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Valuations at bargain; Rebound is inevitable (AKD Cement Report ,September 06 2023)

Cement Sector Report

Valuations at bargain; Rebound is inevitable

The cement sector has shown great resilience amidst the overall cyclical downturn in the economy, wherein the AKD Cement Universe earnings are expected to descend by 11% in full year FY23 despite sales volumes declining by 16%YoY. Cement companies have been prudent in passing cost escalations to customers, with cement prices having increased to current PkR1,177/bag from PkR953/bag in Jun’22. The overall sector has gained 15% CYTD outperforming the KSE100 index by 2.4%. With recent numbers breathing life into the sector (2MFY24 dispatches up 45%YoY), we believe the sector’s undemanding valuation set (P/E: 3.7; P/Bv: 0.65, EV/ton: US$22.6) in tandem with improved GMs (reduced cost pressures, particularly coal – down 75% from peak of US$453/ton in Mar’22) should bring the sector back in the limelight, particularly as sentiment in the overall market improves. Our preferred plays include LUCK (TP: PkR728/sh; Upside: 31.1%; D/Y: 4.3%), FCCL (TP: PkR18/sh; Upside: 67.1%), MLCF (TP: PkR41/sh; Upside: 44.6%)

Valuations remain a bargain: Cement sector remains at attractive valuations, presently trading even below their replacement costs, current EV/ton of US$22.6/ton compared to replacement cost of the plant being US$55-75/ton. Likewise, EV/EBITDA of 3.3x compared to previous 5-years average of ~9.9x. Furthermore, companies are well below their book values being, current P/Bv being  0.65, especially DGKC & FCCL at 0.32/0.41, respectively.

Margins to be the main drivers: Despite increase of 45%YoY in 2MFY24’s cement dispatches, we expect demand growth to remain subdued with key earnings driver being the expanding margins (FY24F expected margins 30.1% vs. 25.5% in FY23). The said increase in gross margins is majorly attributable to 1) easing coal prices (currently US$114.6/tons vs FY23 avg US$208/ton), and 2) cost pressures passing on to cement prices (Current avg: PkR1,177/bag vs. FY23 avg: 1,071).

Export-led growth: Cement exports are expected to show growth going forward, driven by the viability of export prices, particularly in light of declining coal prices. As a result, the utilization levels in the southern region of the country are expected to remain at moderate levels, with an anticipated utilization rate reaching ~70% by FY25.

Investment Perspective: We have a bullish stance on the cement sector owing to 1) available at markedly cheap multiples, 2) earnings growth of 87%YoY in FY24 amidst improvement in gross margins, 3) export-led growth. Our preferred picks remain LUCK (TP: PkR728/sh; Upside: 31.1%; D/Y: 4.3%), FCCL (TP: PkR18/sh; Upside: 67.1%), MLCF (TP: PkR41/sh; Upside: 44.6%).

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