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ANALYST CERTIFICATION AND REQUIRED DISCLOSURES BEGIN ON LAST PAGE

July 12, 2019

We resume coverage on the Pakistan Cement sector with an Underweight stance, as we believe the weak short-term outlook overrides favorable long-term prospects, at least for now. The compression in both demand and margins will continue this year, amidst a tough economic backdrop and risks to the government’s allocation towards infrastructure development. Demand should improve from FY21f, but only moderately.

We see sector profitability declining by a sharp 69% yoy in FY20f, led by the second consecutive year of declining local demand (-3% yoy), and lower margins. There are safeguards against a full-fledged price war, but intermittent price disruptions are inevitable, in our view, as some producers have relatively low breakeven price levels.

Our Cement Universe may look undervalued on EV/ton basis (cheaper than in times of price wars) but not particularly so on EV/EBITDA. We have Buys on LUCK (diversification + unlevered balance sheet) and KOHC (EV/ton of just US$21/ton). We are Neutral on MLCF and DGKC, and have Sells on CHCC and FCCL.

Downturn in demand to continue We expect local cement demand to decline by 3% yoy in FY20f, before growing at a 6% CAGR over the following 2-3 years. Near-term risks arise from potential cuts to the government’s allocation for infrastructure development, particularly if the government remains fiscally constrained, as well as from the general weak economic backdrop which is likely to affect private sector demand. Medium-term demand dynamics may be affected by the PTI’s relatively lower focus on infrastructure development, at least compared to the PML-N. The government’s low-cost housing scheme and construction of large dams serve as upside risks to our thesis, but we see implementation risks on both.

Margins have no respite Gross margins for our coverage cluster have reduced by c. 8ppt to 23% (estimated) in FY19, and are expected to reduce further to 18% in FY20f. Other than the possibility of lower cement prices, cost pressures have already build up and are likely to escalate in FY20f because of: (i) the after-effects of c 35% PKR depreciation in the last 18 months, (ii) a 30-70% increase in gas & power tariffs, and (iii) higher duties. The net impact of the increase in these variables ranges between c. PKR60-75/bag for our Cement Universe, some of which will likely have to be absorbed given the weak demand backdrop.

Intermittent pricing disruptions are inevitable The possibility of a full-fledged price war is low given (i) leveraged producers may be discouraged by their high fixed costs, and (ii) industry leaders such as LUCK are undergoing expansions in other businesses that require significant capital outlay. That said, we believe intermittent disruptions in pricing discipline are likely to continue in FY20f, especially during 1HFY20f which will see the industry add 7.5mn tons (30% of new capacities). In certain months, utilization levels may drop below 70% (especially in the North), which can pave the way for price cuts. One such episode took place in Apr-May’19, when prices declined by 25% to c. PKR450/bag (breakeven level for the lowest cost producers), before recovering subsequently to c PKR600/bag at present. Our average cement retail price assumption for FY20f is PKR540/bag, at which level CHCC, MLCF and DGKC could depict losses in the year.

Valuations The sector trades at a FY20f EV/ton of US$31, which is lower than in times of prices wars. This is comforting but FY20F EV/EBITDA of 5.4x is still significantly higher compared to past troughs (2.4x during FY12-14). Moreover, while the hefty plant depreciations (post expansion) make the P/E metric less relevant, the market is likely to give due consideration to the prospects for losses this year (for selected companies).

Risks: (i) Further breakdown in cement prices, (ii) steep rise in international coal prices, (iii) cuts to PSDP allocation, and (iv) a sharp increase in interest rates.

Hard times to persist

Pakistan Cements

Price (PKR)

TP (PKR)

Upside Stance

LUCK 381 543 43% Buy

KOHC 52 83 59% Buy

DGKC 53 55 4% Neutral

MLCF 23 26 13% Neutral

CHCC 34 26 -23% Sell

FCCL 16 13 -19% Sell

Valuation Snapshot – 2020f

P/E (x) PBV (x) EV/EBITDA (x) DY

LUCK 13.5 0.94 5.16 1.5%

KOHC 14.7 0.50 6.14 1.4%

DGKC n.m 0.29 4.65 0.0%

MLCF n.m 0.45 6.65 0.0%

CHCC n.m 0.52 6.63 0.0%

FCCL 17.3 0.97 5.84 1.6%

IMS Cement Universe vs. KSE100 Index

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IMS Cement Universe KSE100 Index

Source: IMS Research

Research Entity Number – REP-085

Jawad Ameer Ali, CFA [email protected]

+92-21-111-467-000 Ext: 303

http://www.jamapunji.pk/

http://jamapunji.pk/

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Contents

Cement Sector Charts 3

Valuation Summary & Investment thesis 4

Downturn in demand to continue 5

Shift of GoP's focus away from infrastructure will take a toll on local cement demand 5

PSDP cut amid the GoP's fiscal issues 5

A tough macro environment will curtail private sector demand… 6

…exacerbated by a restrictive FY20 Budget 6

Few export avenues for North players 7

Margins have no respite 8

PKR devaluation has chipped away the gains from lower coal prices… 8

…in consonance with rising gas and power tariffs… 8

…and higher duties 9

Intermittent pricing disruptions are inevitable 10

Disruption by producers which have not expanded 10

Breakeven levels for some producers is lower than current retail price 11

One bout of price disruption has already taken place lately 11

Expansion Cycles 12

Leverage is lower comparative to the previous expansion cycles 13

Are valuations near the levels of previous price wars? 14

Key Risks 15

IMS Cement Universe 16

Lucky Cement Ltd 17

Kohat Cement Company Ltd 20

DG Khan Cement 23

Maple Leaf Cement Factory Ltd 26

Cherat Cement Company Ltd 29

Fauji Cement Ltd 32

Disclaimer 35

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Cement Sector Charts

Industry utilization rate on a decline

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Source: APCMA, IMS Research

Lower – margin exports increasing in the volume mix

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Lower coal prices could give some respite

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Leverage levels are low compared to previous cycles

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Interest coverage will be in the limelight

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4 | P a g e

Perspective

Cement – Valuation Summary

Investment thesis Cements Rating Thesis

LUCK Buy 1) Lowest breakeven levels (PKR435/bag) among IMS cement universe to shield against price war scenario, 2) unlevered books to

shield against higher interest rates, 3) Strong financials with hefty liquid investment.

KOHC Buy

1) Strong financials backed by lowest debt amongst expanding producers (ex-LUCK), keep KOHC partially shielded in a tough

environment, 2) The breakeven price is relatively better compared to other leveraged players, at PKR520/bag, 3) Currently trading

at the cheapest EV/ton (c. US$21) in the sector even though historical production bottlenecks (grinding mill capacity) have been

resolved.

DGKC Neutral

1) DGKC is currently facing significant leverage (c. PKR35bn) amid hefty fixed costs overheads from an expensive expansion, and

lower in-house power generation, 2) however, income from its portfolio investment in group companies and ability to export from

its South plant via sea may bring some respite.

MLCF Neutral

1) Significant fixed costs and debt financing for the expansion, coupled with limited export avenues, will weigh down on

profitability in FY20/21F, 2) Stands at a relatively better financial position compared to the last price war (D/A at 42% as compared

to 63% in previous expansion cycle), however, decline in cement prices may lead to deterioration in interest coverage ratio.

CHCC Sell

1) Highly sensitive to volatility in cement prices owing to higher operating leverage, 2) hefty debt financing (D/A of 53% in FY19 vs

45% in FY10) for its second expansion will drag profitability, 3) major loser during price war scenario as breakeven level is among

the highest at PKR540/bag (on cash basis).

FCCL Sell 1) Failure to expand will result in market share dilution (6% in FY21f vs 9% in FY18), 2) Potential price disruptor as breakeven levels

(PKR450/bag) is amongst the lowest, 3) Limited growth potential during upturn in cycle.


EPS (PkR) P/E (x) PBV (x)

Price (PKR)

TP (PKR) Upside (%) Stance Mkt Cap (US$mn)

Total Return

FY19F FY20F FY21F FY19F FY20F FY21F FY19F FY20F FY21F

LUCK 381 543 43% Buy 777 44% 36.89 28.23 39.31 10.32 13.49 9.69 1.03 0.94 0.85

KOHC 52 83 59% Buy 66 61% 12.13 3.56 7.42 4.32 14.72 7.06 0.52 0.50 0.48

DGKC 53 55 4% Neutral 145 4% 6.61 (2.40) 3.92 7.94 n.m 13.39 0.29 0.29 0.29

MLCF 23 26 13% Neutral 87 13% 4.49 (3.57) (0.55) 5.18 n.m n.m 0.42 0.45 0.45

CHCC 34 26 -23% Sell 38 -23% 8.42 (4.48) 3.69 4.01 n.m 9.16 0.48 0.52 0.49

FCCL 16 13 -19% Sell 135 -17% 2.29 0.90 1.47 6.80 17.30 10.61 1.01 0.97 0.91


EV/EBITDA (x) DY (%) EBITDA Margin Gross Margin ROE (%) Debt/Equity

FY19F FY20F FY21F FY19F FY20F FY21F FY19F FY20F FY21F FY19F FY20F FY21F FY19F FY20F FY21F FY19F FY20F FY21F

LUCK 4.08 5.16 3.96 2.0% 1.5% 2.0% 17.9% 13.5% 15.3% 22.2% 18.1% 19.2% 9.9% 7.0% 8.8% 0.51 0.85 0.90

KOHC 3.87 6.14 3.72 4.8% 1.4% 2.9% 26.8% 16.2% 19.3% 25.7% 13.9% 16.4% 12.0% 3.4% 6.7% 0.30 0.37 0.30

DGKC 3.42 4.65 3.11 2.4% 0.0% 1.4% 23.4% 20.9% 25.0% 16.1% 13.4% 19.8% 3.6% -1.3% 2.2% 0.37 0.38 0.35

MLCF 5.62 6.65 4.92 3.4% 0.0% 0.0% 26.8% 21.7% 25.5% 23.6% 16.7% 21.8% 8.1% -6.9% -1.1% 0.88 0.93 0.94

CHCC 6.58 6.63 4.42 5.2% 0.0% 2.2% 20.1% 16.1% 20.3% 15.9% 10.4% 16.2% 12.0% -6.8% 5.4% 1.51 1.54 1.29

FCCL 3.54 5.84 3.97 3.2% 1.6% 1.6% 29.8% 23.4% 27.6% 26.5% 17.9% 22.7% 13.7% 5.2% 7.9% 0.08 0.06 0.05


5 | P a g e

Perspective

Downturn in demand to continue

Shift of GoP’s focus away from infrastructure will take a toll on local cement demand We expect constrained local cement demand in Pakistan over the next three years, with a declining trend to continue in FY20, and moderate 6% p.a. growth in the following two years. This compares poorly with the 2013-2018 period when local cement demand grew by 10%yoy on average, led by a pro-infrastructure government and rising disposable incomes amidst a growing economy. There are two broad factors behind the slowdown in demand.

The government has adopted austerity measures amidst an IMF program and its own fiscal constraints. Even without these issues, the PTI led government has prioritized social metrics (health and education), which may further delay a return of focus on infrastructure, in our view.

Secondly, Pakistan has entered a high inflation and interest rate environment, which will squeeze disposable incomes and thus discourage discretionary spending on housing, in our view.

We expect local cement demand to decline by 3%yoy in FY20 to 37mn tpa. From thereon, however, we see a 2yr demand CAGR of 6%, which has been the long-term sustainable cement demand growth in Pakistan.

Our positive stance on cement demand over the medium to long term remains intact. There is a sizeable housing backlog of 10+ mn houses while per capita income will eventually grow (GDP growth is expected to accelerate to 5% by FY23f as per the IMF). Assuming that cement demand continues to grow at a CAGR of 6% (after the fall in FY20f), capacity utilization will reach 82% in FY25f. Upside can emanate from (i) low cost housing scheme projects, and (ii) construction work on mega dams.

PSDP cut is likely given the GoP’s fiscal issues Public development expenditure or PSDP disbursement has been one of the most important drivers of cement demand in Pakistan (see chart on the next page). During the 2013-18, the then incumbent government spent an average of 4-5% of GDP on infrastructure, aided largely by a growing economy and low oil prices. The allocation fell to 3% of GDP in FY19 under the PTI government, as PSDP was kept low to tame a high fiscal deficit of more than 7% of GDP. For the Federal Budget FY20, GoP has kept core Federal PSDP at PKR701bn (excl.- other development expenditure) as compared to PKR675bn projected for FY19 (PKR639bn disbursed in FY19). However, given the projected fiscal deficit of 7.1% of GDP for FY20f and an ambitious tax collection target, cuts to this PSDP target seems likely. It is also instructive that the Budget of the largest province Punjab, also led by PTI, has dedicated more funds out of its development Budget to social measures.

Industry utilization may fall below 70% during FY20f

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We expect local cement demand to decline by 3%yoy in FY20 to 37mn tons.

Given the projected FY20f fiscal deficit of 7.1% of GDP, cuts to the PSDP target seems likely.

6 | P a g e

Perspective

We believe the headwinds to PSDP disbursement are unlikely to reverse before FY21f because hefty debt servicing will consume most of the growth in tax revenues. Also, we think that in the IMF program, disbursement of periodic tranches will be contingent on meeting revenue and fiscal deficit targets. Historically, however, a sharp decline in cement demand was usually followed by a strong pick-up in demand in the subsequent year, coinciding with strong PSDP disbursement. But, as significant growth in disbursement from the public sector seems challenging even in FY20f (second consecutive year), we expect another dull year for domestic cement demand.

A tough macro environment will curtail private sector demand… Private housing projects are the second major driver of construction activity in Pakistan. This can be gauged by the strong pick up in cement demand from mega housing projects during FY16-18, bolstered by the low cost of borrowing, and rising disposable incomes. However, private construction activity took a hit by legal challenges against prominent property developers (e.g. Bahria Town). The FY20 budget has also clamped down on non-tax filers and the property sector, which may add to the slowdown across the next twelve months.

…exacerbated by a restrictive FY20 Budget The FY20 Budget entailed tough measures for the real estate and property sector, which will reduce capital flow in that sector and thus possibly diminish private construction activity in the near future. Key measures that were proposed in the Budget are:

Non-filers are now allowed to purchase property of more than PKR5mn; however, all these acquisitions will have to be processed through banking channels, and now they will have to pay taxes at double the rate than previously.

Gain on immoveable property will be taxed under the normal tax regime (on a sliding scale depending on years the asset was held), which will attract a significantly higher tax rate on disposal, as opposed to a maximum of 10% previously.

Realizing the stark difference between officially notified (DC rates) and market rates, FBR valuations of properties will now be raised to 85% of market value.

These are tough measures which will dis-incentivize the unproductive practice of high turnover in properties (ballooning prices as a result), and also curb the flow of “black money” into that sector. In our view, this may result in an outflow of capital from the property sector, which had supported construction activity. Importantly, this is unlikely to change in the near term, as Pakistan will grapple to raise its tax revenues and the FATF overhang will keep anti-graft authorities strict on this sector, in our view. Hence, the onus will be on softer macro situation to lift private demand.

Federal PSDP has been cut since FY18 (PKRbn)

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PSDP and domestic cement demand growth

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Rising inflation has triggered monetary tightening

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7 | P a g e

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Few export avenues for the North producers In the face of weak local demand, the relief from exports to off-load excess capacity will mostly be available with South based producers (courtesy diverse routes through sea access), in our view. Exports from the North are likely to remain constrained as access to both Afghanistan and India have diminished in recent years and conditions in both markets suggest a meaningful recovery in exports is unlikely in the medium term. In Afghanistan, the decline in exports has been due to competition from Iran’s cheaper cement. To highlight, cement exports to Afghanistan declined 50% during FY11 to FY18. On the other hand, tensions on the border with India have halted cement exports there (duties of 200% levied on Pakistan’s products). Even in case of resumption in trade between the two countries, the resumption of exports of 1.6mn tpa will absorb just 6% of new capacities, by our estimates.

For the North based producers, exports via the sea port become unviable owing to higher transportation costs. Since export prices have been highly competitive, higher inland freight cost deters producers to export from North. Maple Leaf (MLCF) has recently capitalized on its railway access and exported cement via the sea, when local retention prices touched a low of PKR260/bag (retail: PKR460/bag), albeit at a minimal margin. However, other producers do not have access to relatively cheap railway transport, making it difficult for them to export via the port.

Exports via the sea can rise

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8 | P a g e

Perspective

Margins have no respite Weak demand will hurt pricing power at a time when cost pressures are rising and the sector is on the cusp of intense price competition, in our view. Cost pressures have already build up and are likely to escalate in FY20f because of:

Cumulative 35% PKR depreciation (offsetting the positive impact of a 34% drop in coal prices) in the last 18 months

30-70% increase in gas and power tariffs

Higher duties (increase in FED by PKR25/bag) and potential rise in transportation cost amid new axle load rules.

The net impact of increase in these major variables range between c. PKR60-75/bag (excl. hike in transportation cost) for our cement universe. Note that this follows margin erosion of 8ppt in FY19; we expect average margins across the sector to decline further by 5ppt to c. 18ppts in FY20f.

PKR devaluation has chipped away the gains from lower coal prices… The c. 35% PKR depreciation since Dec’17 (when PKR/USD was 105) has increased the cost of production by c. PKR37/bag, all else the same; it is one of the major reason for the decline in gross margins of the industry. While the recent decline in current coal prices is positive, the net effect of PKR depreciation remains muted.

We believe the PKR is now trading near an equilibrium level. This is a positive but, on the flipside, we expect international coal prices to rise over the next 3yrs to US$80/ton (our long term assumption), from US$67/ton presently. To illustrate, for every US$1/ton increase in international coal price, the cost/bag increases by c. PKR1/bag.

Coal price sensitivity to GMs and EPS (FY20f)

GMs EPS (PKR) Base GM 5% increase* Base EPS (PKR) 5% increase*

KOHC 14% 12% 3.56 2.46

LUCK 18% 17% 28.23 26.13

MLCF 17% 15% (3.57) (4.16)

DGKC 13% 12% (2.40) (3.53)

FCCL 18% 16% 0.90 0.78

CHCC 10% 9% (4.48) (6.28)

* Without pass-on of the cost escalation

…in consonance with rising gas and power tariffs… Gas and power tariffs have already risen by 30-70% since FY18 and, in order to comply with IMF conditions, will rise further in FY20f. The Power sector regulator (NEPRA) is likely to raise power tariff by another 5-10% (included in our estimates). Producers with a heavy reliance on the national grid i.e. DGKC, KOHC, and FCCL are likely to be

GMs decline to continue in FY20

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We expect average GP margins to decline further by 5ppt to c. 18ppts in FY20f.

9 | P a g e

Perspective

affected the most. Even Lucky Cement (LUCK) which has gas-based captive power plants, will also see margins attrition, albeit to a lesser extent compared to peers. To highlight, power cost constitutes c. 20% in the total cost mix. FY20f EPS sensitivity to the PKR and energy tariff

Exchange rate Power tariff Gas tariff

PKR Base EPS 5% dep Base EPS 5% increase Base EPS 5% increase

KOHC 3.56 2.64 3.56 3.10 3.56 3.56

LUCK 28.23 28.24 28.23 28.23 28.23 27.51

MLCF (3.57) (4.07) (3.57) (3.57) (3.57) (3.59)

DGKC (2.40) (2.94) (2.40) (2.79) (2.40) (2.44)

FCCL 0.90 (0.82) 0.90 0.90 0.90 (0.86)

CHCC (4.48) (5.47) (4.48) (4.64) (4.48) (4.94)


…and higher duties With the levy of additional FED in the Federal Budget FY20, the government has decreased retention prices of cement manufacturers by another PKR25/bag. To highlight, in the last three budgets since FY17, the GoP increased FED from c PKR500/ton to PKR2,000/ton. In previous instances, these were immediately passed on, but this time it will be challenging amid weak demand, in our view. Moreover, change in axle load rules (restrictive load transportation) will further escalate transportation cost by PKR25-30/bag, primarily for North based players depending on plant location (for now, there is an extension in old rules by 90 days).

Major cost build-up during last 18 months (PKR/bag)

Cement Price Dec'17 (North) 515

Impact of FED (Budget FY20) 29

Impact of FED (Budget FY19) 13

Impact of Gas and power tariff 16-21

Impact of PKR deval 37

Potential hike in Transport cost (NHA rules) 30

Respite from recent run down in coal prices (35)

Net effect 95

Current cement prices (North) 600

10 | P a g e

Perspective

Intermittent pricing disruptions are inevitable Going by the previous two price wars, cement prices can fall at least c. 35% or PKR200/bag (from the recent peak of PKR600/bag) in the event of another industry price war. Cement prices recently fell to PKR450/bag during Apr-May’19 before recovering subsequently. We expect intermittent pressure on current prices going forward but do not expect an all-out price war. This is due to:

Large players have demonstrated the maturity to not instigate price declines on their own, and to quickly appease any disruption (e.g. in FCCL’s case).

Buildup in cost structure from (i) increase in gas and electricity tariffs, and (ii) higher FED and axle load rules. This is pushing up break-even levels.

Breakeven levels of most leveraged producers is relatively high owing to debt repayments while the large producers like LUCK have significant capital intensive projects in the pipeline.

What we expect to be very likely is an intermittent breakdown in prices during FY20f and even 1HFY21f amid addition of 7.5mn tons of new capacity. As illustrated earlier, certain months may witness utilization levels (especially in North) dropping below 70% amid seasonal slowdown, potentially paving way for steep price cuts and discounts.

Disruption by producers which have not expanded Producers which have recently commissioned or will commission new capacity in the near-term are discouraged – by their high fixed costs and leverage – from waging an intense price war. Lack of pricing disruption by DGKC and LUCK, following their capacity additions is a testament to this. However, as new capacities will be added in FY20/21f, those producers who are not expanding or have delayed expansion will likely see a sharp decline in volumes as their capacity/market share will get adjusted downwards.

These unleveraged producers will have a greater willingness to break prices, given they can breakeven at lower prices than the rest of the industry, in our view. Specifically, their ability to give higher discounts and undercut prices below the breakeven levels of most leveraged producers (currently at PKR540/bag) gives them greater bargaining power to disrupt pricing discipline in order to command greater share. Recently, Fauji Cement (FCCL) has set this precedent and others can do the same in future. That said, it is also possible that subdued demand triggers the recently-expanded producers as well to expand their volumes by giving out discounts, as they struggle to breakeven at lower utilization levels.

We think that the large players like LUCK and DGKC will try and appease such disruption, as was recently done in case of FCCL. However, doing so will be particularly difficult in off-demand months (refer chart below) such as Monsoon and winter

Cement prices remains under pressure during expansionary cycle

-

100

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400

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700

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2

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9

PKR/bag

Intermittent pricing disruption already

Source: PBS, IMS Research

Glitches in North prices are prominent

400

450

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-12

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(PKR/bag)

North South

Source: PBS

We don’t expect a full-blown price war but sporadic skirmishes by producers with low break-even price levels are possible.

11 | P a g e

Perspective

periods. Hence, amidst weak demand, cement prices will be continually threatened by disruptions from either small players losing market share or expanded producers unable to cover high fixed costs.

Breakeven levels for some producers is lower than current retail price Our estimates suggest that cement prices below PKR540/bag will raise cash-flow concerns for leveraged players like CHCC, MLCF and DGKC; however, non-levered players like LUCK and FCCL can withstand prices as low as PKR450/bag. Lately, the industry witnessed price cuts by non-expanding producers such as FCCL and Askari Cement in order to retain their existing share. We expect such temporary breakdown in pricing discipline to continue during 1HFY20. Our estimates are based on a PKR/US$ of 160 and international coal prices of US$80/ton.

One (short-lived) bout of price disruption has already taken place This time around, larger players have shown more maturity as compared to others. We have seen stable prices in the South, contrary to initial market expectations, even though capacity in the South expanded by nearly 70%. While major relief was observed from exports via sea port, a disruption in marketing arrangement was not seen by the large producers. Cement prices in the North declined sharply in the months following CHCC’s second expansion in Jan’19; prices in the region dropped below the PKR450/bag mark, down by 25% from its peak. The decline in prices mainly came as a result of (i) subdued demand and, (ii) disruption by producers who are not expanding (owing to dilution of their market share). We believe that the risk of rebalancing of market shares will continue to weigh on pricing discipline, especially in the North as producers strive to maximize their volumes to set a precedent in future share allocation. Temporary breakdown in pricing will likely continue across the next six months as 7.5mn tons of additional capacity is added.

Seasonality can lead to a crunch time for utilization

0%

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60%

80%

100%

120%

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18

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-18

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19

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-19

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19

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19

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-19

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19

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-19

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20

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20

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Utilization levels to fall below 70%


Breakeven Levels of IMS cement Universe

CHCC, 540

DGKC, 540

FCCL, 450

KOHC, 520

LUCK, 435

MLCF, 540

400

420

440

460

480

500

520

540

560

PKR/bag


Sensitivity of Cement prices (PKR)

LUCK* KOHC DGKC FCCL CHCC MLCF PKR/ bag

FY20f EPS (PKR)

450 7.8 (10.1) (11.2) (0.6) (26.0) (11.8)

500 14.7 (2.5) (6.2) 0.2 (14.1) (7.2)

540 20.1 3.6 (2.4) 0.9 (4.5) (3.6)

575 24.9 8.9 1.5 1.5 3.5 (0.4)

600 28.2 12.7 3.4 1.9 7.8 2.5

Source: IMS Research *unconsolidated

12 | P a g e

Perspective

Expansion Cycles 2005-09 2018-20

Capacities (before expansion) 17 mn tpa 45 mn tpa

Capacities (after expansion) 44 mn tpa 70 mn tpa

Price cuts Observed sharp price cuts to as low as c.

35% during FY07 and FY10 Prices dropped by as much as 25% in Apr-May’19,

however, recovered subsequently

Industry D/A levels (Avg) 40% 21%

Lowest GP margins 19% in FY08 23% in FY19f

Comments

Two major price wars occurred during FY07 and FY10 which continued for several months. Price cuts were instigated by large players where LUCK and DGKC witnessed increase in domestic market share. The sector’s profitability was down by 87% in FY10. D/A and D/E averaged 41% and 87%, which led to intense competition for market share among manufacturers.

Intermittent price cuts have been observed during this expansion cycle primarily in the North. The decline in prices was initially observed post CHCC’s first expansion in Jan’17. A similar trend was observed post its second expansion. A recent decline was instigated by non-expansionary players i.e. FCCL and Askari cement amid depleting market share. However, this time around large players have shown much more maturity.

North Market share declining for DGKC & FCCL

0%

2%

4%

6%

8%

10%

12%

14%

CHCC DGKC FCCL KOHC LUCK MLCF

FY18 FY22f


South Market share rising for both incumbents (in our coverage)

0%

5%

10%

15%

20%

25%

30%

35%

40%

45%

DGKC LUCK

FY18 FY22f


13 | P a g e

Perspective

Leverage is lower comparative to the previous expansion cycles The D/A of the sector is likely to clock in at 23% in FY20, significantly lower as compared to the average of 40% in the previous expansion cycle. We flag that CHCC and MLCF are highly leveraged producers with D/A of 53% and 42%, respectively. Amidst steep price cuts, these producers would be highly affected as their sensitivity to cement prices remains very high. As an illustration, EBITDA margins below 21% (below PKR540/bag for a median producer) will raise the risk of a negative bottom-line. Presently, average industry EBITDA margins stand at c. 25% (3QFY19).

Since most of the expansions are expected to be operational by Dec’19, higher interest rates coupled with hefty principal repayments may raise cash flow concerns for some. Recall that interest rates in Pakistan are up 650bps in the last 18 months, and monetary easing may not commence before mid-2020. It is worth noting that most producers embarked on expansions when the policy rate was 6.0%; by Jun’19, it had risen to 12.25%. Finance cost alone is expected to erode sector profitability by 65% in FY20f for the most leveraged companies. Hence, interest coverage ratio is expected to deteriorate to 1.53x in FY20 as compared 1.17x in FY10 (lowest observed).

CHCC and MLCF are the most vulnerable D/A Jun-07 Jun-10 Jun-20

KOHC 50% 48% 22%

LUCK 50% 21% 8%

MLCF 53% 63% 42%

DGKC 81% 36% 24%

FCCL 28% 52% 5%

CHCC 21% 45% 52% Source: IMS Research

Industry leverage is comparatively lower but still a risk

0.0

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4.0

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9f

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Int coverage (x) - Rhs D/A


We see sector D/A at 23% in FY20f, lower than previous expansion cycles. However, it is still high for MLCF and CHCC.

14 | P a g e

Perspective

Are valuations near the levels of previous price wars? The cement sector has already shed 44% from its 52 week high amid deteriorating sector dynamics. Taking cue from the previous price war in FY10 and other trough levels, the cement sector is currently trading at a higher EV/EBITDA of 5.4x as compared to 2.8x-3.4x witnessed during FY12-14 (trough levels). However, on EV/ton, cement industry is trading below its trough levels of US$41/ton. We believe price discovery will be delayed amid outlook of weak demand and recurring, albeit temporary, price cuts in the sector.

We prefer stock that are less leveraged i.e. KOHC (TP: PKR83/sh), which offers most attractive core cement valuations (trading at EV/ton of USD21/ton); and LUCK (TP: PKR543/sh) for its diversification and strong balance sheet. However, we recommend a cautious stance on leveraged producers i.e. CHCC, MLCF, and DGKC as they are highly sensitive to a drop in cement prices.

EV/ton (US$) Jun-07 Jun-08 Jun-09 Jun-10 Jun-11 Jun-12 Jun-13 Jun-14 Jun-15 Jun-16 Jun-17 Jun-18 Jun-19 KOHC 160.8 200.2 27.0 21.4 19.8 15.4 30.5 38.8 75.3 109.6 123.6 60.5 20.8 LUCK 109.0 123.1 44.7 46.9 44.7 44.2 55.2 99.1 153.2 167.2 259.4 137.7 35.6 MLCF 121.9 122.6 73.2 66.8 66.7 60.7 70.0 77.9 97.8 140.8 203.6 163.5 41.2 DGKC 185.4 137.8 60.4 38.1 23.3 24.2 21.0 11.4 28.5 85.5 179.8 84.3 19.3 FCCL 364.9 275.4 178.0 233.0 210.1 63.7 59.2 80.4 117.1 148.7 161.9 112.1 41.2 CHCC 92.0 86.3 40.8 39.9 38.6 31.8 55.6 71.7 104.3 184.9 139.0 143.0 28.3

Ind Avg 144.6 137.9 57.6 55.1 49.1 41.7 48.6 68.0 104.3 139.0 195.6 117.2 31.0

EV/EBITDA (x) Jun-07 Jun-08 Jun-09 Jun-10 Jun-11 Jun-12 Jun-13 Jun-14 Jun-15 Jun-16 Jun-17 Jun-18 Jun-19 Jun-20 KOHC 19.96 (70.19) 8.12 9.33 4.14 1.28 1.88 2.28 4.19 4.80 6.04 4.12 4.15 5.91 LUCK 9.24 14.73 3.64 5.66 4.63 2.88 3.03 4.77 6.62 6.44 9.87 7.45 4.52 5.23 MLCF 39.07 19.71 5.50 35.36 10.47 4.13 3.51 4.01 4.55 5.31 8.05 7.10 5.81 6.85 DGKC 19.23 12.67 4.22 3.69 2.25 1.27 0.89 0.48 1.04 2.60 5.85 6.42 2.30 3.14 FCCL 20.17 22.24 8.34 32.87 21.29 5.06 3.36 4.16 5.56 5.50 10.79 7.65 3.85 6.69 CHCC 11.00 29.55 6.24 44.68 6.05 2.75 3.05 4.11 5.88 8.97 10.39 10.58 6.41 6.50

Ind Avg 15.72 17.19 4.86 8.66 5.80 2.80 2.54 3.36 4.64 5.18 8.38 7.14 4.24 5.39

EV/ton (US$) – IMS Cement Universe

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EV/ton - US$ Mean


EV/EBITDA (x) - IMS Cement Universe

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EV/EBITDA (avg) Mean


15 | P a g e

Perspective

Key Risks Upside Risks Upside risk factors include the GoP expediting construction of (i) mega dams and (ii) low cost housing scheme. Mega dams The government has planned the construction of large dams (Mohmand dam and Diamer Basha dam of c. 5300MW) which can cumulatively generate 20mn ton of cement demand in the next 5yrs. Of this, construction work on Diamer Bhasha dam is likely to be a key driver, generating 16mn tons per annum of demand. The recent budget has allocated PKR70bn for building dams (PKR20bn and PKR15bn for land acquisition and construction work in Dam) which remains a trigger. That said, true progress on these projects will be made once the government stabilizes its fiscal position and hence can positon to devote substantial budget allocation to these and other development projects.

Housing scheme In order to bridge the deficit of housing shortfall of the estimated 10+ mn houses in the country, the incumbent government’s plan to build 5mn low-income houses in its 5yr tenure remains a significant bull case, even if partially executed. Though a very ambitious plan given the present fiscal situation, materialization of even a quarter of these houses will generate significant demand. We estimate that the whole program could drive 12.5mn tpa additional cement demand (assuming 1mn low-cost housing units are built every year). If we assume only half of the 5mn units are to be built, 6.3mn tpa of additional demand would equate to 10% of existing cement capacities. We have not included this in our forecasts but certainly consider it as a major demand trigger.

Downside Risks Downside risk factors include (i) breakdown in cement prices, (ii) steep rise in international coal prices, (iii) cuts to PSDP allocation and (iv) further increase in interest rates.

Breakdown in cement prices Taking cue from the past, possibility of another breakdown in cement prices cannot be ruled out. We believe FY20f will be challenging for the pricing dynamics of the industry as additional capacity in North are expected to add surplus capacity of 7.5mn tons.

Decline in PSDP disbursements PSDP has always witnessed optimistic targets whereas actual disbursements are usually lower. Amid deteriorating macro indicators, the possibility of a large PSDP cut is a very tangible risk for FY20f. This can lead to lower than projected demand.

Steep rise in coal prices Coal, which contributes c. 40-50% of the total production cost, remains a key element for sector profitability. We estimate that with every 5% change in coal prices, sector profitability moves by 31%.

PKR devaluation Any further large depreciation in the exchange rate poses a downside risk as coal costs would rise and consequently dilute margins (if not passed through). We have already built in 5% PKR depreciation during FY21-22 in our model where any additional decline in value is a risk.

16 | P a g e

Perspective

IMS Cement Universe

17 | P a g e

Perspective

Lucky Cement Ltd

Diversification is preferred

Symbol: LUCK Rating: Buy

LUCK remains our preferred pick in the sector with a Jun’20 TP of PKR543/sh. A strong balance sheet, locational advantages and cost efficiencies will help moderate profit erosion, relative to peers, in a tough macro environment. In other words, LUCK breaks even at lower cement prices than most peers and current prices, which is a key positive. Moreover, LUCK is diversified away from just local cement operations, and profit contribution from non-local cement operations is expected to contribute 33% of LUCK’s consolidated bottom line by FY22f. LUCK is trading at a 18% discount to its cross-cycle average EV/EBITDA of 5.2x, where we believe the weak near-term sector outlook is already priced in.

Locational advantage and cost efficiencies set it apart… LUCK’s brownfield expansion of 2.6mn tons in the North will be operational by 2QFY20, which will help in retaining its market share in that region. While the new line in North comes online at an inopportune time, LUCK retains the ability to push maximum exports out of the South plant due to unmatched cost efficiencies (LUCK’s cost/bag is estimated at PKR 220/bag). For this reason, South prices have remained shielded despite pressure in the North and DGKC’s large expansion. Hence, we believe LUCK’s overall cement operations will likely remain profitable even if North prices fall more than 25% from peak.

…yet LUCK will not instigate a price war LUCK maintains a comfortable financial position on an unleveraged balance sheet with PKR23bn in cash and equivalents (20% of asset). With significant investment in non-cement operations (requiring c. PKR50bn over FY19-21) and EBITDA generation of PKR13-18bn per annum during the same period, LUCK might need debt (say, if a price war breaks out). This dissuades LUCK from instigating any pricing disruption, in our view, even if it can afford lower prices than presently, courtesy it’s lower operating leverage than peers.

Investment in international JVs In pursuit of diversification, LUCK is expanding its Iraq operation by setting up a clinker production facility of 1.2mtpa, which is expected to be operational by 1QFY21. Iraq operations contribute c. 6% to LUCK’s consolidated profit (valuation contribution of PKR23/sh). However, an uncertain political environment is posing operational challenges in DR Congo. Near term issues notwithstanding, these operations offer exchange rate diversification over the long run.

Investment in LEPCL and KLM to further diversify its portfolio LUCK’s investment in a 660MW coal-based power plant (LEPCL) adds a defensive layer to existing businesses, by providing US$ based returns. Earnings contribution of PKR46/sh (from FY22f) will comprise 50% of total. The plant is expected to achieve commercial operations by Mar’21. Moreover, LUCK’s investment in Kia Lucky Motors (KLM) has already commenced CKD operations of its plant. This will enhance profits, but not before a cyclical upturn in the auto space.

Risk: (i) Headwinds in DR Congo operations, (ii) lower than expected sales from KLM, and (iii) gas curtailment.

Lucky Cement Limited

Price (PKR/sh) 380.83

TP (PKR/sh) 543.20

Stance Buy

Upside (%) 43%

Fwd D/Y (%) 2%

Total Return (%) 44%

Bloomberg / Reuters LUCK PA/LUKC.KA

Mkt Cap (US$mn) 780.01

12m Hi-Low (PKR/sh) 583.66/344.27

6m Avg. D. Vol ('000 shrs) 650

6m Avg. Td Val (US$mn) 1.89

LUCK - Valuation Snapshot

FY18 FY19F FY20F FY21F

EPS (PkR) 45.83 36.89 28.23 39.31

EPS Growth (%) -9% -20% -23% 39%

P/E (x) 8.3 10.3 13.5 9.7

PBV (x) 1.1 1.0 0.9 0.9

DY (%) 3.4% 2.0% 1.5% 2.0%

ROE (%) 13.5% 9.9% 7.0% 8.8%

EV/EBITDA (x) 7.5 4.1 5.2 4.0

Gross Margin 26.2% 22.2% 18.1% 19.2% Source: Company Accounts

LUCK vs. KSE100 Index

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0%

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18

Au

g-1

8

Oct

-18

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v-1

8

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9

May

-19

Jul-

19

LUCK KSE100 Index


18 | P a g e

Perspective

LUCK - Valuation Breakdown

(PKRmn) FY20f FY21f FY22f FY23f FY24f FY25f FY26f FY27f

EBITDA (after tax) 9,610 13,303 16,230 17,073 17,581 18,091 18,599 19,103

Capex (8,000) (2,539) (2,617) (2,698) (2,782) (2,868) (2,957) (3,048)

Working Capital (813) 659 (400) (358) (560) (575) (599) (629)

FCFF 797 11,423 13,212 14,017 14,238 14,649 15,043 15,426

(PKRmn) Sum Of Pv FCFF* 74,847

Net debt (22,012) Core Equity Value 96,859 DRC 5,454 IRAQ 7,375 LEPCL 32,519 WIND 1,715 KIA 7,524 ICI 24,208 Total Value 175,652 Share (mn) 323 SoTP Target Price (PKR) 543.2

Source: IMS Research *WACC = 20%, Terminal Growth = 3%

Utilization should stay above 70%

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95%

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FY17 FY18 FY19f FY20f FY21f FY22f

mn tons

Local Export Utilization - Rhs


Sector leadership in margins

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GMs EBITDA Margins


Diversification is key (EPS breakup in PKR)

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Core ICI Iraq DRC Wind Kia LEPL


Local to non-cement operations contribute 55%

CORE 55%

DRC 3%

IRAQ 4%

LEPCL 19%

WIND 1%

KIA 4% ICI

14%


19 | P a g e

Perspective

LUCK: Financials

(PKRmn) FY17 FY18 FY19F FY20F FY21F

Net Revenue 87,383 97,542 100,280 128,242 155,973

Cost of sales 58,446 71,944 77,971 105,044 126,045

Gross profit 28,937 25,598 22,308 23,198 29,928

Admin & Sell. Exp. 6,376 7,323 8,597 10,856 12,220

EBITDA 25,506 21,539 17,994 17,271 23,791

Dep & Amortization 4,862 5,467 5,691 5,981 7,406

EBIT 20,645 16,071 12,303 11,290 16,386

Financial Charges 682 830 1,087 2,411 2,194

Other income 2,086 2,767 3,854 2,583 2,083

Other charges 1,917 2,204 1,409 1,052 1,323

Share of Profit 1,582 1,865 630 1,413 1,918

NPBT 23,630 19,873 15,700 12,875 18,192

Taxation 6,240 3,700 2,714 2,577 3,787

NPAT (Owners) 16,227 14,820 11,930 9,130 12,711

Balance Sheet


Non-Current Assets 78,601 96,040 161,594 225,276 258,678

Total Current Assets 62,389 69,083 41,518 40,613 43,966

Total Assets 140,989 165,123 203,113 265,889 302,644

Share capital 3,234 3,234 3,234 3,234 3,234

Reserves 83,736 93,913 116,902 127,200 141,605

Surplus on revaluation - - - - -

Total Equity 96,206 97,147 120,135 130,434 144,839

Long Term Debt 8,825 8,790 48,370 85,545 104,248

Total Non-curr. Liabilities 21,528 22,957 56,951 93,469 111,581

Short term Debt 2,129 7,332 12,990 25,055 26,153

Total Current Liabilities 23,256 32,591 26,026 41,986 46,224

Total Liabilities 44,784 55,548 82,977 135,455 157,805


CF from Oper. Activities 20,903 14,684 10,176 13,774 20,946

CF from Inv. Activities (12,879) (22,385) (71,246) (69,663) (40,808)

CF from Fin. Activities 2,091 8,603 37,281 48,583 19,210

Net Cash 10,115 902 (23,788) (7,306) (652)

Cash at Beginning 28,848 36,319 34,417 8,204 898

Cash at End 36,319 34,417 8,204 898 246


Key Ratios FY17 FY18 FY19F FY20F FY21F

EPS (PkR) 50.18 45.83 36.89 28.23 39.31

EPS Growth (%) 9.1% -8.7% -19.5% -23.5% 39.2%

P/E (x) 7.6 8.3 10.3 13.5 9.7

BVPS (PkR) 297.5 338.8 371.5 403.4 447.9

PBV (x) 1.3 1.1 1.0 0.9 0.9

DPS (PkR) 12.00 13.00 7.50 5.75 7.75

DY (%) 3.2% 3.4% 2.0% 1.5% 2.0%

ROE (%) 16.9% 13.5% 9.9% 7.0% 8.8%

ROA (%) 11.5% 9.0% 5.9% 3.4% 4.2%

Debt/Equity 0.12 0.17 0.51 0.85 0.90

EV/EBITDA (x) 9.87 7.45 4.08 5.16 3.96

EBITDA Margin 29.2% 22.1% 17.9% 13.5% 15.3%

Gross Margin 33.1% 26.2% 22.2% 18.1% 19.2%


LUCK – EV/EBITDA (x) Band 2020f

Jul-

11

Ap

r-1

2

Feb

-13

No

v-1

3

Sep

-14

Jul-

15

Ap

r-1

6

Feb

-17

No

v-1

7

Sep

-18

Jul-

19

(x)

12.5

10.0

7.5

5.0


LUCK – PBV (x) Band 2020f

Jul-

11

Feb

-12

Sep

-12

Ap

r-1

3

No

v-1

3

Jun

-14

Jan

-15

Au

g-1

5

Mar

-16

Oct

-16

May

-17

Dec

-17

Jul-

18

Feb

-19

(x)

2.5

2.0

1.5

1.0


20 | P a g e

Perspective

Kohat Cement Company Ltd

Most attractive on valuations

Symbol: KOHC Rating: Buy

Among the pure cement companies, KOHC is our top pick with a Jun’20 TP of PKR83/sh. Strong financials backed by the lowest debt among expanding producers (ex-LUCK) keep KOHC partially shielded in an environment beset by weak demand, falling prices and high interest rates. The breakeven price of the company is relatively better compared to more leveraged players, at PKR520/bag. KOHC is currently trading at the cheapest EV/ton (c. US$21) in the sector even though historical production bottlenecks (grinding mill capacity) have been resolved. These levels are similar to those witnessed during the price war in 2010.

Expansion to help sustain its market share KOHC’s brownfield expansion of 2.3mn tpa is expected to come online by 2QFY20. – which should increase it’s North market share to 9.5% in FY21 vs 7.0% presently. Historically, KOHC has been a laggard in the sector (on price performance), mainly on the back of its long-standing production bottleneck at its grinding mill which resulted in lower utilization levels (peak of 74%). With that issue out of the way (installation of new grinding mill of 105tph), KOHC’s utilization levels have improved meaningfully (66% in FY15 to 80% in FY18) and its market share will be more reasonable compared to its capacity. For further cost efficiencies, KOHC is also installing a 20MW WHR plant (due with the expansion in Oct’19), which will help in reducing its reliance on the national grid and result in cost savings of PKR3.9/sh, in our view.

Strong financial health Unlike peers which are expanding, KOHC has a strong balance sheet with the lowest D/A ratio of 19% (ex-LUCK) in our coverage universe, as compared to MLCF and CHCC with D/A of 42% and 53%, respectively. KOHC used a large sum of its investments and cash to partly fund its expansion. This is a key advantage in a high interest rate environment. As a result, KOHC (ex-LUCK and FCCL) has lower breakeven levels (PKR520/bag) which will help the company to withstand tough macro-economic and sector dynamics, in our view. Moreover, it has long-term investments in real-estate with a reported book value PKR3.7bn (c. PKR18/sh) – not marked to market. However, as the investment does not yield any return, it is also a drag on KOHC’s ROEs.

Valuations suggest an unfair discount to peers KOHC has traded at an average valuation discount against the peer average (on EV/ton). Lower stock liquidity and investment in a non-yielding asset could be some reasons behind the consistent discount, but we believe these are more than offset by positives. We like KOHC for its defensive attributes, as its risk profile is far better than peers in the North (ex-LUCK), in our view.

Risk: (i) Delay in expansion, and (ii) increase in power tariff on national grid.

Kohat Cement Co Ltd


TP (PKR/sh) 83.32

Stance Buy

Upside (%) 59%

Fwd D/Y (%) 1%


Bloomberg / Reuters KOHC PA/KOHC.KA


12m Hi-Low (PKR/sh) 109.81/47.55



KOHC - Valuation Snapshot


EPS (PkR) 14.84 12.13 3.56 7.42

EPS Growth (%) -16% -18% -71% 109%

P/E (x) 3.5 4.3 14.7 7.1

PBV (x) 0.6 0.5 0.5 0.5

DY (%) 7.4% 4.8% 1.4% 2.9%

ROE (%) 16.6% 12.0% 3.4% 6.7%

EV/EBITDA (x) 4.1 3.9 6.1 3.7


KOHC vs. KSE100 Index

-50%

-25%

0%

25%

50%

Jul-

18

Au

g-1

8

Oct

-18

No

v-1

8

Jan

-19

Feb

-19

Ap

r-1

9

May

-19

Jul-

19

KOHC KSE100 Index


21 | P a g e

Perspective

KOHC – Valuation Breakdown (PKRmn) FY20f FY21f FY22f FY23f FY24f FY25f FY26f FY27f

EBITDA (after tax) 2,226 3,357 4,291 4,317 4,521 4,739 4,965 5,199

Capex (3,394) (922) (950) (980) (1,010) (1,041) (1,074) (1,107)

Working Capital 174 169 (183) (225) (178) (202) (229) (262)

FCFF (994) 2,604 3,158 3,113 3,333 3,496 3,662 3,830


- Debt 2,829 Equity Value 16,736 Share (mn) 201 Target Price (PKR) 83.3 Source: IMS Research

*WACC = 17%, Terminal Growth = 3%

Weak utilization levels amid limited export avenues

50%

55%

60%

65%

70%

75%

80%

85%

-

0.5

1.0

1.5

2.0

2.5

3.0

3.5

4.0


mn tons



Higher grid reliance amid expensive FO to keep margins in check

10%

15%

20%

25%

30%

35%

40%

45%

50%


GMs EBITDA Margins


Leverage - better placed amongst expanding players

0%

5%

10%

15%

20%

-

10

20

30

40

50

60

70

80


D/A - Rhs Interest coverage (x)


Trades at a discount to the Industry average

-

50

100

150

200

FY09 FY10 FY11 FY12 FY13 FY14 FY15 FY16 FY17 FY18 FY19f

US$

Industry Avg EV/ton


22 | P a g e

Perspective

KOHC: Financials

KOHC – EV/EBITDA (x) Band 2020f

Jul-

11

Feb

-12

Sep

-12

Ap

r-1

3

No

v-1

3

Jun

-14

Jan

-15

Au

g-1

5

Mar

-16

Oct

-16

May

-17

Dec

-17

Jul-

18

Feb

-19

(x)

8.0 6.0 4.0 2.0


KOHC – PBV (x) Band 2020f

Jul-

11

Ap

r-1

2

Feb

-13

No

v-1

3

Sep

-14

Jul-

15

Ap

r-1

6

Feb

-17

No

v-1

7

Sep

-18

Jul-

19

(x)

3.0

2.3

1.5

0.8



Net Revenue 13,540 13,439 15,275 17,674 22,207

Cost of sales 7,713 9,086 11,345 15,214 18,557

Gross profit 5,827 4,353 3,929 2,461 3,650

Admin & Sell. Exp. 293 328 405 419 462

EBITDA 6,017 4,529 4,091 2,871 4,286

Dep & Amortization 497 452 562 883 1,256

EBIT 5,520 4,077 3,529 1,988 3,030

Financial Charges 85 107 47 982 932

Other income 393 362 332 96 71

Other charges 408 310 327 150 228

NPBT 5,435 3,970 3,483 1,006 2,098

Taxation 1,890 990 1,047 292 609

NPAT 3,545 2,980 2,436 714 1,490

Balance Sheet




Total Assets 20,192 23,317 31,773 35,130 36,148

Share capital 1,545 1,545 2,009 2,009 2,009

Reserves 13,761 16,432 18,365 18,929 20,117


Total Equity 15,306 17,977 20,374 20,937 22,126

Long Term Debt 426 142 4,792 3,660 2,670


Short term Debt 200 - 243 3,000 3,000





CF from Inv. Activities (1,289) (2,039) (7,112) (3,394) (922)

CF from Fin. Activities (2,618) (951) 5,702 1,474 (1,433)

Net Cash 22 328 12 (148) 559

Cash at Beginning 474 496 824 837 688

Cash at End 496 824 837 688 1,247



EPS (PkR) 17.65 14.84 12.13 3.56 7.42

EPS Growth (%) -19.6% -15.9% -18.3% -70.7% 108.6%

P/E (x) 3.0 3.5 4.3 14.7 7.1

BVPS (PkR) 76.2 89.5 101.4 104.2 110.2

PBV (x) 0.7 0.6 0.5 0.5 0.5

DPS (PkR) 10.77 3.85 2.50 0.75 1.50

DY (%) 20.6% 7.4% 4.8% 1.4% 2.9%

ROE (%) 23.2% 16.6% 12.0% 3.4% 6.7%

ROA (%) 17.6% 12.8% 7.7% 2.0% 4.1%

Debt/Equity 0.06 0.02 0.30 0.37 0.30

EV/EBITDA (x) 6.0 4.1 3.9 6.1 3.7

EBITDA Margin 44.4% 33.7% 26.8% 16.2% 19.3%

Gross Margin 43.0% 32.4% 25.7% 13.9% 16.4%


23 | P a g e

Perspective

DG Khan Cement

Expansion too expensive for the near term

Symbol: DGKC Rating: Neutral

DGKC – the third largest producer with 7.0mn tons capacity – is currently facing (i) significant leverage amid high interest rates, (ii) hefty fixed overheads from an expensive expansion, and (iii) lower in-house power generation. EBITDA margins have compressed significantly post expansion (45% in FY17 to 24% currently). As DGKC’s breakeven price remains among the highest in the industry (PKR540/bag), any price disruption could lead to accounting losses in FY20f, in our view. However, income from its portfolio investment in group companies and ability to export from its South plant via sea may bring some respite. We have a Neutral stance on DGKC with a Jun’20 TP of PKR55/sh.

We foresee high utilization levels in South but no respite to margins The greenfield expansion worth PKR44bn (c. US$140/ton) at Hub (South) was expensive. The debt levels have increased to PKR39bn (D/A was 31% as of 3QFY19), eating up 35% of EBITDA through financial charges. Moreover, hefty depreciation expense is denting accounting profit by another PKR8.0/sh. Amid declining demand, DGKC has been selling in the South Punjab (North region) market, albeit at subpar margins. Exports have been the only saving grace for the company, helping it in not only covering fixed costs but also balancing the local industry and averting a excessive competition. However, more capacity will be added in both regions that DKGC operates in. This will dilute DGKC’s sales in South Punjab, which will in turn increase reliance on exports, reducing margins further.

Power costs to weigh down on profitability Despite installing the most cost efficient plant at Hub, GMs have dwindled to the lowest level (16.1% in FY19, lowest since FY10) in our cement universe. This is mainly on account of (i) complete reliance on the national grid for its South plant, (ii) greater reliance on exports in the revenue mix (majorly clinker), and (iii) lower retention prices.

Efficiency measures to give some respite in the medium term Post impairment of its WHR plant at Khairpur in FY18, DGKC is installing another 10MW WHR plant which is expected to be operational by Mar’20 at an estimated cost of PKR2.0-2.2bn, contributing c. PKR1.0/sh to the earnings. Management guidance suggests that this plant would require marginal water consumption, thus overcoming the challenges of sourcing water. Moreover, the company is also planning to install captive power plants at its South plant. This will help in reducing grid reliance significantly as these plants will contribute +90% in the power mix. Power savings from these plants will result in earning accretion of PKR4.2/sh (not incorporated in our estimates yet). Dividend stream to provide much needed relief DGKC has a diversified investment base with stakes in Banking, Insurance, Textile, Dairy, Paper & Board, Hotel and Real estate (all in group companies). These comprise 26% of DGKC’s assets invested in group companies and provide a healthy dividend stream. We have valued DGKC's listed and unlisted portfolio at PKR41/sh, after applying a 35% portfolio discount. As core income remains depressed, dividends from its investments contribute an estimated 71% to the bottom-line across FY19.

Risk: (i) Decline in market value of group companies, (ii) contraction in North share (iii) competition in export avenues and (iv) delay in installation of CPP.

D.G. Khan Cement Co Ltd


TP (PKR/sh) 54.80

Stance Neutral

Upside (%) 4.4%

Fwd D/Y (%) 0.0%

Total Return (%) 4.4%

Bloomberg / Reuters DGKC PA/DGKH.KA


12m Hi-Low (PKR/sh) 126.74/52.01

6m Avg. D. Vol ('000 shrs) 2,312


DGKC- Valuation Snapshot


EPS (PkR) 20.17 6.61 (2.40) 3.92

EPS Growth (%) 11% -67% n.m n.m

P/E (x) 2.6 7.9 n.m 13.4

PBV (x) 0.3 0.3 0.3 0.3

DY (%) 8.1% 2.4% 0.0% 1.4%

ROE (%) 11.5% 3.6% -1.3% 2.2%

EV/EBITDA (x) 6.4 3.4 4.6 3.1


DGKC vs. KSE100 Index

-55%

-25%

5%

35%

Jul-

18

Au

g-1

8

Oct

-18

No

v-1

8

Jan

-19

Feb

-19

Ap

r-1

9

May

-19

Jul-

19

DGKC KSE100 Index


24 | P a g e

Perspective

DGKC – Valuation Breakdown


EBITDA (after tax) 4,428 6,182 7,973 8,288 8,730 9,197 9,690 10,213

Capex (1,835) (1,868) (1,901) (1,935) (1,969) (2,004) (2,040) (2,076)

Working Capital (586) (222) (197) (123) (126) (130) (135) (142)

FCFF 2,007 4,092 5,874 6,231 6,635 7,063 7,516 7,995


Net debt 34,368 Equity Value 5,863 Portfolio Vaue 18,146

Total 24,010

Share (mn) 438 Target Price (PKR) 54.8

Source: IMS Research *WACC = 18%, Terminal Growth = 3%

Export sales – a saving grace

50%

60%

70%

80%

90%

100%

110%

120%

-

1.0

2.0

3.0

4.0

5.0

6.0

7.0


mn tons



Higher grid reliance denting margins

0%

10%

20%

30%

40%

50%


GMs EBITDA Margins


Hefty debt for greenfield expansion

0%

5%

10%

15%

20%

25%

30%

-

5

10

15

20

25

30

35




Valuation Contribution

76%

24%

Portfolio Value Core value


25 | P a g e

Perspective

DGKC: Financials


Net Revenue 30,136 30,668 40,497 33,133 37,457

Cost of sales 18,292 21,928 33,963 28,709 30,057

Gross profit 11,845 8,740 6,534 4,424 7,399

Admin & Sell. Exp. 1,530 1,523 2,165 3,238 3,656

EBITDA 13,603 10,194 9,469 6,923 9,362


EBIT 11,541 7,889 5,975 3,264 5,638


Other income 2,118 3,027 2,199 2,180 2,176

Other charges 892 2,355 593 103 282

NPBT 11,158 7,370 2,704 (636) 2,137

Taxation 3,183 (1,468) (191) 415 420

NPAT 7,975 8,838 2,895 (1,051) 1,717

Balance Sheet




Total Assets 108,371 121,889 124,803 122,047 122,399

Share capital 4,381 4,381 4,381 4,381 4,381

Reserves 38,014 34,762 34,762 34,762 34,762

Surplus on revaluation 32,473 37,992 40,339 39,288 40,677

Total Equity 74,869 77,134 79,482 78,431 79,820

Long Term Debt 12,520 17,730 14,370 11,402 7,836


Short term Debt 8,571 12,210 12,209 15,209 16,709






CF from Fin. Activities 16,677 2,428 (3,221) (25) (1,797)

Net Cash (6,588) 47 1,825 162 1,555

Cash at Beginning 7,009 422 469 2,294 2,456

Cash at End 421 469 2,294 2,456 4,011



EPS (PkR) 18.20 20.17 6.61 (2.40) 3.92

EPS Growth (%) -9.3% 10.8% -67.2% n.m n.m

P/E (x) 2.9 2.6 7.9 (21.9) 13.4

BVPS (PkR) 170.9 176.1 181.4 179.0 182.2

PBV (x) 0.3 0.3 0.3 0.3 0.3

DPS (PkR) 7.50 4.25 1.25 - 0.75

DY (%) 14.3% 8.1% 2.4% 0.0% 1.4%

ROE (%) 10.7% 11.5% 3.6% -1.3% 2.2%

ROA (%) 7.4% 7.3% 2.3% -0.9% 1.4%

Debt/Equity (%) 0.29 0.42 0.37 0.38 0.35

EV/EBITDA (x) 5.8 6.4 3.4 4.6 3.1

EBITDA Margin 45.1% 33.2% 23.4% 20.9% 25.0%

Gross Margin 39.3% 28.5% 16.1% 13.4% 19.8%


DGKC – EV/EBITDA (x) Band 2020f

Jul-

11

Ap

r-1

2

Feb

-13

No

v-1

3

Sep

-14

Jul-

15

Ap

r-1

6

Feb

-17

No

v-1

7

Sep

-18

Jul-

19

(x)

8.0 6.0 4.0 2.0


DGKC – PBV (x) Band 2020f

Jul-

11

Jan-

12

Jul-

12

Jan-

13

Jul-

13

Jan-

14

Jul-

14

Jan-

15

Jul-

15

Jan-

16

Jul-

16

Jan-

17

Jul-

17

Jan-

18

Jul-

18

Jan-

19

Jul-

19

(x)

1.2

0.9

0.6

0.3


26 | P a g e

Perspective

Maple Leaf Cement Factory Ltd

Margin compression will be large

Symbol: MLCF Rating: Neutral

We see significant margin compression for MLCF post its 2.3mn tons brownfield expansion in 4QFY19. The capital outlay of PKR26bn for its expansion is significantly higher as compared to peers. Significant fixed costs and debt financing for the expansion, coupled with limited export avenues, will weigh down on profitability in FY20/21F. MLCF is one of the three companies, from which we expect a net loss in FY20F. The stock remains high-beta due to poor credit history from the previous expansion cycle. That said, it has improved its operational efficiency during the past five years and stands at a relatively better financial position compared to the last price war (D/A at 42% as compared to 63% in previous expansion cycle). We have a Neutral stance on the stock with a Jun’20 TP of PKR26/sh; it is presently trading at an EV/EBITDA of 6.6x.

Bad timing of North expansion; all eyes on exports MLCF commissioned its new line of 2.3mtpa in Apr’19, which has increased MLCF’s capacity to 5.7m tpa (fourth largest cement producer), taking its capacity-based market share to 11% from c. 9%. Management guides Line III can run 85% on pet-coke; this should lead to cost savings when coal prices are high. Besides weak local demand, MLCF’s prospects are hurt by limited options available for cement exports i.e. to Afghanistan and India. Feasibility to export via the sea port remains difficult for North producers as transportation expenses are high. However, MLCF has recently exported via sea port when local retention prices touched their recent lows, albeit at minimal margins. Persistence of this trend at better margins will make us more positive on MLCF.

Cost efficiencies cannot prevent loss in FY20f MLCF stands out for its diversified mix of fuel (coal and pet coke) and power resources (coal, gas and FO). In contrast, the cost-leader LUCK is more reliant on natural gas. Cost efficiencies for MLCF also emanate from: (i) usage of pet coke for fuel, and (ii) railway contract for coal transportation. MLCF has a strong brand presence in North and being one of the prominent white cement producers – commands premium prices. Therefore, the company has the highest retention prices in our coverage universe. Despite these factors, MLCF has one of the highest breakeven price level among the North producers at PKR540/bag, largely because of the impact of hefty debt.

Debt levels still manageable as compared to FY10 Significant debt financing (c. PKR23bn) is likely to be a drag on profitability, amid higher interest rates during FY20/21f. To highlight, MLCF took 60% of debt for its recent expansion of 2.3mn tons with total outlay of 26bn. That said, leverage levels are still lower than in the previous expansion cycle; the D/A stood as high as 63% in FY10 vs. the current levels of 42%. With EBITDA generation of 5.8bn and interest coverage at 0.6x in FY20 as compared to hefty losses of PKR2.6bn in FY10, the debt levels are still under manageable levels, in our view. Such high debt levels will also dissuade MLCF from disrupting prices like CHCC or FCCL.

Risk: (i) Issues in renewal of railway contract and (ii) rise in coal prices.

Maple Leaf Cement Co Ltd


TP (PKR/sh) 26.30

Stance Neutral

Upside (%) 13%

Fwd D/Y (%) 0%


Bloomberg / Reuters MLCF PA/MPLF.KA


12m Hi-Low (PKR/sh) 60.78/19.26

6m Avg. D. Vol ('000 shrs) 4,753


MLCF - Valuation Snapshot


EPS (PkR) 7.70 4.49 (3.57) (0.55)

EPS Growth (%) -4% -42% n.m n.m

P/E (x) 3.0 5.2 n.m n.m

PBV (x) 0.4 0.4 0.4 0.5

DY (%) 10.7% 3.4% 0.0% 0.0%

ROE (%) 14.8% 8.1% -6.9% -1.1%

EV/EBITDA (x) 7.1 5.6 6.6 4.9


MLCF vs. KSE100 Index

-80%

-60%

-40%

-20%

0%

20%

40%

60%

Jul-

18

Au

g-1

8

Oct

-18

No

v-1

8

Jan

-19

Feb

-19

Ap

r-1

9

May

-19

Jul-

19

MLCF KSE100 Index


27 | P a g e

Perspective

MLCF – Valuation Breakdown (PKRmn) FY20f FY21f FY22f FY23f FY24f FY25f FY26f FY27f

EBITDA (after tax) 4,840 6,036 7,146 7,695 8,479 9,308 10,182 11,102

Capex (1,393) (1,421) (1,450) (1,479) (1,508) (1,538) (1,569) (1,600)

Working Capital 4 (302) (269) (235) (237) (241) (244) (247)

FCFF 3,451 4,313 5,427 5,981 6,734 7,529 8,369 9,255

(PKRmn) Sum Of Pv FCFF * 43,038

Net Debt 27,445 Equity Value 15,592 Share (mn) 594

Target Price (PKR) 26.3 Source: IMS Research *WACC = 16%, Terminal Growth = 3%

Utilization level may fall below 70% in FY20f

60%

70%

80%

90%

100%

110%

120%

1.0

1.5

2.0

2.5

3.0

3.5

4.0

4.5


mn tons



Significant compression in GMs post expansion

10%

15%

20%

25%

30%

35%

40%

45%


GMs EBITDA Margins


Debt levels are high but lower compared to previous cycle

15%

20%

25%

30%

35%

40%

45%

-

1.0

2.0

3.0

4.0

5.0

6.0

7.0

8.0

FY18 FY19f FY20f FY21f FY22f



Diversified Power mix

21% 19% 22% 19% 19% 18%

0%

61%71%

61% 61% 58%30%

20%8%

20% 20% 25%

49%

0%0%

0% 0% 0%

0%

20%

40%

60%

80%

100%

120%


WHR Coal Gas Grid


28 | P a g e

Perspective

MLCF: Financials


Net Revenue 23,885 25,684 24,013 25,105 27,809

Cost of sales 14,510 17,159 18,345 20,909 21,758

Gross profit 9,376 8,525 5,668 4,197 6,051

Admin & Sell. Exp. 1,911 1,969 1,661 2,022 2,165

EBITDA 8,938 8,536 6,441 5,460 7,084


EBIT 7,044 6,183 3,825 2,054 3,614


Other income 116 63 49 34 -

Other charges 536 436 231 155 272

NPBT 6,870 5,336 2,309 (1,743) 92

Taxation 2,093 763 (356) 377 417

NPAT 4,776 4,573 2,666 (2,120) (325)

Balance Sheet




Total Assets 39,063 60,238 70,273 68,374 68,202

Share capital 5,277 5,937 5,937 5,937 5,937

Reserves 14,064 20,608 22,798 20,678 20,353

Surplus on revaluation 4,324 4,265 4,265 4,265 4,265

Total Equity 23,666 30,809 33,000 30,880 30,555

Long Term Debt 3,161 12,942 15,976 12,954 9,931


Short term Debt 3,138 5,785 11,360 12,860 15,860




CF from Oper. Activities 5,421 5,587 (256) 1,289 2,843


CF from Fin. Activities 1,250 15,123 9,156 (332) (23)

Net Cash 8 235 1,038 (435) 1,399

Cash at Beginning 442 449 685 1,723 1,288

Cash at End 449 685 1,723 1,288 2,686



EPS (PkR) 8.04 7.70 4.49 (3.57) (0.55)

EPS Growth (%) -1.4% -4.3% -41.7% -179.5% -84.7%

P/E (x) 2.9 3.0 5.2 (6.5) (42.5)

BVPS (PkR) 39.9 51.9 55.6 52.0 51.5

PBV (x) 0.6 0.5 0.4 0.5 0.5

DPS (PkR) 3.33 2.50 0.80 - -

DY (%) 14.3% 10.7% 3.4% 0.0% 0.0%

ROE (%) 20.2% 14.8% 8.1% -6.9% -1.1%

ROA (%) 12.2% 7.6% 3.8% -3.1% -0.5%

Debt/Equity 0.28 0.63 0.88 0.93 0.94

EV/EBITDA (x) 8.0 7.1 5.6 6.6 4.9

EBITDA Margin 37.4% 33.2% 26.8% 21.7% 25.5%

Gross Margin 39.3% 33.2% 23.6% 16.7% 21.8%


MLCF – EV/EBITDA (x) Band 2020f

Jul-

11

Ap

r-1

2

Feb

-13

No

v-1

3

Sep

-14

Jul-

15

Ap

r-1

6

Feb

-17

No

v-1

7

Sep

-18

Jul-

19

(x)

10.0

8.0 6.0

4.0


MLCF – PBV (x) Band 2020f

Jul-

11

Ap

r-1

2

Feb

-13

No

v-1

3

Sep

-14

Jul-

15

Ap

r-1

6

Feb

-17

No

v-1

7

Sep

-18

Jul-

19

(x)

1.8

1.4

1.0

0.6


29 | P a g e

Perspective

Cherat Cement Company Ltd

Riskiest of all

Symbol: CHCC Rating: Sell

We have a Sell stance on CHCC with a Jun’20 TP of PKR26/sh. While two legs of expansion have increased its market share to 10% in FY19 from just 3% earlier, higher debt financing for the second leg and operating leverage are likely to raise cash-flow concerns in the near term. Also, as other new capacities come online, a likely readjustment of market share may lead to stagnation in growth during FY21f. CHCC has been the major price disruptor during the present expansion cycle, having instigated price discounts after both expansions in Jan’17 and Jan’19, and it could be tempted to do so again going forward.

More vulnerable to pricing indiscipline CHCC undertook multiple expansions during the present cycle, increasing its market share from 3% in FY15 to 10% in FY19 with total nameplate capacity now at 4.5mn tpa. Given its higher operating and financial leverage compared to peers, we think CHCC is the most vulnerable to any pricing indiscipline in the industry. Amid the price decline in the North during FY19, after CHCC’s Line II came online, its retention prices and margins fell more than for other producers. CHCC will likely post a loss in FY20F in case of any disruption in pricing discipline, in our view.

GMs to remain weak We expect GM’s to remain below par in FY20f on the back of (i) increase in fixed overheads (majorly depreciation expense), (ii) pressure on domestic cement prices, and (iii) higher reliance on grid as FO for power generation is more expensive. However, the availability of gas to its 27MW gas-based engines should help in curtailing cost pressures, in our view. For FY20, we are expecting GM of 10% compared to 22% in FY18.

Heavy debt expansion to dampen profitability Multiple capacity additions have led to a pile up of significant debt on CHCC’s books; the debt of the company has risen to c. PKR19bn (D/A of 53%). As a result, CHCC’s breakeven cost is amongst the highest in our coverage, at PKR540/bag (on cash basis).

Readjustment in market share to dilute volumetric growth Being the early bird, CHCC enjoyed significant growth in volumes before the slowdown in demand seeped in. The second leg of expansion (online since Jan’19) is also among the earliest in the region. However, gains in market share will be eroded by other new capacities in FY20f; we expect a decline in market share across the next twelve months as new capacities are added in 1HFY20. Resultantly, earnings may see a sharp decline in FY20f as a result of high base in FY19 (also owing to tax credit of PKR900mn availed on the new plant).

Risk: (i) Non availability of gas for its captive power plants, and (ii) tax treatment for Line II (potentially it may not benefit from the tax credit due to section 126L).

Cherat Cement Co Ltd


TP (PKR/sh) 25.90

Stance Sell

Upside (%) -23%

Fwd D/Y (%) 0%

Total Return (%) -23%

Bloomberg / Reuters CHCC PA/CHRC.KA


12m Hi-Low (PKR/sh) 97.64/29.7



CHCC - Valuation Snapshot


EPS (PkR) 12.07 8.42 (4.48) 3.69

EPS Growth (%) -8% 43% -288% -221%

P/E (x) 2.8 4.0 (7.5) 9.2

PBV (x) 0.5 0.5 0.5 0.5

DY (%) 14.8% 5.2% 0.0% 2.2%

ROE (%) 19.1% 12.0% -6.8% 5.4%

EV/EBITDA (x) 10.6 6.6 6.6 4.4


CHCC vs. KSE100 Index

-90%

-60%

-30%

0%

30%

Jul-

18

Au

g-1

8

Oct

-18

No

v-1

8

Jan

-19

Feb

-19

Ap

r-1

9

May

-19

Jul-

19

CHCC KSE100 Index


30 | P a g e

Perspective

CHCC– Valuation Breakdown


EBITDA (after tax) 2,352 3,356 4,172 4,242 4,342 4,444 4,557 4,690

Capex (542) (551) (561) (571) (581) (592) (602) (613)

Working Capital (10) (256) (225) (87) (94) (98) (101) (104)

FCFF 1,801 2,549 3,386 3,584 3,666 3,755 3,854 3,973


Net debt 19,211 Equity Value 4,567 Share (mn) 177


Utilization levels to stagnate

0%

20%

40%

60%

80%

100%

120%

-

0.5

1.0

1.5

2.0

2.5

3.0

3.5


mn tons



Margins are vulnerable

0%

5%

10%

15%

20%

25%

30%

35%

40%


GMs EBITDA Margins


Highest debt amongst peers

25%

30%

35%

40%

45%

50%

55%

60%

-

2

4

6

8

10

12

14

16




Market share to normalize in FY21f

-

0.50

1.00

1.50

2.00

2.50

3.00

3.50

0%

2%

4%

6%

8%

10%

12%


mn tons

Sales Volume- Rhs North based Market share


31 | P a g e

Perspective

CHCC: Financials

(PkRmn) FY17 FY18 FY19F FY20F FY21F

Net Revenue 9,645 14,388 15,836 19,505 21,796

Cost of sales 6,432 11,249 13,323 17,481 18,266

Gross profit 3,213 3,139 2,513 2,024 3,530

Admin & Sell. Exp. 505 582 679 697 752

EBITDA 3,388 3,590 3,182 3,138 4,424

Dep & Amortization 690 1,086 1,297 1,497 1,537

EBIT 2,698 2,504 1,885 1,641 2,887


Other income 133 81 121 437 325

Other charges 143 134 71 122 216

NPBT 2,510 2,147 735 (630) 917

Taxation 553 15 (752) 161 266

NPAT 1,957 2,132 1,487 (791) 651

Balance Sheet




Total Assets 18,807 30,520 34,989 34,269 32,732

Share capital 1,766 1,766 1,766 1,766 1,766

Reserves 8,695 9,407 10,585 9,795 10,313


Total Equity 10,462 11,174 12,351 11,561 12,079

Long Term Debt 4,841 14,700 15,900 13,680 10,260


Short term Debt 1,500 964 1,923 1,923 1,923




CF from Oper. Activities (446) 2,784 1,977 697 1,933

CF from Inv. Activities (1,471) (11,086) (640) (542) (551)

CF from Fin. Activities 1,939 8,303 2,250 (800) (2,352)

Net Cash 23 46 47 3,635 2,990

Cash at Beginning 23 46 47 3,635 2,990

Cash at End 46 47 3,635 2,990 2,019



EPS (PkR) 11.08 12.07 8.42 (4.48) 3.69

EPS Growth (%) -28.2% -8.2% 43.4% -

288.1% -

221.4%

P/E (x) 3.0 2.8 4.0 (7.5) 9.2

BVPS (PkR) 59.2 63.3 69.9 65.5 68.4

PBV (x) 0.6 0.5 0.5 0.5 0.5

DPS (PkR) 4.50 5.00 1.75 - 0.75

DY (%) 13.3% 14.8% 5.2% 0.0% 2.2%

ROE (%) 18.7% 19.1% 12.0% -6.8% 5.4%

ROA (%) 10.4% 7.0% 4.2% -2.3% 2.0%

Debt/Equity 0.61 1.44 1.51 1.54 1.29

EV/EBITDA (x) 10.4 10.6 6.6 6.6 4.4

EBITDA Margin 35.1% 25.0% 20.1% 16.1% 20.3%

Gross Margin 33.3% 21.8% 15.9% 10.4% 16.2%


CHCC – EV/EBITDA (x) Band 2020f

Jul-

11

Ap

r-1

2

Feb

-13

No

v-1

3

Sep

-14

Jul-

15

Ap

r-1

6

Feb

-17

No

v-1

7

Sep

-18

Jul-

19

(x)

11.0

9.0

7.0

5.0


CHCC– PBV (x) Band 2020f

Jul-

11

Ap

r-1

2

Feb

-13

No

v-1

3

Sep

-14

Jul-

15

Ap

r-1

6

Feb

-17

No

v-1

7

Sep

-18

Jul-

19

(x)

2.8

2.0

1.3

0.5


32 | P a g e

Perspective

Fauji Cement Ltd.

Set for a cut in market share

Symbol: FCCL

FCCL is a potential price disruptor and is likely to lose market share in this expansion cycle due to a lack of its own expansion. In order to arrest the sales decline (the silo issue is only a year old), we believe FCCL will continue to disrupt the industry pricing equilibrium (already did in 4QFY19). FCCL is also most able to do so as it has the lowest breakeven price level, due to unlevered books and cost savings from its 12MW solar power plant. The stock trades at an expensive P/E and EV/ton of 17x and US$41/ton for FY20f. We have a Sell rating on the stock with a Jun’20 target price of PKR13/sh.

Dilution in market share to contain growth FCCL faces the risk of a sharp decline in market share given lack of any expansion in this cycle. The company’s market share is likely to decline from 9% in FY18 to 6% in FY21f. This implies erosion of 380k tons of sales in FY20f and will weigh down on profitability amid subdued demand. Moreover, being located in the upper North, FCCL has limited export avenues.

Possible price disruptor FCCL remains a potential disruptor in the present cycle, as the failure to maintain its market share will result in substantial volumetric decline. FCCL has already disrupted prices once in FY19, following CHCC and MLCF’s expansion in the North. Lack of substantial debt due to delays in expansion, and cost savings from 12MW solar power plant, means that FCCL can remain profitable at lower cement prices than presently. Its breakeven price is PKR450/bag, 25% lower than c. PKR600/bag prevalent prices in the North market presently.

May lose out on demand growth in the medium term The earnings growth will return from FY21f, in our view; however, it will likely be moderate compared to the rest of the industry. This might mean it will miss out on the potential growth from construction of new dams and new housing schemes in the medium term. Also, exports are unlikely to provide any respite in the near term, unless supply dynamics in Afghanistan and India become more conducive.

Current environment not conducive for expansion In the present tough macro environment and sector dynamics, FCCL’s cash flow generation will likely remain constrained. If it decides to expand now, it will likely have to cut dividends and resort to expensive debt (the sponsor’s own cash-flow constraints may dissuade it from a capital call, in our view).

Valuations are expensive The stock trades at an expensive P/E and EV/ton of 17x and US$41/ton for FY20f. We have a Sell stance on the stock with a Jun’20 target price of PKR13/sh.

Risk: (i) Further dilution in market share, and (ii) halt in cement export to neighboring borders.

Fauji Cement Co Ltd


TP (PKR/sh) 12.60

Stance Sell

Upside (%) -19%

Fwd D/Y (%) 2%

Total Return (%) -17%

Bloomberg / Reuters FCCL PA/FAUC.KA


12m Hi-Low (PKR/sh) 26.83/14.6

6m Avg. D. Vol ('000 shrs) 3,816


FCCL - Valuation Snapshot


EPS (PkR) 2.49 2.29 0.90 1.47

EPS Growth (%) 31% -8% -61% 63%

P/E (x) 6.3 6.8 17.3 10.6

PBV (x) 1.1 1.0 1.0 0.9

DY (%) 12.9% 3.2% 1.6% 1.6%

ROE (%) 16.7% 13.7% 5.2% 7.9%

EV/EBITDA (x) 7.7 3.5 5.8 4.0


FCCL vs. KSE100 Index

-55%

-25%

5%

35%

Jul-

18

Au

g-1

8

Oct

-18

No

v-1

8

Jan

-19

Feb

-19

Ap

r-1

9

May

-19

Jul-

19

FCCL KSE100 Index


33 | P a g e

Perspective

FCCL – Valuation Breakdown


EBITDA (after tax) 2,785 3,551 4,201 4,246 4,320 4,404 4,497 4,601

Capex (1,462) (987) (1,012) (1,038) (1,064) (1,092) (1,120) (1,148)

Working Capital 160 (157) (169) (95) (110) (117) (123) (131)

FCFF 1,483 2,408 3,020 3,113 3,145 3,195 3,254 3,321


Net debt 234 Equity Value 17,402 Share (mn) 1,380


Domestic sales decline to continue in FY20f

50%

60%

70%

80%

90%

100%

1.5

2.0

2.5

3.0

3.5

4.0


mn tons



Margins to recover post FY20f

10%

15%

20%

25%

30%

35%


GMs EBITDA Margins


Lowest debt amongst peers (ex-LUCK)

0%

2%

4%

6%

8%

10%

-

10

20

30

40

50




Declining market share to hurt domestic sales

1.5

1.7

1.9

2.1

2.3

2.5

2.7

2.9

3.1

3.3

0%

2%

4%

6%

8%

10%


mn tons

FCCL Local sales


34 | P a g e

Perspective

FCCL: Financials


Net Revenue 20,423 21,161 20,433 14,943 16,696

Cost of sales 15,986 16,046 15,025 12,274 12,905

Gross profit 4,438 5,115 5,408 2,669 3,791

Admin & Sell. Exp. 506 662 648 729 789

EBITDA 5,399 5,663 6,087 3,499 4,611


EBIT 4,083 4,246 4,590 1,986 3,029

Financial Charges 153 148 97 239 182

Other income 443 104 164 194 255

Other charges 291 311 334 149 228

NPBT 3,930 4,098 4,493 1,747 2,847

Taxation 1,317 669 1,339 506 826

NPAT 2,613 3,429 3,154 1,240 2,022

Balance Sheet




Total Assets 27,752 29,049 30,468 30,678 32,127

Share capital 13,798 13,798 13,798 13,798 13,798

Reserves 5,883 6,691 9,154 10,050 11,726


Total Equity 19,681 20,489 22,953 23,848 25,524

Long Term Debt 1,063 637 469 156 -


Short term Debt 312 1,639 1,000 1,000 1,000





CF from Inv. Activities (1,549) (2,038) (1,977) (1,462) (987)

CF from Fin. Activities (3,791) (2,396) (1,610) (658) (658)

Net Cash (2,472) 14 1,158 794 1,802

Cash at Beginning 2,990 518 532 1,690 2,484

Cash at End 518 532 1,690 2,484 4,286



EPS (PkR) 1.89 2.49 2.29 0.90 1.47

EPS Growth (%) -51.3% 31.2% -8.0% -60.7% 63.0%

P/E (x) 8.2 6.3 6.8 17.3 10.6

BVPS (PkR) 14.3 14.8 16.6 17.3 18.5

PBV (x) 1.2 1.1 1.0 1.0 0.9

DPS (PkR) 0.90 2.00 0.50 0.25 0.25

DY (%) 5.8% 12.9% 3.2% 1.6% 1.6%

ROE (%) 13.3% 16.7% 13.7% 5.2% 7.9%

ROA (%) 9.4% 11.8% 10.4% 4.0% 6.3%

Debt/Equity 0.09 0.13 0.08 0.06 0.05

EV/EBITDA (x) 10.8 7.7 3.5 5.8 4.0

EBITDA Margin 26.4% 26.8% 29.8% 23.4% 27.6%

Gross Margin 21.7% 24.2% 26.5% 17.9% 22.7%


FCCL– EV/EBITDA (x) Band 2020f

Jul-1

1

Apr

-12

Feb-

13

Nov

-13

Sep-

14

Jul-1

5

Apr

-16

Feb-

17

Nov

-17

Sep-

18

Jul-1

9

(x)

12.0 10.0 8.0 6.0


FCCL– PBV (x) Band 2020f

Jul-

11

Ap

r-1

2

Feb

-13

No

v-1

3

Sep

-14

Jul-

15

Ap

r-1

6

Feb

-17

No

v-1

7

Sep

-18

Jul-

19

(x)

3.0

2.3

1.5

0.8


35 | P a g e

Perspective

I, Jawad Ameer Ali, CFA certify that the views expressed in the report reflect my personal views about the subject securities. I also certify that no part of my compensation was, is, or will be, directly or

indirectly, related to the specific recommendations made in this report. I further certify that I do not have any beneficial holding of the specific securities that I have recommendations on in this report.

Ratings Guide* Upside

Buy More than 15%

Neutral Between 0% - 15%

Sell Below 0%

*Based on 12 month horizon unless stated otherwise in the report. Upside is the percentage difference between the Target Price and Market Price.

Valuation Methodology: We use multiple valuation methodologies in arriving at a Target Price including, but not limited to, Discounted Cash Flow (DCF), Dividend Discount Model (DDM) and relative

multiples based valuations.

Risks: Please refer to page 15.

Disclaimer: Intermarket Securities Limited has produced this report for private circulation only. The information, opinions, and estimates herein are not direct at, or intended for distribution to or use by, any person or entity in any jurisdiction where doing so would be contrary to law or regulation or which would subject Intermarket Securities Limited to any additional registration or licensing requirement within such jurisdiction. The information and statistical data herein have been obtained from sources we believe to be reliable where such information has not been independently verified and we make no representation or warranty as to its accuracy, completeness, and correctness. This report makes use of forward looking statements that are based on assumptions made and information currently available to us and those are subject to certain risks and uncertainties that could cause the actual results to differ materially. No part of the compensation of the author(s) of this report is related to the specific recommendations or views contained in this report.

This report is not a solicitation or any offer to buy or sell any of the securities mentioned herein. It is meant for information purposes only and does not take into account the particular investment objectives, financial situation or needs of individual recipients. Before acting on any information in this report, you should consider whether it is suitable for your particular circumstances and, if appropriate, seek professional advice. Neither Intermarket Securities Limited nor any of its affiliates or any other person associated with the company directly or indirectly accepts any liability whatsoever for any direct or consequential loss arising from any use of this report or the information contained herein.

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