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December 04, 2015 MORNING BRIEFING Pakistan Cement Sector Cements: Price war unlikely even Faizan Ahmed though expansions loom w [email protected] + 9221 111-574-111 KSE100 Index: Closing 32,565.14 ↑ (172.22) The bar of skepticism for the cement industry is always set high by investors in the country due to multitude of reasons with alarm horns being sounded every time there is any news regarding the industry. Our analysis suggests that the pendulum swings between the overrated pessimism and irrational exuberance are imbalanced and past motives which led manufacturers to a price war are not applicable under current circumstances. Ext: 3103 Expected New Capacities - North (mn tons) FY18 FY19 FY20 With Pakistan set to see a period of high GDP growth post initiation of CPEC in the next 5 years, we believe that the country is inching towards a construction boom driven by strong housing and infrastructure spending by the govt and households. Bestw ay Cement* 0.00 0.00 0.00 Cherat Cement** 0.00 0.00 0.00 Chinese Cement Plant 0.00 0.00 3.00 Kohat Cement*** 0.00 0.00 3.00 We expect this to translate into strong local dispatches ahead, whereas share of exports in total dispatches is likely to fall to negligible levels. Maple Leaf Cement**** 0.00 0.00 3.00 Lucky Cement 0.00 2.30 0.00 Don’t let yourself be fooled by price war rumors Total 0.00 2.30 9.00 The bar of skepticism for the cement industry is always set high by investors in the country due to multitude of reasons with alarm horns being sounded every time there is any news regarding the industry. Off late, rumors have been circulating in the market pertaining to a possibility of another round of price war between the manufacturers post COD of new capacities which are expected to come online by the end of FY20F. Our base case forecasts assume 7yr CAGR of 7.5% in local dispatches which will be sufficient to counteract the decline in export dispatches of local manufacturers. Adding to our conviction are the current capital commitments of local manufacturers (coal based power projects, capacity enhancements, conglomerate type diversifications) which we believe will hinder cost leaders to make an effort to wipe out smaller players by breaking pricing discipline and selling their cement at lower prices. Expected New Capacities - South (mn tons) FY18 FY19 FY20 ACPL (Hub Chow ki, Lasbella) 0.00 1.30 0.00 Chinese Cement Plant 0.00 0.00 3.00 LUCK (Indus Highw ay, KHI) 0.00 0.00 0.00 DGKC (Hub Chow ki) 0.00 2.60 0.00 Total 0.00 3.90 3.00 Total Additions 0.00 6.20 12.00 Source: JS Research * Hattar and Chakwal incl Mustehkam Cement ** Expansion coming online in FY17 Uptrending local dispatches, declining share of exports in total (mn tons) *** Assumed keeping past history in view 60.0 **** Assumed but likelyhood remains low 50.0 40.0 30.0 20.0 10.0 Total Local Dispatches FY23E FY22E FY21E FY20E FY19E FY18E FY17E FY16E FY15A FY14A FY13A FY12A FY11A FY10A FY09A FY08A FY07A FY06A FY05A FY04A FY03A FY02A FY01A FY00A - Total Export Dispatches Source: JS Research Overrated pessimism? Our analysis suggests that the pendulum swings between the overrated pessimism and irrational exuberance in terms of cement sector stock prices are imbalanced and past motives which led manufacturers to a price war are not applicable under JS Research is available on Bloomberg, Thomson Reuters, CapitalIQ and www.jsgcl.com Please refer to the important disclosures and disclaimer on the last page Page 1 December 04, 2015 MORNING BRIEFING current circumstances. We rule out possibility of a price war in the foreseeable future as we believe that capacity utilization levels of the industry will continue to improve till FY18F, drop in FY19F and FY20F with cumulative additions of estimated 18.20mn tons (conservative estimates) and start rising again to reach 86% till the end of FY23F. With overall tilt shifting towards local dispatches (falling exports assumed), we believe profitability of local cement players is bound to increase as local retention prices remain higher than export retention prices. Inching towards a construction boom With Pakistan set to see a period of high GDP growth in the next 5 years, we believe that the country is inching towards a construction boom driven by strong housing and infrastructure spending by the govt and the households. Local dispatches in the country have grown by a 23yrs (FY92-FY15) CAGR of 5.8% against an average GDP growth rate of 4.3% during the same period. With our conservative FY16-FY23 average GDP growth forecast of 4.5%, we eye 7yr CAGR of 7.5% in local dispatches of the country and a negative 7yr CAGR of 9.7% in export dispatches. Accordingly, our forecasts assume a conservative 7yr CAGR of 6% in total dispatches of the industry against historical 23yrs CAGR of 6.9%. We believe that this is a very realistic scenario keeping in view the demand expected to emanate from (1) CPEC, (2) private sector housing schemes and (3) general replacement type construction activity due to benign inflationary outlook. Still attractive after incorporating massive new capacities Plugging growth forecasts into our model and incorporating cumulative capacity additions of a massive 18.20mn tons til the end of FY20, we expect capacity utilization to stand at 76% in FY20 and reach 86% by the end of FY23 even after incorporating conservative GDP and dispatches growth forecasts. Pakistan m arket statistics (Dec 03, 15) KSE-100 Index 32,565.14 Previous KSE-100 Index 32,392.92 172.22 Change from last closing 0.53% Change from last closing (%) 6,900.63 KSE Market Cap. (Rs. bn) KSE Market Cap. (US$ bn) 65.38 Total Volume (Shares mn) 119.90 Traded Value (Rs. bn) 7.28 Traded Value (US$ mn) 68.93 19,109.41 KSE-30 Index 30.35 Change from last closing Change from last closing (%) 0.16% KSE Futures Volume (Shares mn) 23.92 2,166.87 KSE Futures Value (Rs. mn) 2.69% KSE Futures Spread Source: KSE KSE valuations 2013A 2014A 2015A/E P/E (x) 9.0 7.6 6.7 P/BV (x) 1.8 1.6 1.6 Div. Yield (%) 5% 6% 7% 11% 18% 14% Earnings grow th Source: JS Research Capacity utilization has generally moved with GDP growth rate 150% 10.0% 8.0% 6.0% 4.0% 2.0% 0.0% 100% 50% GDP Growth % (RHS) FY22E FY20E FY18E FY16E FY14A FY12A FY10A FY08A FY06A FY04A FY02A FY00A FY98A FY96A FY94A FY92A 0% Capacity Utilization Source: JS Research Also in Focus Indus Motor increases prices of new models Indus Motor Company (INDU) has increased prices of various car models by Rs15k-30k yesterday with immediate effect on new orders. The increase in prices is in response to 1% higher duty imposed on import of CKDs in the mini-budget. Page 2 December 04, 2015 MORNING BRIEFING Disclosure JS Global hereby discloses that all its Research Analysts meet with the qualification criteria as given in the Research Analysts Regulations 2015 (‘Regulations’). Each Analyst reports to the Head of Research and the Head of Research reports directly to the CEO of JS Global only. No person engaged in any non-research department has any influence over the research reports issued by JS Global and/or no person engaged in any non-research department (other than the CEO) has any influence on the performance of the Research Analysts or on their remuneration/compensation matters. 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