Morning Call about Kohat Cement Company Limited – Arif Habib Limited

Karachi, December 10, 2013 (PPI-OT): Solid cash generation pointing towards high dividends in FY14

The stock of Kohat Cement Company Limited (KOHC) has posted a massive 13% return since 1QFY14 results announcement, outperforming the benchmark index by 1% during the same period.

According to Arif Habib Limited believes that the stock has still more to offer even at current levels as Arif Habib Limited foresees a 38% return with a Jun-14 DCF target price of PKR 123/share. Arif Habib Limited’s positive stance mainly stems from strong margins outlook as the company still enjoys lower power tariff, thus price increase by its peers to pass on power tariff hike contributes towards healthy profit margins. With a YoY earnings growth of 10%, the stock is offering a PER of 4.8x and a dividend yield of 7% based on FY14 earnings.

Rumour of an interim dividend drives sentiment
Though the last interim dividend declared by the company was a decade ago (PKR 3.00 in Dec-2003, payout ratio 127%), there is a potential emerging for a massive interim dividend during FY14. Market talks also surfaced after the majority shareholders transferred 55% of their holdings into ANS Capital (Pvt) Limited (a holding company). As per sources, equity of ANS Capital can be strengthened by issuing dividends from KOHC, though the company management denied any change in the dividend policy so far.

Here, looking at the improving dynamics of the sector, particularly KOHC’s, Arif Habib Limited expects availability of strong distributable cash flow with the company as at Dec-13, which indicates high dividend paying ability of the company. However, it is pertinent to mention that, a major Capex (~PKR 2.5bn, PKR 16/share) is in the pipeline for Waste Heat Recovery (WHR) plant of the company for which KOHC might want to retain some cash.

Cash Generation                                 PKR mn
EBITDA                                           1,207
Less: Finance cost                                (39)
Less: Cash Tax                                    (31)
Cash PAT                                         1,137
Less: Capex                                       (16)
Less: working Capital                            (100)
Less: principle repayment                        (151)
Cash Generation for 2QFY14                         870
Less: Dividends Paid                               644
Add: Opening (Cash and ST investments) 1QFY14A   2,613
End Cash (1HFY14E)                               2,839
Per Share (PKR)                                  18.44

Source: AHL Research

Since the company has yet to take up the said WHR, for which outflows would be spread out in future, Arif Habib Limited expects sufficient cash generation and availability for any consideration of high cash dividend during FY14.

Fundamentals can sustain this optimism in medium term

Margins expected to reach 39% in 2QFY14
Cement prices in the domestic market has increased by PKR 13/bag since the start of 2QFY13, as most of the cement manufacturers passed on the impact of rising power tariff. For KOHC however, this price increase would strengthen the margins as its power tariff is yet to be increased. Arif Habib Limited expects gross margins to cross 39% in 2QFY14 compared to 33% in 1QFY14.

51% QoQ earnings growth expected 2QFY14
The company is expected to post a massive 51% QoQ jump in profitability to PKR 4.7/share in 2QFY14, mainly on account of a 600bps increase in gross margin. Aggressive deleveraging Thanks to aggressive deleveraging policy of the company for past couple of years, current D/E has now reduced to 20% from as high as 47% in FY12, which has resultantly dropped financial charges by 60% in FY13. This balance sheet strengthening will help the company to raise capital for its future Capex without compromising the dividend payouts, Arif Habib Limited believes.

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