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ALJAZIRA CAPITAL

Saudi Cement Sector

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Research DepartmentSector Reports December 2011

Aljazira Capital is a Saudi Investment Company licensed by the Capital Market Authority (CMA), License No. 07076-37

Brokerage and Investment Centers DivisionResearch Division

General Manager - Brokerage DivisionAla’a Al-Yousef+966 1 [email protected]

Division ManagerAbdullah Alawi+966 2 [email protected]

AGM-Head of international and institutional brokerageLuay Jawad Al-Motawa +966 1 2256439

Senior Analyst Syed Taimure Akhtar +966 2 6618271 [email protected]

Regional Manager - West and South RegionsAbdullah Al-Misbahi+966 2 [email protected]

AnalystSaleh Al-Quati+966 2 [email protected]

Regional Manager - Central RegionSultan Al-Mutawa+966 1 [email protected]

Area Manager - Qassim & Eastern ProvinceAbdullah Al-Rahit+966 6 [email protected]

December 2011

Saudi Cement Sector

Table of Contents

Executive Summary 1The sector is most profitable not only in the GCC, but globally 2Demand environment remains strong 3We forecast cement demand to rise at a CAGR of 8% during 2010–15… 4Overcapacity is not a worry in the medium to long term 7While cement prices seems to have bottomed out 8We expect the sector to post stronger financial performance 9Risk factors 9

Infrastructure spending depends highly on hydrocarbons 9Decline in cement realization prices may exert pressure on margins 9Subsidized energy cost under clouds of suspicion 10Government intervention remains an overhang for the sector 10

Cement Industry Overview 11Global and GCC cement industry 11

The Saudi Arabian Cement Sector 12Regional Dynamics: Demand high in the western and central regions of Saudi Arabia 12Production capacity more than doubled over the past five years 14

Environmental norms for cement industry 15Competitive Landscape 16

Improving demand visibility encouraged new players’ participation 16New players challenging the market share of incumbents 17Foreign players yet to begin their operations 18The competition is likely to intensify further 18

Historical Performance Analysis 18Revenue growth driven by domestic sales, while prices remained subdued 18Growth through exports faded due to government ban 19Clinker to sales ratio declining since peaking in 2009 20Profitability mainly impacted by competition 20Financial gearing is relatively low 21

Industry Growth Drivers 22Improved budgetary allocation fueling construction boom 22Growing young population driving housing and social infrastructure demand 22Rapid urbanization also signify growing demand 22Per capita consumption remains low 23Diversification away from oil – a key to growth 24

SAUDI ARABIA CEMENT SECTOR: SWOT ANALYSIS 25Strengths 25Weaknesses 25Opportunities 25Threats 25

Emerging Trends and Issues 26Focus on improving cost efficiency 26Limited fuel supply raises concern on future availability 26

Stock Price Performance Analysis 27Valuation Analysis 28Companies that look attractive 30

December 2011

Saudi Cement Sector

YAMAMA SAUDI CEMENT 31Investment Overview 32

Risk Factors 32SWOT Analysis 32Financial Data 33

QASSIM CEMENT 34Investment Overview 35


SOUTHERN PROVINCE CEMENT 37Investment Overview 38


Appendix 1: Cement properties and types 40Appendix 2: Product Portfolio 41Appendix 3: Cement manufacturing process 42Glossary 43

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Executive Summary

The Saudi Arabian cement sector is the most cost competitive in the world. The sector’s average cement production cost per tonne of USD30.9 in 2010 was the lowest in the GCC. Cement production cost per tonne in Oman, the second most cost competitive country in the region, averaged USD37.0. This is primarily because cement manufacturers in the Kingdom procure fuel at artificially low prices from the government and also capitalize on the availability of abundant raw materials (limestone). Fuel and raw materials account for around 50–60% of production cost globally. Consequently, the Saudi Arabian cement manufacturers enjoy gross margins in excess of 50%. In contrast, their GCC and international peers have average margins of less than 30%. Oman is the only other GCC country that has high gross margins of around 45%.

In addition, what makes us sanguine about the Saudi cement sector is the favorable demand environment, which is all but driven by strong domestic consumption. Despite the government imposing a conditional export ban in the middle of 2008, cement dispatches in the Kingdom rose to record levels; it grew nearly 13% YoY to 34.8 million tonnes during 9M 2011 due to buoyant construction activity. With a current construction projects backlog of nearly USD602 billion, Saudi Arabia has surpassed the UAE (backlog of USD410 billion) to become the largest construction market in the GCC. The construction market in the Kingdom is booming due to the government’s strong focus on infrastructure; Saudi Arabia has planned a spending of SAR580 billion in 2011 and additional SAR1,444 billion under its Ninth Five-Year Development Plan. We hence forecast cement consumption to increase at a CAGR of 8.0% over 2010–2015. Robust demand for housing (the Kingdom requires nearly 1.65 million new housing units over the next six years) would also support the growth in cement consumption.

With increasing growth in consumption, cement capacity has also expanded rapidly, outstripping demand by around 6.5 million tonnes in 2010. Given the scheduled capacity expansion plans of cement manufacturers, we estimate total cement capacity to reach 58.2 million tonnes by the end of 2011. At this capacity and considering the expected growth in consumption, we estimate the oversupply to peak out at 9.0 million tonnes in 2011. Although these excess supplies are likely to be an overhang on the sector in the near term, we do not see it as a major cause for concern in the medium-to-long term. This is because the current oversupply scenario is likely to taper as demand continues to accelerate over the forecast period. We expect the demand-supply gap to narrow down to 7.8 million tonnes in 2012 and then to 2.8 million tonnes by 2015.

Furthermore, average cement price realizations, which were declining due to oversupply, exports ban and increasing competition from new players, seem to have found some bottom. After tumbling from the annual highs of SAR253 per tonne in 2008, the sector’s average realizations steadily increased to SAR243 per tonne in 3Q 2011 from SAR237 per tonne in 2Q 2011 and SAR231 per tonne in 1Q 2011. We expect cement prices to remain more or less steady at these levels as demand is likely to remain strong. Given this steadier demand and price outlook, we expect the sector to report healthy financial performance going forward. However, on account of traditionally weaker business activities during Ramadan season, we expect 2H 2011 to be relatively weaker than 1H 2011.

Any fall in demand due to decline in government’s spending on infrastructure sector, economic slowdown, larger than expected oversupply scenario and concerns over expected increase in price of natural gas are few of the major risks that could affect overall growth and profitability of the Saudi cement industry.

We initiate coverage on three Saudi Arabian cement companies – Yamama Saudi Cement Company (NEUTRAL), Qassim Cement Company (NEUTRAL) and Southern Province Cement Company (NEUTRAL). We are considering Yamama due to its ideal location and integrated business model. Also, the company is the second-largest cement producer in the Kingdom and enjoys a substantial share in the domestic market. Qassim Cement Company has a strong geographical advantage coupled with the lowest cement production cost in Saudi Arabia would enable the company to remain profitable. We have also considered Southern Cement due to its position as the largest seller of cement in Saudi Arabia during January–September 2011, above industry price realizations, benefits accruing from the upcoming capacity at Tihama and a debt-free balance sheet.

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The sector is most profitable not only in the GCC, but globally

Saudi Arabian cement producers have an edge over other GCC cement manufacturers due to their favorable cost-structure. Fuel and raw material costs are the two areas where the country’s cement producers enjoy significant advantage. These costs generally account for approximately 50-60% of the total cement production expense. Of the total manufacturing cost, energy accounts for close to 32%, while raw material forms 29% of the expense.

Cement is an energy-intensive industry and fuel cost is the largest expense factor in cement production. According to CEMBUREAU , the production of one tonne of cement requires 60-130 kilograms of fuel oil or its equivalent depending on cement type and production technology, and approximately 105 KWh of electricity. Saudi Arabia’s cement companies avail natural gas at a cost of USD0.75/mmbtu, which is nearly 18% of the YTD 2011 average international market price of USD4.15/mmbtu . Furthermore, the key raw material limestone, which is also abundantly available in the country, is accessible at an average cost of SAR6.25 per tonne compared to the global average of SAR20 per tonne. Consequently, Saudi Arabian cement companies’ production cost per tonne averaged just USD28.8 per tonne in 2010, 33% lower than the GCC’s average cost in the same period. Kuwait’s manufacturing cost was the highest at USD59.2 per tonne, followed by the UAE at USD47.8 per tonne and Oman at USD37.0 per tonne.

China (the world’s largest cement producer and consumer) has a low cost of around USD 30 per tonne, primarily due to usage of cheap sources of fuel such as coal. While the second largest producer-consumer, India, incurs an average production cost of USD70 per tonne, which is more than double of Saudi Arabia’s average.

Figure 2: Cement Cost per tonne Figure 3: Gross margin comparison

Source: Tadawul, AlJazira Capital Source: Tadawul, AlJazira Capital

Company Unit Yamama Qassim Southern

12-month Target Price SAR 66.5 76.6 82.4

Potential Upside % (3.0) 7.5 5.3

Current Market Price SAR 68.5 71.3 78.3

Market Capitalization SAR mn 9,247.5 6,412.5 10,955.0

YTD Price Change % 31.7 13.5 26.7

X

P/E (11E) X 12.8 12.1 12.3

P/B (11E) X 2.8 3.4 4.2

EV/ EBITDA (11E) X 12.7 10.2 10.8

Dividend Yield (11E) % 6.4 7.4 7.0

Figure 1: Our picks from the Saudi Cement Sector

Source: Zawya, AlJazira Capital

0

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Saudi Arabia

Oman UAE Kuwait Average

USD

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30.937.0

47.8

59.2

43.7 51.8

%

45.7

%

26.0

%

15.5

%

42.8

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25.7

%

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Oman Kuwait UAE Holcim Lafarge0%

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Robust demand is driving strong growth in cement sales…

The strong consumption of cement in Saudi Arabia is being fueled by a massive construction boom due to sustained investment on infrastructure and the government’s stepped-up expansionary fiscal stance that has only grown stronger since December 2008. Cement dispatches increased at a CAGR of 15% during 2007–10. The country reported nearly 23% growth in cement dispatches in 2009, even though the economy (in real terms) decelerated to a mere 0.6% in that year from 4.2% in 2008. This is despite the conditional export ban that took effect in 2008; this highlights the fact that Saudi Arabia’s cement sector is all but a domestic consumption led growth story. According to the conditions imposed in 2008, the nation’s manufacturers are permitted to export surplus cement as long as cement prices are maintained at SAR200 per tonne.

…quarterly dispatches stay strong, clinker-to-sales ratio at attractive levels

Quite markedly, the quarterly cement off-takes reached record proportions in the first nine months of 2011. During 9M 2011, 34.8 million tonnes of cement was dispatched vis-à-vis 31.0 million tonnes in 9M 2010. Quite specifically, the cement dispatches in the domestic market was the strongest in 2Q 2011; it aggregated to a record 12.9 million tonnes, up 16.4% YoY from 2Q 2010 level. With higher sales, clinker inventory levels have declined in the country with a 0.57:1 clinker stock-to-sales ratio at the end of 2Q 2011. However, cement sales relatively softened in 3Q 2011 due to Ramadan related weakness, which resulted in clinker inventory levels increasing to 0.84:1. Though the clinker-to-sales ratio increased in the third quarter of 2011, it remains substantially low compared to highs of 1.20:1 observed during 3Q 2009, which reported a ripple effect from the economic slowdown and export ban.

Figure 4: Quarterly Dispatches Trend Figure 5: Clinker-to-Sales Ratio

Source: Yamama Cement, Al Jazira Research Source: Yamama Cement, Al Jazira Research

Demand environment remains strong

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2010 20112009

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Saudi Cement Sector

We project Saudi Arabia’s domestic cement consumption to increase at a CAGR of 8.0% during 2010–15, and reach 60.6 million tonnes in 2015. More specifically, the cement demand is forecast to surge 10.5% in 2011, after adjusting for relatively soft demand for cement due to Ramadan related weak construction activity in the third quarter of 2011. In 2012, the consumption is likely to increase 9.4%.

Our demand projection is primarily based on Saudi Arabia’s economic output (GDP). Construction activities generally follow GDP growth with activities surging at a relatively higher rate than the increase in the economic output during expansionary periods. Furthermore, higher construction activity boosts cement demand. For the country’s expected economic output growth over the forecast period, we have relied upon the International Monetary Fund (IMF)’s estimates.

…driven by booming construction, which is likely to remain for long

The government’s stepped-up spending plans and concerted diversification program are fueling sustained investment in infrastructure. This along with increasing private sector investment in industries and real estate is underpinning a massive construction boom in the country. With multi-billion dollar projects underway, the Kingdom has already taken over as the GCC’s leading construction market, even far ahead of the UAE. According to Meed, the active construction projects’ backlog in Saudi Arabia currently stands at USD602 billion, nearly 50% more than the UAE’s USD410 billion.

1. The Saudi Arabian government’s expenditure plan manifests strong investments in infrastructure

The SAR580 billion expenditure plan in 2011 targets investment in infrastructure

Of the total SAR580 billion (USD154.7 billion) planned expenditure program in 2011, 63% is scheduled to be invested on infrastructure construction focused categories. The highlights of the expenditure plan include:

Figure 6: Saudi Cement Consumption forecast

Source: Yamamah Cement, Al Jazira Research

We forecast cement demand to rise at a CAGR of 8% during 2010–15…

0

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Category SAR bn Areas of expense

Education and training

150.0

Constructing 610 new schools, which add to the country’s 3,200 under-construction schools; related school staff cost and education scholarships

Transport and communications

25.2

6,600 kilometers (km) of new roads and 30,200 km of under construction roads; four new airports; and the King Abdulaziz International Airport’s revamp

Health and social 68.712 new hospitals along with 120 hospitals that are under-construction

Water, agriculture and infrastructure

50.8Undertaking water, sewerage and desalination projects

Municipal services 24.5Building inter-city roads and bridges as well as environment-related projects

Specialized credit institutions and state financing

47.0 Distribute loans for the development of the housing and industrial sectors, and SMEs

Other categories (including defense)

213.8

Total 580.0

Category SAR bn Areas of expense

Human resources 731.5

Construction of 25 technology colleges, 28 technical institutes and 50 industrial training institutes; includes expansion of post-graduate education programs and allocation for research centers and technology development

Social and health 273.9Building 117 new hospitals, 750 primary healthcare centers and 400 emergency centers; also aims to improve the physician-per-bed ratio

Economic resources

227.6 Allocation for development of agriculture, water, electricity, mineral resources and tourism projects

Transport and communications

111.1Transport: Expanding the international airport in Jeddah and Madinah, developing the country's railways and establishing a port at Ras Azzour

Communication: Building infrastructure to improve the telecom.network

24.5 Building inter-city roads and bridges as well as environment-related projects

Municipal and housing services

100.5 Construct 1 million residential units by 2014 to improve affordable housing availability

Total 1,444.6

Figure 7: 2011 Budget Allocations

Figure 8: Saudi Arabia’s Ninth Five-Year Development Plan (2011–15)

Source: Ministry of Finance, SAMA, Al Jazira Researc, Al Jazira Research

Source: Saudi Ninth Development Plan, Al Jazira Research

2. Ninth five-year development plan worth SAR1,444 billion (USD385 billion)

The government has committed to spend SAR1,444 billion during 2010–14 on building mostly social and physical infrastructure in the country. This budgeted spending is nearly 67% higher than the development plan of 2005–09. These investments would boost construction activity, adding further traction to cement demand in the long run. The planned investment is summarized as below:

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Category Project Investment (USD bn)

Industrial Zone Modon - Sudair Industrial City 40.00

Industrial Zone Modon - Jazan Industrial City 17.00

Commercial Samba - Headquarters 0.24

Oil and Gas Jubail Refinery & Petrochemical Complex - Facilities Package

0.09

Figure 9: Key ongoing Real Estate construction projects

Source: Zawya Project Monitor, Al Jazira Research

Development of economic city, a key diversification initiative

Cement sales would also benefit from the Saudi Arabian General Investment Authority (SAGIA)’s plans to develop six economic cities with investments totaling USD120 billion. To begin with, SAGIA has commenced the development of four economic cities with investments amounting to USD69 billion; these are expected to be completed by 2018. A major portion of this investment (USD60 billion) is planned to be finished by 2016. According to SAGIA’s estimates, these six economic cities would add SAR562 billion to Saudi Arabia’s GDP by 2020 and accommodate 4–5 million residents.

Industrial sector investments

The cement sector is positioned to benefit from planned developments in the industrial sector. The announced building of capacities in the petrochemical sector and other infrastructure construction projects in the non-oil sector would act as a secondary source of cement demand. The current ongoing key projects in the industrial sector include:

Approval of low-cost housing projects to steer the housing boom

Supply of affordable houses has been one of Saudi Arabia’s key concerns. The Kingdom faces acute shortage of affordable houses for low- to middle-income citizens due to rising land prices and shortage of smaller size housing units. Hence in a measure to boost supply, Saudi Arabia’s King Abdullah issued a royal decree ordering 500,000 low-cost affordable residential units at a total cost of SAR250 billion (USD67 billion) in March 2011. The King gave his initial approval by signing-off the initial designs for thousands of these low-cost housing units in May 2011.

Above all, the Kingdom has to construct over 1.65 million houses over the next five to six years as the housing supply-demand gap continues to widen caused by a rapidly growing population, increasing income levels and reducing average household size. This is likely to unleash a housing boom in several parts of the country, stimulating construction activity; this would accelerate cement consumption.

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Figure 10: Saudi Cement Sector Demand Supply Scenario

Source: Yamama cement, Al Jazira Research

Although these new additions to supply are likely to keep the sector in a tight spot in the near term, surging demand is expected to increasingly reduce the demand-supply gap going forward and help improve utilization rates. The sector is expected to post approximately 84% utilization rate in 2011, higher compared to 81% in 2010 and 75% in 2008. More specifically, we believe much of the new supplies would be absorbed by increasing demand from Riyadh, Jeddah and Makkah as these regions continues to witness buzzing construction activities in the real estate, tourism and infrastructure space.

Capacity has fast expanded, outstripping demand…

With stronger growth in demand and buoyed construction project activities, cement capacity in the country expanded relatively fast. Additionally, new capacities were also added targeting attractive export potentials in Kuwait, Qatar, Iran and Bahrain markets. As a result, Saudi Arabia’s cumulative cement manufacturing capacity expanded from 33 million tonnes per annum (mtpa) in 2007 to 44 mtpa in 2008. The additions were mainly driven by the entry of new private companies in the country’s cement sector. The new players together added a capacity of 8 mtpa lead by City Cement (2.9mtpa), Riyadh Cement (1.9 mtpa), Najran Cement (1.6 mtpa) and Northern Cement (1.6 mtpa). During the same period, Saudi Arabia’s average cement price surged from USD67 per tonne in 2007 to USD100 per tonne in June 2008. The price increase was primarily led by a higher proportion of the country’s cement sales channeled through exports and rapid domestic demand. In lieu of this sharp rise in cement prices, which also resulted in pushing construction cost northwards, Saudi Arabia’s government banned exports. This effectively created an oversupply situation in the country, with total excess supplies standing at nearly 7.1 million tonnes in 2008.

…yet overcapacity is not a major worry in the medium to long term…

We believe the sector is likely to witness further additions to the cement capacity over the forecast period. According to the scheduled plans announced by Saudi Arabian cement manufacturers, the sector’s cumulative capacity is estimated to reach 61.9 mtpa by 2014. The major capacity additions include 3.0 mtpa by Yanbu Cement during 2011, 1.5 mtpa by Southern Cement in 4Q 2011, 1.5 mtpa by Hail Cement in 2013, and 2.1 mtpa each by Arabian Cement and Saudi Cement in 2014. However, given fuel shortage concerns, some of these capacities may face some commissioning delays, such as Southern Cement anticipates commissioning its 1.5 mtpa plant in 2012.

Overcapacity is not a worry in the medium to long term

33 44 46 53 56 59 60 62 64

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Figure 11: Trend in Average Price Realization

Source: Yamama Cement, Al Jazira Research

Unlike their counterparts in the UAE, who are struggling with an oversupply of approximately 28 million tonnes at the end of 2010 owing to several projects that have been either stalled or cancelled, Saudi Arabia’s cement manufacturers operate in a much healthier local demand environment. This may be attributed to a strong government investment commitment on infrastructure projects and continued uptick in the economic activity. As per IMF’s revised estimates, the Kingdom’s economic output (GDP) in real terms is expected to grow at 6.5% in 2011 and 3.6% in 2012. The GDP growth is likely to average 4.6% during 2011–16. Hence, we predict that the demand-supply gap is likely to peak at 9.0 million tonnes in 2011, before it narrows down to 7.8 million tonnes by 2012 and further to 2.8 million tonnes by 2015.

…potential catalysts may rather offer positive surprises

The long awaited approval of the mortgage law could potentially prove to be a big catalyst. The law once approved by the King could boost citizens’ access to home financing options in Saudi Arabia; it would be a key factor promoting home ownership in the country. We believe given the government’s aim to increase home ownership to 80% by 2024, the residential construction is set to showcase strong growth in the upcoming years, aiding cement demand.

While cement prices seems to have bottomed out

Saudi Arabia’s cement sector recorded sharp movements in the average sales price of cement over the last few years. Annual average cement prices increased around 6.4% to SAR253 per tonne in 2008 from SAR238 per tonne in 2006. The cement prices continued to strengthen over this period adding to the surging construction costs. To bring down the prices, the Saudi government banned cement exports. Consequently, cement prices tumbled to an annual average of SAR234 in 2009. However, since then, the price decline has decelerated. Prices have not only stabilized but have been rather on an uptrend. The average price of cement increased to SAR243 per tonne in 3Q 2011 from SAR237 per tonne in 2Q 2011 and SAR231 in 1Q 2011. Though we expect the prices to remain under pressure due to an expected rise in competition as new companies gain market share from incumbents, we do not see any meaningful correction. At best, we expect the cement prices to remain steadier or trend upwards as the demand-supply gap narrows down further in the coming quarters.

238

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210215220225230235240245250255

2006 2007 2008 2009 2010 1Q 2011 2Q 2011 3Q 2011

SAR

Per T

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Owing to record cement dispatches and moderately steady prices, the sector’s aggregate revenues rose 17% in 9M 2011 compared to the same period last year. During 3Q 2011, which was expected to be impacted by the Ramadan-related weakness, the sector’s revenues rose 24% YoY. In 2012 and beyond, the pick-up in economic activity and hence stronger dispatches would support revenue growth. However, ongoing expansions and entry of new players in the market would lead to inevitable challenges leading to underutilization and oversupply in the region. On the other hand, cost rationalization (due to scale benefits and in-house power plants) and robust domestic demand would help cement producers to mitigate the losses due to competitive prices, and hence maintain profitability.

Risk factors

Infrastructure spending depends highly on hydrocarbons

The announced infrastructure-focused budget spending in 2011 worth USD154.7 billion (9.3% of the GDP in 2010) and the ninth five year budget spending worth USD385 billion is expected to drive the cement sector, which relies majorly on the hydrocarbon sector. This is mainly because Saudi Arabia’s economy, though focused on diversification, still has oil as its main source of GDP and government revenues. According to SAMA , oil contributed 48% of the country’s GDP in 2009 and contributed 85% to the government’s revenues in the same year.

Figure 12: Oil as a % of GDP Figure 13: Oil-Sourced Government Revenue

Source: SAMA (Saudi Arabian Monetary Agency) Source: SAMA (Saudi Arabian Monetary Agency)

We expect the sector to post stronger financial performance

53%54%

55%

61%

48%48%

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62%

2005 2006 2007 2008 2009

89% 90%

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89%

85%84%

85%

86%

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2005 2006 2007 2008 2009

Though the economy is diversifying, we believe that with the given scenario it would continue to depend on hydrocarbons in the near term.

Decline in cement realization prices may exert pressure on margins

Cement manufacturers in Saudi Arabia are recording improvement in the average realization price. Cement prices, which averaged SAR231 per tonne in 1Q 2011, steadily moved to SAR237 per tonne in 2Q 2011 and SAR243 per tonne in 3Q 2011. We estimate that the prices would continue to showcase strength as we project a declining oversupply gap in the cement sector. However, any change in the direction of the cement price movement would exert pressure on revenues and margins.

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Subsidized energy cost under clouds of suspicion

According to us, the low-cost natural gas availed by Saudi Arabia’s cement sector is an area of concern. Saudi cement companies receive natural gas at a subsidized rate of USD0.75/mmbtu from state-owned Saudi Aramco. Currently, the government is concentrating efforts on overall economic development and any change in the priority of expenditure can lead to lowered or discontinued supply of low-cost natural gas for cement companies.

In October 2011, Yanbu Cement Company announced it had to halt production at three production lines due to shortage of fuel supply from Saudi Aramco. The CEO of a Saudi Cement Company voiced similar concerns at an Investment Summit held on October 26, 2011 at Riyadh.

Any further events such “fuel unavailability” would force cement companies to source fuel from spot markets leading to a sharp rise in the production cost.

Government intervention remains an overhang for the sector

The Saudi Arabian government intervenes in the determination of selling prices and controls export volumes depending on whether it is favorable for the economy; this leaves cement companies at a disadvantage. Thus, the cement sector’s rate of development has been strongly influenced by government policies.

Currently, the cement sector is subject to a conditional export ban. However, its provisions are leading to minimal export volumes. The proportion of exports in the total cement sales has been plummeting and was 3.6% in 2010 compared to 12% in 2007.

A company can export cement provided it maintains (i) a selling price of USD200 per tonne, (ii) serves all local demand, and (iii) holds a 10% reserve of production to meet local demand. Notably, the market price averaged SAR243 per tonne during 3Q 2011. Hence, this subjectivity in exports turns economically unfavorable for cement companies.

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Global and GCC cement industry

Global cement consumption increased to 3,294 million tonnes in 2010 from 2,342 million tonnes in 2005. Over the last five years, global cement demand increased at a compound annual growth rate (CAGR) of 7.1% due to strong demand from emerging countries. Annual growth in cement consumption during the period remained more than 7.0%, barring 2008–2009 when demand suffered due to the global financial crisis. However, the situation got better in 2010, with cement consumption growing by a strong 9.9%. Short-term demand outlook is positive—according to International Cement Review (ICR), global cement demand is expected to increase at a CAGR of 8.2% over 2011–2012. Global cement demand is mainly driven by developing economies as they spend immensely on infrastructure to boost economic growth. The global cement market is dominated by China that produces and consumes more than 50% of the world’s cement output. China, India and the US, the top three markets for cement, accounted for nearly two-third of the world’s cement consumption in 2010.

Although the Gulf Cooperative Council (or the GCC) is comparatively a smaller cement market, it has emerged as one of the faster growing markets due to large-scale construction activities in the region. Cement consumption in the GCC increased at a CAGR of 10.2% to 84.8 MT in 2010 from 52.2 MT in 2005, led by strong demand from the UAE, Saudi Arabia and Oman. Saudi Arabia is the leading cement consumer in the GCC accounting for nearly half of the region’s total consumption followed by the UAE (30.7%), Kuwait (6.5%), Qatar (6.1%), Oman (5.3%) and Bahrain (1.8%).

Cement Industry Overview

Figure 14: World cement consumption

Figure 16: GCC cement consumption

Figure 15: Top10 consumers in the world

Figure 17: GCC cement consumption share

Source: ICR, Al Jazira Research

Source: Zawya, company website, Al Jazira Research

Source: ICR, Al Jazira Research

Source: Yamamah cement, Zawya, Al Jazira Research

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40.0

60.0

80.0

100.0 Million Tonnes

CAGR 10.2% UAE 26.0%

Oman4.5%

Qatar5.2%

Kuwait5.5%

Million Tonnes

KSA42.1%

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Saudi Cement Sector

Saudi Arabia is by far the largest cement market in the GCC region. The Kingdom is currently amongst the top 15 cement producing countries in the world and contributes around 1.4% to total global output. Interestingly, until 1956, Saudi Arabia met its entire cement demand through imports. Commercial production of cement began only after the establishment of Arabian Cement Company in Jeddah. Since then, the Saudi cement industry has developed significantly.

Saudi Arabia’s total production capacity stood at 52.8 million tonnes in 2010. Over the last five years, total production capacity increased at a CAGR of 16.1%. Separately, cement consumption in the Kingdom expanded at a CAGR of 11.1% over 2005–2010, much faster than the GCC and global average. This increase can be primarily ascribed to strong domestic sales due to growing need for housing and commercial infrastructure.

Regional Dynamics: Demand high in the western and central regions of Saudi Arabia

Cement production and consumption is mainly evident in the western, eastern and central parts of Saudi Arabia as these regions boast strong construction activity, abundant limestone, availability of natural gas and proximity to export markets.

Figure 18: Saudi’s cement consumption grew faster


The Saudi Arabian Cement Sector

According to the Supreme Council of Petroleum and Mineral Affairs Resolution No. 15, dated 11/3/1422, Butane is currently priced as a function of the Naphtha price (Japan Naphtha pricing minus the transportation cost from Ras Tanura multiplied by a conversion factor at year 2007 of 0.68 which will be increased gradually each year to reach 0.70 in the year 2011).

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Western region: The western region (covering major cities of Jeddah, Mekkah, Al Madinah and the King Abdullah Economic City) has a high commercial significance due to heavy tourism and rising infrastructure and real estate activities. The region thus requires huge spending to construct roads, airports, railways and other social infrastructure. The western region also accounts for majority of residential projects in the Kingdom. Yanbu and Arabian Cement are located in the western region and benefit from growing demand in this region. Besides this, proximity to the Red Sea facilitates export to countries such as Egypt.

Eastern region: It boasts abundant supply of natural gas and proximity to export markets such as Bahrain, Kuwait and Qatar. Saudi Cement, the largest cement producer in the Kingdom, and Eastern Province Cement are based in this region. The duo together exported 35% of their total production in 2007; however, the figure fell to 24% in 2009 and to 11% during 2009-2010 due to export ban in 2008.

Central region: The region is the political hub of Saudi Arabia. It is also one of the most active regions in terms of construction activities and involves many commercial and residential projects. Companies operating in this region are Yamama Cement, Qassim Cement, Riyadh Cement and Madina Cement; they together accounted for 33% of the Kingdom’s total production in 2010.

Northern and Southern regions: These regions are characterized by comparatively low construction activities. Thus, cement consumption is low in these regions relative to the rest of the Kingdom. Tabuk Cement, Northern Cement and Al Jouf Cement are located in the northern region and account for just 6% of total production. Separately, Southern Cement and Najran Cement are located in the southern region and account for 19% of total production.

Source: Yamamah Cement, Al Jazira ResearchNote: C* Cement capacity in million tonnes per annum

Figure 19: Geographical distribution of cement companies in Saudi Arabia

Northern, C: 1.7mt

Al Jouf, C: 1.7mt

Qassim , C: 4mt

Yamama , C: 6.3mt Eastern Province,

C: 3.4mt

Saudi , C: 8.6mt

Riyadh, C: 3.8mt City , C: 3mt

Arabian, C: 4.8 mt

Southern Province, C: 5.2mt Najran, C: 3mt

Tabuk, C: 1.3mt

Yanbu, C: 4mt

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Production capacity more than doubled over the past five years

Saudi Arabia recorded a two-fold increase in cement capacity from 25 mtpa in 2005 to 52.8 mtpa in 2010. The rise can be attributed to growing cement demand from major infrastructure projects in the region. Rising oil prices – the mainstay of the Saudi Arabian economy – also supported GDP growth. As a result, the Kingdom was able to earmark more funds for infrastructure development. Over 2005–2010, Saudi Arabia’s GDP grew at an average rate of 3.74%.

Production capacity increased 33% to 43.8 mtpa in 2008, partly driven by the entry of four new players in the industry. The new players added around 5.8 million tonnes of capacity in 2008. However, capacity grew just 5% to 46 mtpa in 2009 due to oversupply in the region.

Among public players, Yamamah Cement, Saudi Cement and Southern Cement have the largest capacity; the trio accounts for nearly 44% of the Kingdom’s total capacity.

During 2005–2010, cement production in Saudi Arabia increased at a CAGR of 10.5% to 42.8 mtpa. In 2008, capacity expanded by a sharp 33%, but production grew a mere 9% since a large volume of new capacity was not operating at the optimum level. Consequently, utilization levels dropped to 75% in 2008 before recouping to 82% in 2009–2010. Rapid growth in demand and moderate expansion in capacity indicates a huge scope for improvement in utilization.

Figure 20: Increase in cement capacity in Saudi Arabia over 2005 to 2010

Source: Yamama Cement, Company website, Zawya, Al Jazira Research

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Environmental norms for cement industry

Cement plants account for about 5% of total global carbon dioxide (CO2) emissions. Thus, the industry has attracted criticism for its adverse impact on climate. Cement companies release significant amount of greenhouse gases, including CO2, sulfur oxide (Sox) and nitrogen oxide (NOx). Per tonne production of clinker leads to emission of around 1 tonne of CO2 (contributed by the combustion of fuels and calcination of limestone). NOx is produced by high temperature combustion, while other exit gases originate from raw materials or fuels. These emissions are a major area of concern for the cement industry. Global cement companies are trying to reduce emissions by improving process efficiency, reducing the clinker to cement ratio by reusing by-products, and encouraging use of alternative fuels. However, inherent emission of CO2 during the basic process of calcinating limestone restricts the scope of improvement.

Release of dust during the grinding process has been another environmental concern. Since environment regulations in developed nations are yet to control such emissions, these issues might pose a major threat in future.

However, the industry is undertaking efforts to employ new efficient technologies and setting standards for air quality. The main opportunities in the kiln are conversion to more energy-efficient process variants (for instance, from a wet process to a dry process with preheaters and precalciner), optimization of clinker cooler, improvement of preheating efficiency, and usage of better burners and process control and management systems. Also, electricity consumption can be reduced by employing improved grinding systems, high-efficiency classifiers and motor systems, and process control systems.

Arabian Cement, Saudi Arabia’s oldest cement producer, adopted an advanced technology for membrane surface filtration, which helped it in enhancing process efficiency from 210tph to 230tph and reducing dust pollutants in the air to less than 10mg/m3.

Figure 21: Cement production and utilization rates over 2005-2010

Source: Yamamah Cement, Zawya, Company website, Al Jazira Research

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Improving demand visibility encouraged new players’ participation

Over the last five years, the Saudi Arabian cement sector has evolved to become highly competitive, with the number of players increasing from 8 to 13. The industry consists of 10 listed companies and four private companies. One listed company, Hail Cement, has not commenced operations. Saudi Cement Company (14.3% share), Yamama Cement Company (13.3%) and Southern Province Cement Company (12.9%) are the top three cement companies in terms of domestic market share. The top three players command a 40.4% share of the domestic cement sector; market share of the remaining players ranges between 2.5% and 10.0% (except Al Jouf Cement Company that started operations in 2010).The number of publicly listed cement companies increased to 10 from 8 after Al Jouf Cement Company and Hail Cement were listed on the Saudi Stock Exchange (Tadawul). Al Jouf Cement has yielded good returns for investors who subscribed for the company’s shares during its IPO in August last year. The stock’s current market price of SAR14.4 per share implies an upside of 44% from the offer price of SAR10 per share. Al Jouf Cement had raised SAR650 million (USD173 million) by offering 65 million shares at SAR10 per share. In October 2011, Hail Cement raised SAR489 million (USD130 million) by offering 48.9 million shares at SAR10 per share. The company was listed on the Saudi bourse with a 3.1% premium to its issue price. Currently the stock is trading 52% higher compared to its offer price.

New players challenging the market share of incumbents

Dominance of top three cement companies has been decreasing over the last few years. In 2003, the top three cement companies in the Kingdom accounted for 50.2% of the domestic sales. This figure fell to 40.4% by the end of 2010 due to entry of new players in the Saudi cement market. New players threatened the dominant position of existing companies and boosted their market share from 0% in 2007 to 21.1% in 2010. Among the four private players that entered the Saudi cement industry, Najran Cement recorded the fastest growth; its market share increased from 2.4% in 2008 to 7.4% in 2010. Najran Cement lies in the south-west part of Saudi Arabia, near the Yemeni border. This, coupled with proximity of the company’s facilities to the Najran city, majorly contributed to its significant growth. In addition, Najran has huge deposits of limestone,

Figure 22: Market Share of the all the cement companies in 2010

Source: Yamamah Cement, Al Jazira ResearchSaudi Cement(SCC), Yamamah Saudi Cement(YSCC), Southern Province Cement(SPCC), Qassim Cement(QCC), Yanbu Cement(YCC),

Arabian Cement(ACC), Najran Cement(NJCC), Eastern Province Cement(EPCC), Riyadh Cement(RCC), City Cement(CCC), Tabuk Cement(TCC), Northern Cement(NRCC), Al Jouf Cement(JCC)

Competitive Landscape

SCC14.3%

YSCC13.3%

SPCC12.9%

QACC10.2%YCC

9.3%ACC7.8%

NJCC7.4%

EPCOO7.2% RCC

6.2% CCC5.0%

TCC3.2%

NRCC2.6%

JCC0.8%

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Figure 23: Top 3-players market share falling cial leverage Figure 24: Increasing share of private players

Source: Yamamah Cement, Al Jazira Research Source: Yamamah Cement, Al Jazira Research

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clay, sandstone and gypsum, which can be used for more than 100 years. In terms of market share of private players, Najran Cement is followed by Riyadh Cement, City Cement and Northern Cement. Yanbu Cement, one of the top three cement producers in 2008, suffered the most due to rising competition in the industry. Its market share dropped to 9.3% in 2010 from 14.4% in 2008. Yanbu Cement, based in the north western region of Saudi Arabia, suffered as it halted production temporarily due to the ongoing fuel issue. Among other major players, Southern Province Cement’s market share dropped from 15.5% in 2008 to 12.9% in 2010—the company, located in the southern part of Saudi Arabia, is facing intense competition due to aggressive marketing strategies adopted by its regional peer Najran Cement. The other two private players, City Cement and Riyadh Cement, are aptly placed in the central region, which is the hub of construction activities.

Foreign players yet to begin their operations

The Saudi Arabian cement sector benefited due to absence of any large multinational (foreign) cement company in the Kingdom until 2009. The Saudi Arabian government allows entry of foreign players only through joint ventures with a local partner (holding a majority stake). By now, two international cement companies have shown interest in the Saudi cement market: Italcementi and Lafarge. Italcementi Group, the world’s fifth-largest cement producer, formed a 50:50 joint venture with Arabian Cement Company to operate in the Saudi cement market. The JV started operating a ready mixed concrete plant in March 2009, while their cement plant has got delayed and would be completed by 2014. The Lafarge project, a JV with Khayyat Group, is yet to commence operations.

Conversely, some of the neighboring markets like Egypt and the UAE have a large presence of multinational firms; these countries also allow a foreign firm to hold a majority stake in JVs. For instance, Egypt is home to most of the world’s leading cement producers like Italcementi, Holcim, Cemex and Lafarge.

The competition is likely to intensify further

New private players in the Saudi Arabian cement industry have rapidly eaten into the market share of public companies.

Competition is likely to intensify further as many new players are planning to enter the Kingdom’s cement sector. The four new cement companies that are expected to start operations within the next 2–3 years are Gulf Cement Company (1,500 TPD), Al Safwa Cement (1,650 TPD), Al Ahsa Cement (5,000 TPD) and Al-Baha Cement (N.A).

According to Saudi-based newspaper Al Riyadh, the Kingdom’s Ministry of Petroleum and Mineral Resources would soon grant seven new licenses (five licenses for the production of Portland cement and two licenses for the production of white cement) for the use of

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Figure 25: Revenue growth led by local sales Figure 26: Average realizations recovering

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limestone in the cement industry. This could further pressurize the market share and realizations of established players. However, the expected growth in demand may bridge the demand–supply gap and protect against any significant downfall in realizations.

Historical Performance Analysis

Revenue growth driven by domestic sales, while prices remained subdued

Combined revenue of public companies (except Al Jouf) in the Saudi cement industry increased at a CAGR of 5% over 2006–2010. Revenue growth was the highest in 2007 due to strong sales growth and higher realizations.

While revenues declined 1% in 2008 and 2009 due to the adverse impact of global financial crisis, export ban and competition from private players. During 2008, total cement volume growth declined to 7.5% from 13% in 2007, while realizations remained steady. In 2009, though volumes recovered industry’s average realizations fell considerably from SAR253/tonne to SAR234/tonne.

After a period of high growth (average price of SAR252/tonne) during 2007–2008, realizations declined to an average of SAR229/tonne in 2009–2010 (excluding Arabian Cement prices, as it includes ready mix concrete sales in total sales).

Revenues increased 17% yoy during 9M 2011, led by strong sales and improvement in realizations. During the same period, average prices for cement producers improved to an average of SAR237/tonne from SAR227/tonne during the same period in 2010. Going forward, due to the prevailing over-capacity situation in the region, growth in realizations would be slower than expected.

Within the industry, Arabian Cement and Tabuk Cement were the worst performers. Over 2006-2008, the revenue for Arabian Cement and Tabuk Cement registered a negative CAGR of 0.1% and 8%, respectively, while Yanbu Cement grew by a mere 1.5%. These companies recorded tepid volume growth as well as the steepest fall in their market shares due to competition. Top performers in the industry were Qassim Cement, Yamamah Cement and Southern Province Cement, which recorded revenue CAGR of 15.6%, 7.6% and 6.3%, respectively.

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Figure 27: Export sales depleted since the export ban levied by the government

Source: Tadawul, Al Jazira Research

Growth through exports faded due to government ban

Although the Kingdom’s cement industry is largely driven by domestic sales (accounting for 94.6% of total sales), strong cost advantage enabled the sector to grow its exports rapidly over 2003–2007. In 2007, exports contributed 11.6% to total cement/clinker sales. However, due to increasing concerns over rising prices and short supply in the domestic market, Saudi Arabia imposed a ban on cement exports in June 2008. Consequently, contribution of exports declined to 8.7% in 2008 and to 3.7% in 2009. The ban was lifted in 2009 with certain conditions (such as keeping the selling price for domestic market at SAR10 per bag), which aided recovery in exports in 2010. Contribution of clinker/cement exports to total sales improved to 5.7% in 2010. Overall, the number of cement exporting companies came down to 4 in 2011 from 8 in the first half of 2008. Northern Cement surpassed Saudi Cement to become the largest exporter in the Kingdom. Northern cement exports 58% of its total sales.

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Clinker to sales ratio declining since peaking in 2009National Petrochemical Co (YANSAB)

Clinker is formed by heating limestone and other raw materials to a very high temperature in a kiln. Clinker is ground to a powder along with gypsum to make cement. The biggest advantage of clinker is that it can be stored for a long time. Thus, clinker acts as an inventory for cement companies.

With lowering sales growth, clinker stock rose significantly. Starting Q3 2008 (when new players entered the industry), the clinker stock as a percentage of sales kept on rising, indicating a low demand scenario. The clinker to sales ratio peaked in Q3 2009 but started recovering thereafter; it improved considerably beyond 4Q 2010.

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Figure 28: Clinker to sales ratio elevated in 2008 and 2009

Profitability mainly impacted by competition

Cement industry in Saudi Arabia operates at the highest gross margin and net profit margin in the world. This is despite having the lowest price realizations after the UAE in the GCC. Saudi Arabia commands low realizations due to its reduced cost of production, thanks to the availability of fuel at cheap rates. Saudi Arabian cement companies enjoy cheap natural gas (at USD0.75 per mmbtu, about one-fifth the international market price) and availability of majority of raw materials from local mines.

The industry was caught up with oversupply situation and prices started declining after the entry of new players. However, average cost of production remained steady and helped mitigate the overall impact on margins. In fact, Saudi Arabia was able to retain its leading profitability position in the industry. Average cost of production stood at around SAR109/tonne between 2008 and 3Q 2011, mainly due to cost-cutting measures such as installation of in-house power plants and cost rationalization.

Cement industry’s gross margins hovered in the range of 52–60% during 2006–2010. The margins, which peaked in 2007, were lowest in 2010 due to significantly poorer margins of Arabian Cement and Al Jouf as well as a lower-than-average performance by Eastern Province and Tabuk Cement. However, margins regained some of the lost sheen and reached 54.0% during 9M 2011 due to a 15% jump in volumes and improved prices.

Net profit margins for the Saudi Arabian cement industry moved in the range of 58–46% over 2007–2010. Net margins were adversely impacted by higher interest charges, and increasing selling and marketing expenses. However, the margins improved in 9M 2011 to 48.3% from the average of 46.0% in 2010.


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Financial gearing is relatively low

Most of the cement companies in Saudi Arabia have a debt equity ratio ranging from -15% (indicating low leverage and high cash) to 49% (indicating high leverage). This is in line with other countries in the GCC such as the UAE (-13% to 61%), Kuwait (-10% to 48%), Qatar (15.7%) and Oman (7% to 63%). Saudi Arabia’s average debt equity ratio is low compared to some of the global peers such as Holcim Cement (59%), Heidelberg Cement (66%) and Anhui Conch Cement (35%).

Within the Kingdom, Arabian Cement, Yanbu Cement, Al Jouf Cement and Saudi Cement have the highest debt on their balance sheet as they are undergoing capacity expansion plans. Nonetheless, one of the biggest advantage for the Saudi cement industry is the low cost of debt. According to the latest financials, the average cost of debt in the Saudi cement industry is around 2.85%. The low interest cost is also due to the fact that the cement industry is entitled to interest-free financing from the state-owned SIDF (Saudi Industrial Development Fund). This undoubtedly serves as a great advantage when competing with global peers having an average cost of debt at 5%.

Source: IMF, Al Jazira Research

Figure 29: Average cost and gross margins Figure 30: Net profit margin

Figure 31: Net debt to equity and cost of debt in Q1 2011 for Saudi Arabian cement companies

Source: Yamamah Cement, Al Jazira ResearchSource: Yamamah Cement, Al Jazira Research

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Industry Growth Drivers

Improved budgetary allocation fueling construction boom

In the recent budget, the government announced SAR150 bn for education and training as well as nearly SAR144 bn for other social infrastructure, including hospitals, roads and bridges. The Kingdom’s expansionary budget and allocation for its Ninth Development Plan (2010-14) has increased tremendously. The expansionary budget for 2011 rose 7.4% to SAR580 bn. Also, the government’s SAR1444 bn Ninth Development Plan (focused on developing infrastructure) implies an increase of 67.2% from SAR863.9 bn previously. Hence, the demand from the construction sector would remain upbeat over the longer term, forcing the government to continuously and actively participate in the sector.

Moreover, in response to mounting inflationary pressures and unemployment, the Saudi government announced various social infrastructure development projects, including construction of 500,000 housing units at a cost of SAR250 bn. This bodes well for the construction sector and would thus help maintain demand for cement in the region. According to Meed, the active construction projects’ backlog in Saudi Arabia currently stands at USD602 billion.

Growing young population driving housing and social infrastructure demand

Over 2005–10, Saudi Arabia’s population increased at a CAGR of 2.5%, higher than the world average of 1.5%. According to the International Monetary Fund (IMF), the Saudi Arabian economy is expected to expand at a CAGR of 2.1% over the next five years to reach close to 30 million by 2015. Growing population makes it essential to earmark more funds for improving infrastructure. Also, Saudi Arabia’s favorable demographic mix (nearly 32% of the population is under 14 years of age) is expected to contribute constructively to the economic growth over the next 10 years. About 46% of the population falls under the age group of 15–39 years, while just 22% of the populace is above 40 years age. In addition, the declining average household size in Saudi Arabia is expected to elevate the demand for housing units. From 6.1 persons in 2004, the average household size is expected to fall to 5.5 persons in 2010.

Vast young and working population implies that the Kingdom would need to focus more on expanding the existing infrastructure in order to meet residential, hospitality, leisure and commercial needs. Apart from the government’s SAR250 bn spending for affordable housing, Saudi Arabia plans to construct another 10234 housing units by 2014.

Rapid urbanization also signify growing demand

Around 82% of Saudi Arabia’s total population lives in urban areas. Urban population is expected to expand at a rate of 2.2% over 2010–2015, according to international estimates. The Kingdom’s current urbanization rate is lowest in the GCC after Oman (73%). The estimated rise in urban population makes it indispensable for Saudi Arabia to augment its focus on infrastructure.

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Per capita consumption remains low

With a per capita cement consumption of 1,439 kg, the Saudi Arabian cement market is under penetrated and has a huge potential for growth. Per capita cement consumption in the Kingdom is the lowest in the GCC; the Qatari boasts the highest per capita consumption (4241 kg) in the region.

1,439 1,601 1,687

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Figure 31: Net debt to equity and cost of debt in Q1 2011 for Saudi Arabian cement companies

Figure 33: Per capita consumption of GCC countries

1,439 1,601 1,687

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Diversification away from oil – a key to growth

The Saudi Arabian economy is largely dependent on oil-based revenues. Oil and gas sector contributes more than 48% to the country’s GDP. However, due to the volatile nature of this industry, the Saudi government has been focusing on diversifying its economy away from oil. The government has been taking steps to boost growth in other industries. The efforts have yielded positive results, and the contribution of oil to GDP declined to 48% in 2009 from 52% in 2005. Despite a sharp drop in oil prices, the Kingdom’s GDP expanded 0.6% during 2009 due to a 3.8% growth in the non-oil sector.

Cement has emerged as one of the important sectors in Saudi Arabia, given its rapid growth due to favorable business dynamics. In terms of economic activities, the construction sector is the sixth-largest contributor (5%) to the overall GDP. Increase in construction activities and healthy economic expansion is expected to fuel further growth in the cement sector.

Saudi Arabia is developing six economic cities across the country to enhance national competitiveness and attract foreign and domestic investment into the downstream energy, transport and knowledge-based sectors through various incentives. The focus is to improve the quality of education and build human resources. These cities would also stimulate the overall growth in the region, which up till now was restricted to the central, western and to some extent southern parts of the country.

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SAUDI ARABIA CEMENT SECTOR: SWOT ANALYSIS

Strengths • The sector enjoys significant feedstock cost advantage due to the availability of

natural gas supplies at a subsidized rate of USD0.75 per mmbtu from the state-owned Saudi Aramco. Rich reserves of limestone, shale, iron ore and gypsum within the Kingdom add to the sector’s strengths.

• Government is keenly focused on diversifying to other industries by breaking away from the huge dependency on hydrocarbon revenues. The sector also benefits from the sound macro-economic fundamentals due to higher expansionary and developmental budgetary allocations by the government.

• Saudi Arabia offers a stable political climate compared to other GCC countries.

• The sector offers protection from competition since foreign players can enter the Saudi cement market only through a joint venture with a local partner and cannot own more than 50% in the venture.

Weaknesses • Construction is closely linked to the growth of the economy and could suffer

immensely during a period of slowdown.

• Government intervention to control short supply and regulate price hikes due to higher exports may act as a hindrance. For instance, the ongoing conditional ban on cement sales outside Saudi Arabia has reduced the potential for incremental growth.

• Very high logistic costs make the transportation of cement within different parts of the country unviable and hamper the growth of companies that are located outside growth-centric areas.

Opportunities• Rise in young population entering the labor force presents an exciting opportunity

for the real estate sector in the form of first-time housing and increased commercial complexes.

• The government is backing investments in creating six economic cities across the Kingdom, thereby aiding long-term construction growth.

• The Kingdom’s per capita consumption is lower compared to other GCC countries.

• Saudi Arabia is strategically located for exporting cement to GCC countries. The Kingdom can also expand its reach to East Africa and the Indian subcontinent due to superior cost advantage. If the cement export ban is completely lifted, companies operating in the cement sector can enhance productivity.

Threats • Lower availability of natural gas from Saudi Aramco in the near future and use of

high-cost alternatives such as heavy fuel oil could negatively impact the profitability of cement producers in Saudi Arabia.

• Entry of new players, coupled with ongoing capacity expansion, could widen the demand-supply gap and demean price realizations.

• The clinker-to-sales ratio increased sharply in 2008 after many new players entered the market. This may be a cause of concern as there are some new players joining in the next two to three years as well.

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Emerging Trends and Issues

Focus on improving cost efficiency

Though the entry of many new players in a short time has increased the cement supply in the region, it has also heated the competition in the industry. This has put immense pressure on public cement companies which are invariably losing market share to private players amid falling realizations. The situation might worsen as there are some new players waiting to enter the Saudi cement industry. Due to this, majority of the cement producers are planning to expand their existing capacity or undertake refurbishments by adding new kilns to improve cost efficiency. This, in turn, would allow them to gain scale benefits in order to remain competitive.

Limited fuel supply raises concern on future availability

Saudi Arabia is under pressure to fulfill the increasing need of natural gas despite having world’s fourth largest natural gas reserves at 279 trillion cubic feet. The demand for fuel as feedstock had increased mainly from power generation, desalination plants and heavy industry. Due to the shortage of natural gas, Saudi Arabia imported fuel oil to meet its demand for feedstock for power stations last year. Since 2006, there have been no significant new ethane allocations from the Saudi government. As such, there may be scarcity of dry gas feedstock.

Overall fuel supply scenario appears discouraging for the cement industry and could force the cement producers to bear the brunt of likely increase in the natural gas prices, which can go significantly higher than the current prices.

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Saudi Cement Sector

Stock Price Performance Analysis

Cement index has outperformed most of the sectoral indices on the Tadawal. On YTD basis, the cement index rose 27.8%, while the Tadawul All Stocks Index (TASI) lost about 5.0%.

In line with the broader index, all cement stocks fell sharply during February-March of 2011. The decline can be attributed to political protests in the region. However, since then, stock prices have been constantly increasing. All 10 companies constituting the Saudi cement index reported gains on YTD basis, mainly led by improving investor sentiment. Yanbu Cement (up 39%) led the gainers, followed by Saudi Cement (up 33.5%) and Yamama Cement (up 31.7%). Qassim Cement and Eastern Province Cement were the laggards.

During 2008–2010, Arabian (down 63%), Tabuk (down 53%) and Yanbu (down 55%) were the worst hit firms in the sector. However, these companies performed remarkably well in the first half of 2011, thus helping the index display strong performance. Al Jouf and Hail, which launched IPOs in August 2010 and October 2011, respectively, are trading well above their issue price.

The sector traditionally experiences a weak second half each year due to seasonal nature of the business and slowdown in activities due to Ramadan. In light of this, stock prices of companies in the sector could remain subdued in the short term. However, the long-term outlook remains buoyant.



Figure 34: YTD price movement of sectoral indices

Figure 35: YTD price movement of Saudi Arabian cement companies

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of 43 December 2011

Saudi Cement Sector

Valuation Analysis

The Saudi Arabian cement sector is currently trading at a higher relative valuation multiple compared to GCC and global counterparts. The EV/tonne multiple of cement companies averages 368x in Saudi Arabia compared to 194x in Oman, 336x in Qatar, 168x in India and 101x in China. The EV/tonne multiple for Saudi Arabia is also higher when compared to the global top three players – Holcim Cement, Lafarge and Heidelberg Cement – at 187x.

Source: Zawya, Bloomberg, AlJazira Capita, All figures as of November 7, 2011, The income statement ratios are calculated on T12 month’s figures NM: Not Meaningful

Figure 36: Comparative Valuation Analysis

Company PE PBV Yield EV/ton Capacity EBIDTA

X X % USD MTPA margin (%)

Saudi ArabiaSouthern Cement 12.8 4.3 7.1% 462.3 5.8 51.7Saudi Cement 12.5 3.2 3.2% 332.6 8.6 46.9Yamamah Cement 11.6 2.6 6.6% 344.6 6.0 52.6Yanbu Cement 13.0 2.3 3.4% 471.9 4.0 48.5Qassim Cement 11.7 3.4 7.4% 371.7 4.0 53.2Eastern Cement 11.8 2.0 7.5% 291.4 3.5 42.8Arabian Cement 10.1 1.3 2.3% 331.6 3.8 40.1Tabuk Cement 14.8 1.8 6.3% 339.0 1.3 43.0

Average 12.3 2.6 5.5% 368.1 47.3

OmanRaysut Cement Company 13.3 1.8 11.2% 209.4 3.0 27.3Oman Cement Company 12.6 1.0 8.1% 178.1 2.2 29.0

Average 13.0 1.4 9.7% 193.8 28.2

QatarQatar National Cement Company 12.7 2.4 5.1% 336.0 4.4 44.8

Average 12.7 2.4 5.1% 336.0 44.8

UAEGulf Cement Company - UAE 22.4 0.6 11.0% 48.3 2.7 4.3Union Cement Company NM 0.5 8.4% 38.1 4.2 NMRas Al Khaimah Cement Company NM 0.5 NM 90.8 1.0 NMNational Cement Company 22.0 0.7 6.4% 222.2 1.5 NMSharjah Cement and Ind Dev Co NM 0.2 11.1% 64.6 2.0 7.5Fujairah Cement Industries NM 0.4 NM 120.8 2.2 18.2

Average 22.2 0.5 9.2% 97.5 10.0

IndiaUltratech 15.8 3.1 0.5% 141.0 49.0 22.0Ambuja 22.8 3.3 1.6% 185.9 25.0 25.0ACC 16.0 3.7 2.5% 177.7 26.2 29.2

Average 18.2 3.3 1.5% 168.2 25.4

ChinaAnhui Conch cement company 9.1 2.6 1.0% 134.2 150.0 30.8Tangshan Jidong cement 12.1 2.2 0.0% 68.7 90.0 25.7

Average 10.6 2.4 0.5% 101.4 28.3

Global top 3Holcim 14.4 1.1 2.8% 186.2 194.0 21.2Lafarge 13.5 0.5 3.5% 167.1 205.0 20.0Heidelberg 16.8 0.5 0.8% 207.9 103.0 19.7

Average 14.9 0.7 2.4% 187.1 20.3

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Saudi Cement Sector

However, the PE multiple averages 12.3x in Saudi Arabia; this is lower compared to 16.6x in the GCC, 15.2x in Asia-Pacific (India and China) and an average of 14.9x for the top three players. The valuation seems justified as the cement companies in Saudi Arabia operate at much higher EBIDTA margins compared to global peers and offer strong growth due to their low per capita consumption. Saudi Arabia’s cement companies also offer a high dividend yield ratio vis-à-vis other global players.

Source:, Zawya,Bloomberg, AlJazira Capital, All figures as of November 7, 2011

Source:, Zawya,Bloomberg, AlJazira Capita, All figures as of November 7, 2011

Figure 37: EV/Tonne Valuation Chart

Figure 38: P/E Valuation Chart

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of 43 December 2011

Saudi Cement Sector

Companies That Look Attractive For Investors Looking For Cash Returns Rather Than Capital Gains

At this point in time, we are positive on three cement companies: Yamama Saudi Cement Company (Yamama), Qassim Cement Company (Qassim) and Southern Province Cement Company (SPCC).

• We initiate coverage on Yamama with a target price of SAR66.5, representing a potential downside of 3.0% from the current price. Considering the company is the second-largest producer in the Kingdom, it is well-placed to capitalize on the current increase in demand for cement. An ideal location with absolute cost advantage adds to our optimism. The expected dividend yield for 2012 is estimated around 6.4%.

• We initiate coverage on Qassim with a target price of SAR76.6; this implies a potential upside of 7.5% at current levels. The company enjoys the lowest cost of production, and hence highest profitability in the Saudi cement industry. Qassim’s strategic location in the central region is also a significant positive. The expected dividend yield for 2012 is estimated around 7.4%.

• We initiate coverage on SPCC with a target price of SAR82.4; this implies a potential upside of 5.3% at current levels. Apart from holding the leadership position in KSA (market share of 14.4% during January–September 2011), the company benefits from its upcoming capacity at Tihama and its ability to maintain above industry price realizations for cement. Debt-free balance sheet and regular dividend payouts also add to its attractiveness. The expected dividend yield for 2012 is estimated around 7.2%.

Note: Our target price is based on the Discounted Cash Flow (DCF) methodology and comparable valuation. In the DCF model, the income statement, balance sheet and cash flow statements have been forecasted until 2015. The cash flows are then discounted using WACC in order to arrive at the target price.

of 43 December 2011

Saudi Cement Sector

YAMAMA SAUDI CEMENT

Established in 1961, Yamama Saudi Cement Company (Yamama) is the second-largest cement manufacturer in Saudi Arabia. The company’s production capacity aggregated 6.3 million tonnes (MT) at the end of 2010. YSCC produces ordinary Portland cement and sulfate resisting cement. The company has a 33.3% stake in Cement Product Industry, which was established in 1972 and produces paper bags for cement packaging. Yamama enjoys a significant cost advantage vis-à-vis peers due to its integrated production plants and captive power supply.

• In FY2010, Yamama reported a net income of SAR656.9 mn on higher sales volume (up 5.4% in 2010) and price realizations (up 3.8%). Net margin stood at 51.6% during the same period.

• During 9M 2011, the company’s performance was strong as revenue increased 12.1% YoY to SAR1,072.8 mn. The growth was supported by strong volumes (up 9.3% YoY) and better price realizations (up 3% YoY).

• We expect Yamama to report a net profit of SAR721.0mn on revenues of SAR1,425.1mn in 2011.

Stock Details Stock Performance

Financial Performance

QUARTERLY FINANCIALS

Shareholding Pattern

Investment Summary

• Yamama, with a production capacity of 6.3 MT, is the second-largest player in the Kingdom. In order to strengthen its position, the company acquired a 20% stake in Yemeni Saudi Cement Co and 5% stake in Hail Cement (scheduled to commence operations by 1H 2013). Yemeni Saudi Cement owns a 1.4 MT cement plant near the Yemeni city of Aden.

• The company is located in the central region, close to the capital city of Riyadh, which is one of the strongest demand centers. Cement sales grew 9.3% YoY during 9M 2011 due to stronger demand and higher utilization rate (95% vis-à-vis 88% in 9M 2010).

• Yamama has lower cost of sales per tonne mainly due to low fuel cost, integrated production plants and captive power supply. Therefore, the company enjoyed strong gross and net profit margins of nearly 56% and 52%, respectively, in 2010.

• We arrived at a 12-month target price of SAR66.5 for Yamama, representing a potential downside of 3.0% from the current levels.

Rating: NuetralCurrent Price (SAR) 68.5Target Price (SAR) 66.5Downside (%) 3.052 week H/L (SAR) 70.2/42.0Shares Out. (mn) 135Market Cap. (SAR mn) 9,247.5 4,000

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TASI YCC

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Indicator Unit 2010 A 1Q 2011 A 2Q 2011 A 3Q 2011 A 4Q 2011 E 2011 E

Total Revenues SAR mn 1,271.9 351.5 420.2 301.1 352.4 1,425.1

YoY Change % 9.3% 0.7% 24.7% 11.1% 11.9% 12.0%

Gross Profit SAR mn 668.5 184.7 219.0 152.9 179.5 736.1

YoY Change % 15.5% 8.4% 16.3% 5.8% 7.9% 10.5

Net Income SAR mn 656.9 179.8 220.4 148.6 172.3 721.0

YoY change % 17.0% 8.8% 14.8% 6.3% 7.8% 9.8%

EPS SAR 4.87 1.33 1.63 1.10 1.28 5.34

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Saudi Cement Sector

Investment Overview

• Second-largest producer: Yamama is the second-largest cement producer in Saudi Arabia, with a capacity of 6.3 MT and a 12.8% share (January–September 2011). The company has been able to retain its leading position despite the emergence of several new cement players such as Riyadh Cement and City Cement. To further strengthen its position in the industry, Yamama acquired a 20% stake in Yemeni Saudi Cement Co and 5% stake in Hail Cement. Production at the latter is scheduled to commence by 1H 2013. Yemeni Saudi Cement has a plant capacity of 1.4 MT per year and is situated near the Yemeni city of Aden.

• Ideal location and higher utilization aid strong growth in sales: Yamama is located in the central region of Saudi Arabia, which continues to witness a rise in construction and real estate activities. The central region accounts for nearly 40% of the total demand for cement in the Kingdom. Due to stronger demand, cement sales grew 9.3% during 9M 2011, while production increased nearly 8.5% YoY to 4.5 MT. Yamama’s plant utilization rates improved significantly to 95% in 9M 2011 from 88% in 9M 2010.

• Absolute cost advantage: Yamama has an integrated cement manufacturing plant, with self-sufficiency in power. The company operates a captive power plant with a generation capacity of 125 MW. An integrated business model helps in reducing cost of sales and improving profitability. Yamama’s production cost stood at SAR106 per tonne during 9M 2011 compared to the industry average of SAR111 per tonne. Similarly, the company’s gross and net profit margins averaged 55.6% and 51.0%, respectively, vis-à-vis the respective industry averages of 55.2% and 50.0% during the same period.

• Valuation: We have used the blended valuation approach based on the DCF and comparative methods to value Yamama. Based on this, we arrived at a 12-month target price of SAR66.5 for the company’s stock, implying a potential downside of 3.0% from current levels.

Risk Factors

• Any upward movement in subsidized fuel rates and downward movement in utilization rates against our expectation would lead to a revision of our forecast.

SWOT Analysis

STRENGTH WEAKNESS

• Second largest producer• Integrated business model and

captive power supply provide huge cost advantage

• Situated close to the end markets in the domestic region

• No further announcement of any expansion plans

• Distance from majority of the export market locations

OPPORTUNITIES THREAT

• Strategic holdings with new cement companies

• Large scale construction and real estate projects commencing in the region

• Any rise in subsidized fuel cost could affect company’s profitability significantly

• Increasing competition in the central region

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Saudi Cement Sector

Financial Data

Income Statement (SAR million) 2010A 2011E 2012E 2013E

Revenue 1,271.9 1,425.1 1,454.9 1,483.3

Growth YoY (%) 9.4% 12.0% 2.1% 1.9%

Cost of Revenue (560.1) (634.3) (654.1) (665.2)

Gross Profit 711.9 790.8 800.9 818.1

Selling/General/Admin. Expenses (43.4) (52.5) (53.3) (54.5)

EBITDA (%) 52.6% 51.8% 51.4% 51.5%

Depreciation/Amortization (2.2) (2.2) (1.6) (1.6)

Operating Profit (%) 52.4% 51.7% 51.3% 51.4%

Interest Income (Expense) 5.6 11.8 13.5 15.2

Profit Before Minority Interest and Tax/Zakat 681.6 747.9 759.5 777.2

Provision for Tax / Zakat (25.0) (26.9) (25.8) (26.4)

Net Profit 656.6 721.0 733.7 750.7

Balance Sheet (SAR million) 2010A 2011E 2012E 2013E

Cash and Cash Equivalents 28.2 41.0 50.9 60.9

Inventories 132.3 136.7 135.5 138.2

Other Current Assets 941.2 1,135.2 1,332.8 1,530.8

Fixed Assets 2,106.1 1,962.9 1,815.7 1,664.6

Other Non-Current Assets 445.7 439.8 435.8 433.0

Total Assets 3,653.4 3,715.6 3,770.8 3,827.5

Total Current Liabilities 245.8 263.5 268.6 230.0

Long Term Debt 189.9 112.5 35.1 -

Other Non-Current Liabilities 59.0 56.6 54.3 52.1

Total Liabilities 494.7 432.6 358.0 282.2

Share Capital 1,350.0 1,350.0 1,350.0 1,350.0

Total Equity 3,158.7 3,287.0 3,417.6 3,551.3

Total Liabilities & Shareholders’ Equity 3,653.4 3,719.6 3,775.6 3,833.4

Cash Flow Statement (SAR million) 2010A 2011E 2012E 2013E

Cash Flow from Operating Activities 819.1 903.9 936.9 948.0

Cash Flow from Investing Activities (139.8) (42.4) (40.2) (36.0)

Cash Flow from Financing Activities (691.9) (670.1) (680.5) (694.5)

Net Change in Cash (12.5) 191.5 216.2 217.4

Cash at the Start of the Year 712.2 699.7 891.2 1,107.3

Cash at the End of the Year 699.7 891.2 1,107.3 1,324.8

Ratios 2010A 2011E 2012E 2013E

P/E (x) 14.1 12.8 12.6 12.3

P/BV (x) 2.9 2.8 2.7 2.6

EV/EBITDA (x) 14.0 12.7 12.6 12.3

Dividend Yield (%) 5.8 6.4 6.5 6.7


of 43 December 2011

Saudi Cement Sector

QASSIM CEMENT

Established in 1976, Qassim Cement Company (Qassim), one of the top five cement producers, is located in central Saudi Arabia. The company accounts for 10.2% share in the domestic market. Qassim has an annual installed production capacity of 3.5 million tonnes of clinker and 4.0 million tonnes of cement. The company manufactures ordinary portland cement, sulfate resistant cement (SRC) and limestone cement. Qassim generates most of its revenue in the domestic market. At the end of 2010, the company’s total cement production capacity stood at 4.2 MT, with one of the highest utilization rates in the industry.

• In FY2010, Qassim’s revenues fell nearly 2% YoY to SAR968.4mn, mainly due to lower price realizations (declined to SAR229/tonne from SAR231/tonne in 2009). The net income fell 16% YoY to SAR500.6mn during the same period.

• Qassim posted strong performance in 9M 2011 due to higher price realizations compared to 9M 2010. Also, the company’s average realization rose 4.8% YoY to SAR241/tonne.

• We expect Qassim to report a net profit of SAR530.3mn on revenues of SAR1,011.5mn in FY2011.





Investment Summary

• Qassim’s proximity to high-growth areas, such as central and western Saudi Arabia, boosts its sales volumes. Going forward, demand for cement in these regions is expected to accelerate driven by a rise in construction activities and considerable spending on infrastructure projects.

• The company produces more than its capacity to cater to the growth in demand from central and western regions. Higher production volumes enable Qassim to significantly lower its cost of production. Consequently, the company enjoys the highest profitability in the Saudi cement industry.

• No near-term expansion plans and high utilization rates limit Qassim’s growth prospects. The company has been operating at an average utilization of 106% over the past two years, restricting its scope for any significant upside in volumes as well as its ability to benefit from an increase in demand for cement in the central region.

• We arrived at a 12-month target price of SAR76.6 for Qassim, representing a potential upside of 7.5% from current levels.

Rating: NeutralCurrent Price (SAR) 71.3Target Price (SAR) 76.6Upside (%) 7.552 week H/L (SAR) 72.3/52.5Shares Out. (mn) 90.0Market Cap. (SAR mn) 6,412.5 5,000

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GOSI20%

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Total Revenues SAR mn 968.4 275.4 275.6 213.4 247.1 1,011.5

YoY Change % -1.8% 1.1% 7.8% 7.1% 2.5% 4.4%


YoY Change % -3.0% 2.9% 3.2% 11.1% 1.8% 4.4%

Net Income SAR mn 500.6 147.2 144.7 115.0 123.5 530.3

YoY change % -16.9% 1.3% 6.6% 7.4% 10.0% 6.0%

EPS SAR 5.56 1.64 1.61 1.28 1.37 5.89

of 43 December 2011

Saudi Cement Sector

Investment Overview

• Proximity to high-growth regions: Qassim is located in the central region of Saudi Arabia and benefits from the strong demand for cement from central and western parts of the Kingdom. The company’s production increased at a CAGR of 19.8% during 2006–2010 from 2.2 MT to 4.2 MT. Qassim is expected to continue on a steady growth path as demand is projected to increase due to the government’s active participation in construction and real estate projects, especially in the central and western parts that are characterized by high population, tourism and infrastructure development.

• Lowest cost of production: The Company’s cost of production is the lowest in the industry; during 9M 2011, cost of production averaged SAR101 per tonne compared to SAR116 for the industry. This is largely due to the fact that the company operates at a significantly high utilization rate driven by strong growth in volumes. Qassim reported an average utilization of 107% during 9M 2011 compared to 106% in 2010. Gross profit margins averaged 58.2% (57.9% in 9M 2010), while that for the industry averaged 55.2% during 9M 2011.

• Limited cement capacity restricting growth prospects: The Company has been operating at more than 100% of its capacity since 2009. In addition, Qassim has not announced any expansion plans in the near term. A high utilization rate coupled with no expansion plans restrict any significant upside in sales volume and could also limit its ability to capitalize on the growing demand for cement in the Kingdom.

• Valuation: We have used the blended valuation approach based on the DCF and comparative methods to value Qassim. Based on this, we arrived at a 12-month target price of SAR76.6 for the company’s stock, implying a potential upside of 7.5% from current levels.

Risk Factors

• Any upward movement in subsidized fuel rates and downward movement in utilization rates against our expectation would lead us to revise our forecast.

SWOT Analysis

STRENGTH WEAKNESS

• Strategic high growth location advantage

• Low cost of sales; high gross and profit margins

• No announcement of any expansion plans

• Declining clinker to sales ratio


• Increasing demand for cement due to the announcement of large scale infrastructure projects in Saudi

• Increase in subsidized fuel cost and price of raw materials, which are largely controlled by government

• Rising competition from new entrants in the central region

of 43 December 2011

Saudi Cement Sector

Financial Data


Revenue 968.4 1,011.5 1,016.5 1,026.7

Growth YoY (%) -1.8% 4.4% 0.5% 1.0%

Cost of Revenue (411.7) (431.8) (436.1) (442.7)

Gross Profit 556.8 579.7 580.5 584.1

Selling/General/Admin. Expenses 38.2 38.5 38.6 41.3

EBITDA (%) 63.7% 63.3% 63.1% 62.6%



Interest Income (Expense) 4,263.9 12,885.9 12,885.9 12,885.9

Profit Before Minority Interest and Tax / Zakat 522.9 554.1 554.8 555.6


Minority Interest 0.2 (0.0) (0.0) (0.0)

Net Profit 500.6 530.3 530.9 531.7



Inventories 186.6 190.4 194.5 197.4

Other Current Assets 60.3 64.4 64.7 65.3

Fixed Assets 1,222.6 1,208.8 1,191.3 1,170.9


Total Assets 2,023.0 2,143.5 2,203.3 2,264.6


Long Term Debt - - - -



Share Capital 900.0 900.0 900.0 900.0

Total Equity 1,854.6 1,912.1 1,970.3 2,029.3



Cash Flow from Investing Activities 130.3 (71.0) (64.2) (72.0)


Net Change in Cash 4.1 140.4 90.9 86.1

Cash at the Start of the Year 15.6 19.7 160.1 251.0

Cash at the End of the Year 19.7 160.1 251.0 337.1

Ratios 2010A 2011E 2012E 2013E

P/E (x) 12.8 12.1 12.1 12.1

P/BV (x) 3.5 3.4 3.3 3.2

EV/EBITDA (x) 10.6 10.2 10.2 10.2

Dividend Yield (%) 7.4 7.4 7.4 7.4


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Saudi Cement Sector

SOUTHERN PROVINCE CEMENT

Established in 1978, Southern Province Cement Company (SPCC) is a cement manufacturer based in the southwest region of Saudi Arabia. With an output of 5.3 million tonnes (MT) in 2010, SPCC is among the top three cement manufacturers in the Kingdom. The company owns cement factories at Jizan, Bisha and Tihama with a combined production capacity of 5.4MT per annum. SPCC is currently adding a second clinker line at Tihama which is likely to be commissioned by 2H 2012. The company mainly manufactures and markets ordinary Portland cement and sulfate resisting cement.

• In FY2010, SPCC’s net income totaled SAR658.5 mn on sale of SAR1309.1 mn. Sales volumes were up 2.3%, while realizations declined in line with the overall industry trend.

• SPCC posted strong numbers in 9M 2011. The company’s revenues surged 25.0% YoY to SAR1236.3 mn, while net income grew 30.6% to SAR644.7 mn during the period under review.

• We expect the company’s net profit of SAR889.0 mn on revenues of SAR1689.9 mn in FY2011. Moreover, we expect revenues to grow by 3% to SAR1,740.6 mn and net profit by 2.3% to SAR909.4 mn.





Investment Summary

• SPCC is the single largest supplier of cement in Saudi Arabia with a 14.4% market share during January–September 2011. Commissioning of a new capacity at Tihama in 2012 is expected to enable the company to solidify its position in the market.

• SPCC extracts higher realizations for its produce compared to other cement players in the region. At SAR240, average realization per tonne of cement for SPCC was 4% premium to the industry average in 2010. The company’s realizations were ~5% higher than the industry average in 2009.

• SPCC has a strong balance sheet. The company had cash and cash equivalents totaling SAR547.1 mn and a zero debt toward the end of December 2010. SPCC also makes regular dividend payments to its shareholders; the company paid a cash dividend of SAR5.25 per share in 2010.

• We arrive at a 12-month target price of SAR82.4 for SPCC, representing a potential upside of 5.3% from the current level.

Rating: NeutralCurrent Price (SAR) 78.3Target Price (SAR) 82.4Upside (%) 5.352 week H/L (SAR) 77.8/57.0Shares Out. (mn) 140.0Market Cap. (SAR mn) 10,955.0 5,000

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Southern TASI

GOSI10%PIF 37%

Public47%




Total Revenues SAR mn 1,309.1 436.8 444.4 355.1 453.6 1,689.9

YoY Change % -0.7% 23.7% 23.8% 28.2% 41.8% 29.1%


YoY Change % -8.4% 18.4% 30.7% 49.4% 45.3% 34.3%

Net Income SAR mn 658.5 225.9 239.1 179.8 244.2 889.0

YoY change % -10.2% 19.1% 29.1% 51.2% 48.2% 35.0%

EPS SAR 4.70 1.61 1.71 1.28 1.74 6.35

of 43 December 2011

Saudi Cement Sector

Investment Overview

• Largest market share: SPCC is the leading cement company in Saudi Arabia with a market share of 14.4% (Jan–Sep 2011). The company regained its top position after losing its market share to new players such as Najran Cement Company in 2010. SPCC is expected to further strengthen its position in the Saudi Arabian market after doubling clinker capacity at its Tihama factory to 10,000 tonnes per day by mid 2012. SINOMA (China) is setting up the new capacity. SPCC plans to add a third cement mill at Jazan plant next year, increasing its grinding capacity by 50%.

• Higher realizations than the industry average: SPCC has earned above average realization rates for its produce over the last two years. This can be ascribed to the company’s strategy of targeting domestic markets of Mekkah and Jeddah through the Tihama factory. At SAR240, SPCC’s average realizations (per tonne of cement) had a 4% premium over the industry average of SAR232 in 2010. The company’s realizations were about 5% higher than the industry average in 2009.

• Strong balance sheet: SPCC is a cash-rich company with cash and cash equivalents totaling SAR547.1 mn as of December 31, 2010. The debt-free balance sheet provides the company with much needed financial independence and flexibility given the capital-intensive nature of the business. The upcoming capacity addition at Tihama (worth SAR552 mn) has been internally funded by the company. SPCC also offers regular dividends to its shareholders (dividend payouts of ~95% in 2009 and 2010).

• Valuation: We have used the blended valuation approach based on the DCF and comparative methods to value SPCC. Based on this, we arrive at a 12-month target price of SAR82.4 for the company’s stock; this implies a potential upside of 5.3% from the current level.

Risk Factors

• Any upward movement in subsidized fuel (natural gas) rates and changes in utilization rates against our expectations would lead to revision of our forecasts for the company.

SWOT Analysis

STRENGTH WEAKNESS

• Holds the largest market share in Saudi Arabia (14.4% in 9M 2011)

• Captive power plants at all three factories provide cost advantage

• Holds large piles of clinker stock (1.4MT as of 3Q 2011). However, it is lower from 2.0MT at the beginning of the year


• Increasing demand for cement due to large-scale infrastructure projects in the Kingdom

• New unit at Tihama could help cater to the expected rise in demand for cement due to infrastructure projects

• Rise in cost of subsidized fuels could lead to sharp increase in production costs

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Saudi Cement Sector

Financial Data


Revenue 1,309.1 1,689.9 1,740.7 1,758.1

Growth YoY (%) -0.7% 29.1% 3.0% 1.0%

Cost of Revenue (596.2) (739.9) (765.1) (772.8)

Gross Profit 712.9 950.1 975.6 985.3

Selling/General/Admin. Expenses 41.5 48.2 48.8 50.2

EBITDA (%) 61.0% 61.5% 61.5% 61.4%



Other Income (Expense) 9.8 14.9 11.1 13.3

Profit Before Minority Interest and Tax/Zakat 681.2 916.8 937.8 948.4


Minority Interest - - - -

Net Profit 658.5 889.0 909.4 919.7



Inventories 239.2 308.6 319.2 338.1

Other Current Assets 68.2 84.5 87.0 87.9

Fixed Assets 1647.6 1584.3 2112.9 2041.8


Total Assets 2832.4 2983.2 3109.9 3233.9


Long Term Debt



Share Capital 1400.0 1400.0 1400.0 1400.0

Total Equity 2487.8 2605.0 2724.9 2846.2

Total Liabilities & Shareholders’ Equity 2832.4 2983.2 3109.9 3233.9



Cash Flow from Investing Activities (216.8) (387.2) (161.2) (69.9)


Net Change in Cash (59.6) (184.7) 96.7 179.3

Cash at the Start of the Year 606.6 547.1 362.3 459.1

Cash at the End of the Year 547.1 362.3 459.1 638.3

Ratios 2010A 2011E 2012E 2013E

P/E (x) 16.6 12.3 12.0 11.9

P/BV (x) 4.4 4.2 4.0 3.8

EV/EBITDA (x) 14.1 10.8 10.5 10.4

Dividend Yield (%) 5.8 7.0 7.2 7.3


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Saudi Cement Sector

Appendix 1: Cement properties and types

Cement is the most important and widely used raw material in the construction industry across globe due to its strong hardening and binding properties. Cement manufacturing process includes heating limestone with clay at temperatures as high as 1450-1500 degrees in a kiln. After this clinker is produced and is then mixed with gypsum in different proportions to get various varieties of cement. The type of cement that is used for construction purposes fall primarily into two main categories based on cement properties, hydraulic or non-hydraulic. Also, there are various other forms of hydraulic cement in addition to the two main categories. Out of the many varieties of hydraulic cement, the most commonly used cement today is Portland cement. Some of the commonly used cements are Ordinary Portland Cement, Portland Pozzolona Cement, Portland Blast Furnace Slag Cement, White Cement and Specialized Cement. The biggest difference is in the quantity and composition of clinker.

Common cement types:

1. Ordinary Portland Cement (OPC)OPC, is a most common grey cement used for building/construction purposes. It is prepared by adding a mixture of 95% clinker with 5% of gypsum and other materials. It is one of the largest consumed varieties of cement. It converts into a paste when mixed with water and hardens by means of hydration reactions and processes. This hydration process results in a progressive stiffening, hardening and strength development.

2. Portland Pozzolona Cement (PPC)PPC, is a mixture of 80% clinker, 15% pozzolona and 5% gypsum. Pozzolona has siliceous and aluminous materials when mixed with water reacts with Calcium hydroxide at ordinary temperature to develop cementing properties. It possesses high durability of concrete structure due to less permeability of water. It has a lower heat of hydration, which gives it better resistance towards leakages.

3. Portland Blast Furnace Slag Cement (PBFSC)PBFSC, is Portland cement mixed with a suitable blast furnace slag and gypsum. It is light colored and comprises of high compressive strength due to its latent hydraulic property. It is resistant to chemicals and also has more hardened consistency. Therefore it finds more suitable usage in the construction of dams, bridges, building complexes, and pipes.

4. White CementWhite cement is another form of ordinary Portland cement prepared by adding fuel oil (instead of coal), iron oxide (below 0.4% to provide whiteness) and manganese oxide with clinker. Largely, it is used to enhance aesthetic value in architectures such as tiles, flooring, paintings and other decorative works. To obtain the white color, the manufacturing process undergoes various modifications due to which it becomes more expansive than ordinary cement.

5. Oil Well CementOil Well Cement is manufactured from the clinker of Portland cement and also from cements that have been hydraulically blended. They consist of portland or pozzolanic cement with special organic retarders to prevent the cement from setting too quickly. It has the ability to resist high pressure as well as very high temperatures. It is used for cementing the walls of ‘on-shore’ and ‘off-shore’ oil wells where they are subject to high temperatures and pressures.

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Appendix 2: Product Portfolio

Company Products Region

Tabuk CementOrdinary Portland Cement, Sulphate Resistant Cement and Portland Pozzolan Cement.

Northern

Al-Jouf Cement Ordinary Portland Cement, Sulphate Resistant Cement. Northern

Yamamah Saudi Cement

Ordinary Portland Cement and Sulphate Resistant Cement.

Central

Qassim CementOrdinary Portland Cement, Sulphate Resistant Cement, and Finishing Cement (Lime Stone Cement)

Central

Arabian CementOrdinary Portland Cement, Sulphate Resistant Cement and Portland Pozzolan Cement; Manufacture of Ready Mix Concrete and Paper Bags for Cement Packaging.

Western

Yanbu CementOrdinary Portland Cement, Sulphate Resistant Cement, Portland Pozzolan Cement and Masonary Cement; Production of Paper Bags.

Western

Saudi CementOrdinary Portland Cement, Sulphate Resistant Cement and Oil Well Cement. Eastern

Eastern Province Cement

Ordinary Portland Cement and Sulphate Resistant Cement. Eastern

Southern Province Cement

Ordinary Portland Cement. South Western

Source: Zawya, company website, Al Jazira Research

Figure 39: Product Portfolio of listed cement companies

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Saudi Cement Sector

Appendix 3: Cement manufacturing process

Source: Yamama Cement

Figure 40: Cement manufacturing process

Cement manufacturing process begins with mining and quarrying of limestone (calcium carbonate) which is then crushed in a roller press. This mixture is grinded together with other raw materials like clay, sand and ash in various compositions depending upon the product type. Then this is crushed with alumina and iron oxides, after which the powder is heated to temperatures as high as 1450°C in a rotary kiln, where the compounds react chemically to form clinker. Natural gas is used as the primary feedstock to heat the kiln to meet the required temperature. The length and diameter of the kiln is dependent on the type of the manufacturing process. The clinker is combined with small amounts of gypsum and additives such as limestone slag and fly ash, and finely ground in a finishing mill to produce cement.

An overview of the cement manufacturing process is shown below:

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Glossary

DCF: Discounted Cash Flow

EBITDA: Earnings Before Interest, Taxes, Depreciation and Amortization

CAGR: Compounded Annual Growth Rate

EV: Enterprise Value

YTD: Year To Date

IMF: International Monetary Fund

MEED: Middle East Economic Digest

GCC: Gulf Cooperation Council

mtpa: Million Tonne per Annum

mmbtu: Million Metric British Thermal Units

MT: Million Tonne

TPD: Tonne per Day

ICR: International Cement Review

SIDF: Saudi Industrial Development Fund

PIF: Public Investment Fund

GOSI: General Organization for Social Insurance

PPA: Public Pension Agency

CIA: Central Intelligence Agency

Rating Terminology 1. Overweight: This rating implies that the stock is currently trading at a discount to its 12 months price target.

Stocks rated “Overweight” will typically provide an upside potential of over 10% from the current price levels over next twelve months.

2. Underweight: This rating implies that the stock is currently trading at a premium to its 12 months price target. Stocks rated “Underweight” would typically decline by over 10% from the current price levels over next twelve months.

3. Neutral: The rating implies that the stock is trading in the proximate range of its 12 months price target. Stocks rated “Neutral” is expected to stagnate within +/- 10% range from the current price levels over next twelve months.

4. Suspension of rating or rating on hold (SR/RH): This basically implies suspension of a rating pending further analysis of a material change in the fundamentals of the company.

COMPANY PROFILE

AlJazira Capital, the investment arm of Bank AlJazira, is a Shariaa Compliant Saudi Closed Joint Stock company and operating under the regulatory supervision of the Capital Market Authority. AlJazira Capital is licensed to conduct securities business in all securities business as authorized by CMA, including dealing, managing, arranging, advisory, and custody. AlJazira Capital is the continuation of a long success story in the Saudi Tadawul market, having occupied the market leadership position for several years. With an objective to maintain its market leadership position, AlJazira Capital is expanding its brokerage capabilities to offer further value-added services, brokerage across MENA and International markets, as well as offering a full suite of securities business.

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Disclaimer

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