Indian laborers carry concrete at a construction site in Gurgaon, India. (Photographer: Adam Ferguson/Bloomberg News)

Capacity Expansion Is Key For ACC, Say JPMorgan And CLSA

Shares of ACC Ltd. surged after its better-than-expected earnings but brokerages JPMorgan and CLSA said the stock’s upgrade depends on the cementmaker’s ability to expand capacity.

JPMorgan lowered the target price, while CLSA sees a ‘risk’ to the ACC’s market share in the absence of new capacity.

The stock, which trades at a discount to its peers like UltraTech Cement Ltd., Shree Cement Ltd. and Dalmia Bharat Ltd., jumped the most in more than nine years after the company beat estimates for the sixth straight quarter. ACC’s earnings for the three months ended June was aided by better-than-expected realisation and cost cuts.

ACC’s valuation at $100 a tonne is cheap (down 25 percent year-to-date), trading below replacement cost ($120) and hence earnings surprise could drive a sharp trading rally, brokerage JPMorgan said.

For more structural valuation re-rating, however, we think clarity on new capacity expansion will be key.
JPMorgan Note

Shares of ACC closed 12.4 percent higher at Rs 1,473 apiece - the biggest single-day gain since May 18, 2009.

Also read: Q2 Results: ACC’s June Quarter Profit Beats Estimate On Higher Volumes

High Capacity Utilisation

A recovery in cement demand in the run-up to general elections and industry’s rising clinker utilisation on slow capacity additions have pushed ACC’s capacity utilisation to nearly 89 percent as of June.

“With 89 percent utilisation, ACC is close to its peak achievable level. Legacy plants may find it challenging to operate beyond 90 percent utilisation,” Macquarie said in a note. “We forecast a 3 percent compounded annual growth rate for volume over 2018-20 in the absence of capacity additions and with a lag in industry demand growth at 7-8 percent.” ACC, it said, lacks volume growth to offset cost pressures unlike peers.

Valuations At A Discount

ACC is trading at a trailing 12-month enterprise value to Ebitda multiple of 12, which is 50 percent cheaper compared to Shree Cement and 35-40 percent to Ambuja Cements and UltraTech Cement.

53 percent of the analysts tracked by Bloomberg have a ‘Buy’ rating on the stock with the consensus upside potential of 9 percent.

Motilal Oswal, however, said ACC may be capacity constrained beyond 2019, but a valuation gap of 45 percent with peers does not warrant such a decline in the stock—it has fallen 23 percent in the last one year.

The brokerage upgraded the stock to ‘Buy’ and raised its target price to Rs 1,633—an upside potential of nearly 11 percent.

“The issue of limited capacity can be easily addressed by mergers and acquisitions and through debottlenecking at its key plants,” it said.

Also read: Cement Makers Can’t Wish Away Concerns Despite A Surprise Price Hike