Alrosa: Diamond market on lockdown (stays BUY)

Since our most recent update, less than a month ago, the demand situation in the diamond market has deteriorated rapidly. India, the country responsible for c.90% of the industry’s cutting and polishing operations is in full lockdown due to COVID-19, so rough diamond demand will be almost non-existent in the short term. We have cut our sales and price assumptions for Alrosa, and now assume a significant working capital build up, which will weaken the FCF further. We have cut our 2020E FCF by 64% and now assume a RUB 29.5bn 2020E dividend (only a 5.5% yield). Alrosa’s leverage will rise (we assume 0.8x ND/EBITDA by the year-end), but the balance sheet will remain strong, so we do not worry about solvency. The weaker rouble compensates partly for lost sales and we expect a recovery in demand beyond 2020E, so we still see long-term value in the stock; hence, we maintain our BUY recommendation. Furthermore, the Russian government is considering buying Alrosa’s production while sales are weak, in order to support the company, so sales may not be as weak as we now forecast. However, 2020E will now be a very tough year and the recovery is likely to be slow, so we see better value elsewhere in M&M, particularly in the steel names at this time. We have lowered our price target (PT) by 16%, to RUB 70.3/share, and we retain our BUY on the stock.