Elixir Securities Limited – Elixir Insight

Karachi, October 16, 2018 (PPI-OT): Pakistan Cement Sector – Lower GM Expected To Dent 1QFY19 Earnings

We project DGKC’s 1QFY19 EPS to be 65%YoY/74%QoQ to PKR2.3, due to GM shrinking by 19pptYoY to 16%, 2.6xYoY increase in finance cost and normalized tax rate (in contrast to Tax Credit taken in same period last year on its Hub plant).

CHCC’s 1QFY19 EPS is expected to decline by 42%YoY to PKR1.99, owing to 10%YoY decline in dispatches and 7pptYoY contraction in GM to 18% with increase in energy costs (average coal price up 19%YoY).

FCCL’s EPS is expected to improve by 48%YoY to PKR0.48 in 1QFY19 owing to 4%YoY growth in local dispatches and 7pptYoY improvement in GM (as output from operational line II replaced expensive outsourced clinker).

Our revised down Jun-19 PT of DGKC, CHCC and FCCL (after incorporating higher risk free rate and lower dispatches forecast) stand at PKR117, PKR72, PKR22 per share offering 42%, 25%, and 11% capital upside, respectively.

DGKC – 1QFY19 EPS Expected at PKR2.3: We expect D.G. Khan Cement Limited (DGKC) 1QFY19 EPS to decline by 65%YoY/74QoQ to PKR2.3. The decline in earnings is expected to be a result of 1) 19pptYoY/6pptQoQ compression in GM to 16%, 2) 2.6xYoY increase in finance cost and normalized tax rate (in contrast to Tax Credit taken in same period last year on its Hub plant).

On yearly basis, constricted GM during 1QFY19 are expected to be a result of 1) 19%YoY/7%QoQ depreciation in average PKR/USD, 2) 19%YoY/4%QoQ increase in average international coal prices to USD102.37/ton, and 3) higher Federal Excise Duty (FED) of PKR1,500/ton (from earlier of PKR1,250/ton). Whereas sequential decline is a result of flatter prices in South Region compared with 5%QoQ increase in North’s average cement prices to PKR577/bag. However, DGKC was able to post 9%YoY/16%QoQ growth in dispatches as its 2.8mntpa expansion came online in Jun-18 end.

CHCC – 1QFY19 EPS Expected at PKR1.99: We expect Cherat Cement Limited (CHCC) 1QFY19 EPS to be 42%YoY lower but improve by 5%QoQ to PKR1.99. The yearly decline in earnings is reflective of industry-wide phenomenon of lower GM (7pptYoY reduction in GM to 18%), however, sequential growth is expected to be a result of relatively stable GM (with passing on costs in North Region) together with 6%QoQ growth in dispatches.

FCCL – 1QFY19 EPS Expected to Grow by 7%YoY: We expect Fauji Cement Limited (FCCL) 1QFY19 EPS to grow by 48%YoY to PKR0.48 led by 7pptsYoY improvement in GM to 24% and 2% growth in dispatches. However, earnings are expected to be 50%QoQ lower due to 2pptQoQ lower GM and absence of tax credit (BMR of Line II that came online in 3QFY18).

YoY improvement in GM is expected to be a result of lower cost of production (after resumption of Line II’s operations translating into savings through in-house clinker production). Sequential decline in GM is likely attributable to higher costs with fixed cost spread over lower dispatches as utilization level came down to 82% from 91%.

Revenue of the company is expected to improve by 5%YoY on the back of growth in local offtakes (up 4%YoY) as the company resumed production from its II line in 3QFY18. On QoQ basis, revenue is expected to decline 6%QoQ on account of lower total offtakes (down 12%QoQ). The reason behind lower than expected decline in revenue on QoQ basis can be linked with recovery in cement prices in north (up 5%QoQ).

Revising Estimates and PT’s – Maintain BUY: We have revised our estimates incorporating a higher risk-free rate (i.e. 11%) and lower domestic demand forecast of 0% in FY19 for FY19 (compared with 16%YoY in FY18) owing to 1) expected slowdown in economy, 2) lower Public Sector Development Program (PSDP) spending to curtail fiscal deficit and 3) drop in construction activities amidst rising interest rates (i.e. Home Financing). Our average long term domestic demand growth forecast stands at 5% in FY20 and onwards owing to expected slowdown in GDP growth. Our revised down Jun-19 PT of DGKC, CHCC and FCCL stand at PKR117, PKR72, PKR22 per share offering 42%, 25%, and 11% capital upside, respectively.