cement elra

India Cement9 November 2010

Elara Securities (India) Private Limited

Ravindra Deshpande

[email protected]

+91 22 4062 6805

Ravi Sodah

[email protected]

+91 22 4062 6817

Closer to dawn

Glo

bal

Mar

kets

Res

earc

h

Ravindra Deshpande • [email protected] • +91 22 4062 6805 Ravi Sodah • [email protected] • +91 22 4062 6817


Closer to dawn Slower capacity addition to maintain demand-supply balance

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.

Pricing: The worst is behind us

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.

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.

Valuation 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.

Mid caps: Valuation gap swells

Source: Elara Securities Estimates

Key Financials Company Rating

MCAP CMP Target Upside EV/EBITDA(x) P/E(X) EV/tonne(USD) RoE(%) INR bn USD mn (INR) (INR) (%) FY11E FY12E FY11E FY12E FY11E FY12E FY11E FY12E

UltraTech Reduce 310 6,976 1,122 1,139 1.5 10.4 8.5 17.5 15.3 144 138 20.9 18.4 Ambuja Sell 226 5,099 148 119 (19.8) 9.8 9.2 17.2 16.9 184 180 18.8 16.8 ACC Accumulate 200 4,495 1,062 1,123 5.7 10.2 8.0 16.7 15.0 131 122 18.5 17.9 India Cements Accumulate 36 803 116 131 12.5 7.9 4.2 18.4 10.7 62 56 5.2 7.8 Shree Cem Accumulate 75 1,698 2,165 2,501 15.5 6.6 4.8 19.2 12.6 98 82 19.4 24.1 JK Cement Buy 12 264 168 220 31.4 6.7 5.2 16.1 8.9 54 51 6.5 10.8 Orient paper Buy 12 265 61 87 41.7 3.4 2.9 6.0 5.8 50 40 23.2 19.7 JK Lakshmi Buy 8 174 63 78 24 3.8 3.6 6.4 4.8 47 55 11.1 13.8

Source: Company, Elara Securities Estimates 1 USD= INR44.4

India | Cement 9 November 2010

Initiating Coverage

Cement

Sluggish capacity additions

Source: CMA, Elara Securities Estimates

All India Demand & Supply(mn tonnes)

All India 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

Capacity utilization (%) 89 86 80 81 85


Cement prices improve in major cities

Source: CMIE, Elara Securities Research

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

0 20

FY01

FY02

FY03

FY04

FY05

FY06

FY07

FY08

FY09

FY10

FY11

FY12

(%)

Valuation disc for mid capsEBITDA/tonne disc

0

3

6

9

12

15

18

0

50

100

150

200

250

300

350

FY04

FY05

FY06

FY07

FY08

FY09

FY10

FY1

1E

FY1

2E

FY1

3E

(Millio

n to

nn

e )

(Mill

ion

ton

ne

)

Effective capacity (LHS)

Increase in effective capacity (RHS)

130

180

230

280

330A

pr-

08

Jul-0

8

Oct

-08

Jan

-09

Ap

r-0

9

Jul-0

9

Oct

-09

Jan

-10

Ap

r-1

0

Jul-1

0

Oct

-10

(INR

per

bag

)

Mumbai Delhi KolkataChennai Hyderabad

Cement

2 Elara Securities (India) Private Limited

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

Cement

Cem

ent


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 FY10-FY13, 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

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 2-3% higher than FY11).

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

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.

Cement

Cem

ent


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

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

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

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 Capacity (mn

tonnes)

Type State Initial timeline

Actual

Orient Paper 2.4 Brownfield Maharashtra /Andhra Pradesh

Mar-10 Sep-10

Madras Cement

4,000 TPD kiln.

Brownfield Jayanthipuram

Sep-09 Jan-10

Grasim-Shambhupura:

4.4 Brownfield Rajasthan Q4FY08 Q1FY10

Clinker Q4FY08 Q2FY09

Grinding Q4FY08 Q1FY10

Source: Elara Securities Research

100

140

180

220

260

19

94

-95

19

95

-96

19

96

-97

19

97

-98

19

98

-99

19

99

-00

20

00

-01

20

01

-02

20

02

-03

20

03

-04

20

04

-05

20

05

-06

20

06

-07

20

07

-08

20

08

-09

20

09

-10

(INR

per

bag

)

0

10

20

30

40

50

FY0

0

FY0

1

FY0

2

FY0

3

FY0

4

FY0

5

FY0

6

FY0

7

FY0

8

FY0

9

FY1

0

(INR

bn

)

Strong operating cash flows

generated by the industry

The worst is behind us 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

Cement


Exhibit 4: Capacity addition momentum down


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


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

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


Exhibit 7: Region wise capacity additions (mn tonnes)

Year end capacity

North Eastern Southern Western Central All India

FY10 54 35 93 37 29 247

+Capacity additions

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


0

3

6

9

12

15

18

0

50

100

150

200

250

300

350

FY0

4

FY0

5

FY0

6

FY0

7

FY0

8

FY0

9

FY1

0

FY1

1E

FY1

2E

FY1

3E

(Millio

n s to

nn

es)(Mill

ion

ton

ne

s)

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

Pace of capacity addition slows

down

North26%

West7%

Central6%

East10%

South51%

North22%

West18%

Central20%

East15%

South25%

Cement

Cem

ent


Demand to quicken from H2FY11 First two quarters register below average growth

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.

Scenario brighten up on infra, real estate push

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

Source: Planning Commission, Elara Securities Estimates

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.

Exhibit 9: Infra-related spending to be strong

Source: Planning Commission, Elara Securities Research

Exhibit 10: Share of infra in total demand to go up

Year 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


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.

XIth Plan: Investments in road sector Exhibit 11: Roads to gather momentum (INR bn)

INR bn 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

FY11E 226.2 206.1 251.4 683.7

FY12E 263.0 248.2 288.5 799.7

Total 3,141.5


6 77

89 9 10 10 10 10

0

2

4

6

8

10

12

2,000

4,000

6,000

8,000

10,000

12,000

FY0

8

FY0

9

FY1

0

FY1

1E

FY1

2E

FY1

3E

FY1

4E

FY1

5E

FY1

6E

FY1

7E

(%)

(INR

bn

)

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

0

10

20

30

40

0

50

100

150

200

FY0

8

FY0

9

FY1

0

FY1

1E

FY1

2E

FY1

3E

FY1

4E

FY1

5E

FY1

6E

FY1

7E

(%)

(mn

ton

ne)

Projected cement demand (LHS)

% of total Infra spending projected each year (RHS)

Cement


Exhibit 12: Execution visibility high till FY15 Average Execution per day KM/day

FY10 8.7

FY11E 15.2

FY12E 16.8

FY13E 19.2

FY14E 19.5

FY15E 16.1

FY16E 4.5

FY17E 1.6

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.

Exhibit 13: Construction order book on an uptick


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


Exhibit 15: Credit flow to infra, construction soars


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.

Exhibit 16: Real estate revenues recover


Exhibit 17: HDFC’s loan book remains buoyant

Source: HDFC, Elara Securities Research

1,000

1,500

2,000

2,500

3,000

0

100

200

300

400

Q1FY10 Q2FY10 Q3FY10 Q4FY10 Q1FY11

(INR b

n)(IN

R b

n)

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

2.4

2.5

2.8

3.13.2

2.2

2.4

2.6

2.8

3.0

3.2

3.4

Q1FY10 Q2FY10 Q3FY10 Q4FY10 Q1FY11

Ord

er b

oo

k to

sal

es r

atio

(x)

2,500

3,000

3,500

4,000

4,500

340

360

380

400

420

440

460

22

-May

-09

28

-Au

g-0

9

20-N

ov-

09

26

-Feb

-10

21

-May

-10

(INR b

n)(IN

R b

n)

Construction(LHS) Infrastructure(RHS)

0

10

20

30

40

Q1

FY0

9

Q2

FY0

9

Q3

FY0

9

Q4

FY0

9

Q1

FY1

0

Q2

FY1

0

Q3

FY1

0

Q4

FY1

0

Q1

FY1

1

(INR

bn

)

850

900

950

1000

1050

Mar

-09

May

-09

Jul-0

9

Sep

-09

No

v-09

Jan

-10

Mar

-10

May

-10

Jul-1

0

Sep

-10

(INR

bn

)

Cement

Cem

ent


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.

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.

Exhibit 18: Shift to Pucca houses gathers speed

Year Households

(mn) Total Housing

Stock (mn) Pucca

(mn) Semi-pucca

(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


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


Domestic demand to grow at a CAGR of 9.6%

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

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.

Exhibit 20: Cement to GDP multiple to stay constant

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

FY11E FY12E FY13E

Real GDP YoY growth (%) 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

Base case Multiple




Bear Case Multiple





44

50 5152

5355

59

40

45

50

55

60

Dec-08 Mar-09 Jun-09 Sep-09 Dec-09 Mar-10 Jun-10

(INR

trill

ion

)

1.1 1.5 1.0 2.0 1.2 2.4

(0.4)

1.7 2.3 0.7 1.1 1.1 1.0 1.1 1.2 1.4

(1)

0

1

2

3

4

(5)

0

5

10

15

20

FY9

5FY

96

FY9

7FY

98

FY9

9FY

00

FY0

1FY

02

FY0

3FY

04

FY0

5FY

06

FY0

7FY

08

FY0

9FY

10

Cem

ent co

nsu

mp

tion

to G

DP

Mu

ltiple

GD

P Yo

Y G

row

th(%

)

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

r=0.94

Avg. GDP to cement consumption multiple of last 15 years is 1.3X

Cement


Capacity utilization rebound in FY12

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 All India 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 Capacity utilization (%) 89 86 80 81 85


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


Exhibit 24: Steady growth in cement dispatches


Exhibit 25: Monsoon utilization to remain low


Pricing: Downside remains limited 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.

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.

Exhibit 26: ACC: Higher costs pump up realizations

Source: Capitaline, Company, Elara Securities Research

0

2

4

6

8

10

12

0

5

10

15

20

25

30

Q1

FY1

0Q

2FY

10

Q3

FY1

0Q

4FY

10

Q1

FY1

1Q

2FY

11

Q3

FY1

1E

Q4

FY1

1E

Q1

FY1

2E

Q2

FY1

2E

Q3

FY1

2E

Q4

FY1

2E

Q1

FY1

3E

Q2

FY1

3E

Q3

FY1

3E

Q4

FY1

3E

(%)

(Mn

ton

nes

)

Capacity addition (LHS) % increase in capacity (RHS)

Capacity additions bunch up in

H1CY10

0369121518

40

50

60

70

80

Q1

FY1

0

Q3

FY1

0

Q1

FY1

1

Q3

FY1

1E

Q1

FY1

2E

Q3

FY1

2E

Q1

FY1

3E

Q3

FY1

3E

(%)

(Mn

ton

nes

)

All India Cement Despatches (LHS) YoY (RHS)

90

8284

90

81

69

79

89

83

7476

8987

7881

93

65

70

75

80

85

90

95

Q1

FY1

0

Q3

FY1

0

Q1

FY1

1

Q3

FY1

1

Q1

FY1

2

Q3

FY1

2

Q1

FY1

3

Q3

FY1

3

(%)

1,500

2,000

2,500

3,000

3,500

4,000

FY9

6

FY9

7

FY9

8

FY9

9

FY0

0

FY0

1

FY0

2

FY0

3

FY0

4

FY0

5

CY0

5

CY0

6

CY0

7

CY0

8

CY0

9

(INR

per

to

nn

e)

Relisation Cost

Cement

Cem

ent


Exhibit 27: Ambuja: Costs inflate realizations

Source: Capitaline, Company, Elara Securities Research

Exhibit 28: Reliance on imported coal to increase cost

Cost Item 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


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

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.

Exhibit 30: Industry’s balance sheet improves

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%

1,000

1,500

2,000

2,500

3,000

3,500

4,000

FY9

6

FY9

7

FY9

8

FY9

9

FY0

0

FY0

1

FY0

3

FY0

4

FY0

5

CY0

5

CY0

6

CY0

7

CY0

8

CY0

9

(INR

per

to

nn

e)

Realizations Cost

31.3 54.0

68.7 46.0

0

20

40

60

80

100

FY2000 At present

(%)

Share of top 5 players Others

0

5

10

15

20

0.0

0.5

1.0

1.5

2.0

2.5

3.0

FY9

5FY

96

FY9

7FY

98

FY9

9FY

00

FY0

1FY

02

FY0

3FY

04

FY0

5FY

06

FY0

7FY

08

FY0

9FY

10

(%)

(x)

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

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


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

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

Target EBIT/tonne 400 700 700 600 500

Target RoCE(%) 8.0 14.0 14.0 12.0 10.0

At Capacity utilization (%)

100 100 100 100 100

Cost (inc dep) per tonne

2,949 3,096 2,672 2,979 3,108

EBIT / tonne 1,343 617 972 591 553

RoCE(%) 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)

At Capacity utilization (%)

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

RoCE(%) 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

% change (8.3) 4.2 (1.3) 6.4 4.4


Comparative analysis 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.

Exhibit 33: EBITDA neutral lead distances

Average Q1FY11 EBITDA/tonne prior to Freight expenses 1,506

Transport cost per tonne per km by road 1.5

Maximum distances viable by road 1,004

Transport cost per tonne per km by road 1.35

Maximum distances viable by rail 1,115


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.

130

180

230

280

330

Ap

r-0

8

Jun

-08

Au

g-0

8

Oct

-08

Dec

-08

Feb

-09

Ap

r-0

9

Jun

-09

Au

g-0

9

Oct

-09

Dec

-09

Feb

-10

Ap

r-1

0

Jun

-10

Au

g-1

0

Oct

-10

(INR

per

bag

)

Mumbai Delhi KolkataChennai Hyderabad

Cement

Cem

ent


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%.

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.

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.

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.

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.

Exhibit 34: Region wise yearly capacity utilization (%)


Exhibit 35: Utilization to stay firm in Central India

Source: Elara Securities Estimate (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

Orient Paper 0 0 60 40 0

Source: Company, Elara Securities Research

Exhibit 37: India Cements leads Southern capacity


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

60

70

80

90

100

110

FY19 FY10 FY11E FY12E FY13E

North Western CentralEastern Southern All India

96

90

8382 82

73

70

75

80

85

90

95

100

Central Eastern Western All India North Southern

(%)

90

60

38 35 32 26

0 0 00

25

50

75

100

Ind

ia C

emen

t

Ori

ent P

aper

JK C

emen

t

Ultr

aTec

h C

emen

t p

re m

erg

er AC

C

Ultr

aTec

h C

emen

t p

ost

mer

ger

Shre

e C

emen

t

JK L

aksh

mi

Am

bu

ja

Cement


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

Company Domestic Coal (%)

Imported Coal (%)

Petcoke (%)

Other (%)

P&F cost FY10/CY09

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

Orient Paper 100 0 0 0 635


*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 85

Saving per tonne 161


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

Power & Fuel cost Fuel

INR Per tonne

Calorific Values

INR per kcalry

Input out put ratio

kcalry per tonne of cement

Fuel cost

Per unit Electricity

VC cost INR

Electricity consumption per

tonne of cement

Electricity cost per tonne

(a) (b) c=b/a (d) (e) f=a*d (g) (h) (i) J=f+i

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


Cement

Cem

ent


Exhibit 41: Players look for self sufficiency in power

Company % of power meet through CPP

CY09/FY10 CY10/FY11E CY11/FY12E

UltraTech 90 96 95

Ambuja 65 95 95

ACC 68 83 91

India Cements 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 (%) Road Rail Sea

Ultra Tech Cement 62 35 3

Ambuja Cement 55 30 15

ACC 50 50 0

India Cements 46 54 0

Shree Cement 77 23 0

JK Cement 85 15 0

Orient Paper 80 20 0

JK Lakshmi 52 48 0


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.

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.

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.

Exhibit 43: OPI least sensitive to price decline (%)


Fixed cost: Players having lower fixed cost will be better-off 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.

Exhibit 44: ACC has the highest fixed cost


2.7 2.93.4 3.5 3.8

5.15.5

8

2.5

3.5

4.5

5.5

6.5

7.5

8.5

Ori

ent

Pap

er

Shre

e C

emen

t

Am

bu

ja

Cem

ent

Ultr

a te

ch

AC

C

JK L

aksh

mi

JK C

emen

t

Ind

ia

Cem

ent

1215

19 20 2022

24 25

5

10

15

20

25

30

Shre

e C

emen

t

Ori

ent P

aper

JK L

aksh

mi

Ultr

a Te

ch

Am

bu

ja

Ind

ia C

emen

t

JK C

emen

t

AC

C

(%)

Cement


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 45: Operational parameters

Company

% of power meet through CPP

Fuel Mix Region wise Volume Growth

Earning sensitivity

to price decline

Fixed cost as a % of sales

Capacity capacity breakup YoY (%)

CY09/ FY10

CY10/ FY11E

CY11/ FY12E

Domestic Coal (%)

Imported Coal (%)

Petcoke (%)

Other (%)

North East South West Central CY09/ FY10

CY10/ FY11E

CY11/ FY12E

UltraTech 90 96 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

9 9 37 45 55 0 0 0 0 92 8 0 20 13 6 8 22 16

Shree Cement 97 97 97 0 0 100 0 100 0 0 0 0 21 1 9 2.9 12 14

JK Cement

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


Exhibit 46: Financial parameters

Company

Net debt equity ratio(x) RoE(%) EBITDA per tonne

MCAP (bn) CY09/ FY10

CY10/ FY11

CY11/ FY12

CY09/ FY10

CY10/ FY11

CY11/ FY12

CY09/ FY10

CY10/ FY11

CY11/ FY12

Q1FY11

UltraTech 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

India Cement 0.7 0.5 0.4 10.5 5.2 7.8 758 494 833 376 36

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


Cement

Cem

ent


1 rating to ACC, UltraTech and Ambuja respectively.

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.

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

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.

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.

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.

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.

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.

Earning based valuation irrelevant for industry

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.

Exhibit 48: ACC: EV/EBITDA (x) and RoCE (%)


0

5

10

15

20

25

30

0

3

6

9

12

15

18

FY9

5

FY9

7

FY9

9

FY0

1

FY0

3

FY0

5

CY0

6

CY0

8

RoC

E(%)

EV/E

BIT

DA

(x)

EV/EBITDA(LHS) RoCE(%)(RHS)

EV/EBITDA is the highest when the return ratio is the

lowest - which is a theoretical sign to sell shares

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


Cement


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

Source: Capitaline ,Elara Securities Research

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


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


Exhibit 52: ACC: EV/tonne, RoE and RoCE

Source: Capitaline, ,Elara Securities Research

Exhibit 53: ACC: Market cap and EV/tonne

Source: Capitaline, Elara Securities Estimates

Mid cap vs large cap: Valuation gap widens

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.

0

1

1

2

2

3

0

3

6

9

12

15

18

FY9

5

FY9

7

FY9

9

FY0

1

FY0

3

FY0

5

CY0

6

CY0

8

(INR b

n)

(x)

EV/EBITDA(LHS) Market Cap

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

If someone had brought ACC stock when

EV/EBITDA was lowest he would have lost money at

a CAGR of 22%

(10)

0

10

20

30

40

50

0

10

20

30

40

50

FY9

5

FY9

7

FY9

9

FY0

1

FY0

3

FY0

5

CY0

6

CY0

8

(%)(x

)

P/CEPS(LHS) RoE(RHS)

0.0

0.5

1.0

1.5

2.0

2.5

0

10

20

30

40

50

FY9

5

FY9

7

FY9

9

FY0

1

FY0

3

FY0

5

CY0

6

CY0

8

(INR b

n)

P/C

EPS(

x)

P/CEPS(LHS) Mcap (RHS)

(20)

0

20

40

60

0

50

100

150

200

250

FY9

5

FY9

7

FY9

9

FY0

1

FY0

3

FY0

5

CY0

6

CY0

8

(%)

(USD

per

to

nn

e)

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

0

50

100

150

200

250

0

50

100

150

200

250

FY9

5

FY9

7

FY9

9

FY0

1

FY0

3

FY0

5

CY0

6

CY0

8

CY1

0

(USD

)

(INR

bn

)

Market Cap (LHS) EV/Tonne in USD (RHS)

EV per tonne bottom outs when stock bottom outs

EV per tonne is highest when

stock has peaked out

Cement

Cem

ent


Exhibit 54: Margin gaps narrows, valuation broadens


Large cap valuations across business cycles

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.

Exhibit 55: All India capacity utilization, EV per tonne

Source: CMIE, CMA, Elara Securities Estimates

Exhibit 56: Better profitability justifies rich valuations

Source: Capitaline, Elara Securities Estimates

(100)

(80)

(60)

(40)

(20)

0

20

FY0

1

FY0

2

FY0

3

FY0

4

FY0

5

FY0

6

FY0

7

FY0

8

FY0

9

FY1

0

FY1

1

FY1

2

(%)

Valuation disc for mid caps EBITDA/tonne disc

75

80

85

90

95

100

60

90

120

150

180

210

240

FY0

0

FY0

1

FY0

2

FY0

3

FY0

4

FY0

5

FY0

6

FY0

7

FY0

8

FY0

9

FY1

0

FY1

1E

FY1

2E

(%)

(USD

Per

to

nn

e)

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

r=0.86

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

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

industry

0

200

400

600

800

1,000

1,200

0

50

100

150

200

250FY

00

FY0

1

FY0

2

FY0

3

FY0

4

FY0

5

FY0

6

FY0

7

FY0

8

FY0

9

FY1

0

FY1

1E

FY1

2E

(INR EB

ITDA

/ton

ne)

(USD

per

to

nn

e)

Average Large Caps EV per tonne (LHS)Average Large Caps EBITDA/tonne (RHS)

Cement


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


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 2 3

Capex cost INR mn 5,000

Debt INR mn 2,500

Capacity in tonne 1,000,000 1,000,000 1,000,000

Capacity Utilization (%) 100 100 100

Production in tonnes 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 10 10 10

Free cash flow per tonne 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


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

Cement

Cem

ent


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.

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

Method 1 137

Method 2 144

Average 140


Target multiple for frontline cement players

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.

Exhibit 60: Target multiple

Total Target EV per tonne

UltraTech 22 140

Ambuja 22 140

ACC 21 133


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

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

Year 1 2 …. 20

Capex cost (INR mn) 3,500

Debt (INR) 1,750

Capacity (tonne) 1,000,000 1,000,000

1,000,000

Capacity Utilization (%) 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

Increase WC (per tonne) 10 10

10

Free cash flow (per tonne) 347 347

347

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

EV per tonne in USD 40

WACC (%) 13


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.

Cement


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 Shri Digvijay 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 2.5 105 118

Average for 20 years

121 161

Average for 5 years

168 197


3. Discounted value of a plant in downturn

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.

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

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.

Exhibit 64: Average of three distress case valuations

Distress value by method (a) 40

Distress value by method (b) 76

Distress value by method d (c) 69

Average 62



Glo

bal

Mar

kets

Res

earc

h


Restructuring priced in Merger with Samruddhi Cement creates a global giant

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.

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 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

Source: Bloomberg

Key Financials Y/E Mar (INR mn) Rev YoY (%) EBITDA EBITDA (%) Adj PAT YoY (%) Fully DEPS RoE (%) P/E (x) EV/tonne (USD) EV/EBITDA (x)

FY08 55,092 12.2 17,201 31.2 10,076 28.8 80.4 45.2 14.0 189.6 9.0

FY09 63,831 15.9 17,064 26.7 9,770 (3.0) 77.4 31.0 14.5 153.8 8.9

FY10 70,497 10.4 19,711 28.0 10,696 9.5 84.6 26.1 13.3 135.1 7.1

FY11E 140,614 NA 30,659 21.8 15,298 NA 64.1 20.9 17.5 143.9 10.4

FY12E 185,837 NA 36,334 19.6 20,216 NA 73.3 18.4 15.3 138.5 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


Initiating Coverage

Ultratech Cement

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

Key data*

Bloomberg /Reuters Code: ULTC.BO /UTCEM IN

Current /Dil. Shares O/S (mn) 276/276

Mkt Cap (INRbn/USDmn) 310/6,976

Daily Vol. (3M NSE Avg.) 240,353

Face Value (INR) 10

1 USD= INR44.4

Source: Bloomberg ; * As on 2 November 2010

Price & Volume

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

80

100

120

140

160

180

Nov-09 Feb-10 May-10 Aug-10 Nov-10

Reb

ased

to 1

00

Ultratech Sensex

0

500

1,000

1,500

2,000

700

800

900

1,000

1,100

1,200

Oct-09 Mar-10 Jul-10 Nov-10

Vol. in '000s (RHS) Ultratech Cement (LHS)

Ultratech Cement

24 Elara Securities (India) Private Limited24

Valuation trigger

Source: Bloomberg, Elara Securities Estimates

Valuation overview - EV/tonne based valuations

FY12E

Grey Cement

Capacity mn tonnes 48.8

EV /tonne multiple USD/tonne 140

Grey Cement business EV INR Mn 307,440

White Cement



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 276

Target Price INR/ share 1,139

Current Market Price INR/ share 1,122

Potential Upside/(downside) (%) 1.5


Valuation driver - EV/tonne , RoE and RoCE


Investment summary

Pan India presence to reduce regional risks

Healthy balance sheet

Power cost to reduce

Valuation trigger

1. Recovery in cement prices

Key risks

Sharp decline in cement prices

Slow down in cement demand

Our assumptions

Cement Volume to grow at a CAGR of ~8.2%

Realizations to increase at a CAGR of 0.9%.

0

200

400

600

800

1,000

1,200

1,400

Ap

r-08

Jun

-08

Au

g-0

8

Oct

-08

Dec

-08

Feb

-09

Ap

r-09

Jun

-09

Au

g-0

9

Oct

-09

Dec

-09

Feb

-10

Ap

r-10

Jun

-10

Au

g-1

0

Oct

-10

Dec

-10

Feb

-11

Ap

r-11

Jun

-11

Au

g-1

1

Oct

-11

1 2

Recovery in cement prices

Target price reached

0

20

40

60

0

20

40

60

80

100

120

140

160

FY9

5

FY9

6

FY9

7

FY9

8

FY9

9

FY0

0

FY0

1

FY0

2

(%)

(EV

/to

nn

e)

EV/Tonne(US$) (LHS)) RoNW(%) (RHS) ROCE (%) (RHS)

Ultratech Cement

Cem

ent


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

Net Revenues 63,831 70,497 140,614 185,837

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

Add:- Non operating Income 1,036 1,227 2,409 4,333

OPBIDTA 18,100 20,938 33,068 40,667

Less :- Depreciation & Amortization 3,230 3,881 7,668 8,451

EBIT 14,870 17,057 25,400 32,216

Less:- Interest Expenses 1,255 1,175 2,903 2,485

PBT 13,615 15,882 22,498 29,730

Less :- Taxes 3,844 5,185 7,199 9,514

Adjusted PAT 9,770 10,696 15,298 20,216

Add/Less: - Extra-ordinaries

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

Reserves 34,759 44,822 97,830 116,029

Borrowings 21,416 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

Add:- Capital work in progress 6,773 2,594 20,000 12,930

Investments 10,348 16,696 16,696 16,696

Net Working Capital 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

Cash Flow Statement (INR mn) 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

Ratio Analysis FY09 FY10 FY11E FY12E

Income Statement Ratios(%)

Revenue Growth 15.9 10.4 NA NA

EBITDA Growth (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

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

Per Share data & Valuation Ratios

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

P/E Ratio (x) 14.5 13.3 17.5 15.3

EV/EBITDA (x) 8.9 7.1 10.4 8.5

EV/Sales (x) 2.4 2.0 2.3 1.7

EV/tonne (USD) 153.8 135.1 143.9 138.5

Dividend Yield (%) 0.4 0.6 0.6 0.6


Note: Financials for FY09 & FY10 are prior to restructuring of cement business of AV Birla groupand hence not strictly comparable

Revenue & margins growth trend


Adjusted profits growth trend


Return ratios (%)


26.7 28.0

21.8 19.6

0

5

10

15

20

25

30

0

50,000

100,000

150,000

200,000

FY09 FY10 FY11E FY12E

(%)

(INR

mn

)

Net Revenues (LHS) EBITDA Margin (RHS)

0

5,000

10,000

15,000

20,000

25,000


(INR

mn

)

Adjusted PAT

31.0

26.1

20.9 18.4

29.2

28.5 24.9

21.6

10

20

30

40


ROE (%) ROCE (%)

Comfortable debt equity ratio

Trading at a premium to replacement cost

Ultratech Cement


A global giant emerges post revamp 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.

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.

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

Exhibit 1: Group structure: Pre and post restructuring


Exhibit 2: UltraTech sneaks into global top 10


Exhibit 3: UltraTech leads by miles

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.

35

35

37

39

44

50

52

57

74

95

101

115

133

257

263

0 100 200 300

Hauxin- China

Jdong- China

Cimpor - Portugal

Eiro Cement

Buzzi Unichem - Italy

CRH - Ireland

UltraTech + Samruddhi

Taheiyo - Japan

ItalCementi - Italy

Anhui Conch - China

Cemex - Mexico

Heidelberg - Germany

CNBM - China

Holcim - Switzerland

Lafarge - France

(mn tonne)

10

12

14

22

25

26

52

0 20 40 60

7)Madras Cement

6) Shree Cement

5) India Cement

4) JP

3)Ambuja Cement

2)ACC

1)UltraTech + Samruddhi

(mn tonne)

45%

Grasim Shareholders

Ultratech Public Shareholders

Grasim

VSF / Others

Samrudhhi UltraTech

Cement Cement

55% 65%

(35%)

Grasim Shareholders

Grasim

VSF / Others

UltraTech + Samrudhhi

Cement

60.3%

UltraTech Public Shareholders

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

Ultratech Cement

Ultratech Cement

Cem

ent


Exhibit 4: Key financials for FY12

Pre

restructuring Post

restructuring Var (%)

Sales volume (mn tonnes) 23 47 109.1

Realization per tonne 3,649 3,933 7.8

Costs per tonne 2,964 3,164 6.8

EBITDA per tonne 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

No of share (mn) 126 276 118.2

EPS 66 73 10.3


Exhibit 5: UltraTech pre-merger: Region wise capacity


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


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:

High regional risk

Dependence on expensive source of power

Lower free float

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

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


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

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

East18%

West48%

South35%

East14%

West26%

South23%

North26%

Central11%

0

50

100

150

200

250

300

FY05 FY06 FY07 FY08 FY09 FY10 FY11E FY12E

(USd

per

to

nn

e)

UltraTech ACC Ambuja

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


Imported Coal (%)

Petcoke (%) Other (%)

ACC 85 15 0 0

UltraTech 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

Orient Paper 100 0 0 0

Ambuja 70 30 0 0


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.

Exhibit 9: Key balance sheet ratios

FY10 FY11E FY12E

Net Debt Equity (x) 0.3 0.3 0.1

Gross Cash & Investments(INR mn) 17,533 31,279 39,894


Exhibit 10: Summary of free cash flow

INR mn FY10 FY11E FY12E

Cash profit adjusted for non cash items

16,856 25,799 29,740

Add/Less : Working Capital Changes

(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


Key risk Increase in fuel prices

More than expected increase in coal prices may adversely affect profitably of the company.


Cement prices may decline due to slow down in cement demand or bunching up of capacities addition.

Ultratech Cement

Cem

ent


Valuations 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




White Cement



White Cement business EV INR mn 5,022

EV INR mn 312,462









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

Ultratech Cement


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

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

K C Birla - Chief Financial Officer

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

O Puranmalka - Whole-time Director

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

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.

Ultratech Cement

Cem

ent

31 31 Elara Securities (India) Private Limited

Coverage History

Date Rating Target Price Closing Price

1

02-Nov-2010 Reduce INR1,139 INR1,122

Guide to Research Rating BUY Absolute Return >+20%

ACCUMULATE Absolute Return +5% to +20%

REDUCE Absolute Return -5% to +5%

SELL Absolute Return < -5%

0

200

400

600

800

1,000

1,200

1,400

Ap

r-08

May

-08

Jun

-08

Jul-0

8

Au

g-0

8

Sep

-08

Oct

-08

No

v-08

Dec

-08

Jan

-09

Feb

-09

Mar

-09

Ap

r-09

May

-09

Jun

-09

Jul-0

9

Au

g-0

9

Sep

-09

Oct

-09

No

v-09

Dec

-09

Jan

-10

Feb

-10

Mar

-10

Ap

r-10

May

-10

Jun

-10

Jul-1

0

Au

g-1

0

Sep

-10

Oct

-10

No

v-10

Not Covered Covered

1

Ultratech Cement


32

Notes

Glo

bal

Mar

kets

Res

earc

h



Melody from clinker Capacity expansion to drive volume growth

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 CY09-11. 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.

Lower clinker purchases to cushion margins

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.

Dependence on imported coal to neutralize savings from clinker

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.

Favorable regional mix: Absence in South to be a boon

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 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

Source: Bloomberg

Key Financials Y/E Dec (INR mn) Rev YoY (%) EBITDA EBITDA (%) Adj PAT YoY (%) Fully DEPS RoE (%) P/E (x) EV/tonne (USD) EV/EBITDA (x) CY08 62,347 9.3 17,087 27.4 11,335 (9.8) 7.4 21.9 19.9 260.4 12.7 CY09 70,769 13.5 18,669 26.4 12,184 7.5 8.0 20.1 18.5 213.6 11.3 CY10E 76,429 8.0 21,226 27.8 13,103 7.5 8.6 18.8 17.2 184.5 9.8 CY11E 87,701 14.7 21,998 25.1 13,334 1.8 8.8 16.8 16.9 179.8 9.2

Source: Company, Elara Securities Estimate


Initiating Coverage

Ambuja Cements

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

Key data*

Bloomberg /Reuters Code ACEM IN/ABUJ.BO

Current /Dil. Shares O/S (mn) 1,524/1,524

Mkt Cap (INRbn/US$mn) 226/5,099

Daily Vol. (3M NSE Avg.) 2,107,833

Face Value (INR) 2

1 US$= INR44.4


Price & Volume

Source: Bloomberg

Share holding (%) Q4CY09 Q1CY10 Q2CY10 Q3CY10

Promoter 46.4 46.4 46.4 46.4



General Public 9.1 8.6 8.6 7.9

Source: BSE


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

80

100

120

140

160

180


Reb

aed

to 1

00

Ambuja Sensex

0

5

10

15

70

90

110

130

150


Vol. in mn (RHS) Ambuja Cement (LHS)

Ambuja Cements


Valuation trigger



CY11E

Grey Cement



Target EV INR mn 157,500


Target Market Capitalizations INR mn 181,149

Diluted Shares outstanding mn 1,524

Target Price INR/ share 119

Current Market Price INR/ share 148

Potential Upside/(downside) (%) (19.8)




Investment summary

Cement expansion to drive volume growth

Lower clinker purchases to support margins

Favorable regional mix


Valuation trigger

1. Decline in cement prices

Key risks



Our assumptions

Cement Volume to grow at a CAGR of ~9.4%

Cost per tonne to increase at a CAGR of 2.6%


0

20

40

60

80

100

120

140

160

Ap

r-08

Jun

-08

Au

g-0

8

Oct

-08

Dec

-08

Feb

-09

Ap

r-09

Jun

-09

Au

g-0

9

Oct

-09

Dec

-09

Feb

-10

Ap

r-10

Jun

-10

Au

g-1

0

Oct

-10

Dec

-10

Feb

-11

Ap

r-11

Jun

-11

Au

g-1

1

Oct

-11

1

Decline in cement prices

2


0

20

40

60

0

50

100

150

200

250

300

FY9

5

FY9

6

FY9

7

FY9

8

FY9

9

FY0

0

FY0

1

FY0

2

FY0

3

FY0

4

FY0

5

FY0

6

CY0

7

CY0

8

CY0

9

CY1

0E

CY1

1E

(%)

(EV

/to

nn

e)

EV/Tonne (USD) (RHS) ROE(%) (LHS) ROCE (%) (LHS)

Ambuja Cements

Cem

ent


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

Net Revenues 62,347 70,769 76,429 87,701

EBITDA 17,087 18,669 21,226 21,998


OPBIDTA 18,841 21,227 23,383 24,208


EBIT 16,243 18,257 19,001 19,137

Less:- Interest Expenses 321 224 345 88

PBT 15,923 18,033 18,656 19,049

Less :- Taxes 4,588 5,849 5,553 5,715

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

Add/Less: - Extra-ordinaries 2,688 - 286 -

Reported PAT 14,023 12,184 13,388 13,334

Balance Sheet (INR mn) CY08 CY09 CY10E CY11E

Share Capital 3,049 3,050 3,051 3,051

Reserves 53,680 61,659 71,306 80,914

Borrowings 2,887 1,657 657 657

Deferred Tax (Net) 3,808 4,858 4,858 4,858


Gross Block 57,069 62,241 97,386 107,886


Net Block 31,928 34,400 65,162 70,592

Add:- Capital work in progress 19,472 27,144 1,000 500

Investments 3,324 7,270 7,270 7,270


Miscellaneous Expenses not written off 43 27 27 27

Total Assets 63,423 71,225 79,872 89,480

Cash Flow Statement (INR mn) CY08 CY09 CY10E CY11E


Add/Less : Working Capital Changes (2,612) 6,562 (1,089) 609


Less:- Capex (16,415) (12,844) (9,000) (10,000)

Free Cash Flow (6,753) 8,243 6,442 7,665

Financing Cash Flow (4,821) (4,859) (5,086) (3,814)

Investing Cash Flow 13,666 (3,093) 1,585 1,436

Net change in Cash 2,093 291 2,941 5,287

Ratio Analysis CY08 CY09 CY10E CY11E

Income Statement Ratios (%)

Revenue Growth 9.3 13.5 8.0 14.7

EBITDA Growth (16.4) 9.3 13.7 3.6

PAT Growth@ (9.8) 7.5 7.5 1.8

EBITDA Margin 27.4 26.4 27.8 25.1

Net Margin@ 18.2 17.2 17.1 15.2


Net Debt/Equity (x) (0.2) (0.2) (0.2) (0.3)

ROE (%) 21.9 20.1 18.8 16.8

ROCE (%) 27.7 27.1 25.2 22.6



EPS Growth (%) (9.8) 7.4 7.5 1.8

DPS (INR/Share) 2.2 2.4 2.1 2.1

P/E Ratio (x) 19.9 18.5 17.2 16.9

EV/EBITDA (x) 12.7 11.3 9.8 9.2

EV/Sales (x) 3.5 3.0 2.7 2.3

EV/tonne (USD) 260.4 213.6 184.5 179.8

Dividend Yield (%) 1.5 1.6 1.4 1.4

@ On adjusted bottomline Source: Company, Elara Securities Estimates





Return ratios


27.4

26.4

27.8

25.1

25

26

27

28

50,000

60,000

70,000

80,000

90,000

100,000

CY08 CY09 CY10E CY11E

(%)

(INR

mn

)


(9.8)

7.5 7.5

1.8

(15)

(10)

(5)

0

5

10

10,000

11,000

12,000

13,000

14,000

15,000


(%)

(INR

mn

)

Adjusted PAT (LHS) PAT Growth (RHS)

21.9 20.1

18.8 16.8

27.7 27.1

25.2

22.6

15

20

25

30


ROE (%) ROCE (%)

Strong balance sheet position with net cash per share of

INR16 (CY11E)

Trading at steep premium to its peers, replacement cost

Ambuja Cements


Capacity addition to enhance volume 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 1: ACL had moderate volume growth in past

Source: Company, CMA, Elara Securities Research

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%.

Lower clinker purchases to cushion margins

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.

Exhibit 2: Ambuja to show improvement in margins


Favorable regional mix

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


2

4

6

8

10

12

CY07 CY08 CY09

(%)

Industry ACL

(1,410)

(1,050)(870)

(670) (620) (620)

140 130

(1,600)

(1,200)

(800)

(400)

0

400

SCL

JKC

EM JKL

AC

C

ICL

Ultr

aTec

h

Am

bu

ja

OPI

(bp

s)

17.715.8

13.612.1

10.18.7 8.6

0

4

8

12

16

20

No

rth

Cen

tral

East

ern

All

Ind

ia (

ex

AC

C &

AC

L In

dia

)A

ll In

dia

(

Inc

AC

C &

A

CL

Ind

ia)

Wes

tern

Soth

ern

(%)

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

Ambuja Cements

Ambuja Cements

Cem

ent


Exhibit 4: Central zone dominates utilization in FY10

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



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

CY09 CY10E CY11E

Net Debt Equity (x) (0.22) (0.25) (0.28)


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



INR mn CY09 CY10E CY11E

Cash profit adjusted for non cash items 14,525 16,531 17,057

Add/Less : Working Capital Changes 6,562 (1,089) 609

Operating Cash Flow 21,087 15,442 17,665

Less:- Capex (12,844) (9,000) (10,000)

Free Cash Flow 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


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

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


75

84 84 84

90

104

70

80

90

100

110

Sothern Western Eastern All India North Central

(%)

North, 42%

East, 14%

West, 37%

Centeral, 7%

Ambuja Cements


Exhibit 9: CPP slashes electricity costs


Exhibit 10: Revenue, profit from merchant power

CY09 CY10E CY11E

Mn KWh 75 79 83

INR mn

Revenue 425 394 372

Cost 248 269 288

EBITDA 177 125 85

EBITDA margins(%) 42 33 29

Per Unit

Revenue 6 5 5

Cost 3 3 3

EBITDA 2 2 1


Reliance on imported coal to intensify cost pressure

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


Imported Coal (%)

Petcoke (%)

Other (%)

ACC 85 15 0 0

Ultra Tech Cement 62 29 9 0

Shree Cement 0 0 100 0



JK Cement 10 0 90 0


Ambuja Cement 70 30 0 0


*Higher as compared to peers due to production of white cement

Exhibit 12: Imported coal inflates power costs


Exhibit 13: Imported coal prices remain firm

Source: Bloomberg, Elara Securities Research

Key risk Sharp increase in cement prices

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.

280

285

290

295

300

305

310

315

3.4

3.4

3.5

3.5

3.6

3.6

3.7

CY09 CY10E CY11E

(INR p

er ton

ne)

(kW

h)

Blended electricity cost (LHS)

Electricity cost per tonne (RHS)

757

857

963

600

700

800

900

1,000

1,100

CY09 CY10E CY11E

(INR

per

to

nn

e)

0

50

100

150

200

0 2,000 4,000 6,000 8,000

10,000 12,000 14,000

Ap

r-0

7Ju

n-0

7Se

p-0

7D

ec-0

7M

ar-0

8M

ay-0

8A

ug

-08

No

v-08

Feb

-09

May

-09

Jul-0

9O

ct-0

9Ja

n-1

0A

pr-

10

Jun

-10

Sep

-10

Inte

rnat

ino

al C

oal

Pri

ces

Bal

tick

dry

Ind

ex

Baltick dry index (LHS) Richards Bay Coal Spot (RHS)

Ambuja Cements

Cem

ent


Valuation 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).


CY11E

Grey Cement



Target EV INR mn 157,500



Diluted Shares outstanding mn 1,524



Potential Upside/(downside) (%) (19.8)



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

Ambuja Cements


Board of Directors & Management Narotam Sekhsaria, Non-Executive Chairman

Narotam Sekhsaria is the Non-Independent Non-Executive 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

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.

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.

Ambuja Cements

Cem

ent

41 41

Coverage History


1

02-Nov-2010 Sell INR119 INR148





0

20

40

60

80

100

120

140

160

Ap

r-08

May

-08

Jun

-08

Jul-0

8

Au

g-0

8

Sep

-08

Oct

-08

No

v-08

Dec

-08

Jan

-09

Feb

-09

Mar

-09

Ap

r-09

May

-09

Jun

-09

Jul-0

9

Au

g-0

9

Sep

-09

Oct

-09

No

v-09

Dec

-09

Jan

-10

Feb

-10

Mar

-10

Ap

r-10

May

-10

Jun

-10

Jul-1

0

Au

g-1

0

Sep

-10

Oct

-10

No

v-10

Not Covered Covered

1

Ambuja Cements


Notes


Glo

bal

Mar

kets

Res

earc

h


In the region of comfort Pan-India presence to reduce regional risks

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.

Healthy balance sheet to support distress acquisitions

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.

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

Source: Bloomberg


CY08 73,086 4.5 17,332 23.7 11,737 (7.5) 62.5 25.9 17.0 176.5 10.8

CY09 80,272 9.8 24,531 30.6 15,881 35.3 84.5 29.0 12.6 149.8 7.5

CY10E 77,346 (3.6) 18,426 23.8 11,940 (24.8) 63.5 18.5 16.7 130.7 10.2

CY11E 91,932 18.9 21,459 23.3 13,265 11.1 70.6 17.9 15.0 121.5 8.0



Initiating Coverage

ACC

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

Key data*

Bloomberg /Reuters Code ACC IN/ACC.BO




Face Value (INR) 10

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

Price & Volume

Source: Bloomberg

Share holding (%) Q4CY09 Q1CY10 Q2CY10 Q3CY10

Promoter 46.2 46.2 46.2 46.2



General Public 15.5 15.2 15.1 14.6

Source: BSE


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

80

100

120

140

160


Reb

ased

to 1

00

ACC Sensex

0

1

2

3

4

600

700

800

900

1,000

1,100


Vol. in mn (RHS) ACC (LHS)

ACC


Valuation trigger



CY11E



EV INR mn 182,543






Potential Upside/(downside) (%) 5.7%




Investment summary

Pan-India presence to reduce regional risks

Dependence on domestic coal to provide cost advantage


Valuation trigger

1. Ramp up of Karnataka cement capacity

2. Ramp up of Maharashtra cement capacity

Key risks



Our assumptions

Cement volume to grow at a CAGR of~5.7%

Cost per tonne to increase at a CAGR of 6.4%


0

200

400

600

800

1,000

1,200

Ap

r-08

Jun

-08

Au

g-0

8

Oct

-08

Dec

-08

Feb

-09

Ap

r-09

Jun

-09

Au

g-0

9

Oct

-09

Dec

-09

Feb

-10

Ap

r-10

Jun

-10

Au

g-1

0

Oct

-10

Dec

-10

Feb

-11

Ap

r-11

Jun

-11

Au

g-1

1

Oct

-11

Ramp up of Maharashtra cement

capacity

1 2 3

Ramp up of Karnataka cement

capacity


(10)

0

10

20

30

40

50

0

50

100

150

200

250

FY9

5FY

96

FY9

7FY

98

FY9

9FY

00

FY0

1FY

02

FY0

3FY

04

FY0

5C

Y05

CY0

6C

Y07

CY0

8C

Y09

CY1

0E

CY1

1E

%

USD

/to

nn

e

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

ACC

Cem

ent


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

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

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


OPBIDTA 20,219 26,942 21,479 24,715


EBIT 17,277 23,521 17,526 19,317


PBT 16,878 22,678 16,948 18,950

Less :- Taxes 5,140 6,797 5,008 5,685

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

Add/Less: - Extra-ordinaries 391 186 - -

Reported PAT 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

Reserves 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


Gross Block 58,357 68,263 106,325 109,575


Net Block 34,697 41,583 75,692 73,545

Add:- Capital work in progress 16,029 21,562 500 250

Investments 6,791 14,756 14,756 14,756

Net Working Capital (61) (8,578) (13,291) (3,733)

Total Assets 57,455 69,324 77,658 84,818

Cash Flow Statement (INR mn) CY08 CY09 CY10E CY11E


Add/Less : Working Capital Changes 1,003 2,504 (194) 3,667


Less:- Capex (14,762) (15,154) (17,000) (3,000)

Free Cash Flow 2,321 9,208 (1,775) 18,481

Financing Cash Flow (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

Income Statement Ratios(%)

Revenue Growth 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



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

EV/Sales (x) 2.6 2.3 2.4 1.9

EV/tonne (USD) 176.5 149.8 130.7 121.5

Dividend Yield (%) 3.5 4.1 2.5 2.5






Return ratios (%)


23.7

30.6

23.8 23.3

20

25

30

35

60,000

70,000

80,000

90,000

100,000


(%)

(INR

mn

)


(7.5)

35.3

(24.8)

11.1

(30)

(20)

(10)

0

10

20

30

40

0

5,000

10,000

15,000

20,000


(%)

(INR

mn

)


25.9 29.0

18.5 17.9

32.8 37.1

23.8 23.8

10

20

30

40


ROE (%) ROCE (%)

Strong cash & investment book

Trading at a discount to its peers

ACC


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


Exhibit 2: CY11 to improve Western presence


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.

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

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.

East19%

West4%

Central18%

South36%

North23%

East16%

West15%

Central16%

South32%

North21%

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


ACC

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


(20)

(10)

0

10

20

30

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

(% C

han

ge)

Northern Central Eastern Western Southern All India average

ACC

Cem

ent


Exhibit 4: Dependent mainly on domestic coal


Imported Coal (%)

Petcoke (%)

Other (%)

ACC 85 15 0 0

UltraTech 62 29 9 0

Shree Cement 0 0 100 0



JK Cement 10 0 90 0


Ambuja 70 30 0 0


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.

Exhibit 5: Sectoral coal allocation on a decline

Year Receipts

against linkage mn tonnes

Coal production mn tonnes

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


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-

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


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.


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

Net Debt Equity (x) (0.15) (0.07) (0.27)


Net Cash & Investments(INR mn) 16,551 12,203 28,487

Net Cash & Investments(per share) 88 65 152

Net Cash & Investments as a % of CMP 8 6 14


(15)

(10)

(5)

0

5

10

15

20

May

-09

Jun

-09

Jul-0

9

Au

g-0

9

Sep

-09

Oct

-09

No

v-09

Dec

-09

Jan

-10

Feb

-10

Mar

-10

Ap

r-1

0

May

-10

Jun

-10

Jul-1

0

Au

g-1

0

Sep

-10

(%)

Industry ACC

ACC



INR mn CY09 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

Less:- Capex (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


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.

Exhibit 9: Reliance on CPP to increase


Exhibit 10: Energy efficiency improves


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.

Key risk Slowdown in cement demand

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

Delay in capacity addition

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

Decline in linkages

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

3 33 3 3

23

3

3

3

20

30

40

50

60

70

80

1.8

2.3

2.8

3.3

3.8

4.3

FY01 FY03 FY05 CY06 CY08

(%)

(INR

per

KW

H)

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

720

740

760

780

800

820

75

80

85

90

95

100

FY01 FY03 FY05 CY06 CY08

(Kcal/kg

of C

linker)(k

wh

per

to

nn

e)

KWH/tonne(LHS) Kcal/kg of Clinker(RHS)

ACC

Cem

ent


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.

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.

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:-

(a) Cost cutting initiatives undertaken by the company,

(b) Dependences on domestic coal

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%.

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.

Exhibit 11: Present valuation gap unjustified


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


Exhibit 13: EBITDA per tonne gap to narrow down



CY11E



EV INR mn 182,543


Target Market Capitalizations INR mn 211,030




Potential Upside/(downside) (%) 5.7%


40

90

140

190

240

290

FY0

0

FY0

1

FY0

2

FY0

3

FY0

4

FY0

5

CY0

5

CY0

6

CY0

7

CY0

8

CY0

9

CY1

0

CY1

1

(USD

per

to

nn

e)

ACC Ambuja Cement

(0.5)

0.0

0.5

1.0

1.5

FY0

0

FY0

1

FY0

2

FY0

3

FY0

4

FY0

5

CY0

5

CY0

6

CY0

7

CY0

8

CY0

9

CY1

0

CY1

1

(x)

ACC Ambuja Cement

0

200

400

600

800

1,000

1,200

1,400

FY0

0

FY0

1

FY0

2

FY0

3

FY0

4

FY0

5

CY0

5

CY0

6

CY0

7

CY0

8

CY0

9

CY1

0

CY1

1

INR

per

to

nn

e

ACC Ambuja Cement

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

ACC


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

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.

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 non-core 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.

ACC

Cem

ent

51 51 Elara Securities (India) Private Limited

Coverage History


1

02-Nov-2010 Accumulate INR1,123 INR1,062





0

200

400

600

800

1,000

1,200

Ap

r-08

May

-08

Jun

-08

Jul-0

8

Au

g-0

8

Sep

-08

Oct

-08

No

v-08

Dec

-08

Jan

-09

Feb

-09

Mar

-09

Ap

r-09

May

-09

Jun

-09

Jul-0

9

Au

g-0

9

Sep

-09

Oct

-09

No

v-09

Dec

-09

Jan

-10

Feb

-10

Mar

-10

Ap

r-10

May

-10

Jun

-10

Jul-1

0

Au

g-1

0

Sep

-10

Oct

-10

No

v-10

Not Covered Covered

1

ACC


52

Notes

Glo

bal

Mar

kets

Res

earc

h



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

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.

Cost rationalization in progress; return ratios to reflect the effort

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.

IPL not factored in total valuation scoreboard

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).

Valuation 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

Source: Bloomberg


FY09 34,974 14.8 9,898 28.3 4,835 40.7 16.8 16.1 6.9 65.0 4.6

FY10 38,293 9.5 8,153 21.3 3,171 (34.4) 10.5 10.4 11.0 67.1 6.2

FY11E 42,565 11.2 6,417 15.1 1,942 (38.9) 6.3 5.2 18.4 62.4 7.9

FY12E 46,738 9.8 11,367 24.3 3,344 72.5 10.9 7.8 10.7 55.7 4.2



Initiating Coverage

India Cements

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

Key data*

Bloomberg /Reuters Code ICEM IN/ICMN.BO

Current /Dil. Shares O/S (mn) 307.2/307.2

Mkt Cap (INRbn/US$mn) 36 /803

Daily Vol. (3M NSE Avg.) 1,800,771

Face Value (INR) 10

1 US$= INR44.4


Price & Volume

Source: Bloomberg


Promoter 27.4 25.2 25.2 25.2




Source: BSE


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

80

100

120

140


Reb

ased

to 1

00

India Cement Sensex

0

5

10

15

20

90

100

110

120

130

140

150


Vol. in mn (RHS) India Cement (LHS)

India Cements


Valuation trigger


Valuation overview - SOTP Based valuations

FY12E



Grey Cement business EV INR mn 43,580

Value of IPL Business

Base price for the bids INR mn 10,125

Total EV INR mn 53,705

Less: Net Debt INR mn 13,588


Diluted Shares outstanding mn 307.2





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


Investment summary

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

Market leader in South India

IPL valuations key to upside

Valuation trigger

1. Ramping up of the coal production from mine

2. CPP’s coming on stream

3. Any disinvestment or listing of IPL franchise in future

Key risks

Sharp decline in cement price

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

Our assumptions

Cement realization to increase at a CAGR of 1.6%

Cement volumes to increase at a CAGR of 9.4%

0

50

100

150

200

250

Ap

r-08

Jun

-08

Au

g-0

8

Oct

-08

Dec

-08

Feb

-09

Ap

r-09

Jun

-09

Au

g-0

9

Oct

-09

Dec

-09

Feb

-10

Ap

r-10

Jun

-10

Au

g-1

0

Oct

-10

Dec

-10

Feb

-11

Ap

r-11

Jun

-11

Au

g-1

1

Oct

-11

CPP’s coming on stream

Any disinvestment or listing of IPL

franchise in future

1 2 3

Ramping up of the coal production

from mine

4


(60)

(40)

(20)

0

20

40

60

20

40

60

80

100

120

140

160

180

FY9

5FY

96

FY9

7FY

98

FY9

9FY

00

FY0

1FY

02

FY0

3FY

04

FY0

5FY

06

FY0

7FY

08

FY0

9FY

10

FY1

1E

FY1

2E

%EV/t

on

ne

EV/Tonne(USD) ROE(RHS) ROCE (RHS)

India Cements

Cem

ent


Consolidated Financials (Y/E Mar) Income Statement (INR mn) FY09 FY10 FY11E FY12E Net Revenues 34,974 38,293 42,565 46,738 EBITDA 9,898 8,153 6,417 11,367 Add:- Non operating Income 544 422 468 269 OPBIDTA 10,442 8,575 6,885 11,636 Less :- Depreciation & Amortization 2,045 2,345 2,711 3,547 EBIT 8,397 6,231 4,174 8,089 Less:- Interest Expenses 1,123 1,428 1,455 3,442 PBT 7,274 4,802 2,719 4,647 Less :- Taxes 2,439 1,632 781 1,303 Adjusted PAT 4,835 3,171 1,938 3,344 Minority interest 8 0 (3) 1 Profit from Associates (73) 57 0 0 Adj. after Minority interest & asso. 4,754 3,228 1,942 3,343 Add/Less: - Extra-ordinaries 529 (291) 0 0 Reported PAT 4,224 3,518 1,942 3,343 Balance Sheet (INR mn) FY09 FY10 FY11E FY12E Share Capital 2,825 3,073 3,073 3,073 Reserves 32,518 37,381 44,628 47,989 Minority Interest 31 15 113 114 Borrowings 19,888 23,006 25,676 21,808 Deferred Tax (Net) 2,744 2,903 2,903 2,903 Total Liabilities 58,006 66,378 76,393 75,887 Gross Block 53,360 57,400 69,188 72,238 Less:- Accumulated Depreciation 15,121 18,011 20,818 24,366 Net Block 38,239 39,388 48,370 47,872 Add:- Capital work in progress 9,040 14,291 8,532 7,337 Investments 3,556 5,148 3,195 3,195 Net Working Capital 6,828 7,345 16,101 17,287 Miscellaneous Expenses not written off 158 - - - Deferred Tax Assets 185 206 196 196 Total Assets 58,006 66,378 76,393 75,887 Cash Flow Statement (INR mn) FY09 FY10 FY11E FY12E Cash profit adjusted for non cash items 9,132 6,919 11,717 10,516 Add/Less : Working Capital Changes 6,816 7,865 6,079 10,469 Operating Cash Flow 15,948 14,784 17,796 20,985 Less:- Capex (9,446) (10,238) (6,029) (1,855) Free Cash Flow 6,502 4,546 11,767 19,130 Financing Cash Flow (1,041) 3,885 1,115 (7,475) Investing Cash Flow 289 (1,623) 1,953 - Net change in Cash 5,750 6,808 14,835 11,655 Ratio Analysis FY09 FY10 FY11E FY12E Income Statement Ratios (%)

Revenue Growth 14.8 9.5 11.2 9.8 EBITDA Growth 3.5 (17.6) (21.3) 77.1 PAT Growth@ 40.7 (34.4) (38.9) 72.5 EBITDA Margin 28.3 21.3 15.1 24.3 Net Margin@ 21.0 8.4 4.6 7.2 Return & Liquidity Ratios

Net Debt/Equity (x) 0.7 0.7 0.5 0.4 ROE (%) 16.1 10.4 5.2 7.8 ROCE (%) 33.4 11.3 17.6 33.8 Per Share data & Valuation Ratios

Diluted EPS (INR/Share) 16.8 10.5 6.3 10.9 EPS Growth (%)

(37.6) (39.8) 72.2

DPS (INR/Share) 2.0 2.0 0.3 0.5 P/E Ratio (x) 6.9 11.0 18.4 10.7 EV/EBITDA (x) 4.6 6.2 7.9 4.2 EV/Sales (x) 1.4 1.4 1.3 1.1 EV/tonne (USD) 65.0 67.1 62.4 55.7 Dividend Yield (%) 1.7 1.7 0.2 0.4

@ On adjusted bottomline






Return ratios


33.6

21.3

15.1

24.3

0

10

20

30

40

0

10,000

20,000

30,000

40,000

50,000


(%)

(INR

mn

)


40.7

(34.4) (38.9)

72.5

(60)

(40)

(20)

0

20

40

60

80

0

1,000

2,000

3,000

4,000

5,000

6,000


(%)

(INR

mn

)


16.1

10.4 5.2 7.8

33.4

11.3

17.6

33.8

0

10

20

30

40


ROE (%) ROCE (%)

Debt-equity ratio to come down

Available at distress valuations despite sharp increase in prices in

South India

India Cements


High exposure to a fragmented market 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


Exhibit 2: Southern exposure to come down in FY11


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

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


Exhibit 4: Capacity utilization to stay low in South

Source: CMA .Company, Elara Securities Estimates

South92%

West8%

South83%

West7%

North10%

10

3

2 2

10

3 3

0

3

18

15

3 2 3

15

2

6 6

4

7

2 3 2 2

5

0

5

10

15

20

North Western Central Eastern Southern

(mn

ton

ne)

FY09 FY10 FY11E FY12E FY13E

86 8

9 93

87 8

9

89

94

87

10

4

86

74

86

80

86

10

0

89

72

828

4

82

94

89

75

82

70

75

80

85

90

95

100

105

North Western Central Eastern Southern All India

(%)


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

India Cements

India Cements

Cem

ent


Reliance on foreign coal, grid limits cost competency

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.

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.

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.

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.

Lower return ratios compared to industry peers

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%.

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.

Exhibit 5: ICL RoE to remain lower than peers


Exhibit 6: RoCE to improve on higher cement prices


Exhibit 7: Lower asset turnover ratio vs peers


Exhibit 8: Cost rationalization to better margins


Exhibit 9: NPM to remain lower than peers


(50)

0

50

100

FY9

5FY

96

FY9

7FY

98

FY9

9FY

00

FY0

1FY

02

FY0

3FY

04

FY0

5FY

06

FY0

7FY

08

FY0

9FY

10

FY1

1E

FY1

2E

(%)

ICL ACC Ambuja

(10)

0

10

20

30

40

50

FY9

5FY

96

FY9

7FY

98

FY9

9FY

00

FY0

1FY

02

FY0

3FY

04

FY0

5FY

06

FY0

7FY

08

FY0

9FY

10

FY1

1E

FY1

2E

(%)

ICL ACC Ambuja

0.0

0.3

0.6

0.9

1.2

1.5

1.8

FY9

7

FY9

8

FY9

9

FY0

0

FY0

1

FY0

2

FY0

3

FY0

4

FY0

5

FY0

6

FY0

7

FY0

8

FY0

9

FY1

0

FY1

1E

FY1

2E

(x)

ACC India Cement Ambuja Cement

0

10

20

30

40

FY9

7FY

98

FY9

9FY

00

FY0

1FY

02

FY0

3FY

04

FY0

5FY

06

FY0

7FY

08

FY0

9FY

10

FY1

1E

FY1

2E

(EB

ITD

A m

arg

in %

)


(30)(20)(10)

0 10 20 30 40

FY9

7

FY9

8

FY9

9

FY0

0

FY0

1

FY0

2

FY0

3

FY0

4

FY0

5

FY0

6

FY0

7

FY0

8

FY0

9

FY1

0

FY1

1E

FY1

2E

(%)


India Cements


Higher debt equity ratio, FCCBs to burden cash flows

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.

Exhibit 10: Higher debt equity ratio vs industry


Highest earnings sensitivity to price changes

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 (%)


IPL valuation not fully reflected in share price

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.

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.

Exhibit 12: Franchise details

Franchise Bid

Amount (USD mn)

Owner

Pune 370 Sahara Adventure Sports Group

Kochi 333 Rendezvous Sports World Limited

Mumbai 112 Reliance Industries

Bangalore 112 UB Group

Hyderbad 107 Deccan Chronicle

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,

Average 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.

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

Key risks Slower ramp up of coal mine and CPPs

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

Sharp fall in cement prices in South India

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

(0.6)

(0.4)

(0.2)

(0.0)

0.2

0.4

0.6

0.8

ICL ACC Ambuja

(x)


2.7 2.9 3.4 3.85.1 5.5 5.5

8.0

0

2

4

6

8

10

Ori

ent p

aper

Shre

e C

emen

t

Am

bu

ja

Ultr

atec

h

AC

C

JK L

aksh

mi

JK C

em

Ind

ia C

em

India Cements

Cem

ent


Valuation 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.

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.

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

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).

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

EV /tonne multiple 62 62 62 62 62

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

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

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

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

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



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

India Cements


Board of Directors & Management N Srinivasan, Vice Chairman, Managing 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, Non-Executive Director

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, Compliance Officer, Company Secretary

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

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.

India Cements

Cem

ent

61 61

Coverage History


1

02-Nov-2010 Accumulate INR131 INR116





0

50

100

150

200

250

Ap

r-08

May

-08

Jun

-08

Jul-0

8

Au

g-0

8

Sep

-08

Oct

-08

No

v-08

Dec

-08

Jan

-09

Feb

-09

Mar

-09

Ap

r-09

May

-09

Jun

-09

Jul-0

9

Au

g-0

9

Sep

-09

Oct

-09

No

v-09

Dec

-09

Jan

-10

Feb

-10

Mar

-10

Ap

r-10

May

-10

Jun

-10

Jul-1

0

Au

g-1

0

Sep

-10

Oct

-10

No

v-10

Not Covered Covered

1

India Cements


Notes


Glo

bal

Mar

kets

Res

earc

h


Regional champ at reasonable value Foray into merchant power to stabilize cyclical cement earnings

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.

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

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.

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.

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 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

Source: Bloomberg


FY08 20,659 51.0 8,624 41.7 2,604 47.1 74.7 46.2 29.0 190 9.1

FY09 27,150 31.4 9,508 35.0 5,780 122.0 165.9 61.4 13.0 189 8.1

FY10 36,321 33.8 15,117 41.6 7,483 29.5 214.8 49.2 10.1 130 5.1

FY11E 42,630 17.4 11,750 27.6 3,918 (47.7) 112.5 19.4 19.2 98 6.6

FY12E 51,876 21.7 14,249 27.5 5,962 52.2 171.1 24.1 12.6 82 4.8



Company Update/Target price/Rating changed

Shree Cement

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

Key data*

Bloomberg /Reuters Code SRCM IN/SHCM.BO




Face Value (INR) 10

1 USD= INR44.4


Price & Volume

Source: Bloomberg


Promoter 65.6 65.6 65.5 64.8




Source: BSE


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

80

100

120

140

160


Reb

ased

to1

00

Sree Cement Sensex

0

100

200

300

1,200

1,450

1,700

1,950

2,200

2,450


Vol. in '000s (RHS) Shree Cement (LHS)

Shree Cement


Valuation trigger


Valuation overview - Sum of Parts Valuation Grey Cement FY12E




Value of power business

DCF value INR mn 18,413.7











Investment summary

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

Healthy balance sheet and investment book

Valuation trigger

1. Completion of expansion project to drive cement volume growth

2. Power expansion to accelerate volume growth

Key risks



Our assumptions

Cement volume to grow at a CAGR of ~5%

Cement realizations to increase at aCAGR of 3.3%.

200

700

1,200

1,700

2,200

2,700

Ap

r-08

Jun

-08

Au

g-0

8

Oct

-08

Dec

-08

Feb

-09

Ap

r-09

Jun

-09

Au

g-0

9

Oct

-09

Dec

-09

Feb

-10

Ap

r-10

Jun

-10

Au

g-1

0

Oct

-10

Dec

-10

Feb

-11

Ap

r-11

Jun

-11

Au

g-1

1

Oct

-11

Power expansion to accelerate volume

growth

12

3

Completion of expansion project to drive cement volume

growth


0

10

20

30

40

50

60

70

0

50

100

150

200

250

300

FY0

0

FY0

1

FY0

2

FY0

3

FY0

4

FY0

5

FY0

6

FY0

7

FY0

8

FY0

9

FY1

0E

FY1

1E

FY1

2E

(%)

(EV

/to

nn

e)

EV/Tonne(USD) RoE(RHS) RoCE (RHS)

Shree Cement

Cem

ent



Net Revenues 27,150 36,321 42,630 51,876

EBITDA 9,508 15,117 11,750 14,249

Add:- Non operating Income 829 1,284 1,469 2,092

OPBIDTA 10,337 16,400 13,218 16,341


EBIT 7,973 10,498 6,718 9,341

Less:- Interest Expenses 744 950 1,813 1,889

PBT 7,229 9,548 4,906 7,452

Less :- Taxes 1,449 2,066 979 1,490

Adjusted PAT 5,780 7,483 3,918 5,962

Add/Less: - Extra-ordinaries - (722) - -

Reported PAT 5,780 6,761 3,926 5,962


Share Capital 348 348 348 348

Reserves 11,752 17,984 21,631 27,180

Borrowings 14,962 21,062 20,492 18,562


Gross Block 22,559 29,509 36,139 52,939


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


Deferred Tax Assets 104 124 124 124

Total Assets 27,062 39,395 42,471 46,090



Add/Less : Working Capital Changes 219 (61) (1,332) 890


Less:- Capex (5,330) (11,710) (9,746) (4,010)

Free Cash Flow 2,690 830 (316) 9,639

Financing Cash Flow 573 3,786 (2,654) (4,232)

Investing Cash Flow (3,215) (5,174) 1,469 2,092

Net change in Cash 48 (559) (1,501) 7,499



Revenue Growth 31.4 33.8 17.4 21.7

EBITDA Growth 10.2 59.0 (22.3) 21.3

PAT Growth 122.0 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


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



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

EV/tonne (USD) 189 130 98 82

Dividend Yield (%) 0.5 0.6 0.3 0.5






Return ratios (%)


35.0 41.6

27.6 27.5

0

10

20

30

40

50

0

20,000

40,000

60,000


(%)

(INR

mn

)


122.0

29.5

(47.7)

52.2

(100)

(50)

0

50

100

150

0

2,000

4,000

6,000

8,000


(%)

(INR

mn

)


61.4

49.2

19.4 24.1

35.2 32.2

16.4 21.1

0

10

20

30

40

50

60

70


(%)

ROE ROCE

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

Trading at a discount to its replacement cost despite strong

return ratios

Shree Cement


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




Value of power business

DCF value INR mn 18,413.7









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

Shree Cement

Shree Cement

Cem

ent


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

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.

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.

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.

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.

Shree Cement


68

Coverage History


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





0

500

1,000

1,500

2,000

2,500 A

pr-

08

May

-08

Jun

-08

Jul-0

8

Au

g-0

8

Sep

-08

Oct

-08

No

v-08

Dec

-08

Jan

-09

Feb

-09

Mar

-09

Ap

r-09

May

-09

Jun

-09

Jul-0

9

Au

g-0

9

Sep

-09

Oct

-09

No

v-09

Dec

-09

Jan

-10

Feb

-10

Mar

-10

Ap

r-10

May

-10

Jun

-10

Jul-1

0

Au

g-1

0

Sep

-10

Oct

-10

No

v-10

Not Covered Covered

1

2

3

4

Glo

bal

Mar

kets

Res

earc

h



Grey eminence Grey cement capacity up 67%, to prop up earnings

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.

White cement to provide stable cash flow

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.

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.

Karnataka plant to reduce regional risk

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.

Valuation 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

Source: Bloomberg

Key Financials Y/E Mar (INR mn) Rev YoY (%) EBITDA EBITDA (%) Adj PAT YoY (%) Fully DEPS RoE (%) P/E (x) EV/tonne (USD) EV/EBITDA (x) FY08 14,583 18.2 4,157 28.5 2,652 48.5 37.9 41.5 4.4 81 3.5 FY09 14,968 2.6 3,240 21.6 1,423 (46.3) 20.4 17.0 8.2 96 6.4 FY10 18,268 22.0 4,391 24.0 2,260 58.8 32.3 22.6 5.2 65 4.3 FY11E 21,308 16.6 2,881 13.5 726 (67.9) 10.4 6.5 16.1 54 6.7 FY12E 25,214 18.3 3,525 14.0 1,319 81.6 18.9 10.8 8.9 51 5.2



Company Update

JK Cement

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

Key data*

Bloomberg /Reuters Code JKCE IN/JKCE.BO


Mkt Cap (INRbn/US$mn) 12/264


Face Value (INR) 10

1 US$= INR44.4


Price & Volume

Source: Bloomberg


Promoter 65.3 65.3 65.3 65.3



General Public 10.9 11.6 11.2 10.5

Source: BSE


Sensex 12.3 17.0 32.1

JK Cement 5.9 (10.0) 37.4

Ultratech 30.1 17.5 51.5

ACC 28.0 17.5 51.9

Source: Bloomberg

80

100

120

140

160

180


Reb

ased

to1

00

JK Cement Sensex

0

1

2

3

4

100

120

140

160

180

200


Vol. in mn (RHS) JK Cement (LHS)

JK Cement


Valuation trigger



FY12E

Grey Cement




White Cement


EV /tonne multiple USD/tonne 125.0

White Cement business EV INR Mn 2,250

EV INR mn 23,097








Valuation driver: EV/tonne , RoE and RoCE


Investment summary

Robust volume growth to cushion the earnings of the company

White cement business to provide stable cash flow

Valuation trigger

1. Ramping up of Karnataka plant.

2. Financial closure of new projects

Key risks

Slower ramp up of Karnataka plant


Our assumptions

Grey cement volumes to grow at CAGR of ~16.8%

White cement volumes to grow at CAGR of 15%

0

50

100

150

200

250

Ap

r-08

Jun

-08

Au

g-0

8

Oct

-08

Dec

-08

Feb

-09

Ap

r-09

Jun

-09

Au

g-0

9

Oct

-09

Dec

-09

Feb

-10

Ap

r-10

Jun

-10

Au

g-1

0

Oct

-10

Dec

-10

Feb

-11

Ap

r-11

Jun

-11

Au

g-1

1

Oct

-11

Financial closure of new projects

1

2

Ramping up of Karnataka plant.

3


5

15

25

35

45

20

40

60

80

100

120

FY0

6

FY0

7

FY0

8

FY0

9

FY1

0E

FY1

1E

FY1

2E

%

EV/t

on

ne

EV/Tonne in USD(LHS) RoE(RHS) ROCE (RHS)

JK Cement

Cem

ent



Net Revenues 14,968 18,268 21,308 25,214

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

Add:- Non operating Income 79 193 180 273

OPBIDTA 3,319 4,584 3,061 3,797

Less :- Depreciation & Amortization 524 855 1,099 1,160

EBIT 2,795 3,729 1,962 2,637


PBT 2,340 3,113 1,106 1,940

Less :- Taxes 916 853 379 621

Adjusted PAT 1,423 2,260 726 1,319

Add/Less: - Extra-ordinaries - - 87 -

Reported PAT 1,423 2,260 813 1,319



Reserves 11,161 12,838 13,569 14,807

Borrowings 5,644 10,737 9,887 8,387


Gross Block 14,411 23,767 26,267 27,767


Net Block 12,158 20,522 21,923 22,263

Add:- Capital work in progress 351 2,253 1,000 1,100

Investments 107 60 60 60


Miscellaneous Expenses not written off 24 27 27 27

Net Deferred Tax (1,006) (1,858) (1,858) (1,858)

Total Assets 17,505 24,275 24,156 23,893



Add/Less : Working Capital Changes (93) (820) 240 63


Less:- Capex (916) (1,989) (1,247) (1,600)

Free Cash Flow 1,496 591 1,680 1,558

Financing Cash Flow (1,793) (796) (1,707) (2,197)

Investing Cash Flow 92 65 - -

Cash Balance transferred from Jaycem

204

Net change in Cash (204) 65 (26) (639)



Revenue Growth 2.6 22.0 16.6 18.3

EBITDA Growth (22.1) 35.5 (34.4) 22.3

PAT Growth (46.3) 58.8 (67.9) 81.6

EBITDA Margin 21.6 24.0 13.5 14.0

Net Margin 9.5 12.4 3.4 5.2



ROE (%) 17.0 22.6 6.5 10.8

ROCE (%) 16.9 17.9 8.1 11.0



EPS Growth (%) (46.3) 58.8 (67.9) 81.6

DPS (INR/Share) 3.5 6.0 1.0 1.0

P/E Ratio (x) 8.2 5.2 16.1 8.9

EV/EBITDA (x)* 6.4 4.3 6.7 5.2

EV/Sales (x)* 1.4 1.0 0.9 0.7

EV/Tonne (USD)* 95.6 64.7 53.6 51.1

Dividend Yield (%) 2.1 3.6 0.6 0.6

*JKCEM had set up a green field plant in a subsidiary which was merged with parent in FY10. Forcomparison purpose EV based ratios are taken on consolidated basis for FY09






Return ratios (%)


21.6 24.0

13.5 14.0

0

10

20

30

0

10,000

20,000

30,000


(%)

(INR

mn

)


(46.3)

58.8

(67.9)

81.6

(100)

(50)

0

50

100

0

500

1,000

1,500

2,000

2,500


(%)

(INR

mn

)


17.0

22.6

6.5

10.8

16.9 17.9

8.1

11.0

0

5

10

15

20

25


ROE ROCE

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

Debt equity to remain comfortable despite capacity additions

JK Cement


Valuation 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

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.


FY12E

Grey Cement




White Cement


EV /tonne multiple USD/tonne 125.0

White Cement business EV INR Mn 2,250

EV INR mn 23,097








JK Cement


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

JK Cement

Cem

ent


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.

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.

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.

Company Description 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.

JK Cement


Coverage History


1

29-Apr-2010 Buy INR245 INR185

2

1-Jun-2010 Buy INR220 INR182





0

50

100

150

200

250 A

pr-

08

May

-08

Jun

-08

Jul-0

8

Au

g-0

8

Sep

-08

Oct

-08

No

v-08

Dec

-08

Jan

-09

Feb

-09

Mar

-09

Ap

r-09

May

-09

Jun

-09

Jul-0

9

Au

g-0

9

Sep

-09

Oct

-09

No

v-09

Dec

-09

Jan

-10

Feb

-10

Mar

-10

Ap

r-10

May

-10

Jun

-10

Jul-1

0

Au

g-1

0

Sep

-10

Oct

-10

No

v-10

Not Covered Covered

1 2


Glo

bal

Mar

kets

Res

earc

h


Lord of low cost, master in a downturn Brownfield expansion to steer volume growth

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

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.

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 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

Source: Bloomberg

Key Financials Y/E Mar (INR mn) Rev YoY (%) EBITDA EBITDA (%) Adj PAT YoY (%) Fully DEPS RoE (%) P/E (x) EV/tonne (USD) EV/EBITDA (x) FY08 12,958 17.6 3,488 26.9 2,099 51.3 10.9 66.9 5.6 75 3.8 FY09 15,032 16.0 3,913 26.0 2,315 10.3 12.0 41.3 5.1 96 4.1 FY10E 16,198 7.8 3,074 19.0 1,593 (31.2) 8.3 22.6 7.4 68 5.4 FY11E 19,130 18.1 3,886 20.3 1,981 24.3 10.3 23.2 6.0 50 3.4 FY12E 21,935 14.7 3,786 17.3 2,030 2.5 10.5 19.7 5.8 40 2.9 Source: Company, Elara Securities Estimates


Company Update/Target price changed

Orient Paper

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

Key data*

Bloomberg /Reuters Code OPI IN/ORPP.BO


Mkt Cap (INRbn/USDmn) 12/265


Face Value (INR) 1

1 USD= INR44.4


Price & Volume

Source: Bloomberg


Promoter 33.9 33.5 33.7 33.6



General Public 18.6 17.9 16.7 14.0

Source: BSE


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

80

100

120

140

160


Reb

ased

to 1

00

Orient Paper Sensex

0

2

4

6

8

40

50

60

70


Vol. in mn (RHS) Orient Paper (LHS)

Orient Paper


Valuation trigger


Valuation overview - Sum of Parts Valuation FY12E

Grey Cement




Paper

EBITDA INR mn 253.6

EV /EBITDA x 1.5

Paper business EV INR mn 380

Fan

EBITDA INR mn 523

EV /EBITDA x 3.0

Fan business EV INR mn 1,568


Less: Net Debt INR mn (691)







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


Investment summary

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

Healthy balance sheet, investment book

Valuation trigger

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

2. Turnaround in paper division

Key risks



Our assumptions

Cement Volume to grow at a CAGR of ~13%


0

10

20

30

40

50

60

70

80

90

100

Ap

r-08

Jun

-08

Au

g-0

8

Oct

-08

Dec

-08

Feb

-09

Ap

r-09

Jun

-09

Au

g-0

9

Oct

-09

Dec

-09

Feb

-10

Ap

r-10

Jun

-10

Au

g-1

0

Oct

-10

Dec

-10

Feb

-11

Ap

r-11

Jun

-11

Au

g-1

1

Oct

-11

Turnaround in paper division

12

3

Volume growth in cement division due to

completion of brownfield expansion


0

5

10

15

20

0

2

4

6

8

10

12

14

FY0

0

FY0

1

FY0

2

FY0

3

FY0

4

FY0

5

FY0

6

FY0

7

FY0

8

FY0

9

FY1

0E

FY1

1E

FY1

2E

EV/EB

ITDA

& P/C

EPSP/B

V &

Mca

p/

Sale

s

P/BV(RHS) MCap/Sales(RHS)

P/CEPS(LHS) EV/EBITDA(LHS)

Orient Paper

Cem

ent



Net Revenues 15,032 16,198 19,130 21,935

EBITDA 3,913 3,074 3,886 3,786


OPBIDTA 4,126 3,237 4,066 3,967

Less :- Depreciation & Amortization 347 550 776 789

EBIT 3,779 2,686 3,290 3,178


PBT 3,588 2,341 2,956 3,029

Less :- Taxes 1,273 748 976 1,000

Adjusted PAT 2,315 1,593 1,981 2,030

Add/Less: - Extra-ordinaries 314 - - -

Reported PAT 2,001 1,593 1,981 2,030



Reserves 6,326 7,564 9,319 11,123

Borrowings 4,623 5,163 4,575 4,015


Applications

Gross Block 8,503 16,365 17,365 17,465


Net Block 3,845 11,159 11,383 10,695

Add:- Capital work in progress 6,587 567 3,00 900

Investments 92 471 171 171


Deferred Tax (Net) (502) (1,103) (1,103) (1,103)

Miscellaneous Expenses not written off 23 - - -

Total Assets 11,153 12,930 14,087 15,331



Add/Less : Working Capital Changes (520) (137) 1,318 87


Less:- Capex (5,026) (1,919) (732) (700)

Free Cash Flow (2,394) 700 3,666 2,354

Financing Cash Flow 2,426 (256) (1,229) (1,144)

Investing Cash Flow 40 (315) 383 210

Net change in Cash 73 129 2,819 1,420

Ratio Analysis (INR mn) FY09 FY10 FY11E FY12E


Revenue Growth 16.0 7.8 18.1 14.7

EBITDA Growth 12.2 (21.5) 26.4 (2.6)

PAT Growth 10.3 (31.2) 24.3 2.5

EBITDA Margin 26.0 19.0 20.3 17.3

Net Margin 15.4 9.8 10.4 9.3


Net Debt/Equity (x) 0.7 0.6 0.1 (0.1)

ROE (%) 41.3 22.6 23.2 19.7

ROCE (%) 43.1 22.5 24.5 21.7



EPS Growth (%) 10.3 (31.2) 24.3 2.5

DPS (INR/Share) 1.5 1.5 1.0 1.0

P/E Ratio (x) 5.1 7.4 6.0 5.8

EV/EBITDA (x) 4.1 5.4 3.4 2.9

EV/Sales (x) 1.1 1.0 0.7 0.5

EV/tonne (USD) 95.6 68.3 50.1 39.8

Dividend Yield (%) 2.5 2.5 1.6 1.6






Return ratios (%)


26.0

19.0 20.3 17.3

0

10

20

30

10,000

15,000

20,000

25,000


(%)

(INR

mn

)


(2.2)

(20.4)

24.3

2.5

(30)

(20)

(10)

0

10

20

30

0

500

1,000

1,500

2,000

2,500


(%)

(INR

mn

)


41.3 22.6

23.2 19.7

43.1

22.5

24.5 21.7

0

10

20

30

40

50


ROE ROCE

Strong return ratios

Trading at a discount to its peers despite having strong return

ratios

Orient Paper


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




Paper

EBITDA INR mn 253.6

EV /EBITDA x 1.5

Paper business EV INR mn 380

Fan

EBITDA INR mn 523

EV / EBITDA x 3.0

Fan business EV INR mn 1,568


Less: Net Debt INR mn (691)







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

Orient Paper

Orient Paper

Cem

ent


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

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.

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’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.

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.

Orient Paper


80

Coverage History


1


2

02-Nov-2010 Buy INR87 INR61





0

10

20

30

40

50

60

70 A

pr-

08

May

-08

Jun

-08

Jul-0

8

Au

g-0

8

Sep

-08

Oct

-08

No

v-08

Dec

-08

Jan

-09

Feb

-09

Mar

-09

Ap

r-09

May

-09

Jun

-09

Jul-0

9

Au

g-0

9

Sep

-09

Oct

-09

No

v-09

Dec

-09

Jan

-10

Feb

-10

Mar

-10

Ap

r-10

May

-10

Jun

-10

Jul-1

0

Au

g-1

0

Sep

-10

Oct

-10

No

v-10

Not Covered Covered

2

1


Glo

bal

Mar

kets

Res

earc

h


Cementing its true place Capacity to go up by 67%, debottlenecking to boost volume

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.

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.

Valuation 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

Source: Bloomberg

Key Financials Y/E Mar (INR mn) Rev YoY (%) EBITDA EBITDA (%) Adj PAT YoY (%) Fully DEPS RoE (%) P/E (x) EV/tonne (USD) EV/EBITDA FY08 11,077 31.3 3,513 31.7 2,237 25.6 18.3 43.5 3.5 68.2 3.1 FY09 12,245 10.6 3,106 25.4 1,786 (20.2) 14.6 25.2 4.3 49.7 3.3 FY10 14,905 21.7 4,246 28.5 2,411 35.0 19.7 27.2 3.2 46.6 2.3 FY11E 14,420 (3.3) 2,852 19.8 1,205 (50.0) 9.8 11.6 6.4 47.0 3.8 FY12E 17,392 20.6 3,505 20.2 1,606 33.3 13.1 13.8 4.8 54.7 3.6



Company Update/Target price changed

JK Lakshmi Cement

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

Key data*

Bloomberg /Reuters Code JKLC IN/JKLC.BO


Mkt Cap (INRbn/USDmn) 8/174


Face Value (INR) 5

1 USD= INR 44.4


Price & Volume

Source: Bloomberg


Promoter 44.5 44.2 44.2 44.2



General Public 25.2 25.1 23.5 21.1

Source: BSE


Sensex 12.3 17.0 32.1

JK Lakshmi Cement 4.3 (9.7) 3.7

Ultratech 30.1 17.5 51.5

ACC 28.0 17.5 51.9

Source: Bloomberg

80

100

120

140


Reb

ased

to 1

00

JK Laxmi Sensex

0

1

2

3

4

50

60

70

80

90

Oct-09 Feb-10 Jun-10 Oct-10

Vol. in mn (RHS) JK Laxmi (LHS)

JK Lakshmi Cement

82 82 82

Valuation trigger



FY12E



EV INR mn 14,890










Investment summary

Cement capacity to increase by 67%

CPP capacity to increase by 83%

Valuation trigger

1. Brownfield cement expansion coming on stream

2. CPPs coming on stream

Key risks



Our assumptions

Cement Volume to grow at a CAGR of ~1%


0

10

20

30

40

50

60

70

80

90

Ap

r-08

Jun

-08

Au

g-0

8

Oct

-08

Dec

-08

Feb

-09

Ap

r-09

Jun

-09

Au

g-0

9

Oct

-09

Dec

-09

Feb

-10

Ap

r-10

Jun

-10

Au

g-1

0

Oct

-10

Dec

-10

Feb

-11

Ap

r-11

Jun

-11

Au

g-1

1

Oct

-11

CPPs coming on stream

1

23

Brownfield cement expansion coming

on stream


(50)

(25)

0

25

50

0

20

40

60

80

100

120

140

FY9

4

FY9

5

FY9

6

FY9

7

FY9

8

FY9

9

FY0

0

FY0

1

FY0

2

FY0

4

FY0

5

(%)

EV p

er t

on

ne

(USD

)

EV/Tonnein USD(LHS) RoE(RHS) RoCE (RHS)

JK Lakshmi Cement

Cem

ent



Net Revenues 12,245 14,905 14,420 17,392

EBITDA 3,106 4,246 2,852 3,505


OPBIDTA 3,167 4,339 2,946 3,606

Less :- Depreciation & Amortization 691 800 952 1,071

EBIT 2,476 3,539 1,994 2,535


PBT 2,267 3,309 1,606 2,141

Less :- Taxes 481 897 402 535

Adjusted PAT 1,786 2,411 1,205 1,606

Add/Less: - Extra-ordinaries - - - -

Reported PAT 1,786 2,411 1,205 1,606

Balance Sheet (INR mn) FY09 FY10E FY11E FY12E


Reserves 7,701 9,595 10,619 12,065

Borrowings 7,027 9,217 9,217 9,217

Deferred Tax (Net) 351 921 921 921


Gross Block 17,605 19,036 22,546 22,646


Net Block 10,131 10,630 13,189 12,218

Add:- Capital work in progress 970 1,820 2,400 6,600

Investments 889 4,805 4,805 3,305

Net Working Capital 3,700 3,091 975 692

Total Assets 15,690 20,346 21,369 22,815



Add/Less : Working Capital Changes 253 (98) 865 (54)


Less:- Capex (2,246) (2,307) (4,091) (4,300)

Free Cash Flow 871 1,259 (681) (1,284)

Financing Cash Flow (670) 1,229 (862) (818)

Investing Cash Flow (410) (3,550) 294 1,764

Net change in Cash (209) (1,063) (1,249) (338)

Ratio Analysis FY09 FY10E FY11E FY12E


Revenue Growth 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



ROE (%) 25.2 27.2 11.6 13.8

ROCE (%) 19.3 21.9 11.1 12.8



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

EV/tonne (USD) 49.7 46.6 47.0 54.7

Dividend Yield (%) 3.2 4.0 2.8 2.5






Return ratios (%)


25.4 28.5

19.8 20.2

0

10

20

30

0

5,000

10,000

15,000

20,000


(%)

(INR

mn

)


(20.2)

35.0

(50.0)

33.3

(60)

(40)

(20)

0

20

40

0

500

1,000

1,500

2,000

2,500

3,000


(%)

(INR

mn

)


25.2 27.2

11.6 13.8

19.3 21.9

11.1 12.8

0

5

10

15

20

25

30


(%)

ROE ROCE

Comfortable debt equity ratio

Trading at a steep discount to the large cap peers as well as to

its replacement cost

JK Lakshmi Cement

84 84 84

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.


FY12E

Capacity Mn tonnes 5.3


EV INR Mn 14,890

Less: Net Debt INR Mn 5,296

Target Market Capitalization INR Mn 9,594






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

JK Lakshmi Cement

JK Lakshmi Cement

Cem

ent


Board of Directors & Management Hari Shankar Singhania, Non-Executive Chairman

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

Vinita Singhania, Managing Director,

Vinita Singhania is the Managing Director of JK Lakshmi Cement

Shailendra Chouksey, Director

Shailendra Chouksey, is the Whole Time Director of 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).

JK Lakshmi Cement

86

86 86

Coverage History


1


2

28-Jul-2010 Buy INR90 INR63

3

02-Nov-2010 Buy INR78 INR63





10

20

30

40

50

60

70

80

90 A

pr-

08

May

-08

Jun

-08

Jul-0

8

Au

g-0

8

Sep

-08

Oct

-08

No

v-08

Dec

-08

Jan

-09

Feb

-09

Mar

-09

Ap

r-09

May

-09

Jun

-09

Jul-0

9

Au

g-0

9

Sep

-09

Oct

-09

No

v-09

Dec

-09

Jan

-10

Feb

-10

Mar

-10

Ap

r-10

May

-10

Jun

-10

Jul-1

0

Au

g-1

0

Sep

-10

Oct

-10

No

v-10

Not Covered Covered

3

1

2


87 87

Glo

bal

Mar

kets

Res

earc

h

87

Disclosures & Confidentiality The Note is based on our estimates and is being provided to you (herein referred to as the “Recipient”) only for information purposes. The sole purpose of this Note is to provide preliminary information on the business activities of the company and the projected financial statements in order to assist the recipient in understanding / evaluating the Proposal. Nothing in this document should be construed as an advice to buy or sell or solicitation to buy or sell the securities of companies referred to in this document. Each recipient of this document should make such investigations as it deems necessary to arrive at an independent evaluation of an investment in the securities of companies referred to in this document (including the merits and risks involved) and should consult its own advisors to determine the merits and risks of such an investment. Nevertheless, Elara or any of its affiliates is committed to provide independent and transparent recommendation to its client and would be happy to provide any information in response to specific client queries. Elara or any of its affiliates have not independently verified all the information given in this Note and expressly disclaim all liability for any errors and/or omissions, representations or warranties, expressed or implied as contained in this Note. The user assumes the entire risk of any use made of this information. Elara or any of its affiliates, their directors and the employees may from time to time, effect or have effected an own account transaction in or deal as principal or agent in or for the securities mentioned in this document. They may perform or seek to perform investment banking or other services for or solicit investment banking or other business from any company referred to in this Note. Each of these entities functions as a separate, distinct and independent of each other. This Note is strictly confidential and is being furnished to you solely for your information. This Note should not be reproduced or redistributed or passed on directly or indirectly in any form to any other person or published, copied, in whole or in part, for any purpose. This Note is not directed or intended for distribution to, or use by, any person or entity who is a citizen or resident of or located in any locality, state, country or other jurisdiction, where such distribution, publication, availability or use would be contrary to law, regulation or which would subject Elara or any of its affiliates to any registration or licensing requirements within such jurisdiction. The distribution of this document in certain jurisdictions may be restricted by law, and persons in whose possession this document comes, should inform themselves about and observe, any such restrictions. Upon request, the Recipient will promptly return all material received from the company and/or the Advisors without retaining any copies thereof. The Information given in this document is as of the date of this report and there can be no assurance that future results or events will be consistent with this information. This Information is subject to change without any prior notice. Elara or any of its affiliates reserves the right to make modifications and alterations to this statement as may be required from time to time. However, Elara is under no obligation to update or keep the information current. Neither Elara nor any of its affiliates, group companies, directors, employees, agents or representatives shall be liable for any damages whether direct, indirect, special or consequential including lost revenue or lost profits that may arise from or in connection with the use of the information. This Note should not be deemed an indication of the state of affairs of the company nor shall it constitute an indication that there has been no change in the business or state of affairs of the company since the date of publication of this Note. The disclosures of interest statements incorporated in this document are provided solely to enhance the transparency and should not be treated as endorsement of the views expressed in the report. Elara Securities (India) Private Limited generally prohibits its analysts, persons reporting to analysts and their family members from maintaining a financial interest in the securities or derivatives of any companies that the analysts cover. The analyst for this report certifies that all of the views expressed in this report accurately reflect his or her personal views about the subject company or companies and its or their securities, and no part of his or her compensation was, is or will be, directly or indirectly related to specific recommendations or views expressed in this report.

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 of any particular individual or entity. Although we endeavor to provide accurate and timely information, there can be no guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the future. No one should act on such information without appropriate professional advice after a thorough examination of the particular situation.


88 88

88

India Elara Securities (India) Pvt. Ltd. Kalpataru Synergy, 6th Level, East Wing, Opp Grand Hyatt, Santacruz East, Mumbai – 400 055, India Tel : +91 22 4062 6868

Europe Elara Capital Plc. 29 Marylebone Road, London NW1 5JX, United Kingdom Tel : +44 20 7486 9733

USA Elara Capital Inc. 535 Fifth Avenue 29th Floor New York, NY 10017 Tel : 646-884-7130

Asia / Pacific Elara Capital (Singapore) Pte. Ltd. 30 Raffles Place #20-03, Chevron House Singapore 048622 Tel : +65 6536 6267

Harendra Kumar Head - Institutional Equities & Global Research [email protected] +91 22 4062 6871

Sales

Joseph K. Mammen Global Head Sales & Trading

London +44 78 5057 7329 [email protected] +44 20 7467 5578

Jonathan Camissar London +44 79 1208 7272 [email protected] +44 20 7299 2575

Vishal Pattani London +44 77 0220 1384 [email protected] +44 20 7467 5452

Prashin Lalvani India +91 98334 77685 [email protected] +91 22 4062 6844

Koushik Vasudevan India +91 98676 96668 [email protected] +91 22 4062 6841

Amit Mamgain India +91 98676 96661 [email protected] +91 22 4062 6843

Nirav Shah India +91 90040 27862 [email protected] +91 22 4062 6842

Sales Trading & Dealing

Ananthanarayan Iyer India +91 98334 99217 [email protected] +91 22 4062 6856

Vishal Thakkar India +91 98694 07973 [email protected] +91 22 4062 6857

Manoj Murarka India +91 99675 31422 [email protected] +91 22 4062 6851

Research

Abhinav Bhandari Analyst Construction, Infrastructure [email protected] +91 22 4062 6807

Aliasgar Shakir Analyst Mid caps [email protected] +91 22 4062 6816

Alok Deshpande Analyst Oil & Gas [email protected] +91 22 4062 6804

Amol Bhutada Analyst Auto & Auto Ancillaries [email protected] +91 22 4062 6806

Himani Singh Analyst FMCG, Hotels, Hospitals [email protected] +91 22 4062 6801

Mohan Lal Analyst Media & Retail [email protected] +91 22 4062 6802

Pankaj Balani Analyst Derivative Strategist [email protected] +91 22 4062 6811

Pralay Das Analyst Information Technology [email protected] +91 22 4062 6808

Ravindra Deshpande Analyst Metals & Cement [email protected] +91 22 4062 6805

Ravi Sodah Analyst Cement [email protected] +91 22 4062 6817

Sumant Kumar Analyst FMCG [email protected] +91 22 4062 6803

Surajit Pal Analyst Pharmaceuticals, Real Estate [email protected] +91 22 4062 6810

Kavitha Rajan Associate Telecom, Information Technology [email protected] +91 22 4062 6814

Pooja Sharma Associate Construction, Infrastructure [email protected] +91 22 4062 6819

Saira Ansari Associate Pharmaceuticals, Real Estate [email protected] +91 22 4062 6812

Sreevalsan Menon Editor

[email protected] +91 22 4062 6813

Gurunath Parab Production [email protected] +91 22 4062 6815

Access our reports on Bloomberg: Type ESEC <GO>

Also available on Thomson & Reuters

Member (NSE, BSE) Regn Nos: CAPITAL MARKET SEBI REGN. NO.: BSE: INB 011289833, NSE: INB 231289837 DERIVATIVES SEBI REGN. NO.: NSE: INF 231289837

CLEARING CODE: M51449. Website: www.elaracapital.com Investor Grievance Email ID: [email protected]

cement elra

Documents