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Lafarge Africa Q3'20 - Input cost pressures moderated growth in EPS

• Last week Friday, Lafarge Africa posted its Q3’20 scorecard, which showed a 31.4% YoY improvement in topline. However, this was not enough to lift EPS materially (up 3.4% YoY to N0.30) as higher input cost moderated the benefits that could have emanated from the recorded topline performance. For the 9M period, Lafarge’s revenue grew faster than the associated cost of sales in the period (Revenue up 10.3% YoY, Cost of Sales up 9.8% YoY). This, combined with better management of operating expenses and significant moderation in net finance cost delivered a 70.3% YoY growth in PBT to N34.29bn.

• Revenue jumps as lockdown measures eases: Following an initial dip in Lafarge’s revenue in Q2’20 (down 5.1% YoY) especially in April, the relaxation of lockdown measures has enabled a restart in construction activities since May 2020, a trend we believed continued in July-September. We believe this may have supported a recovery in Lafarge’s revenue in Q3’20 (up 31.4% YoY to N59.34bn) as sales of Cement advanced by 32.2% YoY while revenue generated from Aggregates were somewhat flat YoY. On a QoQ basis, revenue grew by 4.4%; quite unusual in the cement space owing to seasonal factors like rainfall, which often leads to postponement in construction activities. We believe the carryover of some construction activities which were due in Q2’20 into Q3’20 accounts for the improvement we saw QoQ.

• Despite the impressive turnout in Q3’20, we saw slower growth in gross profit (up 13.7% YoY) and a 361bps YoY decline in gross margin to 23.4%. This was on account of faster increases in cost of sales (up 37.9% YoY) as higher energy cost due to the pass-through impact of Naira devaluation as well as inflationary cost pressures fed in. Consequently, Q3’20 EBITDA and PBT margin declined by 826bps YoY and 105bps YoY to 27.3% and 9.3% respectively, with the narrowed gap between EBITDA and PBT margin supported by the continued moderation in finance cost owing to the deleveraging of its balance sheet. Thus, on the back of input cost pressures, Q3’20 EPS grew by 3.4% YoY, significantly lower compared to the strong double-digit growth in revenue in the same period.

• Meanwhile, cashflow positions continued to show improvement in 9M’20. In particular, FCF over 9M’20 improved by 1.6x over 9M’19, driven by a 28.6% YoY jump in net CFO and lower capex spend during the period. Management had stated during its H1’20 conference call that it was going to retain existing capacity, given the sluggish growth in the cement industry in 2020. We also observed improvement in Lafarge’s working capital management especially with regards to its inventories and trade receivables. The improvement in FCF supported a 61.3% YoY increase in FCF/share to N3.43 with CFO margin also printing 483bps YoY higher to 34.0%.

• Going forward, we expect the recovery in the economy to continue to support the demand for cement in Q4 20. While this is positive for Lafarge’s topline, the recent unrest in the economy, especially in industrial areas, may moderate revenue performance if it escalates further. Despite the continued downtrend in operating and finance cost on a YoY basis, we have notwithstanding revised our FVE downwards to N20.75, largely due to resurfacing pressures on Lafarge’s operating and financing line items on a QoQ basis in Q3 20. While we hope to clarify from management, we note that operating expenses grew by 44.5% QoQ with FX losses and higher bank charges (likely from the increased bank borrowings of c. N1.5bn in Q3’20) putting a 54.3% upward pressure on net finance cost.  Thus, we have an OVERWEIGHT rating on the stock given that it has an upside potential of 15.9% from current price levels.  Lafarge currently trades at a P/E of 12.5x, which trades at a discount to domestic peer average of 15.9x.