01 April 2019 : Following the completion of the merger arrangement between Cement Company of Northern Nigeria (CCNN) and Kalambaina Cement Limited, with onward listing of the shares of the enlarged entity on the Nigerian Stock Exchange, CCNN released results of the combined entity this afternoon. The numbers showed synergy benefits between the two companies, however, far lower than the pro forma presentation provided by management of both companies in the Scheme of Merger document, which necessitated the approval of the merger by shareholders. For context, reported revenue of N31.7 billion (which came in higher than analyst's estimate of N26.5 billion) is far below the pro forma guidance of N46.9 billion.

On volumes, the enlarged entity consolidated production volume at 742,224 tons for the full 2018 reflecting capacity utilisation on the enlarge plant size of 2 million tons per annum of just 37% (Adjusted average rate: 59%). Recall, average capacity utilisation on the 500,000 per annuum capacity printed at 96% over the last two years, with average annual production of 478,101 tons. Accordingly, compared to FY 17 volume of 467,707 tons (with 94% utilisation), the additional production volume at the Kalambaina plant was just 274,517 tons.

Production cost synergy or recovery from a high base? The reported numbers showed significant improvement in production cost during the year, with cash cost per ton declining 14% YoY to N20,452. Recall, following FX and energy related concerns over 2017, cash cost per ton expanded 22% YoY to N23,845 from N19,614 in FY 16. As a result, analysts reckon that recovery in cost played a large role in the moderation in cost per ton than an outright synergy benefit from the coal fired Kalambaina, as reflected in the 48% YoY growth in cost to sales to N17.5 billion during the year, with gross margin expansion of 524bps to 44.8% (Analyst's estimate: 46%).

Elsewhere, analysts are highly concerned about the elevated administrative expense during the year. Excluding merger related fees, analysts are quite comfortable with the outturn across most lines. However, worrisome is the N2.3 billion (FY 17: N648 million) management and technical fees paid to Damnaz Cement Co. Limited (a wholly owned subsidiary of BUA Group).

Management guidance, a delusion of grandeur. In the pro forma scheme of merger numbers, management guided to a robust PAT of N17.9 billion over FY 18, citing the aggressive estimates on sales volume and cost synergy from the utilisation of a more efficient energy mix. The reported numbers deviated largely from the guidance, with PAT coming in at N5.7 billion, to even miss analyst's highly conservative estimate of N6.3 billion.

Reflecting the material dilution from the additional shares of 11.9 billion created from the acquisition of Kalambina, EPS dropped EPS to N0.44 from N2.57 in 2017. Further reflecting impact of the dilution was the decline in DPS to N0.40 from N1.25 in 2017, despite the 43 ppts increase in pay-out ratio to 92%.

Going by the presented numbers, analysts are yet to see any synergy from the substantial acquisition cost of the Kalambaina plant by CCNN. For context, while total construction cost of the Kalambaina plant was stated to be $350 million (N126 billion using N360/1$), the asset was transferred to CCNN at N315 billion. Analysts hope to meet with management of BUA/CCNN in the weeks ahead to seek clarity on its guidance relative to reported numbers and what to expect in the years ahead.

CCNN trades at a P/E and EV/EBITDA of 45.64x and 25.62x compared to Bloomberg Middle and East Africa Peers at 55.93x and 15.06x respectively. Analyst's last communicated FVE of N17.31 translates to a SELL rating on the stock which currently trades at N19.90. Analyst's model is under review.

Reporting for EasyKobo on Monday , 01 April 2019 in Lagos, Nigeria

Source: Janet Ogunkoya  and Oluwasegun Akinwale from ARM Securities Limited

NOTE - THIS ARTICLE PUBLICATION IS COPYRIGHT OF ARM SECURITIES LIMITED AND NOT TO BE REPRODUCED OR REPRINTED IN ANY FORM WITHOUT THE EXPRESS PERMISSION OF ARM SECURITIES LIMITED.