The Ramco Cements - Strong Business; Attractive Valuation - Nirmal Bang

We have assigned a Buy rating to The Ramco Cements (TRCL), one of the largest cement producers in the southern region, considering its: (1) Cost efficiency (100% captive power plant and lower operating costs) and premium product pricing, resulting in superior profitability, (2) Biggest beneficiary of demand traction in the southern region (strong brand image and incremental capacity), (3) Completion of major capex, and robust operating cash flow expected to deleverage the balance sheet and improve return ratios, and (4) Attractive valuation. We have valued the stock based on EV/EBITDA multiple of 7x (~25% discount to the past 10 years' historical average and ~30% discount to large-cap stocks' valuation) and implied EV/tn of US$90 (30% discount to replacement cost) with a target price of Rs231.

Cost efficiency, premium product pricing: Despite lower capacity utilisation in the southern region, TRCL is among the lowest-cost cement producers in India, with operating costs (excluding freight costs)/tn at Rs2,459 versus industry average of Rs2,564 in FY13. This was primarily driven by higher usage of captive power, strategic location of plants, investment in operating capex and a low fixed-cost base. All this places TRCL in a better position to handle the downturn. TRCL registers higher realisation than its peers led by a strong brand image in its prime markets and a major presence in the trade segment which enables it to get higher realisation versus other players, leading to superior profitability.

Robust operating cash flow to deleverage balance sheet: TRCL has completed major capex in the past five years (integrated capacity at 12.5mt, grinding capacity of 14.5mt) which led to a rise in its debt from Rs7.0bn in FY07 to Rs 26.6bn in FY13. The company has no major capex plan for the near future and is expected to generate free cash flow (post capex) of Rs10bn over FY14E-FY16E, which will be used to repay debt. This will deleverage its balance sheet (from net debt-equity ratio of 1.0x in FY14E to 0.5x in FY16E) and improve the returns ratio (from RoE of 7.0% in FY14E to 16.2% in FY16E).

Biggest beneficiary of likely demand traction in the southern region: TRCL is among the largest cement producers in the southern region suffering from an oversupply situation since the past four years following large capacity expansion and muted demand growth. We believe the likely traction in the region's demand will provide higher delta to the sales volume of TRCL, which has a strong brand image and also incremental capacity.

Attractive valuation: TRCL stock trades at P/E multiple of 8.2x, EV/EBITDA multiple of 5.6x and EV/tn of US$59 on FY16E earnings, which is at a significant discount to its historical average and large-cap stocks' valuation. We have valued TRCL at 7x EV/EBITDA, which is at a ~25% discount to its past 10 years' average one-year forward EV/EBITDA multiple (which captures the upcycle/downcycle). Based on this, we have arrived at a TP of Rs231 (implied EV/tn of US$90) for TRCL and assigned a Buy rating to it. We believe the multiple of 7x and EV/tn of US$90 for such a cost-efficient player with better operating performance is conservative and factors in the concerns over the corporate governance issue (CSR spend) and its presence in a region facing cement oversupply.

Source : Equity Bulls

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