ICICI Direct : Buy JK Cement

(BSE: 532644 | NSE: JKCEMENT | ISIN: INE823G01014)

JK Cement is a play on the booming cement market in the northern region. The company’s aggressive expansion-cum-cost cutting plans coupled with low valuations (enterprise value per tonne of $91) make the stock a good medium to long-term investment.

Company Background JK Cement was formed following the de-merger of JK Synthetics in November 2004. JK Synthetics was involved in manufacturing man-made fibres and cement. However, it incurred heavy losses and its net worth was eroded. Subsequently, it de-merged its cement division into a new company, JK Cement. The company is one of the leading grey cement manufacturers in northern region. It has plants at two locations in Rajasthan _ Nimbahera with three kilns and 2.8 million tonne per annum (mtpa) capacity, and Mangrol with a capacity of 0.75 mtpa. Recently, the company expanded its grey cement capacity by 0.5 mtpa, increasing its installed capacity for grey cement to 4.05 mtpa.

The company is also the second largest white cement manufacturer in the country with an installed capacity of 0.3 mtpa. Recently, it expanded its white cement capacity by 0.5 lakh tpa. All its plants are located close to its mining reserves. Mining reserves are estimated to have a lifespan of 40 years. The company has a strong dedicated marketing network.

Investment Rationale Captive power plant to boost earnings Power is a key cost component for cement plants. JK Cement has addressed this key issue by setting up its own captive power unit. Currently, the company pays Rs 4.70 per unit of power. It sources its requirement from the Rajasthan State Electricity Board and a small part from captive diesel generating sets. After the captive power plants are commissioned, we expect cost of generation to come down to Rs 2 per unit. So assuming the company uses the current 88 units of power consumption per tonne, we expect savings of approximately Rs 240 a tonne, which will be reflected during FY08. This plant will meet the company _s entire power requirement and will help it reduce power costs. Savings from the captive power plant are expected to be around Rs 76 crore from FY08E onwards.

Aggressive expansion plans to double capacity by 2009 The company plans to set up a green-field plant of 2.5-3 million tonnes in northern Karnataka. The project will be funded through debt and internal accruals in a 50:50 ratio. There are not many cement plants in the region and the company will be able to cater to Karnataka, Goa and parts of Maharashtra . The location will also shield it from region-specific downturns apart from giving it a presence in the southern region. It will also enhance the company _s stature from a regional player to a national player.

De-risked business model JK Cement white cement business accounts for almost 17% of total revenue at Rs 159.84 crore. There are only three manufacturers of white cement in India . JK White and Grasim White have a national presence, while Travancore Cement is restricted to Kerala and Tamil Nadu. White cement fetches higher realisations (sells at 2½ times that of grey cement). It is not a cyclical business and a steady revenue contributor. White cement sales are primarily in the domestic market. The company also exports to South Africa , Nigeria , Singapore , Bahrain , Bangladesh , Sri Lanka , Kenya , Tanzania , UAE and Nepal .

Cement/clinker production to improve The company _s cement/clinker conversion ratio is 1.14, which is below the industry average of 1.30. The company is targeting 75-80% of blended cement and overall ratio about 1.22. This was reflected during latest Jan-Mar 2006 where the proportion of blended cement increased to 60% against the average of 30% in the last quarter. We expect availability of blended material to increase in the northern region on account of capacity expansions planned by the steel and power sector going forward. .

Proximity and access to large limestone reserves JK Cement has access to large reserves of limestone for producing both grey and white cement. Based on independent geological surveys of different mines during 1996 to 2001, the limestone reserves are sufficient to support its current and planned capacity for approximately 40 years. Further, the manufacturing plants are located close to the limestone reserves, resulting in lower transportation costs. The mines that supply the white cement plant at Gotan also have white clay, an important additive necessary for white cement production.

Quality products, strong brand name The company has built a strong reputation by consistently providing high quality products. There is strong customer awareness of the company _s brands, JK Cement (Sarvashaktiman) for grey cement in its principal market in northern India , and JK White (Camel) for white cement across India . Its brand name and reputation provides the company with a competitive advantage in ensuring that cement dealers carry products.

Risks & Concerns Rising pet coke prices JK Cement has plans to run its plant on 90% pet coke. Any change in pet coke price will impact profitability. Change in government policy Cement is a low-value, bulky commodity. Transportation costs account for a significant expenditure to the industry. Further, most transportation regulations (like roads and railways) are governed by government policies. Any increase in cost resulting from change in government policy may have adverse effect on the profitability of the company.

Financials Sales to show healthy growth JK Cement is set to witness strong growth in turnover on account of additional production due to enhancement in grey and white cement capacity. Higher blended cement, firm trend in cement prices in the northern region and the cyclical upturn in the northern and central regions will also boost sales. We expect company’s net sales to grow from Rs 883.08 crore in FY06 to Rs 1950 crore in FY09E at a CAGR of 29%.

Operating margins to improve We expect JK Cement’s operating profit margin to improve from 16.01% in FY06 to 33.9% in FY09E. Reduced cost due to captive power plant and improved price realisations will help the company improve operating margin level despite increase in power and fuel cost.

The captive power plant will add a significant cost saving over the units using grid power. Cost savings for the plant per unit are estimated to be Rs 2.70 per kW. We expect net profit to post a CAGR of 102% during FY06-09E. We expect the company to post a net profit of Rs 273 crore in FY09E from Rs 32.56 crore in FY06 (CAGR of 107%) on the basis of improved realization, capacity additions and cost savings.

Valuations On an EV/tonne basis, the stock is quoting at US$91 per tonne, which is low compared to the deals that have happened recently (US$150-$200 per tonne). We have valued the stock at an EV/tonne of US$112 per tonne, which yields a value of Rs 235 per share. Even at this price, the stock will be at a discount to its peers.

Technical Outlook On the weekly charts stock has been trading in the range of Rs 186- 205 Rs level from the long time but could not managed to close above Rs 201 level, stock was more trading in the consolidation phase , but this week we have seen inspite of the volatile week stock was up 3% and close above Rs 201 level in the current week with average volume was three times greater then the previous week which gives a strong signal that the stock has a strong accumulation at around Rs 190-195 levels which can be considered as a strong buying support. Stock is currently trading above its 200EMA. On the technical side stock has a strong support at Rs 184 level closing below this level could further move down the stock to Rs 176 levels. On the higher side stock could face a strong resistance at Rs 219 levels closing above this could further move the stock to Rs 225 & 234 levels very soon.

Other Info: Corporate Announcements | Board Meetings | Financial Results | Corporate Actions
Company Address | Shareholding Pattern | Results Comparison | Annual Reports

Every week ICICIdirect research team will select a stock based on fundamental and/or technical parameter, which is likely to return 20% over a 3-6 month perspective.

Investment in equity shares has its own risks. Sincere efforts have been made to present the right investment perspective.The information contained herein is based on analysis and up on sources that we consider reliable. I, however, do not vouch for the accuracy or the completeness thereof. This material is for personal information and I am not responsible for any loss incurred based upon it.& take no responsibility whatsoever for any financial profits or loss which may arise from the recommendations given in this blog.