We believe the cement price war will remain given the current oversupply situation. However, selling prices will likely improve in 2019- 20E as cement players reduce rebates to pass through higher fuel and raw material costs. We expect domestic cement demand to improve as construction activities pick up in 2H19E. Lafarge’s new senior management team put in place early this year is a positive, given their extensive experience in the sector. We upgrade our call from Sell to HOLD on valuation grounds, with a lower TP of RM2.10 based on a P/B of 0.8x. We believe current valuations are fair given positive long-term prospects for the sector despite the lack of catalysts in the near term.

Improve Selling Prices on Expectation of Lower Rebate

The cement oversupply situation continues to put pressure on the average selling prices (ASPs). However, we believe ASPs are unlikely to decline further as most players are currently selling at lower than EBITDA-breakeven price. Additionally, rising raw material and fuel costs will likely pressure manufacturers to reduce cement rebates. Hence, we believe ASPs will likely remain flat for the rest of the year and improve in 2019-20E.

Coal Prices Are Expected to Ease in 2019-20E

Year-to-date, coal prices have increased by 25% yoy to US$104/MT. In Oct18, coal prices averaged at US$110/MT, higher by 14% yoy, but down by 3.7% mom. We believe coal prices will ease in 2019-20E, averaging around $100/MT-$104/MT as global economic growth moderates.

New Management Expected to Improve Operation

Lafarge put a new senior management team in place early this year. We believe this is positive, given their extensive experience in the cement industry. To address the losses, management is focusing on cost optimization initiatives including flattening the organization structure, giving up its office in Petaling Jaya and using more petcoke and alternative fuel production (RDF) in the fuel mix. We expect FCF to improve on the back of tighter working capital control and limited capex spending. However, we note that it will take some time to achieve cost optimization, hence we expect profitability in 2020E.

Upgrade to HOLD With a Lower TP of RM2.10 (from RM2.50)

We raise our FY18-19E losses by 4-35% after accounting for higher coal and energy prices. We also lower our TP to RM2.10 after rolling forward the base year to FY19E (loss reduces book value) and apply the same P/B of 0.8x. We upgrade our call to HOLD from Sell as the shares are trading close to our new TP. We believe long-term prospect of the sector is still positive, and this should support the stock price. Key upside/downside risks include (1) higher/lower ASPs as the price war eases/prolonged; (2) faster/slower-than-expected recovery in property and construction sector; and (3) lower/higher coal prices.

Source: Affin Hwang Research - 14 Nov 2018