Decoder: Why UltraTech rose 4% after cement unit acquisition

Shares of Aditya Birla group company UltraTech Cement today rose about 4 percent after it agreed to buy two cement plants from Jaiprakash Associates for Rs 5,400 crore, including debt.

At 12:20 pm, the stock was trading at Rs 2,655, up 4.6 percent, on the BSE, while the benchmark Sensex was down 0.4 percent.

The acquisition includes 4.9 million tonne per annum (mtpa) of grinding capacity, 5.2 mtpa of clinker capacity and 180 MW of captive power plant. According to the companies’ press release, the acquisition of the Madhya Pradesh units will create significant synergies for UltraTech.

The company will initially raise UltraTech's cement capacity in India to 65 million tonnes per year from 60 million tonnes. The company has plans to increase the capacity to 71 million tonnes a year by 2016.

The selloff is in keeping with Jaiprakash Assocciate's strategy of cutting its heavy debt load to improve its balance sheet. In total, the company has sold assets worth more than Rs 20,000 crore. UltraTech had bought out the company Gujarat cement assets for Rs 3,800 crore in September 2013.

Here is why UltraTech investors are happy about the development:

For one, the move reinforces UltraTech’s top position in the cement industry.

ADitya Birla Group Chairman KM Birla.

ADitya Birla Group Chairman KM Birla.

According to a Deutsche Bank report, for UltraTech, like in the case of the Gujarat asset acquisition, this too is much below the replacement cost. Replacement cost, as explained by Investopedia, is “the price that will have to be paid to replace an existing asset with a similar asset”. In other words, had UltraTEch been setting up two new plants, it would have the company much more than what it paid for these units.

The report also notes that these units were among the most profitable ones among Jaiprakash’s units.

According to Kotak Institutional Equities, at $175/tonne, the an enterprise value “appears rich in reference to recent transactions”. However, it noted that it should be seen in the context of clinker capacity of 5.2 mtpa, which can support another 2.5 mtpa of cement grinding capacity. “Adjusted for the higher quantum of clinker capacity, the acquisition appears more reasonable at US$125-140/ton,” it said.

The brokerage, which has retained a sell rating for the stock, has said the acquisition will likely be marginally earnings dilutive (3-4%) in the near term even after factoring 80% utilization and profitability comparable to Ultratech. “However, in the long term it helps Ultratech further consolidate its position as the premier manufacturer of cement in India, increasing in presence in Madhya Pradesh where it currently has 3 mtpa of operational capacity,” it said.

A Reuters report has quoted analysts as saying that the deal is a boost for the sector's business prospects and pricing over next few years. Holcim and Aditya Birla Group now hold nearly one-fourth of the Indian cement market, it said quoting an analyst.

Updated Date: Dec 24, 2014 12:52 PM

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