See better cement pricing post Jaypee deal: Edelweiss Sec

Jaypee Group is likely to sell its cement business toUltraTech Cement in a deal valued at around USD 700 to 890. The stake sale may be finalised by the year end and the proceeds would be used for meeting capacity expansion requirements and for retiring its debt.

Prasad Baji of Edelweiss Securities said there is no official announcement on the deal and there is likely to be a number of twists and turns in the deal. According to him, Ultratech will be keen about the acquisition and since Jaypee is looking at exiting its cement business, the deal maybe struck soon.
Moreover, if a brand like Ultratech takes over Jaypee's cement unit, it is likely to add value to the business and bring about better cement pricing, feels Baji. Here is the edited transcript of the interview on CNBC-TV18. Q: What did you make of the deal and what kind of impact do you think it has immediately for Jaypee Associates?
A: Firstly, we have to get an official announcement on the deal. There have been a lot of twists and turns in the stake sale that Jaypee has been doing. Of course the latest news is about Ultratech buying it.
Clearly, I think what Ultratech is looking at is that considering the challenges in Greenfield projects and any kind of expansion, it will save them three years of setting up and that is the key interest. It is also a 5 million tonne kind of capacity. It will add around 10 percent to their overall capacity.
I think these are the things that are attracting Ultratech to a deal and Jaypee of course has stated an intention to exit the cement business to the extent of this piece at least and deleverage. Q: There has been also a lot of give and take and to and fro on the valuation at which this deal might be done. We hear a range from USD 160 to USD 180 depending on which party it is talking to, what looks like a realistic valuation at which such a deal could be concluded?
A: If you look at the precedence of M&A transactions in the cement industry, they have varied between USD 160 and has gone as high as USD 200. Certainly, this is within that range. I think definitely Jaypee will push for USD 180-185 in my view. It is too early to conclude whether Ultratech will agree to that but, I think what Ultratech will look at is the savings in time.
Also what Ultratech brings to the table post the acquisition is better pricing of cement due to its recognition as a more premium brand in the market. It will potentially help Ultratech give a higher value to this business. Q: Fundamentally, where do you think the cement cycle is because while one understands the imperative to deleverage the balance sheet, could Jaypee Associates be selling off a 5 million tonne capacity at a time when capacity utilization might improve dramatically over the next two-three years and they are parting with the priced assets?
A: Yes, I think cement cycle is starting to look up. In fact, in the recent quarters we have been positively surprised by how cement prices have behaved. Capacity utilization will move up but, we do not think it will tear away. We will move up from 78 percent level to an 82 percent level at the all India level.
In pockets such as in north I think we will see much tighter utilization at 90 percent level. I think Jaypee Associates' objectives are different. Cement is probably not a very core business for them. I think they have their own corporate objectives here as such.
From Ultratech's perspective, I think they continue to have a stated intention of growing in the business, they are the largest entity and obviously they want to add scale. I do not think that it is going to be an upcycle but it is not a tear away cycle at this stage.
_PAGEBREAK_ Q: Does it change the way you view Ultratech though in terms of its revenue potential going ahead?
A: If we look at the numbers, at the top level it is a 10 percent addition in terms of capacity and volume. Also we are guessing that the EBITDA per tonne will be lower than Ultratech’s EBITDA per tonne to begin with. There will be a slight initial dilution in margins but, I think as time progresses, as the Ultratech brand is established for this, they will get a slight premium and we expect the margins to come back to the regular Ultratech level. It maybe slightly margin dilutive to begin with in the first year or so but, after that I think they will normalise the margins. Q: What exactly is the situation on ground because about a fortnight back reports seem to indicate that prices have come off anywhere between Rs 20 and Rs 25 a bag, so things had gotten a bit more sticky for cement?
A: Yes, I think in this quarter there will be some price declines. From the previous quarter, we expect 2 to 3 percent decline in cement prices. But, I think our call is not honestly a quarterly call. I think on a quarterly basis, commodity prices in general tend to be volatile.
What we have seen in the past is that whenever the third quarter has been weak, Q4 has bounced back even more strongly. We expect this to be a temporary phase of weakness, we expect the March quarter and the June quarter to be very strong. So any weakness in cement stock as a result of this temporary blip in prices should be seen as a buying opportunity. Q: Where does this leave the Andhra plant of Jaypee Associates because I believe Ultratech is not interested in that, when do you think that sale can be concluded and what kind of parties would be interesting you think in that facility?
A: We do not have any updates in that regards, Jaypee has been scouting for a buyer there as well. I think one of the issues in the Andhra belt has been the excess supply which is much higher in the state than in general. Also the excess supply is much higher in the south. I think there is some kind of cautiousness from the buyer's side. One can only say that if things improve in the south over the coming years, we could see a better interest in that asset.