After one of the most competitive years in the history of the Nigerian cement sector, we take a look at the market leader, DANGCEM’s FY’19 result as well as its restructuring and expansion plans. While the operating landscape in Nigeria remains challenging due to heightened competition, we see sustained value in the stock as it continues its Pan-African expansion push. We also see value in the tax advantage of the company’s debt strategy as a semi-replacement for the expiring pioneer tax status in 2020. We value DANGCEM at ₦199.06 and maintain a BUY rating on the stock.
Proposes ₦16.00 dividend on ₦11.79 EPS
Last week, Dangote Cement PLC released its FY’19 results, reporting a 17% y/y jump in PBT to ₦250.5 billion, 5% behind our estimate. However, after accounting for a tax expense of ₦50.0 billion in 2019 versus a tax credit of ₦89.5 billion in 2018, PAT dropped 49% y/y to ₦200.5 billion (Vetiva: ₦202.3 billion). Despite the fall in PAT and EPS, the board of directors proposed to retain FY’19 dividend at ₦16.00 (FY’18: ₦16.00, Vetiva: ₦10.09),
representing a payout of 136% and yield of 9%.
Sea-based exports, Public sector spend should support Nigeria volumes in FY’20
While the broader cement industry continued to face pressures from heightened competition, slow Capex disbursement and torrential rainfalls (Cement GDP only expanded by 3% y/y), sales of Dangote cement in Nigeria remained resilient, rising 2% y/y in the domestic market to 13.7 million MT. We note that after a challenging H1’19, the launch of the bag of goodies promo in H2 helped push sales upwards. However, overall sales of the Nigerian business came in flat y/y at 14.1 million MT, following a slowdown in exports after land borders were closed. All in, Nigeria Revenue fell by 1% y/y to ₦610.2 billion, following a 1% y/y drop in average revenue/tonne to ₦43,221.69. While average pricing was down at the start of the year, price increases totalling c.₦200/bag in April (₦150/bag) and October (c.₦50/bag) helped temper the slowdown in pricing. Given the success of the bag of goodies promo in 2019, we expect the company to sustain a similar initiative in 2020. We also see volume support for the Nigerian business as the export jetties are expected to be up and running in H1’20, opening up sea-based export opportunities to West African countries. Based on this and an expected improvement in public infrastructure spending in 2020, we foresee a 4% y/y growth in cement volumes in Nigeria to 14.7 million MT.
Furthermore, with competition in the sector showing no sign of letting up, we see no relief for prices and expect average revenue/tonne to moderate a further 2% y/y to ₦42,357.3. Overall, we expect Nigeria Revenue to rise 2% higher y/y to ₦623.3 billion. Key risks to this forecast however lie in weak revenue generation and Capex financing abilities of the Federal Government of Nigeria due to a sustained (bear case) dip in crude prices.
Tanzania, Senegal, Sierra Leone volumes will continue to drive Pan African Revenue
While South African, Cameroonian, Ethiopian and Ghanaian volumes dropped, Pan African volumes still expanded 2% y/y to 9.6 million MT, boosted by a 94% y/y jump in Tanzanian volumes as well as an 8% y/y growth in Senegal’s volumes. Notably, production in Senegal exceeded nameplate capacity (104% capacity utilization) at the end of the year, while stronger public sector spends supported volumes in Tanzania. Revenue, however, came in flat y/y at ₦282.7 billion, following weak pricing in South Africa and Zambia. We have a more positive revenue outlook for 2020, supported by continued growth in Tanzania, Senegal (grinding plant still has capacity), Congo and Sierra Leone. Overall, we forecast a 10% y/y jump in Pan African volumes to 10.4 million MT in FY’20 and a 10% y/y growth in Revenue to ₦310.3 billion.
Overall, FY’20 Group volumes came in c.1% higher y/y at 23.7 million MT, while Group Revenue fell 1% y/y to ₦891.7 billion after the slowdown in Nigeria Revenue. Group EBITDA also fell 9% y/y to ₦395.4 billion, translating to an EBITDA margin of 44% (FY’18: 48%, Vetiva: 44%). We note that apart from the weaker pricing, EBITDA margin was affected by rising haulage costs and promotion expenditure amidst a stronger competitive environment in Nigeria. Furthermore, following a rise in borrowings in the year, Net finance
costs surged 32% y/y to ₦50.1 billion, taking PBT 17% lower y/y to ₦250.5 billion.
In search of an optimum WACC
On January 24, 2019, shareholders of Dangote Cement approved a management scheme proposing to buy back up to 1,704,050,741 units of fully paid up ordinary ₦0.50 shares (10% of the total issued share capital). The program will be completed within 12 months of the EGM and will be stretched out over the period. The transaction could happen in the open market or through a self-tender offer. At the open market, transactions will be done at market price, while the premium on a self-tender offer will be capped at 5% above the average market price over the preceding 5 days.
According to management, the buyback will serve as an alternate avenue to return cash to shareholders while helping to optimize the capital structure. Specifically, in our recent meeting with the CFO, he revealed that the company had a long-term strategy to rebalance their capital structure towards debt in order to reduce its WACC. This appears to be in line with that strategy. In our opinion, the strategy appears prudent as post-2020, the company would no longer have any assets enjoying pioneer status in Nigeria. The tax shield characteristic of debt should, therefore, provide some cover for earnings. Going forward, we expect to see the company issue even more debt in the medium term as it attempts to meet this goal. In this regard, we have forecasted a ₦500 billion total debt increase over the next four years for DANGCEM, leading to an additional ₦165.0 billion in interest expense (10% average effective interest rate expectations due to lower rate environment) and an additional tax savings of ₦40.7 billion over the period.
Still playing the Pan-African Agenda
Even with the largest capacity in the region, Dangote Cement continues to actively expand its capacity on the continent. In West Africa alone, the company is expected to add a 3 million MT plant in Ivory Coast this year, while it is expected to add up to 6 million MT in Nigeria (Okpella: 3 million MT, Obajana: 3 million MT) before the end of next year. We are also aware that the company plans to build grinding plants in Ghana and Gabon as well as a plant in Niger to service the Francophone Africa regions. We expect these moves to further strengthen the Group’s dominance across the region and see this as a strong case for investment in the company.
Expect mild growth in PAT as competitive pressures remain Driven by improvements across both the Nigerian and Pan African businesses, we forecast a 7% y/y growth in Group volumes to 25.1 million MT in FY’20, translating to a 5% y/y growth in Group Revenue to ₦933.6 billion. With competition unlikely to let up in Nigeria and pricing challenges expected to remain in South Africa and Zambia, we expect further pressure on EBITDA margin, taking FY’20 margin 30bps lower to 44.3%. However, given the larger topline, FY’20 EBITDA is expected to grow 5% y/y to ₦416.6 billion. With DANGCEM signalling an intent to increase debt levels, we expect Net finance cost to remain flat around ₦51.2 billion, taking PBT 6% higher to ₦264.9 billion and PAT 3% higher to ₦206.6 billion. We estimate a 12-month TP of ₦199.06 and maintain a BUY rating on the stock.