/tonne (USD) Dividend Yield (%)

(20)

1,000

(40)

0

(60) FY09

FY10

Adjusted PAT (LHS)

FY11E

FY12E PAT Growth (RHS)

Source: Company, Elara Securities Estimates

  Return ratios 40

33.8

33.4

30 17.6

20 10

11.3 16.1 10.4

0 FY09

FY10 ROE (%)

5.2

7.8

FY11E

FY12E

ROCE (%)

Source: Company, Elara Securities Estimates

   

Debt-equity ratio to come down

2.0 6.9 4.6 1.4 65.0 1.7

Available at distress valuations despite sharp increase in prices in South India

@ On adjusted bottomline Source: Company, Elara Securities Estimates

 

  Elara Securities (India) Private Limited 

55

India Cements India Cements Investment rationale ‰ Higher exposure to South worrisome; profitability to remain below industry average ‰ Indonesian coal mine acquisition, new captive power plants to improve cost efficiency ‰ Lower return ratios to perk up on better pricing and cost efficiency

ICL is the market leader in the Southern region. It controls about 14% of the South Indian capacity. Out of total 14 mn tonnes of cement capacity, about 92% of the capacity of ICL is in the Southern region. It is gradually trying to diversify in other regions. The company will be adding 1.5 mn tonnes of cement capacity in the state of Rajasthan. Even post commissioning of Rajasthan plant in Q2FY11, it will have a whopping 83% of the capacity in South India, the region which is expected to have the lowest capacity utilizations. During the last three years, about 39mn tonnes of capacity were added in the Southern region at a CAGR of 20%. Demand, on the other hand has grown at a CAGR of 12%. Thus capacity utilizations of the region have declined from 93% in FY06 to 74% in FY10 (i.e 1,200 bps below pan-India average). Exhibit 1: Higher concentration of capacity in South

of the South region is expected to be 900 bps lower than the all India average. Due to surplus in the Southern region, we expect the average lead distance for ICL to increase which will further put pressure on margins. Furthermore, due to lower consolidation and lower capacity utilization, we expect south based players to earn 36% lower EBIT per tonne than players in other regions. However in the recent past cement players in the Southern region have shown signs of maturity and better co-ordination. The players have undertaken production cuts to reduce supply and thereby, affect a hike in prices. Thus, the Southern region has been the first to hike cement prices at the end of the lean season. In past few weeks, cement prices have increased by INR 75-100 per bag (the highest among five major regions of India). Exhibit 3: South leads industry capacity addition 20

15

15

West 8%

18

High exposure to a fragmented market

3 3 4 2 2

2 2

0

2

3

3 3 3

2 2

5

5

6

6

7

10

10

10

3

(mn tonne)

15

0 North Western FY09 FY10

South 92%

Central Eastern Southern FY11E FY12E FY13E

Source: Company, Elara Securities Estimates

Exhibit 4: Capacity utilization to stay low in South

82 82

89 86

74 72 75

80

89

87 86 89 89

89 87 86 82

85

84

90

86

(%)

95

80

100

94

105

94

North West 10% 7%

104 100

Exhibit 2: Southern exposure to come down in FY11

93

Source: Company, Elara Securities Research

75 70

North Western Central Eastern Southern All India FY09 FY10 FY11E FY12E

South 83%

56

Source: Company, Elara Securities Research

Source: CMA .Company, Elara Securities Estimates

Going ahead, we expect capacity utilizations of Southern region to continue to remain below all India average. Between FY11 to FY13, the average capacity utilizations

 

 

Elara Securities (India) Private Limited

India Cements

30 20 10 0 (10)

ICL

ACC

Ambuja

Cement

Source: Company, Elara Securities Estimates

Exhibit 7: Lower asset turnover ratio vs peers 1.8 1.5 1.2 0.9 0.6

The company is also in the process of setting up a CPP of 50 MW each in Andhra Pradesh and Tamil Nadu. The TN plant is expected to come on stream by the end of Q1FY11 and TN plant in Q3FY12. The new CPPs are expected to meet 60% of the power requirement and would result in savings of INR 50/tonne.

0.3

ACC

India Cement

Ambuja Cement

Lower return ratios compared to industry peers

Source: Company, Elara Securities Estimates

In FY10, ICL had reported net profit margins of 8.4% and asset turnover of 0.7 x as compared to industry average of 16% and 1.1x respectively. Due to lower profitability and inefficient utilizations of capital, the company has below industry average return ratios. ICL reported a RoE of 10.4% and RoCE of 11% in FY10 as compared to industry average RoE of 28% and RoCE of 27%.

Exhibit 8: Cost rationalization to better margins 40 (EBITDA margin %)

ICL

ACC

Ambuja

Ambuja Cement

Exhibit 9: NPM to remain lower than peers

ACC

India Cement

FY12E

FY10

FY09

FY08

FY07

FY06

FY05

FY04

FY03

FY02

FY01

FY00

FY99

FY98

40 30 20 10 0 (10) (20) (30) FY11E

FY95 FY96 FY97 FY98 FY99 FY00 FY01 FY02 FY03 FY04 FY05 FY06 FY07 FY08 FY09 FY10 FY11E FY12E

(50)

India Cement

Source: Company, Elara Securities Estimates

FY97

0

10

ACC

(%)

(%)

50

20

0

Exhibit 5: ICL RoE to remain lower than peers 100

30

FY97 FY98 FY99 FY00 FY01 FY02 FY03 FY04 FY05 FY06 FY07 FY08 FY09 FY10 FY11E FY12E

However, with the initiative undertaken by the company to improve cost efficiency, the return ratios of the company are expected to improve. The RoCE of ICL is expected to improve from 11.3% in FY10 to 17.6% in FY11 and further to 33.8% in FY12. Improvement in RoE is likely to be much gradual due to QIP and redemption FCCB The RoE is expected to drop from 10.4% in FY10 to 5.2% in FY11 and to improve marginally to 7.8% in FY12.

FY12E

FY10

FY11E

FY09

FY08

FY07

FY06

FY05

FY04

FY03

FY02

FY01

FY00

FY99

FY97

0.0 FY98

Apart from this, ICL is entirely dependent on external sources for power. Higher dependence on external sources for power has not only increased the cost but also hampered the production due to power cuts in Andhra Pradesh and Tamil Nadu.

40

FY95 FY96 FY97 FY98 FY99 FY00 FY01 FY02 FY03 FY04 FY05 FY06 FY07 FY08 FY09 FY10 FY11E FY12E

ICL has recently acquired coal mining rights in Indonesia to meet its fuel requirements. The mine has reserves of 30mt of coal with 5,800Kcal/kg. ICL’s investment in this mine is estimated to be ~USD20mn. The benefits of the mine are expected to flow in from FY12. We expect the mine acquisition to result in savings of ~INR 200/tonne from FY12.

50

(%)

Power and fuel costs constitute ~31% of ICL’s cost of goods sold. ICL meets 70% of its fuel requirement through imports. Due to the dependence on imported coal, we expect ICL to have a cost disadvantage of INR62/tonne of cement produced as compared to players dependent on domestic coal.

Exhibit 6: RoCE to improve on higher cement prices

(x)

Reliance on foreign coal, grid limits cost competency

Ambuja Cement

Source: Company, Elara Securities Estimates

Source: Company, Elara Securities Estimates

 

Elara Securities (India) Private Limited 

57

India Cements Higher debt equity ratio, FCCBs to burden cash flows

IPL valuation not fully reflected in share price

ICL has raised INR2.95 bn in Q1FY11. Post the QIP, the net debt equity ratio of the company now stands at 0.7, much higher compared to its peers. Apart from this higher debt equity ratio, pending FCCBs at USD 75 mn remain an overhang on the stock. . The FCCBs are due for redemption in May 2011 to be converted at a price of INR305 per share (163% higher than CMP) or redeemable at 147.7% of its face value. As the FCCBS are deep out of money, we expect its redemption to result in cash outflow of INR4.96bn, representing 47% of FY12 operating cash flow or 44% of FY12 EBITDA. Apart from this, the company is also expected to book unrecognized interest expenses of INR1.58bn in FY12. The unrecognized interest expenses will take away 32% of the incremental EBITDA of FY12.

India Cements has acquired the Chennai franchise of the Indian Premier League (IPL) for USD91mn in January 2008. The investment in IPL was done by the company from the point of view of advertising its brands across the country.

Exhibit 10: Higher debt equity ratio vs industry

Pune

Bid Amount (USD mn) 370

Kochi

333

Rendezvous Sports World Limited

Mumbai

112

Reliance Industries

Bangalore

112

UB Group

Hyderbad

107

Deccan Chronicle

0.8 0.6

(x)

0.4 0.2 (0.0) (0.2) (0.4) (0.6) ICL

ACC

FY09

FY10

Ambuja

FY11E

In our coverage universe, ICL has the highest earnings sensitivity to price changes. Higher cost structure as a result of dependence on imported coal and grid power are the key reasons for higher sensitivity to price movements. We believe that recent price hikes as well as improvement in cost structure with coal mine acquisition and captive power will favorably impact the earnings of the company. Exhibit 11: Most sensitive to price changes (%) 10

8.0

8 4

2.9

3.4

3.8

Franchise

5.1

5.5

5.5

Chennai

91

India Cements

Delhi

84

GMR Holding

Mohali

76

Preity Zinta,Ness Wadia, Mohi Burmanl

Kolkata

75

Shahrukh Khan, Juhi Chawla

Jaipur

67

Emerging Media Group,Raj Mudhra,

With listing of few of IPL teams on cards, we believe market will gradually start factoring IPL valuations in stock price.

Key risks ƒ

India Cem

JK Cem

JK Lakshmi

ACC

Ultratech

Ambuja

Shree Cement

Orient paper

 

143

However, the company management indicated that it does not want to either list or offload any stake in the franchise in the short to medium term. Therefore, we have valued its investment in the franchise at the base IPL bid price of USD225mn. Any upside in this valuation will increase the target price and potential upside accordingly. We have summarized a sensitivity of target price to the various franchise values as in Exhibit no 13.

0

58

Sahara Adventure Sports Group

Slower ramp up of coal mine and CPPs

2

Source: Elara Securities Research

Owner

Source: Elara Securities Research

Highest earnings sensitivity to price changes

2.7

Exhibit 12: Franchise details

Average

FY12E

Source: Company, Elara Securities Estimates

6

We have valued the Chennai Super Kings using the recent IPL auction minimum base price that was fixed at USD225mn. In the recent auction, franchises were sold at average price of USD351.5mn (Kochi and Pune). Considering the actual franchise deals happening in the IPL, ICL has already more than tripled its investments.

Slower ramp up of coal mine and CPP may result in lower than expected savings

Sharp fall in cement prices in South India ƒ

Sharp fall in prices in South India, the key market for the company, may adversely impact the earnings of the company

 

Elara Securities (India) Private Limited

India Cements

Valuation & Recommendation ‰ Trades at 44% discount to replacement cost despite its reasonable size, improving fundamentals ‰ Valuing cement business at distress EV/tonne of USD62, IPL franchise remains key for upside ‰ Initiating coverage with Accumulate rating, target price of INR131

At the CMP of INR 116 per share, the stock is trading at 18.4x and 10.7x its FY11 and FY12 earnings, respectively. It is trading at an EV/tonne of USD62 and USD56 its FY11 and FY12 capacities, respectively. On EV-based multiples (EV/tonne and EV/EBITDA), ICL is available at valuations lower than the last down cycle when it had incurred losses due to higher leverage.

Exhibit 13: SOTP Based valuations (INR mn)

FY12E

USD:INR Exchange Rate

45.0

Capacity

15.6

15.6

15.6

15.6

15.6

62

62

62

62

62

EV /tonne multiple Grey Cement business EV

43,580 43,580 43,580 43,580 43,580

Value of IPL Business USD mn

175

225

275

325

375

In terms of relative valuations, ICL is available at ~62% discount to frontline cement companies. We believe that worst has already been factored in the stock price.

INR mn

7,875 10,125 12,375 14,625 16,875

Total EV

51,455 53,705 55,955 58,205 60,455

Thus, we are initiating coverage on the stock with an Accumulate rating and a price target of INR131 per share.

Less: Net Debt

13,588 13,588 13,588 13,588 13,588

Target Market Capitalization

37,867 40,117 42,367 44,617 46,867

We have valued the company on Sum of Parts Valuation (SOTP) basis. We have valued the cement business of the company at EV/tonne of USD 62, equivalent to distress value for cement plant. We have valued Chennai Super Kings at the recent IPL auction minimum base price that was fixed at USD 225 mn (INR 34 per share).

Diluted Shares outstanding

307

307

307

307

307

Target Price

123

131

138

145

153

Current Market Price

116

116

116

116

116

Potential Upside/(downside)

6.2

12.5

18.8

25.1

31.4

Cement

Valuation

Source: Company, Elara Securities Estimates

 

 

Elara Securities (India) Private Limited 

59

India Cements

Company Description Established in 1946, India Cements Limited (ICL) is among the largest players in South India with a cement capacity of ~14mn tonnes. The company has seven plants of which four are in Andhra Pradesh and three in Tamil Nadu. India Cements key markets are Andhra Pradesh, Tamil Nadu, Kerala, parts of Karnataka and Maharashtra. ICL has historically been a South-based player. However, going forward, it is in the process of diversifying its presence by venturing into North India. India Cements sells its cement under the brand name of ’Sankar Super Power’, ‘Coromandel Super Power’ and ‘Raasi Super Power’. India Cements had acquired the Chennai franchise in the Indian Premier League (IPL), the 20:20 format tournament started by the Board of Control of Cricket in India (BCCI) for USD91million in January 2008. The investment in IPL was done by the company from the point of view of advertising its brands all across the country.

Board of Directors & Management

60

N Srinivasan, Vice Chairman, Managing Director

Rupa Gurunath, Non-Executive Director

N.Srinivasan is the Vice Chairman and Managing Director of India Cements. Over the last decade and a half, he has been the President of the Cement Manufacturers' Association between 1991 and 2006 and Chairman of the Board of Governors of the National Council for Cement and Building Materials (NCBM) for four terms between 1991 and 2006). He was also the Chairman of Development Council for Cement Industry (DCCI) constituted by the Government of India for two terms (1992-96). During the year 2000-2001, N.Srinivasan was President of the All India Organization of Employers. He was also an active Member of the Prime Minister's High Profile Council of Trade and Industry (1996-2001). He is a post graduate in Chemical Engineering from the Illinois Institute of Technology, US.

Rupa Gurunath serves as Non-Executive Director. She is BSC. and holds a Post Graduate Diploma in Computer Applications.

 

K Nair, Director Krishna Prasad Nair, a Director, has received his BCom and MBA degrees. He is Chief General Manager and Human Resource head of IDBI Bank Limited. G.Balakrishnan, President, Company Secretary

Compliance

Officer,

G.Balakrishnan, serves as a President, Compliance Officer, Company Secretary of India Cements Limited.

Elara Securities (India) Private Limited

India Cements

Coverage History 250

200

150 1 100

Not Covered

Date 1

Rating

02-Nov-2010 Accumulate

Target Price

Closing Price

INR131

INR116

Covered

Oct-10

Nov-10

Sep-10

Aug-10

Jul-10

Jun-10

May-10

Apr-10

Mar-10

Jan-10

Feb-10

Dec-09

Nov-09

Oct-09

Sep-09

Aug-09

Jul-09

Jun-09

May-09

Apr-09

Mar-09

Feb-09

Jan-09

Dec-08

Nov-08

Oct-08

Sep-08

Aug-08

Jul-08

Jun-08

May-08

Apr-08

0

Cement

50

Guide to Research Rating BUY

Absolute Return >+20%

ACCUMULATE

Absolute Return +5% to +20%

REDUCE

Absolute Return -5% to +5%

SELL

Absolute Return < -5%

   

 

 

61

India Cements

 

Notes

62

 

Elara Securities (India) Private Limited

9 November 2010

India | Cement

Company Update/Target price/Rating changed    

Regional champ at reasonable value

Rating : Accumulate

Foray into merchant power to stabilize cyclical cement earnings

Target Price : INR2,501 Upside : 16% CMP : INR2,165 ( As on 2 November 2010)

Shree Cement Limited (SCL) has ventured into the profitable merchant power business. It has a CPP capacity of 265MW which is expected to increase to 565MW by the end of Q3FY12. The company expects to sell the excess power in the open market on merchant rates. On account of the increase in the CPP capacity, we expect the EBITDA from power business to increase from INR1.3bn in FY10 to INR4.4bn in FY12. The share of the power EBITDA in the total EBITDA is expected to increase from 8% in FY10 to ~30% in FY12. Apart from providing earnings growth, we believe the merchant power business will provide stability to the cyclical cement business cash flows.

Key data* Bloomberg /Reuters Code Current /Dil. Shares O/S (mn) Mkt Cap (INRbn/USDmn) Daily Vol. (3M NSE Avg.) Face Value (INR)

SRCM IN/SHCM.BO 35/35 75/1,698 25,509 10

1 USD= INR44.4 Source: Bloomberg ; * As on 2 November 2010

Price & Volume

Capacity addition to push up volume to CAGR of~ 5%

300

2,450

SCL is in the process of increasing its clinker and grinding capacity by 1mn tonne and 1.5mn tonnes respectively. The expansion is expected to be complete by the end of FY11. The capacity addition is likely to provide volume growth from FY12 for the cement business of the company. Due to the capacity addition, we expect cement volumes to increase at a CAGR of ~5% between FY10 to FY12.

2,200 200

1,950 1,700

100

1,450 0

1,200 Oct-09 Mar-10 Vol. in '000s (RHS)

Lowest cost producer, highest margin earner in North Despite its dependence on pet coke, SCL enjoys a cost advantage over peers due to its efficient operations and captive power unit. In Q1FY11, it had cost of INR2,323/tonne as compared to INR2,712/tonne for other North Indian cement players. Due to lower production cost, SCL enjoys the highest margins in the Northern region. The cement division of SCL had earned EBITDA margins of 31% as compared to ~17% of other cement players.

Jul-10 Nov-10 Shree Cement (LHS)

Source: Bloomberg

Share holding (%)

Q3FY10 Q4FY10 Q1FY11 Q2FY11

Promoter

65.6

65.6

65.5

64.8

Institutional Investors

15.1

13.7

13.3

12.8

Other Investors

14.7

16.1

16.5

18.3

General Public

4.7

4.6

4.6

4.1

Source: BSE

Price performance (%)

Strong cash flows to further fortify balance sheet At the end of FY10, the company had a net debt equity ratio of 0.05x and gross cash and investments of INR20 bn. We expect the company to generate free cash flow to firm of INR 36.8bn over next two years.

Valuation

3M

6M

12M

Sensex

12.3

17.0

32.1

Shree Cement

20.1

0.8

40.4

Ultratech

30.1

17.5

51.5

ACC

28.0

17.5

51.9

Source: Bloomberg

At the CMP of INR 2,165 per share, Shree Cement is trading at 19.2x and 12.6x its FY11 and FY12 earnings, respectively. On an EV/tonne basis, it is trading at USD98/tonne and USD82/tonne of its FY11 and FY12E capacities, respectively. Despite having a low cost structure, diversified revenue stream and a healthy balance sheet, the stock is trading at ~44% discount to frontline cement companies. Thus, we have assigned Accumulate rating on the stock with revised target price of INR 2,501 per share. We have valued cement business of the company at USD100/tonne (equivalent to replacement cost) and power division on DCF basis.

Stock performance 160 Rebased to100

Global Markets Research

Shree Cement

140 120 100 80 Nov-09

Feb-10

May-10

Sree Cement

Aug-10

Nov-10

Sensex

Source: Bloomberg 

Key Financials Y/E Mar (INR mn) FY08 FY09 FY10 FY11E FY12E

Rev

YoY (%)

EBITDA

EBITDA (%)

Adj PAT

20,659 27,150 36,321 42,630 51,876

51.0 31.4 33.8 17.4 21.7

8,624 9,508 15,117 11,750 14,249

41.7 35.0 41.6 27.6 27.5

2,604 5,780 7,483 3,918 5,962

YoY (%) Fully DEPS 47.1 122.0 29.5 (47.7) 52.2

74.7 165.9 214.8 112.5 171.1

RoE (%) 46.2 61.4 49.2 19.4 24.1

P/E (x) EV/tonne (USD) EV/EBITDA (x) 29.0 13.0 10.1 19.2 12.6

190 189 130 98 82

9.1 8.1 5.1 6.6 4.8

Source: Company, Elara Securities Estimates

 

Ravindra Deshpande • [email protected] • +91 22 4062 6805 Ravi Sodah • [email protected] • +91 22 4062 6817 Elara Securities (India) Private Limited

Shree Cement Valuation trigger

  Power expansion to accelerate volume growth

Completion of expansion project to drive cement volume growth

2,700 2

1

2,200

3

Investment summary ƒ

Low cost structure to insulate the company from losses in the downturn.

ƒ

Healthy balance sheet and investment book

 

1,700 Target price reached

1,200

Valuation trigger 1. Completion of expansion project to drive cement volume growth

700

Oct-11

Jun-11

Aug-11

Apr-11

Feb-11

Oct-10

Dec-10

Jun-10

Aug-10

Apr-10

Feb-10

Oct-09

Dec-09

Jun-09

Aug-09

Apr-09

Feb-09

Oct-08

Dec-08

Jun-08

Aug-08

Apr-08

200

2. Power expansion to accelerate volume growth

  Key risks

Source: Bloomberg, Elara Securities Estimates

Valuation overview - Sum of Parts Valuation Grey Cement

FY12E

ƒ

Sharp decline in cement prices

ƒ

Slow down in cement demand

Capacity

mn tonnes

13.6

 

EV /tonne multiple

USD/tonne

100

Our assumptions

Grey Cement business EV

INR mn

61,200

DCF value

INR mn

18,413.7

Total EV

INR mn

79,614

Less: Net Debt

INR mn

(7,522)

Target Market Capitalization

INR mn

87,136

Diluted Shares outstanding

mn

Target Price

INR/ share

2,501

Current Market Price

INR/ share

2,165

Potential Upside/(downside)

(%)

ƒ

Cement volume to grow at a CAGR of ~5%

ƒ

Cement realizations to increase at a CAGR of 3.3%.

Value of power business

 

34.8

15.5

Source: Company, Elara Securities Estimates

Valuation driver - EV/tonne , RoE and RoCE 300

70

250

60

30

100

20

EV/Tonne(USD)

RoE(RHS)

FY12E

FY11E

FY10E

FY09

FY08

FY07

FY06

FY05

FY04

0 FY03

0 FY02

10

FY01

50

FY00

(EV/tonne)

40

150

(%)

50

200

RoCE (RHS)

Source: Elara Securities Estimates

 

64

 

Elara Securities (India) Private Limited

Shree Cement

Financials (Y/E Mar) 9,508

15,117

11,750

14,249

829

1,284

1,469

2,092

10,337

16,400

13,218

16,341

Add:- Non operating Income OPBIDTA Less :- Depreciation & Amortization

2,363

5,902

6,509

7,000

EBIT

7,973

10,498

6,718

9,341

744

950

1,813

1,889

7,229

9,548

4,906

7,452

Less:- Interest Expenses PBT Less :- Taxes

1,449

2,066

979

1,490

Adjusted PAT

5,780

7,483

3,918

5,962

-

(722)

-

-

Reported PAT

5,780

6,761

3,926

5,962

Balance Sheet (INR mn)

FY09

FY10

FY11E

FY12E

348

348

348

348

Add/Less: - Extra-ordinaries

Share Capital Reserves

11,752

17,984

21,631

27,180

Borrowings

14,962

21,062

20,492

18,562

Total Liabilities

27,062

39,395

42,471

46,090

Gross Block

22,559

29,509

36,139

52,939

Less:- Accumulated Depreciation

16,291

21,989

28,489

35,489

Net Block

6,269

7,520

7,650

17,450

Add:- Capital work in progress

4,789

9,674

12,790

-

Investments

8,448

15,922

15,922

15,922

Net Working Capital

7,452

6,155

5,985

12,594

Deferred Tax Assets

104

124

124

124

27,062

39,395

42,471

46,090

FY09

FY10

FY11E

FY12E

7,801

12,601

10,762

12,758

219

(61)

(1,332)

890

8,020

12,540

9,430

13,649

(5,330)

(11,710)

(9,746)

(4,010)

Total Assets Cash Flow Statement (INR mn) Cash profit adjusted for non cash items Add/Less : Working Capital Changes Operating Cash Flow Less:- Capex Free Cash Flow

2,690

830

(316)

9,639

573

3,786

(2,654)

(4,232)

(3,215)

(5,174)

1,469

2,092

Financing Cash Flow Investing Cash Flow Net change in Cash Ratio Analysis

48

(559)

(1,501)

7,499

FY09

FY10

FY11E

FY12E

31.4

33.8

17.4

21.7

Revenue & margins growth trend 60,000

EBITDA Growth

10.2

59.0

(22.3)

21.3

29.5

(47.7)

52.2

EBITDA Margin

35.0

41.6

27.6

27.5

Net Margin

21.3

20.6

9.2

11.5

27.5

30 20

20,000 0

0

FY09 FY10 Net Revenues (LHS)

FY11E FY12E EBITDA Margin (RHS)

Source: Company, Elara Securities Estimate

  Adjusted profits growth trend 8,000

122.0

150

6,000

100

52.2

29.5

50

4,000

0

(47.7)

2,000

(50) (100)

0 FY09 FY10 Adjusted PAT (LHS)

FY11E

FY12E PAT Growth (RHS)

Source: Company, Elara Securities Estimate

  Return ratios (%) 70 60 50 40 30 20 10 0

61.4 49.2

35.2

19.4

24.1

32.2 16.4

FY09

122.0

PAT Growth

40 27.6

40,000

10

Income Statement Ratios (%) Revenue Growth

50

41.6 35.0

Cement

FY12E 51,876

(%)

FY11E 42,630

(%)

FY10 36,321

(INR mn)

EBITDA

FY09 27,150

(INR mn)

Net Revenues

(%)

Income Statement (INR mn)

FY10 ROE

FY11E

21.1 FY12E

ROCE

Source: Company, Elara Securities Estimate

   

Return & Liquidity Ratios Net Debt/Equity (x)

0.1

0.1

0.1

(0.3)

ROE (%)

61.4

49.2

19.4

24.1

ROCE (%)

35.2

32.2

16.4

21.1

Diluted EPS (INR/Share)

165.9

214.8

112.5

171.1

EPS Growth (%)

122.0

29.5

(47.7)

52.2

DPS (INR/Share)

10.0

12.6

7.3

11.1

P/E Ratio (x)

13.0

10.1

19.2

12.6

EV/EBITDA (x)

8.1

5.1

6.6

4.8

EV/Sales (x)

2.8

2.1

1.8

1.3

189

130

98

82

0.5

0.6

0.3

0.5

Revenue to grow at a CAGR of 19.5% on the back of higher power and cement volumes

Per Share data & Valuation Ratios

EV/tonne (USD) Dividend Yield (%)

Trading at a discount to its replacement cost despite strong return ratios

Source: Company, Elara Securities Estimate

 

Elara Securities (India) Private Limited 

65

Shree Cement Shree Cement

Valuation & Recommendation ‰ Trades at 18% discount to its replacement cost despite a healthy balance sheet, return ratios ‰ Valuing cement business at EV/tonne of USD100, factoring in superior fundamentals ‰ Reiterating our Accumulate rating, upgrading target price to INR2,501 At the CMP of INR 2,165 per share, the stock is trading at 19.2x and 12.6x its FY11 and FY12 earnings, respectively. It is trading at an EV/tonne of USD 98 and USD 82 its FY11 and FY12 capacities, respectively. Despite having impressive return ratios & margins, low earning risk, SCL is trading at a discount to its peers and replacement cost. Thus, we have assigned Accumulate rating and target price of INR 2,501. We have arrived at a target price for the company on SOTP basis. We have valued cement business of the company on EV/tonne basis. We have assigned EV/tonne of USD100 for FY12 year end capacity of the company. We have valued merchant power business of the company of DCF basis.

Exhibit 1: Sum of Parts Valuation Grey Cement

FY12E

Capacity

mn tonnes

13.6

EV /tonne multiple

USD/tonne

100

Grey Cement business EV

INR mn

61,200

INR mn

18,413.7

Value of power business DCF value Total EV

INR mn

79,614

Less: Net Debt

INR mn

(7,522)

Target Market Capitalization

INR mn

87,136

Diluted Shares outstanding

mn

Target Price

INR/ share

2,501

Current Market Price

INR/ share

2,165

Potential Upside/(downside)

(%)

34.8

15.5

Source: Company, Elara Securities Estimates

 

66

 

Elara Securities (India) Private Limited

Shree Cement

Company Description Shree Cement Limited is one of the largest cement manufacturer in North India and among the top five cement manufacturing company in the country. At the end of FY10, the company has total cement capacity of 12.6 mn tonnes and its cement manufacturing operations is spread across northern region. The company also had power capacity of 215 MW. The company is also one of the most profitable cement players in the industry at the operating level.

Board of Directors & Management B. G. Bangur, Executive Chairman B.G. Bangur is Executive Chairman of the Board of SCL. He holds a Bachelors of Commerce (Hons.) from Calcutta University. He is also the director in The Didwana Industrial Corporation Limited, NBI Industrial Finance Company Limited, Shree Capital Services Limited, Khemka Properties Private Limited and Digvijay Finlease Limited. He is actively associated with various Philanthropic and Charitable Institutions and trusts. Prashant Bangur, Executive Joint President Prashant Bangur, Executive Joint President is the Executive Joint President of SCL. He has done his MBA in Finance and Logistic from Indian School of Business. Ashok Bhandari, CFO & Joint President Ashok Bhandari is the Chief Financial Officer and Joint President of SCL. H. Bangur, Managing Director H. M. Bangur is Managing Director of SCL. He is a Chemical Engineer from IIT, Mumbai and he brings to

 

Elara Securities (India) Private Limited 

the board technical insights which are a driving force of the technical excellence achieved by the Company. Bangur is also a Director in the Kamla Company Limited. He was the President of Cement Manufacturers' Association (CMA), the prime body for co-ordination, policy making and co-operation of the cement industry in India.

Cement

Shree Cement sells its products across Rajasthan, Uttar Pradesh, Uttarakhand, Delhi, Haryana and Punjab. The cement is marketed under the three brand names, Shree Ultra Jung Rodhak Cement, Bangur Cement and Tuff Cement.

M. K. Singhi, Executive Director M. K. Singhi is an Executive Director of SCL. He is a fellow Chartered Accountant and a Science and Law Graduate. He joined the Company as President in January 1995 and has 31 years experience of working at senior positions. He is the leader of Indian Cement Sector Task Force for Energy Conservation, appointed by Bureau of Energy Efficiency, Ministry of Power, Government of India. He is a member of Cement Sustainability Initiative (CSI) of World Business Council for Sustainable Development. He is also a member of Cement Task Force of Asia Pacific Partnership on Clean Development and Climate. He is the President of Rajasthan Cement Manufacturers Association. He is also on the Board of Shree Cement Marketing Limited.

67

Shree Cement

Coverage History 2,500

1

4 3

2,000 2 1,500

1,000

500

Not Covered

Date

Rating

Target Price

Closing Price

1

29-Apr-2010 Accumulate

INR2,432

INR2,240

2

21-May-2010 Accumulate

INR2,335

INR1,997

3

16-Aug-2010 Buy

INR2,300

INR1,809

4

02-Nov-2010 Accumulate

INR2,501

INR2,165

Oct-10

Nov-10

Sep-10

Aug-10

Jul-10

Jun-10

May-10

Apr-10

Mar-10

Jan-10

Feb-10

Dec-09

Nov-09

Oct-09

Sep-09

Aug-09

Jul-09

Jun-09

May-09

Apr-09

Mar-09

Feb-09

Jan-09

Dec-08

Nov-08

Oct-08

Sep-08

Aug-08

Jul-08

Jun-08

May-08

Apr-08

0

Covered

 

Guide to Research Rating

68

BUY

Absolute Return >+20%

ACCUMULATE

Absolute Return +5% to +20%

REDUCE

Absolute Return -5% to +5%

SELL

Absolute Return < -5%

 

Elara Securities (India) Private Limited

9 November 2010

India | Cement

Company Update

 

 

Grey eminence

Rating : Buy

Grey cement capacity up 67%, to prop up earnings

Target Price : INR220 Upside : 31% CMP : INR168 ( As on 2 November 2010)

JK Cement Limited (JKCEM) has increased its grey cement capacity by 67% from 4.5mn tonnes to 7.5mntonnes, through a greenfield expansion in Karnataka. The capacity expansion is likely to spur the volume growth in FY11 as well as in FY12. On account of the capacity addition, we expect JKCEM’s grey cement volume to go up at a CAGR of 16.8%, cushioning earnings of the company from a decline in margins.

Key data* Bloomberg /Reuters Code Current /Dil. Shares O/S (mn) Mkt Cap (INRbn/US$mn) Daily Vol. (3M NSE Avg.) Face Value (INR)

White cement to provide stable cash flow

JKCE IN/JKCE.BO 70/70 12/264 107,900 10

1 US$= INR44.4

JKCEM has a capacity of 0.4mn tonnes in the white cement segment, characterized by the presence of just two players and a relatively steady demand (with higher realizations and margins). White cement realizations are ~4.6x higher than grey cement (INR13,301/tonne as compared to INR 2,873 tonne for grey). In Q2FY11 while white cement earned an EBITDA/tonne of INR 2,494, grey cement earned a negative EBITDA/tonne of INR 112. Thus we believe the white cement business will continue to provide the company stable cash flows to comfortably service its interest expenses.

Source: Bloomberg ; * As on 2 November 2010

Price & Volume 200

4

180

3

160

2

140

1

120 100

0

Oct-09 Mar-10 Vol. in mn (RHS)

Plans to hike capacity in North India by 2.5mn tonnes JKCEM is planning to increase its cement capacity in North region by way of a brownfield expansion. The expansion is likely to be complete by end of Q2FY13 post which, the total grey cement capacity in the North would touch 7mn tonnes while the overall capacity, 10mn tonnes. The capacity expansions will provide the company with a sustained volume growth in the coming years.

Jul-10 Nov-10 JK Cement (LHS)

Source: Bloomberg

Share holding (%)

Q3FY10 Q4FY10 Q1FY11 Q2FY11

Promoter

65.3

65.3

65.3

65.3

Institutional Investors

20.0

18.9

19.7

20.0

Other Investors

3.8

4.2

3.8

4.2

General Public

10.9

11.6

11.2

10.5

12M

Source: BSE

Karnataka plant to reduce regional risk

Price performance (%)

JKCEM had a restrictive presence only in the Northern region prior to commissioning of the Karnataka plant which has slashed the regional risk. The company will become partly insulated from the slowdown in demand in Northern region post the Common Wealth Games.

3M

6M

12.3

17.0

32.1

5.9

(10.0)

37.4

Ultratech

30.1

17.5

51.5

ACC

28.0

17.5

51.9

Sensex JK Cement

Valuation

Source: Bloomberg

At the CMP of INR 168 per share, the stock is trading at 16.1x and 8.9x its FY11 and FY12 earnings, respectively. It is trading at EV/tonne of USD54 and USD51 of its FY11 and FY12 capacities, respectively. Considering the volume growth from the greenfield plant, stable cash flow from white cement business and a steep discount at which the stock is trading to its replacement cost we are reiterating a Buy rating on the stock with priced target of INR 220/share. 

Stock performance 180 Rebased to100

Global Markets Research

JK Cement

160 140 120 100 80 Nov-09

Feb-10

May-10

JK Cement

Aug-10

Nov-10

Sensex

Source: Bloomberg 

Key Financials Y/E Mar (INR mn) FY08 FY09 FY10 FY11E FY12E

Rev 14,583 14,968 18,268 21,308 25,214

YoY (%) 18.2 2.6 22.0 16.6 18.3

EBITDA 4,157 3,240 4,391 2,881 3,525

EBITDA (%) 28.5 21.6 24.0 13.5 14.0

Adj PAT 2,652 1,423 2,260 726 1,319

YoY (%) Fully DEPS 48.5 37.9 (46.3) 20.4 58.8 32.3 (67.9) 10.4 81.6 18.9

RoE (%) 41.5 17.0 22.6 6.5 10.8

P/E (x) EV/tonne (USD) EV/EBITDA (x) 4.4 81 3.5 8.2 96 6.4 5.2 65 4.3 16.1 54 6.7 8.9 51 5.2

Source: Company, Elara Securities Estimate  

 

Ravindra Deshpande • [email protected] • +91 22 4062 6805 Ravi Sodah • [email protected] • +91 22 4062 6817 Elara Securities (India) Private Limited

JK Cement Valuation trigger

  Financial closure of new projects

Investment summary ƒ

Robust volume growth to cushion the earnings of the company

ƒ

White cement business to provide stable cash flow

Ramping up of Karnataka plant.

250 3

2

200

1

 

150

Valuation trigger Target price reached

100

1. Ramping up of Karnataka plant. 2. Financial closure of new projects

50

Oct-11

Jun-11

Aug-11

Apr-11

Feb-11

Oct-10

Dec-10

Jun-10

Aug-10

Apr-10

Feb-10

Oct-09

Dec-09

Jun-09

Aug-09

Apr-09

Feb-09

Oct-08

Dec-08

Jun-08

Aug-08

Apr-08

0

Source: Bloomberg, Elara Securities Estimates

Valuation overview - EV/tonne based valuations Grey Cement mn tonnes

EV /tonne multiple

USD/tonne

Grey Cement business EV

INR Mn

Key risks ƒ

Slower ramp up of Karnataka plant

ƒ

Sharp decline in cement prices

  FY12E

Capacity

 

Our assumptions ƒ

Grey cement volumes to grow at CAGR of ~16.8%

ƒ

White cement volumes to grow at CAGR of 15%

7.5 62 20,847

White Cement Capacity

mn tonnes

0.4

EV /tonne multiple

USD/tonne

125.0

White Cement business EV

INR Mn

2,250

EV

INR mn

23,097

Less: Net Debt

INR mn

7,695

Target Market Capitalization

INR mn

15,401

Diluted Shares outstanding

mn

 

70

Target Price

INR/ share

220

Current Market Price

INR/ share

168

Potential Upside/(downside)

(%)

31.4

Source: Company, Elara Securities Estimates

Valuation driver: EV/tonne , RoE and RoCE 45

100

35 %

EV/tonne

120

80 25 60 15

40 20

EV/Tonne in USD(LHS)

RoE(RHS)

FY12E

FY11E

FY10E

FY09

FY08

FY07

FY06

5

ROCE (RHS)

Source: Elara Securities Research

70

   

Elara Securities (India) Private Limited

JK Cement

Financials (Y/E Mar)

Cash Flow Statement (INR mn) Cash profit adjusted for non cash items Add/Less : Working Capital Changes Operating Cash Flow Less:- Capex Free Cash Flow Financing Cash Flow Investing Cash Flow Cash Balance transferred from Jaycem Net change in Cash Ratio Analysis Income Statement Ratios (%) Revenue Growth EBITDA Growth PAT Growth EBITDA Margin Net Margin Return & Liquidity Ratios Net Debt/Equity (x) ROE (%) ROCE (%) Per Share data & Valuation Ratios Diluted EPS (INR/Share) EPS Growth (%) DPS (INR/Share) P/E Ratio (x) EV/EBITDA (x)* EV/Sales (x)* EV/Tonne (USD)* Dividend Yield (%)

FY12E 25,214 3,525 273 3,797 1,160 2,637 697 1,940 621 1,319 1,319

FY09

FY10

FY11E

FY12E

699 11,161 5,644 17,505 14,411 2,254 12,158 351 107 5,871 24 (1,006) 17,505

699 12,838 10,737 24,275 23,767 3,245 20,522 2,253 60 3,271 27 (1,858) 24,275

699 13,569 9,887 24,156 26,267 4,344 21,923 1,000 60 3,004 27 (1,858) 24,156

699 14,807 8,387 23,893 27,767 5,504 22,263 1,100 60 2,302 27 (1,858) 23,893

FY09

FY10

FY11E

FY12E

2,506 (93) 2,412 (916) 1,496 (1,793) 92

2,687 240 2,927 (1,247) 1,680 (1,707) -

3,095 63 3,158 (1,600) 1,558 (2,197) -

(204)

3,400 (820) 2,580 (1,989) 591 (796) 65 204 65

(26)

(639)

FY09

FY10

FY11E

FY12E

2.6 (22.1) (46.3) 21.6 9.5

22.0 35.5 58.8 24.0 12.4

16.6 (34.4) (67.9) 13.5 3.4

18.3 22.3 81.6 14.0 5.2

0.5 17.0 16.9

0.9 22.6 17.9

0.7 6.5 8.1

0.6 10.8 11.0

20.4 (46.3) 3.5 8.2 6.4 1.4 95.6 2.1

32.3 58.8 6.0 5.2 4.3 1.0 64.7 3.6

10.4 (67.9) 1.0 16.1 6.7 0.9 53.6 0.6

18.9 81.6 1.0 8.9 5.2 0.7 51.1 0.6

Revenue & margins growth trend 30,000

30

24.0

21.6 20,000

14.0

13.5

10,000

20 (%)

FY11E 21,308 2,881 180 3,061 1,099 1,962 857 1,106 379 726 87 813

10 0

0 FY09

FY10

Net Revenues (LHS)

FY11E

FY12E

EBITDA Margin (RHS)

Source: Company, Elara Securities Estimate

  Adjusted profits growth trend 81.6

2,500

58.8

2,000

50

1,500 1,000

100

0

(46.3)

(67.9)

500

Cement

Share Capital Reserves Borrowings Total Liabilities Gross Block Less:- Accumulated Depreciation Net Block Add:- Capital work in progress Investments Net Working Capital Miscellaneous Expenses not written off Net Deferred Tax Total Assets

FY10 18,268 4,391 193 4,584 855 3,729 616 3,113 853 2,260 2,260

(%)

Balance Sheet (INR mn)

FY09 14,968 3,240 79 3,319 524 2,795 455 2,340 916 1,423 1,423

(INR mn)

Net Revenues EBITDA Add:- Non operating Income OPBIDTA Less :- Depreciation & Amortization EBIT Less:- Interest Expenses PBT Less :- Taxes Adjusted PAT Add/Less: - Extra-ordinaries Reported PAT

(INR mn)

Income Statement (INR mn)

(50)

0

(100) FY09

FY10

Adjusted PAT (LHS)

FY11E

FY12E

PAT Growth (RHS)

Source: Company, Elara Securities Estimate

  Return ratios (%) 22.6

25 20 15

17.0 16.9

11.0

17.9

10

8.1

5

6.5

10.8

0 FY09

FY10 ROE

FY11E ROCE

FY12E

Source: Company, Elara Securities Estimate

   

Revenues to grow at a CAGR of 17% on the back of strong volume

Debt equity to remain comfortable despite capacity additions

*JKCEM had set up a green field plant in a subsidiary which was merged with parent in FY10. For comparison purpose EV based ratios are taken on consolidated basis for FY09 Source: Company, Elara Securities Estimate

 

  Elara Securities (India) Private Limited 

71

JK Cement JK Cement

Valuation & Recommendation ‰ Trades at 49% discount to its replacement cost, market overlooks stable white cement business ‰ Valuing grey cement at distress EV/tonne of USD62,white cement at conservative USD185 ‰ Restating our Buy rating, target price unchanged at INR220

Valuation

Exhibit 1: EV/tonne based valuations

At the CMP of INR 168 per share, the stock is trading at 16.1x and 8.9x its FY11 and FY12 earnings, respectively. It is trading at EV/tonne of USD54 and USD51 of its FY11 and FY12 capacities, respectively. Despite stable cash flow in the white cement business and robust volume growth in grey cement the stock is trading at sharp discount to its replacement cost. Thus we are reiterating our Buy rating on the stock with unchanged target price of INR 220 per share

Grey Cement

We have valued the company on SOTP basis. We have valued the grey cement business of the company at EV/tonne of USD 62 (equivalent to distress case value) and white cement business at EV/tonne of USD 185. We have assigned higher valuations to white cement business due to the fact that profitability (3.9x of grey cement in Q1FY11) and replacement cost (3x of grey cement) for white cement plant is much higher than grey cement.

Less: Net Debt

INR mn

7,695

Target Market Capitalization

INR mn

15,401

Diluted Shares outstanding

mn

FY12E Capacity

mn tonnes

EV /tonne multiple

USD/tonne

Grey Cement business EV

INR Mn

7.5 62 20,847

White Cement Capacity

mn tonnes

0.4

EV /tonne multiple

USD/tonne

125.0

White Cement business EV

INR Mn

2,250

EV

INR mn

23,097

70

Target Price

INR/ share

220

Current Market Price

INR/ share

168

Potential Upside/(downside)

(%)

31.4

Source: Company, Elara Securities Estimates

 

72

 

Elara Securities (India) Private Limited

JK Cement

Company Description

Board of Directors& Management Gaur Hari Singhania, Chairman Dr. Singhania, our Chairman, holds a Master of Arts degree in Economics and a PhD degree in Economics from Agra University. He has corporate experience spanning 50 years. He has been associated with the Company as its Promoter Director and has led our Company since its inception in 1994. He is also the Chairman of JKSL, Juggilal Kamlapat Cotton Spg. & Wvg. Mills Company Limited and J.K. Traders Limited. He has held the position of Chairman of the Merchant Chambers of Uttar Pradesh and Employers Association of Northern India. He has also been the president of Uttar Pradesh Stock Exchange Association Limited. He has been a director of Pradeshiya Industrial Investment Corporation of Uttar Pradesh, UttarPradesh State Industrial Development Corporation and the Uttar Pradesh State Sugar Corporation. Currently, he is also the Chancellor of Dayanand Shiksha Sansthan and the President of Kanpur Education Society.

 

Elara Securities (India) Private Limited 

Yadupati Singhania, Managing Director and Chief Executive Officer Singhania, Managing Director and Chief Executive Officer, holds a Bachelor of Technology (B.Tech.) degree from Indian Institute of Technology, Kanpur. He has experience spanning 25 years in the cement industry. He has been associated with the Company as its Promoter Director and has led our Company since its inception in 1994. He was appointed Managing Director of the Company with effect from April 1, 2004. He was instrumental in setting up the JKSL Cement Division.

Cement

JK Cement Limited, a part of the JK group, was incorporated by acquiring the cement division assets of JK Synthetics in November 2004. It is an affiliate of the J.K. Organization, which was founded by Lala Kamlapat Singhania in the year 1994. Currently, JK Cement has grey cement capacity of 7.5 mn tonnes(in the state of Rajasthan and Karnataka) and white cement capacity of 0.4 mn tones (in the state of Rajasthan). The company is the second largest manufacturer of white cement in India. JK Cement sells cement under brand names Sarvashaktiman (43 grade OPC), JK Super (Blended cement) JK White Cement and JK Wall Putty. During FY10, the company had reported revenue of INR 18,268mn million (20% from white cement and 80% from grey cement) and a net profit of INR 2,260 mn million.

He is the Director of the Employers Association of Northern India, President of Kanpur Productivity Council, and member of the Board of Governors of the National Council for Cement and Building Material and Jodhpur Chamber of Commerce. He is also a member of the managing committee of Cement Manufacturers Association. He has held the position of District Governor of Rotary International and President of Foreign Trade Development (India) Association.

73

JK Cement

Coverage History

1

2

Jun-10

200

May-10

250

150

100

50

Not Covered

Date

Rating

Target Price

Closing Price

1

29-Apr-2010 Buy

INR245

INR185

2

1-Jun-2010

INR220

INR182

Buy

Oct-10

Nov-10

Sep-10

Aug-10

Jul-10

Apr-10

Mar-10

Jan-10

Feb-10

Dec-09

Nov-09

Oct-09

Sep-09

Aug-09

Jul-09

Jun-09

May-09

Apr-09

Mar-09

Feb-09

Jan-09

Dec-08

Nov-08

Oct-08

Sep-08

Aug-08

Jul-08

Jun-08

May-08

Apr-08

0

Covered

 

Guide to Research Rating BUY

Absolute Return >+20%

ACCUMULATE

Absolute Return +5% to +20%

REDUCE

Absolute Return -5% to +5%

SELL

Absolute Return < -5%

 

74

 

Elara Securities (India) Private Limited

9 November 2010

India | Cement

Company Update/Target price changed

 

 

Lord of low cost, master in a downturn

Rating : Buy

Brownfield expansion to steer volume growth

Target Price : INR87 Upside : 42% CMP : INR61(* As on 2 November 2010)

Orient Paper & Industries Limited (OPI) has increased its cement capacity from 3.4mn tonnes at the end of FY09 to 5mn tonnes at the end of FY10. On account of capacity additions, OPI has been growing 7.5x faster than the industry. Till August 2010, it has reported a dispatch growth of 40% compared to 4.7% for the industry. On the back of the strong volume growth, we expect EBITDA of the cement division to grow YoY by 20% in FY11 despite low cement prices. Low cost structure to guard earnings in downturn

Key data* Bloomberg /Reuters Code Current /Dil. Shares O/S (mn) Mkt Cap (INRbn/USDmn) Daily Vol. (3M NSE Avg.) Face Value (INR)

OPI IN/ORPP.BO 193/193 12/265 299,832 1

1 USD= INR44.4

OPI is the lowest cost producer (40% lower than industry average) of cement in India due to its efficient plants and logistical advantages. OPI is able to obtain all raw materials within a radius of 70 kms from its plant. The average lead distance to market for OPI is only 350 km as compared to 600 km for its peers. Furthermore, OPI is 100% dependent (out of which 75% is linkage coal) on domestic coal, prices of which are less volatile as compared to imported coal and petcoke. Domestic coal (post adjusted for differences in calorific value of coal) is cheaper than imported coal and petcoke by ~17% and ~13% respectively. We believe that low cost structure will guard earnings of the company in the downturn.

Source: Bloomberg ; * As on 2 November 2010

Price & Volume 70

8 6

60

4 50

2

40

0

Oct-09 Mar-10 Vol. in mn (RHS)

Jul-10 Nov-10 Orient Paper (LHS)

Source: Bloomberg

Investment accounts for 11% of market cap OPI holds 1.55 mn shares of Century Textiles and 0.9 mn shares of Hyderabad Industries. The market value of the company’s investment is approximately INR1.4bn (i.e 11% of MCAP). Apart from this, OPI has a paper plant at Brajrajnagar in Orissa where operations remain suspended since 1999. OPI currently has around 850 acres of land in this unit along with fully developed townships, educational institutions and recreational centers.

Valuation

Share holding (%)

Q3FY10 Q4FY10 Q1FY11 Q2FY11

Promoter

33.9

33.5

33.7

33.6

Institutional Investors

31.8

33.0

34.2

34.8

Other Investors

15.7

15.6

15.4

17.7

General Public

18.6

17.9

16.7

14.0

Source: BSE

Price performance (%)

3M

6M

12M

Sensex

12.3

17.0

32.1

Orient Paper

12.9

3.8

42.0

Ultratech

30.1

17.5

51.5

ACC

28.0

17.5

51.9

Source: Bloomberg

Despite having strong return ratios and margins, OPI is trading at a steep discount to its frontline cement companies and the replacement cost. At the CMP of INR 61 per share, the stock is trading at 6x and 5.8x its FY11 and FY12 earnings, respectively. It is trading at an implied EV/tonne of USD 50 and USD 40 its FY11 and FY12 capacities, respectively. We are reiterating a BUY rating on the stock with a revised priced target of INR 87/share. We have valued the company on SOTP basis and the company’s paper and fan division at EV/EBITDA multiple of 1.5X and 3x respectively. We have valued the cement division at an EV/tonne of USD62/tonne which we believe should be the fair value of the cement company in the down cycle.

Stock performance 160 Rebased to 100

Global Markets Research

Orient Paper

140 120 100 80 Nov-09

Feb-10

May-10

Orient Paper

Aug-10

Nov-10

Sensex

Source: Bloomberg 

Key Financials

 

Y/E Mar (INR mn) Rev YoY (%) EBITDA FY08 12,958 17.6 3,488 FY09 15,032 16.0 3,913 FY10E 16,198 7.8 3,074 FY11E 19,130 18.1 3,886 FY12E 21,935 14.7 3,786 Source: Company, Elara Securities Estimates

EBITDA (%) 26.9 26.0 19.0 20.3 17.3

Adj PAT 2,099 2,315 1,593 1,981 2,030

YoY (%) Fully DEPS 51.3 10.9 10.3 12.0 (31.2) 8.3 24.3 10.3 2.5 10.5

RoE (%) 66.9 41.3 22.6 23.2 19.7

P/E (x) EV/tonne (USD) EV/EBITDA (x) 5.6 75 3.8 5.1 96 4.1 7.4 68 5.4 6.0 50 3.4 5.8 40 2.9

Ravindra Deshpande • [email protected] • +91 22 4062 6805 Ravi Sodah • [email protected] • +91 22 4062 6817 Elara Securities (India) Private Limited

Orient Paper Valuation trigger

  Turnaround in paper division

Volume growth in cement division due to completion of brownfield expansion

100 90

Investment summary ƒ

Low cost structure to insulate the company from losses in downturn.

ƒ

Healthy book

3

80

balance

sheet,

investment

2 1

70

 

60

Valuation trigger

50 Target price reached

40

1. Volume growth in cement division due to completion of brownfield expansion

30 20 10

2. Turnaround in paper division Oct-11

Jun-11

Aug-11

Apr-11

Feb-11

Oct-10

Dec-10

Jun-10

Aug-10

Apr-10

Feb-10

Oct-09

Dec-09

Jun-09

Aug-09

Apr-09

Feb-09

Oct-08

Dec-08

Jun-08

Aug-08

Apr-08

0

Source: Bloomberg, Elara Securities Estimates

Valuation overview - Sum of Parts Valuation FY12E Grey Cement Capacity

mn tonnes

5.0

EV /tonne multiple

USD/tonne

62

Grey Cement business EV

INR Mn

14,062

INR mn

253.6

Paper EBITDA EV /EBITDA

x

Paper business EV

INR mn

380

EBITDA

INR mn

523

EV /EBITDA

x

Fan business EV

INR mn

1,568

Total EV

INR mn

16,011

Less: Net Debt

INR mn

(691)

Target Market Capitalization

INR mn

16,702

Diluted Shares outstanding

mn

  Key risks ƒ

Sharp decline in cement prices

ƒ

Slow down in cement demand

  Our assumptions ƒ

Cement Volume to grow at a CAGR of ~13%

ƒ

Realizations to increase at a CAGR of 0.5%.

1.5

 

Fan 3.0

193

Target Price

INR/ share

Current Market Price

INR/ share

Potential Upside/(downside)

(%)

87 61 41.7

Source: Company, Elara Securities Estimates

Valuation driver - P/BV, MCap/sales, P/CEPS, EV/EBITDA 14

20 15

10 8

10

6 4

5

2 0 FY12E

FY11E

FY10E

FY09

FY08

FY07

FY06

FY05

FY04

FY03

FY02

FY01

FY00

0

EV/EBITDA & P/CEPS

P/BV & Mcap/ Sales

12

P/BV(RHS)

MCap/Sales(RHS)

P/CEPS(LHS)

EV/EBITDA(LHS)

Source: Elara Securities Estimates

76

  

Elara Securities (India) Private Limited

Orient Paper

Financials (Y/E Mar)

Cash Flow Statement (INR mn) Cash profit adjusted for non cash items Add/Less : Working Capital Changes Operating Cash Flow Less:- Capex Free Cash Flow Financing Cash Flow Investing Cash Flow Net change in Cash Ratio Analysis (INR mn) Income Statement Ratios (%) Revenue Growth EBITDA Growth PAT Growth EBITDA Margin Net Margin Return & Liquidity Ratios Net Debt/Equity (x) ROE (%) ROCE (%) Per Share data & Valuation Ratios Diluted EPS (INR/Share) EPS Growth (%) DPS (INR/Share) P/E Ratio (x) EV/EBITDA (x) EV/Sales (x) EV/tonne (USD) Dividend Yield (%)

FY12E 21,935 3,786 181 3,967 789 3,178 149 3,029 1,000 2,030 2,030

FY09

FY10

FY11E

FY12E

203 6,326 4,623 11,153

203 7,564 5,163 12,930

193 9,319 4,575 14,087

193 11,123 4,015 15,331

8,503 4,658 3,845 6,587 92 1,107 (502) 23 11,153

16,365 5,206 11,159 567 471 1,834 (1,103) 12,930

17,365 5,982 11,383 3,00 171 3,335 (1,103) 14,087

17,465 6,770 10,695 900 171 4,668 (1,103) 15,331

FY09

FY10

FY11E

FY12E

3,152 (520) 2,632 (5,026) (2,394) 2,426 40 73

2,756 (137) 2,619 (1,919) 700 (256) (315) 129

3,080 1,318 4,398 (732) 3,666 (1,229) 383 2,819

2,967 87 3,054 (700) 2,354 (1,144) 210 1,420

FY09

FY10

FY11E

FY12E

16.0 12.2 10.3 26.0 15.4

7.8 (21.5) (31.2) 19.0 9.8

18.1 26.4 24.3 20.3 10.4

14.7 (2.6) 2.5 17.3 9.3

0.7 41.3 43.1

0.6 22.6 22.5

0.1 23.2 24.5

(0.1) 19.7 21.7

12.0 10.3 1.5 5.1 4.1 1.1 95.6 2.5

8.3 (31.2) 1.5 7.4 5.4 1.0 68.3 2.5

10.3 24.3 1.0 6.0 3.4 0.7 50.1 1.6

10.5 2.5 1.0 5.8 2.9 0.5 39.8 1.6

25,000

26.0

30 19.0

20.3

17.3

20,000

20

15,000

10

10,000

0

FY09 FY10 Net Revenues (LHS)

FY11E FY12E EBITDA Margin (RHS)

Source: Company, Elara Securities Estimate

  Adjusted profits growth trend 24.3

2,500

30 20

2,000 1,500

2.5

(2.2)

10 0

1,000

(10)

(20.4)

500

(20) (30)

0 FY09 FY10 Adjusted PAT (LHS)

FY11E FY12E PAT Growth (RHS)

Source: Company, Elara Securities Estimate

  Return ratios (%) 50

43.1

40 30

41.3

20

22.6

24.5

22.5

23.2

FY10

FY11E

21.7 19.7

10 0 FY09

ROE

FY12E ROCE

Source: Company, Elara Securities Estimate

   

Strong return ratios

Source: Company, Elara Securities Estimate

 

Revenue & margins growth trend

(%)

FY11E 19,130 3,886 179 4,066 776 3,290 334 2,956 976 1,981 1,981

Cement

Share Capital Reserves Borrowings Total Liabilities Applications Gross Block Less:- Accumulated Depreciation Net Block Add:- Capital work in progress Investments Net Working Capital Deferred Tax (Net) Miscellaneous Expenses not written off Total Assets

FY10 16,198 3,074 163 3,237 550 2,686 345 2,341 748 1,593 1,593

(%)

Balance Sheet (INR mn)

FY09 15,032 3,913 212 4,126 347 3,779 191 3,588 1,273 2,315 314 2,001

(INR mn)

Net Revenues EBITDA Add:- Non operating Income OPBIDTA Less :- Depreciation & Amortization EBIT Less:- Interest Expenses PBT Less :- Taxes Adjusted PAT Add/Less: - Extra-ordinaries Reported PAT

(INR mn)

Income Statement (INR mn)

  Elara Securities (India) Private Limited 

Trading at a discount to its peers despite having strong return ratios

77

Orient PaperPaper Orient

Valuation & Recommendation ‰ Stock at 60% discount to its replacement cost albeit superior margins and return ratios ‰ Cement business valued at distress EV/tonne of USD62 for its adverse regional mix ‰ Reiterate our Buy rating, revise target price to INR87 At the CMP of INR61 per share, the stock is trading at 6x and 5.8x its FY11 and FY12 earnings, respectively. It is trading at an implied EV/tonne of USD 50 and USD 40 its FY11 and FY12 capacities, respectively. Despite having a healthy balance sheet and return ratios, OPI is trading at a steep discount to its peers and replacement cost. Thus we reiterate our Buy rating on the stock with a revised target price of INR 87 per share. We have valued the company on SOTP basis and the company’s paper and fan division at EV/EBITDA multiple of 1.5X and 3x respectively. We have valued the cement division at an EV/tonne of USD62/tonne. We have not assigned any value for investments which have a current market value of INR1.4bn We also have not assigned any value to the surplus land.

Exhibit 1: Sum of Parts Valuation FY12E Grey Cement Capacity

mn tonnes

EV /tonne multiple

USD/tonne

5.0

Grey Cement business EV

INR Mn

14,062

EBITDA

INR mn

253.6

EV /EBITDA

x

Paper business EV

INR mn

380

EBITDA

INR mn

523

EV / EBITDA

x

62

Paper 1.5

Fan 3.0

Fan business EV

INR mn

1,568

Total EV

INR mn

16,011

Less: Net Debt

INR mn

(691)

Target Market Capitalization

INR mn

16,702

Diluted Shares outstanding

mn

Target Price

INR/ share

193 87

Current Market Price

INR/ share

61

Potential Upside/(downside)

(%)

41.7

Source: Company, Elara Securities Estimates

 

78

 

Elara Securities (India) Private Limited

Orient Paper

Company Description Orient Paper & Industries Limited is the flagship company of CK Birla Group with cement, paper and electrical business segments. In FY10 company derived 55% of its revenue from cement, 30% from electrical and 15% from paper business.

OPI has two paper manufacturing plants at Amlai (in Madhya Pradesh) and Brajrajnagar (in Orissa). The operations at the Brajrajnagar plant, which has an installed capacity to produce 76,000 TPA of paper, have been suspended since 1999. The plant had made a loss of INR 71.6 mn at the EBIT level in FY10. OPI currently has around 850 acres of land in this unit along with fully developed townships, educational institutions and recreational centers. The Amlai plant has a capacity of 95,000 TPA (including 10,000 tonnes of tissue paper capacity). It produces writing, printing and tissue paper. The company sells paper under the brands ‘Orient’ and ‘Peacock’. OPI electrical division is located in Kolkata (in West Bengal) and Faridabad (in Haryana) with an installed capacity of 3.58 mn units per annum. The division sells ceiling fans, portable fans and exhaust fans under the brand name of ‘Orient Fan’ and ‘Orient PSPO’ and also exports to countries in the Middle East and the US.

Cement

OPI’s cement division has a 5mn tonnes capacity with manufacturing facilities at Devapur in Andhra Pradesh and Jalgaon in Maharastra. The locations of cement plants give access to key consumer markets in Maharashtra, Andhra Pradesh and Gujarat.

Board of Directors & Management CK Birla, Non-Executive Chairman CK Birla is Non-Executive Chairman of the Board of OPI. He is an industrialist having vast business experience. He holds directorship in companies like Hindustan Motors Limited., National Engineering Industries Limited., AVTEC Limited, Hyderabad Industries Limited., Birlasoft (India) Limited., The Indian Smelting & Refining Company Limited, Birla Associates Private Limited (Singapore), Nigeria Engg.Works Limited (Nigeria), Birlasoft Inc. USA, Birlasoft (U.K.) Limited London, Birla Brothers Private Limited. Manohar Pachisia, Managing Director M L Pachisia is Managing Director and Executive Director of OPI. He has an experience of over 47 years and controls the affairs of the Company as

 

Elara Securities (India) Private Limited 

a whole. His directorships include GMMCO Limited., National Engg. Industries Limited.., Birla Buildings Limited.., Soorya Vanijya & Investment Limited., Gwalior Finance Corp. Limited., Birlasoft (India) Limited., National Bearing Company (Jaipur) Limited.., Birlasoft Enterprises Limited., Nigeria Engineering Works Limited. (Nigeria), Rivers Vegetable Oil Company Limited. Michael Bastian, Additional Director Michael Bastian has been appointed as an Additional Director of OPI. Mr. Michael Bastian’s directorship includes Hindustan Copper Limited., Elder Pharmaceuticals Limited, Artson Engineering Limited.., National Textile Corporation Limited, Indian Oil Corporation Limited.

79

Orient Paper

Coverage History 70

1

60 2 50 40 30 20 10

Not Covered

Date

Rating

Target Price

Closing Price

1

29-Apr-2010 Buy

INR80

INR64

2

02-Nov-2010 Buy

INR87

INR61

Oct-10

Nov-10

Sep-10

Aug-10

Jul-10

Jun-10

May-10

Apr-10

Mar-10

Jan-10

Feb-10

Dec-09

Nov-09

Oct-09

Sep-09

Aug-09

Jul-09

Jun-09

May-09

Apr-09

Mar-09

Feb-09

Jan-09

Dec-08

Nov-08

Oct-08

Sep-08

Aug-08

Jul-08

Jun-08

May-08

Apr-08

0

Covered

 

Guide to Research Rating

80

BUY

Absolute Return >+20%

ACCUMULATE

Absolute Return +5% to +20%

REDUCE

Absolute Return -5% to +5%

SELL

Absolute Return < -5%

 

Elara Securities (India) Private Limited

9 November 2010

India | Cement

Company Update/Target price changed

 

 

Cementing its true place

Rating : Buy

Capacity to go up by 67%, debottlenecking to boost volume

Target Price : INR78 Upside : 24% CMP : INR63 (as on 2 November 2010)

JK Lakshmi Limited (JKL) is in the process of increasing its cement capacity by 67% from existing 4.75mn tonnes to 7.95mn tonnes by end of FY13 through a new greenfield plant and debottlenecking of the existing plant. The debottlenecking would enhance cement volume of JKL at a CAGR of ~1% (FY10-12) while the benefit from the greenfield plant is expected to be visible only from end of FY13. Savings from captive power to partly mitigate margin pressure The company is also expanding its captive power capacity to 66 MW by setting up a 12 MW waste heat recovery plant (WHR) and an 18 MW thermal power plant at Sirohi, Rajasthan. For the WHR plant, which will generate carbon credits, the variable cost will be INR0.3-0.4 per unit. Savings from captive power (INR130/tonne) is expected to partly cushion the margins for the company.

Key data* Bloomberg /Reuters Code Current /Dil. Shares O/S (mn) Mkt Cap (INRbn/USDmn) Daily Vol. (3M NSE Avg.) Face Value (INR)

Source: Bloomberg ; * As on 2 November 2010

Price & Volume

Enough cash to fund capex, sound debt equity ratio too At the end of FY10, JKL had gross cash and investments of INR7bn (INR 57 per share,) and a comfortable net debt equity ratio of 0.2x. We believe that the cash balance and internal accruals will be sufficient to fund capex plan of the company for the next 1.5 years. Thus we expect the company’s gross debt (~INR9.2bn) to remain at current levels up to end of FY12. Not to make losses in current cycle on lower leverage Unlike the last down cycle, we do not expect JK Lakshmi to incur losses (on an annual basis) in the current down cycle as it has lower leverage, and has undertaken cost cutting measures. Despite strong fundamentals and an increase in replacement cost, the stock is trading at a discount to the last down cycle.

90

4

80

3

70

2

60

1

50

0

Oct-09

Feb-10 Vol. in mn (RHS)

Jun-10

Oct-10 JK Laxmi (LHS)

Source: Bloomberg

Share holding (%)

Q3FY10 Q4FY10 Q1FY11 Q2FY11

Promoter

44.5

44.2

44.2

44.2

Institutional Investors

20.9

21.2

22.7

19.4

Other Investors

9.5

9.5

9.6

15.3

General Public

25.2

25.1

23.5

21.1

Source: BSE

Price performance (%)

3M

6M

12M

12.3

17.0

32.1

4.3

(9.7)

3.7

Ultratech

30.1

17.5

51.5

ACC

28.0

17.5

51.9

Sensex JK Lakshmi Cement

Valuation

JKLC IN/JKLC.BO 122/122 8/174 201,113 5

1 USD= INR 44.4

Source: Bloomberg

At the CMP of INR63, JKL is trading at 6.4x and 4.8x its FY11 and FY12 earnings respectively. On an EV/tonne basis, it is trading at USD47 and USD55 at its FY11 and FY12 capacities respectively. Despite much stronger fundamentals and an increase in replacement costs, the stock is trading at a discount to the last down cycle. The stock is trading at close to half of its replacement cost and 20% discount to the FY10 book value. Thus we are reiterating our Buy rating on the stock with a revised priced target of INR78/share. We have valued the company at EV/tonne of USD62 on FY12 capacity.

Stock performance 140 Rebased to 100

Global Markets Research

JK Lakshmi Cement

120 100 80 Nov-09

Feb-10

May-10

JK Laxmi

Aug-10

Nov-10

Sensex

Source: Bloomberg 

Key Financials Y/E Mar (INR mn) FY08 FY09 FY10 FY11E FY12E

Rev 11,077 12,245 14,905 14,420 17,392

YoY (%) 31.3 10.6 21.7 (3.3) 20.6

EBITDA EBITDA (%) 3,513 31.7 3,106 25.4 4,246 28.5 2,852 19.8 3,505 20.2

Adj PAT 2,237 1,786 2,411 1,205 1,606

YoY (%) Fully DEPS 25.6 18.3 (20.2) 14.6 35.0 19.7 (50.0) 9.8 33.3 13.1

RoE (%) 43.5 25.2 27.2 11.6 13.8

P/E (x) 3.5 4.3 3.2 6.4 4.8

EV/tonne (USD) EV/EBITDA 68.2 3.1 49.7 3.3 46.6 2.3 47.0 3.8 54.7 3.6

Source: Company, Elara Securities Estimates

 

Ravindra Deshpande • [email protected] • +91 22 4062 6805 Ravi Sodah • [email protected] • +91 22 4062 6817 Elara Securities (India) Private Limited

JK Lakshmi Cement Valuation trigger

  Brownfield cement expansion coming on stream

CPPs coming on stream

Investment summary ƒ

Cement capacity to increase by 67%

ƒ

CPP capacity to increase by 83%

90 80

3 2

70

1

60 50 40

Target price reached

30

  Valuation trigger 1. Brownfield cement expansion coming on stream 2. CPPs coming on stream

20

 

10

Key risks Oct-11

Jun-11

Aug-11

Apr-11

Feb-11

Oct-10

Dec-10

Jun-10

Aug-10

Apr-10

Feb-10

Oct-09

Dec-09

Jun-09

Aug-09

Apr-09

Feb-09

Oct-08

Dec-08

Jun-08

Aug-08

Apr-08

0

Source: Bloomberg, Elara Securities Estimates

ƒ

Sharp decline in cement prices

ƒ

Slow down in cement demand

  Our assumptions

Valuation overview - EV/tonne based valuations FY12E Capacity

mn tonnes

EV /tonne multiple

USD/tonne

EV

INR mn

62 14,890

INR mn

5,296

Target Market Capitalization

INR mn

9,594

Diluted Shares outstanding

mn

Target Price

INR/ share

78

Current Market Price

INR/ share

63

Potential Upside/(downside)

(%)

122

24.0

Source: Company, Elara Securities Estimates

Valuation driver - EV/tonne , RoE and RoCE 140

50

25

100 80

0

60 40

(25)

20 0

 

82

 

RoE(RHS)

FY05

FY04

FY02

FY01

FY00

FY99

FY98

FY97

FY96

FY95

FY94

(50)

RoCE (RHS)

(%)

EV per tonne (USD)

120

Source: Elara Securities Research

Cement Volume to grow at a CAGR of ~1%

ƒ

Realizations to increase at a CAGR of 3.7%.

5.3

Less: Net Debt

EV/Tonnein USD(LHS)

ƒ

JK Lakshmi Cement

Financials (Y/E Mar) FY11E

FY12E

14,420

17,392

3,106

4,246

2,852

3,505

61

93

94

101

3,167

4,339

2,946

3,606

Add:- Non operating Income OPBIDTA Less :- Depreciation & Amortization EBIT

691

800

952

1,071

2,476

3,539

1,994

2,535

Less:- Interest Expenses PBT

209

230

387

393

2,267

3,309

1,606

2,141

Less :- Taxes Adjusted PAT

481

897

402

535

1,786

2,411

1,205

1,606

-

-

-

-

Add/Less: - Extra-ordinaries

Revenue & margins growth trend 20,000

0

2,411

1,205

1,606

FY11E

FY12E

612

612

612

612

Reserves

7,701

9,595

10,619

12,065

3,000

Borrowings

7,027

9,217

9,217

9,217

2,500

351

921

921

921

2,000

Total Liabilities

15,690

20,346

21,369

22,815

Gross Block

17,605

19,036

22,546

22,646

7,474

8,406

9,358

10,429

10,131

10,630

13,189

12,218

970

1,820

2,400

6,600 3,305

Net Working Capital Total Assets Cash Flow Statement (INR mn) Cash profit adjusted for non cash items

Less:- Capex

(INR mn)

1,500

33.3

40 20 0

(20.2)

(20)

1,000

(50.0)

500

(40) (60)

0 FY09 FY10 Adjusted PAT (LHS)

4,805

4,805

3,091

975

692

15,690

20,346

21,369

22,815

FY09

FY10

FY11E

FY12E

 

2,864

3,664

2,544

3,070

253

(98)

865

(54)

Return ratios (%)

3,117

3,566

3,409

3,016

30

(2,246)

(2,307)

(4,091)

(4,300)

25

871

1,259

(681)

(1,284)

20

(670)

1,229

(862)

(818)

FY11E FY12E PAT Growth (RHS)

Source: Company, Elara Securities Estimate

15

Investing Cash Flow

(410)

(3,550)

294

1,764

10

Net change in Cash

(209)

(1,063)

(1,249)

(338)

5

Ratio Analysis

FY09

FY10E

FY11E

FY12E

0

10.6

21.7

(3.3)

20.6

EBITDA Growth

(11.6)

36.7

(32.8)

22.9

PAT Growth

(20.2)

35.0

(50.0)

33.3

EBITDA Margin

25.4

28.5

19.8

20.2

Net Margin

14.6

16.2

8.4

9.2

25.2

19.3

27.2

21.9

11.6 11.1

FY09

Income Statement Ratios (%) Revenue Growth

35.0

889

Free Cash Flow Financing Cash Flow

Adjusted profits growth trend

3,700

Add/Less : Working Capital Changes Operating Cash Flow

 

(%)

Investments

FY11E FY12E EBITDA Margin (RHS)

Source: Company, Elara Securities Estimate

FY10E

Add:- Capital work in progress

0

FY09 FY10 Net Revenues (LHS)

FY09

Net Block

10

5,000

1,786

Less:- Accumulated Depreciation

20

10,000

Balance Sheet (INR mn)

Deferred Tax (Net)

30 20.2

19.8

15,000

Reported PAT Share Capital

28.5

25.4

Cement

FY10 14,905

(%)

EBITDA

FY09 12,245

(%)

Net Revenues

(INR mn)

Income Statement (INR mn)

FY10 ROE

FY11E

13.8 12.8

FY12E

ROCE

Source: Company, Elara Securities Estimate

   

Return & Liquidity Ratios Net Debt/Equity (x)

0.4

0.2

0.3

0.4

ROE (%)

25.2

27.2

11.6

13.8

ROCE (%)

19.3

21.9

11.1

12.8

Comfortable debt equity ratio

Per Share data & Valuation Ratios Diluted EPS (INR/Share)

14.6

19.7

9.8

13.1

EPS Growth (%)

(20.2)

35.0

(50.0)

33.3

DPS (INR/Share)

2.0

2.5

1.8

1.6

P/E Ratio (x)

4.3

3.2

6.4

4.8

EV/EBITDA (x)

3.3

2.3

3.8

3.6

EV/Sales (x)

0.9

0.7

0.8

0.7

49.7

46.6

47.0

54.7

3.2

4.0

2.8

2.5

EV/tonne (USD) Dividend Yield (%) Source: Company, Elara Securities Estimate

 

Elara Securities (India) Private Limited 

Trading at a steep discount to the large cap peers as well as to its replacement cost 83

JK Lakshmi Cement Cement JK Lakshmi

Valuation & Recommendation ‰ Available at subdued valuation, trading at 45% discount to its replacement cost ‰ Valuing cement business at distress EV/tonne of USD62, pricing in all negatives ‰ Reiterating our Buy rating, revising target price to INR78 At the CMP of INR63, JKL is trading at 6.4x and 4.8x its FY11 and FY12 earnings respectively. On an EV/tonne basis, it is trading at USD47and USD55 at its FY11 and FY12 capacities respectively. The stock is trading at 13% discount to the distress value of a cement plant (USD 62) despite having strong balance sheet. The stock is trading at 5% discount to its own last down cycle valuations despite much stronger fundamentals. Thus we are reiterating our Buy rating on the stock with revised target price of INR 78 per share.

Exhibit 1: EV/tonne based valuations FY12E Capacity

Mn tonnes

5.3

EV /tonne multiple

USD/tonne

62

EV

INR Mn

Less: Net Debt

INR Mn

5,296

Target Market Capitalization

INR Mn

9,594

Diluted Shares outstanding

mn

Target Price

INR/ share

78

Current Market Price

INR/ share

63

Potential Upside/(downside)

(%)

Source: Company, Elara Securities Estimates

 

84

 

14,890

122

24.0

JK Lakshmi Cement

Company Description JK Lakshmi Cement Limited, a mid-sized cement company, is the flagship company of Hari Shankar Singhania group and was earlier known as JK Corp. The company started its cement business in 1982 with a total installed capacity of 5lakhs tonnes pa in Sirohi district of Rajasthan which at present stands at 4.75mn tonnes. The company is planning to increase it to 7.95mn tonnes by end of FY13. The company also has a 36 MW CPP at Sirohi, Rajasthan and 11 RMC units of capacity 0.75mn cubic meters. The major selling markets of the company include Rajasthan, Gujarat, Maharashtra and other North Indian states (viz: J&K, Himachal Pradesh, Punjab, Haryana, Delhi and West UP).

Hari Shankar Singhania, Non-Executive Chairman

Shailendra Chouksey, Director

Hari Shankar Singhania is the Non-Executive Chairman of JK Lakshmi Cement

Shailendra Chouksey, is the Whole Time Director of JK Lakshmi Cement

Vinita Singhania, Managing Director, Vinita Singhania is the Managing Director of JK Lakshmi Cement

 

Elara Securities (India) Private Limited 

Cement

Board of Directors & Management

85

JK Lakshmi Cement

Coverage History 90 80

1

70 60

3

2

50 40 30 20

Not Covered

Date

Rating

Target Price

Closing Price

1

29-Apr-2010 Buy

INR100

INR72

2

28-Jul-2010

Buy

INR90

INR63

3

02-Nov-2010 Buy

INR78

INR63

 

Guide to Research Rating

86

BUY

Absolute Return >+20%

ACCUMULATE

Absolute Return +5% to +20%

REDUCE

Absolute Return -5% to +5%

SELL

Absolute Return < -5%

 

Covered

Oct-10

Nov-10

Sep-10

Aug-10

Jul-10

Jun-10

May-10

Apr-10

Mar-10

Jan-10

Feb-10

Dec-09

Nov-09

Oct-09

Sep-09

Aug-09

Jul-09

Jun-09

May-09

Apr-09

Mar-09

Feb-09

Jan-09

Dec-08

Nov-08

Oct-08

Sep-08

Aug-08

Jul-08

Jun-08

May-08

Apr-08

10

Elara Securities (India) Private Limited

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Global Markets Research

Disclosures & Confidentiality

Any clarifications / queries on the proposal as well as any future communication regarding the proposal should be addressed to Elara Securities (India) Private Limited / the company.

Disclaimer The information contained in this note is of a general nature and is not intended to address the circumstances particular individual or entity. Although we endeavor to provide accurate and timely information, there can guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the No one should act on such information without appropriate professional advice after a thorough examination particular situation.

 

 

of any be no future. of the

 

87 87

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