J.P. Morgan - Ambuja Cements Limited

Ambuja Cements Limited (ACEM IN) EBITDA marginally higher as operating costs improved; PAT beat due to one-offs		Underweight Price: Rs218.75 23 Apr 2014 Price Target: Rs155.00 PT End Date: 31 Mar 2015

ACEM reported 1Q CY14 EBITDA of Rs5.9bn, which was 5% ahead of JPMe but well above consensus at Rs5.3bn. While revenue was largely inline with expectations, the higher-than-expected EBITDA was primarily driven by a 5% decline in operating cost sequentially. Reported PAT at Rs5.2bn was ahead of JPMe (Rs3.3bn) and Consensus (Rs3.4bn) mostly aided by write-backs in other income and tax provision reversal. Adjusted for these one-offs, PAT was Rs4.0bn for the quarter. ACEM in its press release highlighted that construction activity is expected to pick up pace after elections and also pointed to likely modest growth in cement demand.

· ASP higher than peers given North/West India mix benefit. We had highlighted strong operational performance from companies with exposure to North/West India given the upside in volume and realizations due to Binani’s plant shutdown. ACEM reported ASP growth of 5% q/q (vs. flat for peers but in-line with our estimates) aided by its exposure to North/West India markets. ACEM’s volume growth for the quarter was 2% y/y (vs. JPMe 3% and +9% for UTCEM).

· Lower-than-expected operating cost aide EBITDA: ACEM reported EBITDA of Rs5.9bn (+90% q/q; +6% y/y), which was slightly ahead of JPMe (Rs5.6bn), but much higher than Bloomberg consensus (Rs5.3bn). We estimate EBITDA/t at Rs969/t (+66% q/q; +4% y/y) and EBITDA margin expanded 820bp q/q to 22%. The EBITDA was aided by lower-than-expected operating cost/mt (-5% q/q vs. JPMe -3% q/q). While RM cost/Mt increased 5% q/q, other operating cost/mt declined 22% sequentially. Employee cost at Rs1.3bn was up 8% q/q (+7% y/y) after witnessing the 8% q/q decline in 4QCY13 (usually higher in 4Q).

· Tax reversal and write-back in other income drives PAT beat: Reported PAT at Rs5.2bn (+64% q/q, +7% y/y) was higher than expected due to Rs270mn write-back toward interest (on income tax related to previous years) and Rs948mn on tax provision reversal related to previous years. Adjusted for these one-offs, PAT came in at Rs4.0bn (+97% q/q, +15% y/y). Adjusted tax rate (for reversal of tax provision) was 27% vs. JPMe at 33% (adjusted for 1QCY13 was 34.8%).

· Valuations at all-time high: ACEM is currently trading at CY15E EV/MT $180/mt and 12.2x EV/EBITDA, which is almost at an all-time high for the company. Further, these multiples are on 2-yr forward EBITDA estimates that are ~45-50% higher than FY14/CY13 earnings and already building in demand recovery, and cement margin increase. At current valuations we see little value in the large-cap cement names (ACC, Ambuja, Ultratech) and expect some of the recent stock price momentum (+37% for ACEM, +33% for ACC, +27% for UTCEM and 11.5% for Sensex since end Jan) to reverse from current levels.

· Our earning estimates are under review following the results.

Table 1: ACEM Quarterly Earnings Summary

	4QCY12	1QCY13	2QCY13	3QCY13	4QCY13	1QCY14	% q/q	% y/y
Net sales	23,352	25,570	23,765	20,175	22,094	26,493	20%	4%
(Inc) Dec in stock	(193)	679	(625)	596	533	535
Raw Materials	1,625	1,832	1,655	1,434	1,676	2,025	21%	11%
Staff Costs	1,367	1,208	1,320	1,300	1,197	1,291	8%	7%
Power and fuel	5,473	5,495	5,560	4,568	5,007	5,783	16%	5%
Freight	5,816	6,408	6,142	5,247	5,745	6,660	16%	4%
Other Expenditure	4,764	4,417	4,485	4,351	4,845	4,329	-11%	-2%
Total Expenditure	18,851	20,038	18,537	17,496	19,002	20,622	9%	3%
EBITDA	4,501	5,533	5,228	2,679	3,092	5,872	90%	6%
Interest	243	132	171	178	169	161	-5%	22%
Depreciation	1,855	1,204	1,223	1,246	1,228	1,197	-2%	-1%
Other Income	881	1,494	744	815	861	1,319	53%	-12%
Profit before tax	3,284	5,690	4,578	2,070	2,556	5,832	128%	2%
Provn. for tax	1,174	1,982	1,336	891	393	1,579	302%	-20%
Recurring Profit	2,110	3,708	3,242	1,178	2,162	4,253	97%	15%
Exceptional	10	1,171	-	481	1,003	948
Reported Profit	2,120	4,879	3,242	1,660	3,165	5,200	64%	7%
EBITDA margin	19.3%	21.6%	22.0%	13.3%	14.0%	22.2%
Effective Tax Rate	35.7%	34.8%	29.2%	43.1%	15.4%	27.1%
Cement Sales MT	5.39	5.96	5.46	4.89	5.29	6.06	15%	2%
Realization per tonne	4,293	4,271	4,297	4,103	4,142	4,356	5%	2%
Operating cost/MT	3,498	3,363	3,396	3,581	3,591	3,403	-5%	1%
EBITDA/MT	835	928	958	548	584	969	66%	4%

Source: Company reports.

Figure 1: Quarterly ASP/MT for Large Cement Cos Source: Company reports.

Figure 2: Quarterly Volume Growth for Large Cement Cos Source: Company reports

Figure 3: Quarterly EBITDA Margin for Large Cement Cos Source: Company reports.

Figure 4: Quarterly EBITDA/MT for Large Cement Cos Source: Company reports

Figure 5: Quarterly YoY ASP/MT Growth for Large Cement Cos Source: Company reports.

Figure 6: Quarterly YoY Operating Cost/MT Growth for Large Cement Cos Source: Company reports

Figure 7: Quarterly Power Cost/MT for Large Cement Cos Source: Company reports.

Figure 8: Quarterly Freight/MT for Large Cement Cos Source: Company reports

Figure 9: Quarterly YoY EBITDA Growth for Large Cement Cos Source: Company reports.

Figure 10: Quarterly YoY PAT Growth for Large Cement Cos Source: Company reports. ACC Dec-13 PAT adjusted for tax reversal

 

Investment Thesis

The Indian cement industry continues to witness oversupply, with low demand trends and entry by new players leading to a volatile pricing environment. ACEM’s strong balance sheet, combined with its nationwide footprint, has helped ACEM retain its share in its key markets.

Post the Holcim transaction, ACEM becomes the quasi holding company (similar to GRASIM before the UTCEM-GRASIM transaction) in terms of its ACC stake, which usually warrants a holding company discount in India. Given that both entities would remain listed, the swap ratio is theoretical and hence ACEM in the near term would likely fall more than the implied swap ratio with ACC would suggest. Further, post the transaction, cash goes out from ACEM BS, which it would find difficult to access for its growth opportunities, except for dividend from ACC.

 

Valuation

We remain UW on ACEM with a Mar15 PT of Rs155, based on 8x CY15E EV/EBITDA, in-line with UTCEM’s target multiple.

Risks to Rating and Price Target

Key risks to our PT and estimates are a sharp recovery in cement demand to help drive higher-than-expected volume growth (and therefore utilization levels) and a reduction in operating cost per tonne improving margins.

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