Sell Ambuja Cements; target Rs 103: Citigroup

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Citigroup is bearish on Ambuja Cement . It has recommended to sell the stock and has expected target price to go down to Rs 103.

 

Citigroup research report on Ambuja Cement

 

Company description Ambuja Cements (ACL) is one of India's lowest-cost cement producers and enjoys relatively high EBITDA margins due to its focus on the retail cement market (giving higher realizations), modern plants with low power and fuel consumption, and use of sea transport. Its largest markets are North India (38% of sales volumes) and West India (33%). Its merger with Ambuja Cement Eastern (ACEL) gives it a presence in the eastern market (13% of sales). Holcim holds a 32% stake in ACL. Both ACC and ACL give the Holcim Group a total capacity of 36m tpa in India, which should rise to about 50m tpa by 2009E.  

 

Holcim makes open offer at Rs154/share - Holcim which owns 32.3% of Ambuja Cements (ACL) has decided to buy 60m shares (3.94%) at Rs154/share from the founding families at a total cost of USD 220 million. With this purchase, Holcim exceeds the 5% creeping acquisition limit for this fiscal and thus has to make an open offer to other shareholders under the Indian takeover code. 

 

Holcim stake to rise to more than 56% 

 

Assuming the 20% open offer is accepted in full, Holcim will pay a further USD 1.12billion taking its stake to around 56.3%. The open offer is expected to be completed by end-November 2007. 

 

Premium price for successful completion 

 

The part sale of the balance (4.7%) strategic holding by the founding families is earlier than planned but has allowed Holcim to raise its stake above 51% in one transaction. The offer price values ACL at a CY07E P/E of 14.8x P/E, EV/EBITDA of 9.2x and EV/t of aapprox USD 270. This premium valuation may not reflect what Holcim may pay in the future for raising its stake. The price is at a premium to the earlier open offer price (in Jan 2006) of Rs90/share (Rs105/share to the founding families).

 

Provides support, but concerns remain

 

The Holcim announcement has helped cement stock valuations during trading today. The ACL stock price should also be supported at current levels at least until the open offer is completed. However, as indicated in our recent note dated 16 August 2007, Import Threat Looms Closer, we are concerned about the impact on sentiment and prices with cement imports likely from Pakistan in the next few weeks. Additionally, we expect a supply surplus in CY08. Reiterate Sell (3Million). 

 

Valuation

 

 We use EV/EBITDA to value ACL, a common metric used for cement companies. We have set our target price at Rs103 based on a 10% discount to the historical seven-year average of 8.4x, which gives us an EV/EBITDA of 7.5x based on CY08E. At our target price ACL would be valued at an EV/tonne of USD 180 for CY08E. The 10% discount to the seven-year average is due to the unfavorable government measures that attempt to take away the last leg of pricing upside. In recognition of ACL's higher margins and efficiency, we use only a 10% discount to the seven-year average, rather than the 15% applied for ACC.

 

Risks

 

We rate ACL Medium Risk, based on our quantitative risk-rating system, which tracks 260-day historical share price volatility. The key upside risks to our target price include: 1) further delays in industry capacity; 2) better-than-expected domestic demand growth; 3) a depreciation of the rupee versus the USD; we assume an appreciating rupee; and 4) changes in the duty/tax regime in favor of producers.