Holcim Indonesia (SMCB IJ, Rp 2,175 HOLD) Rich valuation - Danareksa

Upcoming expansion
In late December 2010 Holcim commenced ground breaking for the construction of the new plant in East Java near Semen Gresik’s production facility. Holcim plans to add capacity of 1.7mn tonnes at a total investment cost of US$450mn through implementation of a green field project (unlike Semen Gresik which is expanding by way of a brownfield project). Consequently, the investment cost of this project is high at US$264 per tonne, or even higher than Holcim’s current EV/tonne of US$230. Completion of the plant is expected in late 2012 or early 2013. For the time being we do not incorporate the expansion into our forecast due to the limited information from the company on the capex outlay.

Sacrificing margins for market share
Since last year Holcim has focused its marketing beyond Java in an effort to penetrate new areas. Fortunately, Semen Gresik has production capacity constraints, allowing Holcim to enter new markets. Yet as a new player in certain areas, Holcim needs to offer more competitive pricing. This explains why Holcim’s ASP remains well below its rivals. From a group perspective, we think this strategy has received the blessing of the parent company since Holcim Indonesia operated with an EBITDA margin of 28.1% in 1Q11, or way above the 20.9% EBITDA margin of the parent company in FY10.

Dividends at last
Holcim has finally decided to distribute dividends of Rp23 per share for FY10, translating into a dividend yield of less than 1% - but admittedly quite low compared to the market average of 2-3%. The payment of dividends was made possible thanks to the quasi-reorganization which meant that Holcim booked positive retained earnings, allowing the company to distribute dividends. Looking ahead, we don’t think that Holcim will make a significantly higher dividend payout despite improving cash flows from operations. This is because the upcoming expansion will need additional financing which will limit the company’s financial flexibility to increase dividend payments.

Downgrade to HOLD
Holcim’s upcoming expansion tells us two things: 1) cash flow might be tight especially in FY11-12 as total capex is about US$450mn, 2) full capacity may soon be reached limiting the short-term growth prospects. At the same time, it is evident that the company is willing to sacrifice margins to capture market share. This can be seen in the increase in the company’s market share from 13.6% in FY10 to 15.4% in 1Q11. Moreover, the investment cost of the green field project is above its current EV/tonne suggesting that the expansion plans will average up Holcim’s EV/tonne and reduce the discount relative to its rivals. As such, the stock looks fully valued at the moment. HOLD with a Target Price or Rp2,300.