As the Street continues to speculate on Ultratech potentially acquiring the Gujarat-based cement assets of Jaiprakash Associates (JPA), we highlight that an aggressive acquisition price (coupled with already high capex commitments) will be a drag on Ultratech cash flows, which are already significantly inferior to peers, without Ultratech being able to significantly benefit from expanded capacities. We maintain our Sell rating with a target price of R1,600.
According to unconfirmed media reports, Ultratech is looking to acquire the cement assets of JPA for $700-890m, which will give it access to 4.8 mtpa of cement capacities in Gujarat. The acquisition will further strain Ultratechs free cash flow (FCF) generation its FCF generation has lagged peers due to ahead-of-industry capex plans (including meaningful maintenance capex).
Ultratech is looking to commission 10 mtpa of capacities by the end of FY2013. We highlight the precedent of the past three large capacity addition projects of the group, which (i) were delayed by two years from their original commissioning schedule (Kotputli & Tadipatri) and (ii) clocked suboptimal utilisation in the 12 months following commissioning of the plants.
Jaypee Cement Corp: still finding its feet: In April 2012 JPA demerged its cement capacities at three locations: Wanakbori, Gujarat (2.4 mtpa), Sewagram, Gujarat (2.4 mtpa) and Jaggayapeta, Andhra Pradesh (5 mtpa) and transferred them into a wholly owned subsidiary, Jaypee Cement Corp. (JCCL), for Rs40 bn.
In February 2011, JPA acquired 100% stake in JCCL, earlier known as Zawar Cement Private Ltd (ZCPL). ZCPL was incorporated as a project SPV to execute 3.0 mtpa cement grinding capacity at Gulbarga, Karnataka, in 2010, with estimated capex of R140 bn and due to be commissioned in September 2013. JCCL reported consolidated revenue of R12.4 bn and net loss of R5.4 bn in FY2012. It also reported negative net worth of R3.8 bn with assets of R86.5 bn on March 31, 2012. In FY2011 the Gujarat units dispatched 1.4 mn tons of cement (and clinker).
Peak trading multiples, impending regulatory orders and continued price volatility coupled with the potential burden of an acquisition and aggressive capex plans may continue to weigh on Ultratechs free cash flow yield compared with peers. We note that Ultratech has consistently grown volumes at below industry average for most of the past three years, a trend that may be difficult to arrest for Indias premier cement manufacturer.
Kotak Institutional Equities