This article first appeared in The Edge Financial Daily on August 9, 2017 - August 15, 2017

Lafarge Malaysia Bhd
(Aug 8, RM5.71)
Maintain sell with a target price (TP) of RM3.80: Despite the resumption in construction news inflows (East Coast Rail Line and light rail transit 3), we do not forecast any sign of revenue revival for Lafarge Malaysia Bhd. In fact, the five-year median of its revenue mix comprising 20% premix and 80% ordinary portland cement will persist in estimated financial year 2018 (FY18E)/FY19E. We reckon that the revenue increase in premix concrete is a better proxy to indicate any early signs of improvement at Lafarge. So far, premix concrete revenue growth is sluggish, registering only 2.06% quarter-on-quarter. Notably, Lafarge’s share price has come down by 20.02% year to date.

As a result, we believe its operating income will deteriorate further, inundated by unchanged revenue segments, against: i) unwavering operating expenses (a five-year median of RM600 million); ii) oversupply of cement, including premix concrete and clinkers, coupled with a sharp drop in conventional infrastructure awards; and iii) the possibility of the electricity tariff being revised higher in January 2018 due to rising coal prices. Energy and electricity make up over 50% of Lafarge’s operating expenditure, thus changes in the electrity tariff and commodity prices bear significant impact on Lafarge’s operating income. 

Volatile earnings since the third quarter of FY16 (3QFY16) beckon tougher times ahead. Therefore, we make no adjustment to our FY17/FY18 earnings forecasts. We do not expect any lift in earnings to prompt us to change our view as the industry dynamics have shown otherwise. The sharp drop in conventional infrastructure projects in 1QFY17 will potentially drag Lafarge’s earnings down further. Other big-cap cement manufacturers have also shown weakness in revenue growth, marginal compression and lofty valuations, which demonstrate shifts in industry competitiveness, especially production cost. 

Based on that, we maintain our “sell” recommendation, with a TP of RM3.80 per share, by pegging our FY18E earnings per share of 13.8 sen to price-earnings ratio multiple of 27.5 times, reflecting its three-year historical average. — MIDF Research, Aug 8