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Arabian Cement – Diligently navigating headwinds

In a recent report, HC Brokerage shed the light on the cement industry in Egypt, specifically on Arabian Cement Company (ARCC) where they cut our 2022–25e EBITDA estimates by c12%.


  • The market is still digesting new macroeconomic and industry developments, which entails prudent pricing and cost management

  • Despite lowering our gross margin estimates, reflecting inflationary pressures, we expect ARCC to maintain its cost advantage

  • We cut our 2022–25e EBITDA estimates by c12%


Nesrine Mamdouh, Analyst of Industrials at HC commented that: “ Market supply/demand imbalance pressures local prices: While the Egyptian government’s introduced quota system in July 2021 curtailed local sales to 51–52m tpa, the increases in effective quota for 2022 left the effective total market capacity at around 56m tpa, 8.3% higher than the original 2021 quota. Our estimates reflect the Egyptian Competition Authority (ECA)’s July 2022 decision to increase the local cement sales quota by 8.0% and allow cement companies to exceed their quotas in certain months to regulate supply and demand. In 2022, local cement sales increased by c5% y-o-y to 51.2m tons, with the market achieving 91.4% of the quota while ARCC achieved 96.5% of its quota, demonstrating its above-average ability to take advantage of quota increases. For 2023e, if cement companies pass through the higher costs onto their customers, the retail selling price will increase to as much as EGP2,100-2,140/ton, negatively affecting demand. Therefore, we expect companies to absorb part of the increase in costs and forecast 2023e local cement prices at a range of EGP2,042-2,068/ton, moderately pressuring their margins depending on each company’s cost structure and exposure to export markets. We project local demand in 2023 to grow by an average of c2-3%, down from 5.4% a year earlier, reflecting the slowdown in construction activity. Maintaining the 2023 quota without occasional monthly increases will improve cement companies’ pricing power. Over 2023e–26e, we estimate local cement demand to increase by an average of c2.3% y-o-y and to grow at a CAGR of 2.27%. A recovery in private sector investments and any potential upcoming government decisions on private building permits are key upside risks to our numbers. As for ARCC, we expect local sales to increase by 2.1% y-o-y in 2023e to 3.29m tons, maintaining the 2023e quota. An occasional higher monthly quota would translate to an increase of up to c4% y-o-y in local sales. We forecast local sales to grow at a 2024e–26e CAGR of 2.51%.”


Nesrine Mamdouh added: “Exporting seems a more viable option for Egyptian cement players, especially following the recent EGP devaluation: Despite slimmer margins on cement and clinker exports historically, the EGP devaluation made exports more attractive and inflated the cash margins in EGP terms, improving the overall margins of exporting cement companies. In 2022, cement companies’ export volume increased c19% y-o-y to 9.56 m tons, and exports went mainly to Africa. Given an EGP devaluation of c37% in 2022, and c19% y-t-d.  ARCC captured a significant share of 10.5% of 2022 exports, following military-owned factories with an export share of c67%, Suez Cement Group with c12%, and other sector players with 10.5%, topped by Lafarge. We expect ARCC to maintain its high export volume of around an average of 1m ton/year over our forecast period and foresee a potential further increase in export in 2023e in case of lower-than-expected local demand and/or lower-than-expected local price adjustment to devaluation. Exporting gives the company a comparative advantage in securing its FX needs, lowering fixed production costs on larger-scale production, and offering an attractive cash margin in EGP terms. Also, we expect ARCC to further benefit from the government’s export promotion program and expect a higher income from export rebates, as implied by the FY22/23 state budget.”


Nesrine Mamdouh concluded: “Inflationary pressures squeeze cement companies’ margins, yet we expect ARCC to maintain its cost advantage: In February 2022, Russia’s invasion of Ukraine led to supply chain disruptions, driving commodities into a price spiral. As a result, coal prices increased dramatically, reaching an all-time high in August 2022 of USD388/ton (CIF), an increase of 3.05x over January 2022 average prices. This was fueled by the European ban on Russian coal exports, effective August 2022, which later caused significant divergence and distortions in coal prices across regions. However, coal prices softened to USD142/ton as of 1 February 2023, after Europe had already heavily stockpiled coal as an alternative energy source to natural gas. Russia redirected its coal sales at very competitive prices to other non-sanction destinations, including China and India, which are also likely to boost their domestic production in 2023, according to S&P Global forecasts. Furthermore, on 9 October 2022, the Egyptian Cabinet more-than-doubled the natural gas price for cement producers to USD12.0/mmbtu from USD5.75/mmbtu. However, natural gas was partially used by a few cement players and fully by very few companies like South Valley Cement (SVCE EY) which increased its cash cost per ton. This will also alter the fuel mix of the cement companies that partially use natural gas in their fuel mix, leading them to rely more on cheaper options. Based on our calculations, coal prices above USD285/ton CIF should make companies indifferent between using coal or natural gas. On 27 October 2022, the Central Bank of Egypt (CBE) decided to raise the benchmark overnight deposit and lending rates by 200 bps to 13.25% and 14.25%. Also, it moved to a durably flexible exchange rate regime, leaving the forces of supply and demand to determine the value of the EGP against other foreign currencies. On 22 December, it raised the policy rates further by 300 bps, increasing cement companies’ working capital financing costs. The EGP devaluation of c19% since 27 October 2022 to date increased the cash cost per ton of cement players due to their coal imports and other foreign currency cost components of production. However, their exports will benefit from the EGP devaluation as they will become more competitive. Thus, we expect the devaluation to compress sector margins moderately in 2023e, holding all else constant, including export levels and cost structures. We expect coal and petcoke prices to normalize throughout our forecasting period, limiting sharp, abrupt increases in the cash cost per ton and alleviating the negative effect of EGP devaluation on margins. For ARCC, we are positive about its future performance and expect it to maintain its cost advantage due to: (1) its flexibility in changing its fuel mix to the most cost-effective one, 2) its effective raw material procurement and inventory management strategies, which proved to be successful, especially over the last two years, 3) its growing reliance on solar energy to cut costs, and (4) its remarkable export level, estimated at c23% of total sales in 2023e.”


HC: A turnaround in fortunes starts now in Arabian Cement

  • In its latest report, HC Brokerage shed the light on the cement industry in Egypt, specifically on Arabian Cement Company (ACC) where they reiterated OW on a substantial upside potential

  • Government finally imposes local sales quota to balance supply/demand; retail price should theoretically correct to over EGP1,200/ton, albeit gradually, benefiting all players
  • Arabian Cement should see its earnings multiply to unprecedented levels, despite the slightly lower implied utilization rate
  •  We more than double our 2021–24e EBITDA estimates and our TP to EGP15.0/share and reiterate OW on a substantial upside potential

Mariam Ramadan, Head of Industrials at HC commented that: “The introduction of quotas shakes up market shares but should significantly improve pricing environment for all: Under the formula proposed, each cement maker would cut production capacity by a base amount of 10.69%, an additional 2.81% per production line, besides an asset age factor, effective 15 July. We estimate this could shave off around 24m tpa (or c32%) of clinker capacity off the map, leaving effective capacity at 50m tpa, in line with pre-COVID-19 consumption levels, leaving all players potentially utilizing their full rebased capacity/quota allocated. While the imposed quota will result in a redistribution of sales volume, with gains for some and losses for others, the consequent higher price should comfortably translate into improved earnings for all. We estimate a theoretical ex-factory price floor of EGP1,000–1,200/ton based on the marginal cost producer’s all-in breakeven point, which is broadly in line with management’s expectation. Nevertheless, we only assume a gradual closing of the gap between actual prices and the marginal cost of production, as the market psychologically adjusts to the considerable hike and as inventories run down. We also factor in the normalization of coal/petcoke prices and freight rates, all translating to a terminal realized price of EGP1,000/ton for local sales. That said, however, a long-term equilibrium price should, besides fully covering fixed and variable costs, allow for debt servicing, recouping years of accumulated losses, and generate a positive return to shareholders, which should provide further upside.

Export market dynamics little changed despite the excess volume: On our calculations, all players who netted production cuts (and therefore face an increase in excess volumes) are already exporters. Assuming no significant change in their cost efficiency (and hence ability to export) following the cuts suggests an increase in volumes that need offloading in export markets, where margins are already very slim. We expect Arabian Cement’s export contribution margin to remain positive at the new utilization rate and anticipate it will retain its competitive edge in export markets as it remains among the most cost-efficient players with an extensive and diversified market reach (spanning from Sub-Saharan Africa to the US). We assume little change in the company’s export volumes (market share aside) but now factor in clinker exports as well (at slightly higher margins versus cement). This leaves the company’s cement utilization rate at 80%, down from its average historical mid-80%s (pre-line one’s outage last year), and its clinker capacity utilization nearly unchanged, with total exports making up c10% of sales.” Added Mariam Ramadan

Many key considerations remain unresolved, constituting both upside and downside risks: On the downside, the government has only specified a one-year validity initially, but we assume an extension until natural supply/demand balance is achieved, with the cuts to merely oscillate with potential demand step-ups until then. Also, naturally, allowing imports would defy the logic of the intervention. Still, there has been no word on an import ban, while importing could now become lucrative (judging by prices in Turkey and the GCC). On the upside, divisibility remains key, with some producers potentially opting to idle their less efficient line (s) as the threshold of operating all profitably is higher than implied by their allocated quota. If this does not change the marginal cost producer’s breakeven point, it could translate to a higher effective supply cut and higher prices. Additionally, the kickoff of reconstruction in Libya and Iraq provides real upside to our export assumptions (prices and volumes), the signs of which already started to show.” Mariam Ramadan continued

Back to 2015 market dynamics; reiterate OW on compelling valuation: Our new assumptions see EBITDA multiplying to an all-time high of EGP1.26bn next year from EGP183m in FY20, with our 2021–24e estimates standing some c140% higher, on average, than our previous forecasts. This implies an EV/ton of USD78, still substantially below the replacement cost of at least USD130/ton, and a target price of EGP15.0/share. This level is comfortably below its all-time high of EGP18.0/share before the announcement of the new 12m tpa Wataniya plant and the new cement licenses; dynamics that were very similar to where this development takes us. Between then and now, however, the EGP devaluation also took place while the USD-based cost curve shifted downward on the exit of a couple of players and conversions to coal and petcoke. Ultimately, Arabian Cement’s cost advantage versus the marginal producer (and hence selling price potential) widened significantly, resulting in higher future operating cash margins, while its debt and other liabilities shrank and its cost of capital decreased. Therefore, we see the said share price rerating as only reasonable. Our new target price puts the company at FY22e EV/EBITDA of 4.9x (trading at 2.0x) and P/E of 7.6x (trading at 2.7x) and implies a potential return of 182% on the 6 July closing price of EGP5.32/share. Therefore, we reiterate our Overweight rating.” Mariam Ramadan concluded

HC maintains Overweight for Arabian Cement on a still compelling valuation

No alternative for government intervention, HC maintains Overweight for Arabian Cement on a still compelling valuation

In its latest report, HC Brokerage shed the light on the cement industry in Egypt, specifically on Arabian Cement Company (ACC) asserting that: “prices unlikely to find a bottom without direct government intervention, which is now in the cards”

  • Capacity shutdowns outpaced by demand destruction; prices unlikely to find a bottom without direct government intervention, which is now in the cards

  • Lower coal/petcoke/electricity prices, a stronger EGP and lower SG&A expenses offset weak selling prices, giving a breather to Arabian Cement Company’s operating margins, but earnings remain in the red until the end of the year, on our estimates

  • We cut our 2020–23e EBITDA estimates c11% and TP c21% to EGP5.50/share, and maintain Overweight for Arabian Cement on a still compelling valuation

Mariam Ramadan, Head of Industrials at HC commented that: “Demand recovery to take longer than current players can sustain, all else constant: A series of setbacks (from the hit to export markets, to the crackdown on informal housing, to the coronavirus situation, to halting building permits in capitals) has left the industry in dire shape, with 2020 likely marking the fourth year of consecutive decline in sales. The bad news is that we have not bottomed out yet. Prices are still falling today when it is supposedly the good season, before 4Q comes with severe price competition and end-of-year discounts to achieve sales targets and clear inventory. Prospects of a pent-up demand materializing post the lift of the construction ban have been downplayed by sector players, and mega projects, whose contribution had helped keep sales afloat, have peaked. Long-term estimates have also become significantly worse as purchasing power suffers, private investments falter and government investments shift further away from cement-intensive structures. On the supply side, permanent exits have been slow to happen, but at least 10 players have idled production lines, and that was still insufficient to balance the market. Adjusting for idled capacity, utilization rates are effectively c20 pp tighter at least, suggesting prices (1) are far from reasonable, and (2) can no longer be rectified by demand recovery alone, no matter how fast that comes by. Sector economics have reached a level where prices need to rise enough to do away with the current operating losses, bring back idle production lines (we calculate some 25m tpa of “dormant” capacity), generate enough cash to recoup losses incurred over the past years, and pay down debts/shareholder loans.

“Small government support won’t cut it; direct intervention is the only way out: Government efforts have so far been fixated on fuel prices (which are no longer relevant), and the more generic interest rate cuts, electricity price cuts, or market-specific export support incentives. However, the government is now said to be in talks, more seriously than usual, over local sales quotas to try and match supply and demand forces, which in our view will be accompanied by a price floor. At the last reported annual utilization rate of 65%, we calculate a minimum price of EGP820/ton ex-factory, excluding VAT. This is based on the highest production cash cost among current players, not counting for SG&A, interest or depreciation. While Arabian Cement’s volumes would be affected by this arrangement, given its market share is significantly above capacity share (operating at 88% in 1H20, compared to sector average of 57%), such price floor would still be a game changer for the company, taking it back to pre-devaluation profitability, and does not take away its edge as the most cost efficient player (EGP25/ton lower than the second best) and having the biggest export share (unaffected by the quota). The assumption here is that the government will push only as high as to prevent exits (in order to preserve foreign investor sentiment and assuage investors who had yet to recoup capital outlays ahead of the establishment of the new Beni Suef plant, avert layoffs, credit defaults, etc.) and low enough not to entice public dissent. We do not account for this in our numbers, until we have more clarity, likely in September.” Mariam Ramadan added.

“Cut EBITDA estimates c11% but maintain Overweight on compelling valuation: Our new estimates filter through to a downward revision of c11% to each of our 2020–23e EBITDA and 2021–23e EPS forecasts, which leaves our TP c21% lower at EGP5.50/share, implying a c57% potential return on the 12 August closing price of EGP3.51/share. We therefore maintain our Overweight rating for Arabian Cement. With the share price holding its ground over the past year against bad EGX performance, paying out a dividend, and recording losses for the first time in its history, it seems the market is finally starting to see past the current point in the cycle and into long-term value, which remains strong, in our view, despite the worsened short-term fundamentals.” Mariam Ramadan concluded.