Perfect Storm

We remain cautious on Lafarge as weak cement demand persists. In addition, stiff price competition remains, while the coal price continues its uptrend posing downside risk to Lafarge’s earnings. We increase our FY18-19E loss by 5-11% on higher production costs and lower average selling prices (ASPs). We maintain our SELL rating with a lower TP of RM2.50 based on a Price/book of 0.8x, near its lowest level of 0.7x in Oct-08. We change our valuation methodology from DDM to Price/book as we expect Lafarge to remain in the red for FY18-19E, while FY20E earnings uncertainty remains.

Soft Cement Demand Remains

Domestic cement production (which provides an indication of cement demand) remains weak as it fell another 14% yoy in 4M18 after posting a 2% yoy decline in 4M17, underpinned by the subdued property market and delays in the roll-out of new infrastructure projects. The growth in construction work done has slowed to 5.9% yoy in 1Q18 (vs 9.7% in 1Q17), while housing starts have declined by 18.2% yoy to 27,551 units in 1Q18.

Extended Stiff Price Competition

The current oversupply situation continues to put downward pressure on ASPs due to stiff price competition among the cement manufacturers. Our channel checks show that bag and bulk cement rebates remain high at 23% and 44% in May-18, respectively. The average coal price continues to be on an uptrend, increasing 22% yoy to US$100/mt in 4M18. This is negative for Lafarge as coal contributes more than 27-29% of its production costs. Weak cement demand, depressed selling prices and high production costs will likely persist in 2H18, negatively affecting Lafarge’s performance.

Wider Losses Expected

We increase our FY18-19E loss by 5-11% and reduce the FY20E EPS by 18% after imputing lower ASPs and higher coal costs. We also assumed higher interest expenses as we expect an increase in debt to fund its capex, but we believe Lafarge has a strong balance sheet and will be able to weather the downturn, given its low net gearing of 0.13x in 1Q18. We expect its free cash flow to turn positive in FY19 as the integration costs from the LafargeHolcim merger should be fully incurred by end-2018 and losses narrow.

Maintain SELL With Lower TP of RM2.50

We remain cautious on the stock due to the sluggish domestic cement demand and prolonged stiff price competition. We reaffirm our SELL call on Lafarge, with a lower TP of RM2.50 based on a Price/book of 0.8x (close to its lowest level of 0.7x in Oct-08). The key upside risks are higher ASPs if the cement price war eases and lower coal prices cutting its production cost.

Source: Affin Hwang Research - 22 Jun 2018