West China Cement Limited
West China Cement (‘Company’) produces and sells cement primarily in
Western China. It operates several cement plants around the region and pursues
acquisitions of cement plants in relatively under-developed (nearby) provinces.
Separately, about 20% of its capital is employed in loan financing – mostly
secured sale and leaseback transactions for two years and under at 10% to 15%/year.
Its manufacturing business currently has a total production capacity of 29.2m tons of cement,
15.1m tons of aggregates, and 8m cubic metres of commercial concrete.
The primary concern with the cement business is its inherent
cyclicality. The company is a market leader in its area and has managed its
expansion reasonably well.
Its recent half-yearly revenues dropped 9% as a result of Covid-19,
which halted production from late January to late February. It enjoyed cost
decreases in coal (22%) but this was offset by increases in limestone costs (15%).
The company implemented cost control and efficiency measures thereby
maintaining margins despite the revenue decline.
TTM sales were $7.7b (2019: $8.2b), ebitda was $2.5b (2019: $2.6b) and
net profits were $1.9b (2019: $2b). With increased government infrastructure
investments and additional capacities, we think 2019 sales of $8.2b and net
profits of $1.8b are achievable (based on average margins).
The balance sheet reveals net debt of $2.2b, which is less than 1x ebitda,
and minimal. The company has taken on additional debt of $770m after the
balance sheet date for working capital purposes. They can borrow an additional
$330m under the existing facility. The total additional debt would still keep
net debt/ebitda under 1.4x, which we consider minimal and manageable.
The stock sells for $6.6b (on fully diluted shares) or under 4x
earnings.
The interim report reveals capital commitments of $2.7b. This is fairly
substantial but reasonable considering the company’s profitability. The company
has stuck to its cement knitting though it has set its eyes on far-flung
locations like Mozambique, where a cement plant construction is in progress,
and Namibia, an acquisition that was eventually aborted.
It has also made a $48m acquisition of a company manufacturing glass to
“diversify” industrial risk – which is somewhat concerning though fairly
immaterial.
On the basis of the current financial position, performance, and
disclosures, this appears be an undervalued stock with a solid earnings yield
set to grow along with China’s infrastructure growth in the Western and nearby
regions.
Notes:
TTM: Trailing Twelve Months
$ represents Hong Kong Dollar