Investment Highlights

• We maintain our UNDERWEIGHT recommendation for Lafarge Malaysia (Lafarge) with a lower FV of RM1.50 (from RM1.52 previously) based on 0.5x its book value (Its book value has shrunk due to the continued losses in FY18). This is in line with Lafarge’s price-to-book ratio of 0.5x during the last trough cycle of the cement sector in Peninsular Malaysia (Exhibit 1).

• We now project wider net losses of RM225.1mil and RM93.1mil in FY19–20F (from net losses of RM196mil and RM47.8mil respectively previously) as: 1. We reduce our FY20F assumptions for both average selling price (ASP) and sales volume for cement – the ASP to RM200/tonne (from RM210/tonne), while the sales volume to 7mil tonnes (from 7.2mil tonnes) – as we have yet to see any green shoots of recovery in the local cement sector; and 2. We project higher interest expenses in FY19–20F due to higher working capital requirements.

• For FY19F, we are keeping our ASP and sales volume assumptions of RM190/tonne and 6.5mil tonnes, while for FY21F, we assume an ASP and sales volume of RM210/tonne and 7.4mil tonnes respectively.

• While the potential revival of the East Coast Rail Link (ECRL) project is positive to Lafarge, the impact is rather insignificant. We estimate that the project will require about 1–1.3mil tonnes of cement over a construction period of four years, translating to 300,000 tonnes per annum. This is equivalent to only 2% of the annual cement consumption in Peninsular Malaysia currently.

• Our forecasts have yet to reflect this additional demand for cement from the ECRL project. If we do so, Lafarge’s FY20–21F net losses will be reduced by RM13mil each.

• Meanwhile, there has been speculation that LafargeHolcim (parent of Lafarge Malaysia) may be looking to exit Malaysia, following the disposal of its Indonesian unit, Holcim Indonesia, to PT Semen Indonesia in Nov 2018. The deal valued Holcim Indonesia with an annual installed capacity of 14.8mil tonnes at an enterprise value (EV) of US$1.75bil (RM7.2bil), translating to an EV/tonne of US$118). According to Bloomberg, the sale had drawn interest from “Japan’s Taiheiyo Cement Corp, Malaysian tycoon Tan Sri Francis Yeoh, the biggest Indonesian cement maker PT Semen Indonesia, and the local subsidiary of Germany’s HeidelbergCement AG”.

• Hypothetically, if LafargeHolcim is to part with Lafarge Malaysia at the same EV/tonne valuation of US$118, Lafarge Malaysia with an annual installed capacity (clinker) of 9.2mil tonnes in its entirety could be valued at RM3.7bil (9.2mil x US$118 x RM4.10:US$1 minus RM0.75bil net debt), translating to RM4.35/share. At its current share price of about RM2.50 and market capitalisation of RM2.1bil, the implied EV/tonne is only at US$76.

• The outlook for the cement sector in Peninsular Malaysia will remain challenging over the medium term due to the wide gap between the local demand vs. installed capacity. We estimate that the local clinker capacity in Peninsular Malaysia now stands at 26mil tonnes, as compared with our projected local demand at only 16mil tonnes in 2019 and 17mil tonnes in 2020. Apart from the hefty capacity cost (depreciation), the absence of pricing power in a glut means players are also unable to pass on higher production cost to end users. Based on historical statistics, we estimated that in general, players could only turn profitable when the local demand recovers to 20mil tonnes and above annually.

Source: AmInvest Research - 10 Apr 2019