EUR 21.76 For Business Accounts Only

Evident margin improvement, reiterate Overweight

Raise 12M TP by c5% to AED3.15/share. We hike our 2017-19e EBITDA estimates by an average of 15% to reflect: i) GPM improvement achieved in 9M17 of 32% vs. our 30% estimate led by i) 6.5% y-o-y drop in tile unit costs across all markets and ii) lower G&A expenses driven by stringent cost control which management expects to sustain. On 2018e EV/EBITDA, RAK Ceramics trades in line with the peer average at c8x. We find RAK Ceramics’ dividend yield attractive, which we expect at ~7% for 2017 and 2018, highest amongst peers and the DFM of c4%.

Expect further margin expansion led by top line growth, cost savings. We forecast core revenue to grow at a 2017-19e CAGR of 4% as RAK Ceramics pushes sales in: i) the UAE through B2B project sales with large developers, ii) KSA via the acquisition of a second distributor by end-2017 and integration of head office operations, iii) Bangladesh and Iran via ramp-up in tile capacity utilisation, and iv) India capacity expansion of +10mn sqm by 2019e. RAK Ceramics expects further improvement of GPM (we see +600bps by 2020e) through savings on raw materials (53% of 2016 direct costs) via improved formulations (no effect on quality) and control of overheads (11.5%). It also plans to set-up a warehouse (AED26mn) in Europe, saving AED1.5mnin rental costs p.a.

Unresolved working capital drag. RAK Ceramics’ working capital continues to weigh on its operating cash generation (9M17 was a negative AED10mn) as receivables and finished goods continued to pile-up. Finished goods days on hands as of 3Q17 days grew to 133 days vs. 126 days in 2016; guidance is for inventory days to drop over 2 years, however, we assume none. Receivables rose to AED1.3bn as of 3Q17 from AED1.1bn in 2016. Our valuation assumes debt pile-up to support additional WC needs, while dues from related parties (KSA JVs) of AED315mn should be settled with ongoing acquisitions, says management.

Risk of higher UAE energy prices. In the case of a gas supply cut to the UAE plant from the primary supplier, Qatar’s Dolphin pipeline, RAK Ceramics would opt to switch to LPG. Assuming a 5% rise in utility & energy costs (20% of total direct costs) impacts our 12M TP by 13%. RAK Ceramics intends to pass on the VAT to the end-consumer and expects a net refund position on purchases.