Vice Presidents: Chirag Agarwal, Devansh Jain, Deepansh Kalra
Analysts: Suhani Mittal, Veer Jindal, Nidhi SIngh, Ronit Samuel, Amal Tharik
Deal Overview
Acquirer: Ambuja Cements
Acquiree: Penna Cements
Deal Size: $1.25 billion
Buy Side Advisors: Cyril Amarchand Mangaldas
Sell Side Advisors: N.A
Introduction
Ambuja Cements, backed by Adani Group, in an all-cash deal acquired Penna Cements, a building materials company for $1.25 billion. The deal is set to change the Indian Cement landscape and improve Ambuja Cement’s competitive advantage in the industry. Ambuja Cements will go for a 100% of the shares from the existing promoter group. The acquisition will add 14 million tonnes per annum to its capacity, increasing Adani Group’s consolidated cement business to 89 million tonnes per annum. “By acquiring PCIL, Ambuja is poised to expand its market presence in South India and reinforce its position as a pan-Indian leader in the cement industry,” said Ajay Kapur, CEO of Ambuja Cements.
Ambuja Cements Overview
Ambuja Cements is a leading cement manufacturer in India with a rich history dating back to 1983 founded by Narotam Sekhsaria. The company has been at the forefront of the Indian cement industry, consistently delivering high-quality products and innovative solutions. Ambuja operates a network of integrated cement plants and grinding units strategically located across the country, ensuring efficient distribution and timely delivery to its customers. The company's commitment to sustainability is evident in its various initiatives, including energy-efficient manufacturing processes, responsible sourcing of raw materials, and community development programs. Ambuja's strong brand recognition, coupled with its focus on customer satisfaction and technological advancements, has solidified its position as a dominant player in the Indian cement market. The company was under Holcim, the second largest cement manufacturer in the world since 2006. On April 2022, Holcim exited the Indian market and its stakes in Ambuja Cements and ACC were acquired by Adani Group for $10.5 billion back in May 2022. The company offers a diverse range of products tailored for both
B2B and retail markets, including the Ambuja Plus Roof Special and advanced micro materials like Alccofine, which are utilized in large-scale infrastructure projects such as metro rails and dams. Over the years, Ambuja Cements has expanded its operations, including international ventures, technological advancements, and the establishment of a robust distribution network with over 50,000 channel partners. Its integration into the Adani Group marks a new chapter, poised to leverage synergies for further growth and innovation in the cement sector. Ambuja’s latest quarterly report shows a great increase in net worth by $1.02 billion, with an EBITDA margin of 15.4%. The company remains debt-free.
Penna Cements Overview
Penna Cements, headquartered in Chennai, is a well-established cement manufacturer with a strong presence in South India. Founded in 1991, it has established itself as a trusted brand with a significant presence in southern and western India. Penna Cement caters to a diverse clientele, including small house owners, real estate developers, state governments, and global construction companies. The company has been serving the region's construction industry for several decades, providing reliable and high-quality cement products.
Penna Cements, which operates a 10 million tonne per annum (mtpa) cement capacity, has been facing financial challenges. The company had also made a failed attempt to go public in 2019. The company reported an EBITDA loss of Rs 11 crore in the first half of 2023-24. This loss was attributed to reduced operational efficiencies, high-cost coal inventory, and weak realizations. To address these issues and enhance its financial position, Penna Cements is expanding its capacity with two new plants under construction. The Krishnapatnam plant (2 mtpa) and the Jodhpur plant (2 mtpa) are expected to be completed within the next six to twelve months, adding a total of 4 mtpa to the company's capacity. The company's focus on innovation has led to the development of specialized cement products tailored to meet specific customer needs, such as high-strength cement for infrastructure projects and rapid-setting cement for precast applications. Penna Cements' strong distribution network and customer service orientation have enabled it to build a loyal customer base and establish itself as a trusted partner in the construction industry.
Footprint of Adani Cement post PCIL Acquisition:
Industry Analysis
The Indian cement industry is a key element in the nation’s infrastructure development. India’s cement industry, the second-largest in the world after China, holds a critical role in the country’s infrastructure and construction sectors. With over 8% of the global installed capacity, India is a significant player in the global cement market. The industry is primarily driven by domestic demand, which is bolstered by the government’s infrastructure development initiatives and the growing real estate sector. The industry has strong connections with various sectors, including infrastructure, construction, housing, transportation, coal, power, and steel. It plays a crucial role in executing Government flagship initiatives such as housing for all, smart cities, concrete highways, dedicated freight corridors (DFC), the clean India mission, ultra-mega power projects, and waterways. Cement production involves intricate chemical reactions and physical processes, with primary raw materials being limestone, clay, gypsum, and coal. In 2022, the market size of India's cement industry was 3,644.5 million tonnes. The industry aims to expand to 4,832.6 million tonnes by 2028, achieving a compound annual growth rate (CAGR) of 4.9% from 2023 to 2028.
Market Size of Indian Cement Industry(2022-2028) in million tonnes
In terms of installed capacity, India’s Southern region (33%) has the largest market share in cement production followed by North (22%), East (19%), West (13%), and Central (13%).
The cement industry has witnessed substantial investments, particularly from private equity (PE) and venture capital (VC) firms. In 2023, infrastructure emerged as the top sector, attracting US$ 11.6 billion across 57 deals, followed by real estate with US$ 8 billion across 55 deals. The Indian government’s initiatives, such as the Pradhan Mantri Awas Yojana (PMAY) and the PM Gati Shakti National Master Plan, have significantly boosted demand for cement, as these projects require extensive construction work.
Despite its growth prospects, the sector faces challenges such as rising input costs, logistical bottlenecks, and regulatory hurdles. However, ongoing infrastructure investments and capacity expansions by major players are poised to sustain the industry’s growth trajectory, with production expected to increase by 6-8% in the coming years. The Indian cement industry stands out for its technological advancement, featuring state-of-the-art production plants. In line with global progress, the sector has implemented technology upgrades, especially focusing on energy conservation as well.
Synergies
Revenue Synergies:
Market Share Expansion: The acquisition is projected to improve Ambuja Cement's pan-India market share by approximately 2% and its South India market share by around 8%. This increased market presence provides opportunities for revenue growth and potentially improved pricing power in certain regions.
Geographical Diversification: PCIL's strong presence in South India, particularly in Andhra Pradesh and Telangana, allows Ambuja Cement to diversify its geographical footprint. This expansion into new markets opens up additional revenue streams and helps mitigate regional market risks. Additionally, access to five bulk cement terminals in Kolkata, Gopalpur, Karaikal, Kochi, and Colombo strengthens sea transportation logistics to better serve peninsular India
Capacity Utilization: The surplus clinker at PCIL’s Jodhpur plant is expected to support an additional 3 MTPA of cement grinding capacity, presenting an opportunity for Ambuja Cement to increase production and sales without significant additional capital investment. This acquisition adds 14 MTPA to the company’s capacity, bringing the total to 89 MTPA. With this, the company is advancing towards its target capacity of 140 MTPA by 2028.
Cost Synergies:
Operational Efficiency: The integration of PCIL's operations with Ambuja Cement is expected to yield significant synergies. Approximately 90% of the cement capacity comes with railway sidings, and some facilities are supported by captive power plants and waste heat recovery systems. These features will likely lead to reduced transportation costs and improved energy efficiency across the combined operations.
Production Optimization: With the addition of PCIL's 14 MTPA cement capacity, Ambuja Cement can optimize production across a larger network of plants. This expanded capacity allows for more efficient allocation of resources and production loads, potentially reducing overall manufacturing costs.
Supply Chain Enhancement: The acquisition provides access to 5 bulk cement terminals located strategically across the eastern and southern coasts of India, as well as in Colombo. This enhanced logistics network is likely to streamline supply chain operations and reduce distribution costs, particularly for serving peninsular India.
Raw Material Efficiency: PCIL's substantial limestone reserves enable capacity enhancement through debottlenecking, potentially reducing raw material costs.
Risks
Market Competitiveness and Price Sensitivity in the Southern Market
Ambuja Cement's acquisition of Penna Cement presents significant challenges due to the highly competitive cement market in Telangana and Andhra Pradesh. Penna Cement's assets are entirely located in these southern states, where the cement market is characterized by aggressive pricing strategies. Popular local brands like Deccan Cement and Sree Jayajothi Cements offer Pozzolana Portland Cement (PPC) at competitive prices of ₹270 and ₹280 per bag, respectively. In contrast, Ambuja Cement's prices range between ₹300-400 per bag, while Penna Cement is priced between ₹300-350 per bag. This price discrepancy highlights the need for Ambuja to ramp up production and potentially adjust its pricing strategy to remain competitive. The pressure to maintain or lower prices while increasing production could strain profitability and market share in the southern region, making this acquisition a risky venture.
Weakened Liquidity Position and Debt Downgrade
The acquisition of Penna Cement poses a significant financial risk due to the company's weakened liquidity position, as highlighted by India Rating and Research's recent downgrade of Penna Cement's debt rating. In October 2023, the rating was lowered from 'IND A' to 'IND BBB+' and placed on rating watch with negative implications. This downgrade reflects the expectation of a weaker-than-anticipated performance in FY24, driven by an EBITDA loss during the first five months of FY24 (5MFY24). The deterioration in Penna Cement's liquidity could strain Ambuja Cement's financials post-acquisition. Although the management of Penna Cement has indicated that it is in advanced discussions to monetize certain assets, such as its power facilities, the uncertainty surrounding these efforts adds to the financial risk of this acquisition.
Financial Analysis
There’s a steady increase in FCFF over the forecast period, indicating a positive outlook for the company's cash generation capabilities. The terminal value is calculated using a perpetual growth rate of 3%, suggesting that the company is expected to maintain a sustainable growth rate in the long run. The DCF analysis calculates the present value of the company's cash flows and a terminal value, resulting in an enterprise value of ₹1,58,525.54. By dividing the enterprise value by the number of shares outstanding, the analysis calculates a fair value per share of ₹1,168.62. Based on the DCF analysis, Penna Cement appears to be undervalued relative to its projected cash flows and growth potential.
Beta and WACC
To estimate Penna Cement's beta, the levered betas of comparable companies—JK Cement, India Cement, Shree Cement, Orient Cement, and Ultratech Cement—were utilized. By unlevering the betas of these companies and taking their average, an unlevered beta was derived, which was then applied to Penna Cement. Using Penna’s debt-to-equity ratio and assuming a tax rate of 25%, the equity beta was calculated to be 2.06. For the cost of debt, a pre-tax rate of 7.85% was assumed, based on the yield to maturity (YTM) of Shree Cement's debt. This led to the computation of a weighted average cost of capital (WACC) of 10.6%, factoring in a risk-free rate of 6.807% and a market risk premium of 6.8%. The cost of equity was determined to be 20.8%, while the post-tax cost of debt was 5.9%. These figures resulted in a weighted cost of equity of 6.55% and a weighted cost of debt of 4.03%, aligning with the final WACC of 10.6%.
Precedent Transactions Analysis
Transactions in the industry for the past 10 years have had an average EV/Revenue multiple of 3.4x and an average EV/EBITDA multiple of 12.6x. Some of the deals that stood out were:
Ambuja’s acquisition of Sanghi Industries: The acquired company was reporting EBITDA losses of 18.1 USD million but still was bought at a high premium.
China CITIC’s acquisition of Sichuan Hexie Shuangma: This deal had an extremely high EV/Revenue multiple of 9x but an EV/EBITDA multiple which was close to the industry average.
Accretion Dilution Analysis
The deal is consistently accretive to Ambuja's EPS, with Pro Forma EPS exceeding Ambuja's standalone EPS each year. Despite Penna's declining net income, the acquisition remains value-additive for Ambuja shareholders. The constant share count suggests an all-cash or debt-financed acquisition, with increasing accretion over time indicating potential synergies or strategic benefits beyond simple earnings combinations.
Comparable Company Analysis
Valuation Multiples
EV/Revenue: Penna Cement's EV/Revenue ratio is relatively low compared to the median and 75th percentile, suggesting it might be undervalued based on this metric.
EV/EBITDA: Similarly, Penna Cement's EV/EBITDA ratio is lower than the median, indicating potential undervaluation.
P/E Ratio: The negative P/E ratio for Penna Cement is likely due to a loss in the previous year. However, it's important to consider other factors when interpreting this metric.
Based on the CCA, Penna Cement appears to be trading at a valuation discount compared to its peers.
Football Field Analysis
Comparable company valuation ("Comps"), according to the analysis, point to a value range of ₹639.64 crore to ₹1,202.31 crore. The Discounted Cash Flow (DCF) approach, on the other hand, varies depending on the scenario. The base case estimates between ₹808.24 crore and ₹1,105.94 crore, the bullish scenario projects a significantly higher value, ranging from ₹1,460.35 crore to ₹2,549.49 crore, and the bearish case estimates a value between ₹501.96 crore and ₹624.75 crore.
Conclusion
Ambuja Cements' acquisition of Penna Cement Industries represents a strategic move to enhance its presence in the Indian cement market, particularly in the southern states of Telangana and Andhra Pradesh. This acquisition allows Ambuja to capitalize on Penna's regional strengths, expanding its market footprint and production capacity in a competitive landscape.
However there are a lot of risks associated with the acquisition that could affect how successful it is in the end. Local companies like Deccan Cement and Sree Jayajothi Cements use aggressive pricing techniques in the intensely competitive cement market of the south. These rivals charge far less for their goods than Ambuja and Penna do at the moment, putting pressure on Ambuja to change its pricing approach to stay competitive. The difficulties in preserving profitability in the face of possible price reductions and output increases highlight the dangers associated with this purchase.
Additionally, Penna Cement's weakened liquidity position and the recent downgrade of its debt rating by India Rating and Research further exacerbate the financial risks. The downgrade, driven by weaker-than-expected performance in the early months of FY24, highlights concerns about Penna's financial stability. While Penna's management is exploring asset monetization to improve liquidity, the uncertainty surrounding these efforts adds to the financial strain on Ambuja post-acquisition.
The success of the transaction will depend on Ambuja Cements's capacity to manage such challenges, stabilize Penna's financial situation, and successfully integrate operations. This acquisition has the potential to boost Ambuja's market share and spur expansion in the southern area if handled well. Nonetheless, cautious risk management is necessary to guarantee long-term value generation and sustainability in a market that is becoming more volatile and competitive.
References
Paul, M. and Garg, P. (2024). Cyril Amarchand Mangaldas advised Ambuja Cements Limited (‘Ambuja’) in its acquisition of 100% of the share... [online] Lexology. Available at: https://www.lexology.com/library/detail.aspx?g=8f41f2c0-5a17-415b-911c-1d136e17f853#:~:text=our%20About%20page.- [Accessed 7 Sep. 2024].
Pillay, A. (2024). Adani Group’s Ambuja Cements to buy Penna Cement for Rs 10,422 crore. [online] @bsindia. Available at: https://www.businessstandard.com/companies/news/ambuja-cement-acquires-penna-cement-at-rs-10-422-crore-enterprise-value-124061300911_1.html [Accessed 7 Sep. 2024].
Gardner, E. (2024). Ambuja Cements achieves sustainable performance in Q1 FY’25. [online] World Cement. Available at:
https://www.worldcement.com/indian-subcontinent/01082024/ambujacements-achieves-sustainable-performance-in-q1-fy25/#:~:text=Financial%20highlights%20(consolidated) [Accessed 7 Sep. 2024].
News Desk (2024). How Adani-owned Ambuja Cements wants to bring down its logistics cost with its new acquisition. [online] Logistics Insider. Available at: https://www.logisticsinsider.in/howadani-owned-ambuja-cements-wants-to-bring-down-its-logistics-cost-with-its-new-acquisition/ [Accessed 7 Sep. 2024]
Media Release Adani Group acquires Penna Cement at enterprise value of Rs. 10,422 crore Acquisition adds 14 MTPA capacity, total now 89 MTPA. (n.d.). Available at:
https://www.ambujacement.com/Upload/PDF/Adani-Group-acquires-Penna-Cement.pdf [Accessed 7 Sep. 2024].
Pallavi Raja Shekhar (2024). Ambuja Cements Acquires AP’s Penna Cement for Rs. 10,422 Crore. [online] Deccanchronicle.com. Available at: https://www.deccanchronicle.com/business/a-gamechanging-move-in-the-south-indian-cement-market-898993 [Accessed 7 Sep. 2024].
www.projectstoday.com (2024). Projects Today. [online] Projects Today. Available at:
https://www.projectstoday.com/News/Adani-Group-acquires-Penna-Cement-adds-14-MTPAcapacity [Accessed 7 Sep. 2024].
The opinions expressed in the reports are those of the members of the Junior IB team and are not affiliated with any university or institution. The financial recommendations provided are for educational purposes only and the Junior IB team takes no responsibility for any losses that may occur from implementing any ideas presented in the reports. The Junior IB team is not authorized to provide investment advice. The information, opinions, and estimates presented in the reports reflect the Junior IB team's judgment at the time of publication and are subject to change without notice. The price, value, and income of any securities or financial instruments mentioned in the reports may fluctuate. The Junior IB team has no business relationship with any of the companies mentioned in the reports and does not receive any compensation for their inclusion.
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