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Dalmia Bharat merger to improve margins

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World Cement,

Bloomberg are reporting that in a move to simplify the group structure, Dalmia Bharat Group has decided to merge Dalmia Bharat Ltd. (DBL) with its flagship company Odisha Cement Ltd. (ODCL) under the name Dalmia Bharat, creating the country’s fourth largest cement player with a combined capacity of 25 million tpy.

As per the arrangement, two shares of ODCL will be issued for every one share held in Dalmia Bharat Ltd. Dalmia Cement (Bharat) Ltd. (DCBL), the step-down 100 percent subsidiary of Dalmia Bharat will issue shares worth Rs 7200 to ODCL.

The announcement was received well by investors with the Dalmia Bharat stock ending 2% higher on 7 November.

Speaking to BloombergQuint the managing director of Dalmia Bharat Group, Puneet Dalmia said the rationale behind the merger was to create one listed entity and align the interest of all stakeholders.

Here are edited excerpts from the Bloomberg interview.

The market capitalisation of OCL India stands at around Rs 5500 crore. However, as per the restructuring exercise, the equity value of Odisha Cement Ltd. (ODCL) has been pegged at Rs 7200 crore. Could you explain the rationale for this transaction?

This includes intangibles like brand value among other things. Given that equity markets are volatile and market capitalisation is the value at a certain point of time, when we do valuations for mergers, we look at various angles and mainly the intrinsic value of the company.

Could you take us through the debt position once the merger is completed?

Net debt of the group currently stands at Rs 5800 crore and this is expected to come down to 5000 – 5300 crore by FY17.

Why did you choose to merge Dalmia Bharat with ODCL? Why not buy 26% stake held by other stakeholders in ODCL?

Keeping in mind the regulatory and timeline perspective, this we felt would have been the fastest way of achieving what we set out to do, since Dalmia Bharat doesn’t hold many assets and has no mining leases. With the capex cycle behind us and current capacity utilisation at 58%, we are preparing ourselves for an upcycle as soon as possible.

How is capacity utilisation expected to improve with this transaction?

The transaction is only meant to create one listed entity and align the interest of all stakeholders. It is to simplify the whole structure from understanding and decision-making point of view. Coming to your question, the company is outpacing the industry in term of its volume growth, which stood at 20% in the quarter gone by, against the industry growth of sub-5%. However, as demand picks up capacity utilisation is expected to improve to industry standards of 68 percent from the present 58% in a span of 12 – 18 months.

How would consolidating the cement businesses under one unit unlock value for shareholders?

There is expected to be three clear benefits on operating level – a) reduction of administrative cost b) reduce fixed cost and c) reduction in SG&A cost (Selling, general and administrative cost). With all brands now coming under one roof, advertising synergies too would aid to improve the profitability of the company. Overall, this is expected to improve the EBITDA margin by 5 – 100 bps in next 12 – 24 months.

However, bigger macro factors like GST (Goods and Services Tax) is expected to drive the profitability of the cement industry in the future given that the industry is a highly taxed commodity in the country and if cement falls under (the) manufacturing bucket for GST rate then this could percolate into substantial reduction in the tax rate. GST would also mean reduction in logistics cost which would ensure seamless movement of cement within states and lesser number of warehouses.

What does the coming quarter look like?

There would be some negative impact on margins given the hardening price of fuel, especially pet coke in the coming quarters. Having said that, the company historically has been the most profitable in terms of EBITDA/t which stood at Rs 1258 crore/t as against an average of Rs 831 crore for the top five cement players.

However, demand should pick up post (the) good monsoon, which in turn should lead to better pricing. Apart from profitability, we are also focused on sustainability over the long term. By 2018, all our plants are expected to be water positive, while our carbon footprint is lowest in the world.

After the four acquisitions in the eastern market, are you looking for inorganic growth in other markets like the southern market where your share currently stands at 7%?

The short-term priority remains sweating of existing assets since we have built up our capacity utilisation and will further strengthen our foundation by consolidation. Post that, we are open to organic and inorganic growth opportunities. Since the southern market has the most over-capacity in the industry, we do not have any further capacity expansion plans in that market. However, the long-term plan is to build a pan-India footprint.

Are you looking to de-merge the refractory business?

Refractory is a very small percentage of total operations and focus remains on cement business, which is more than 95% of the group’s total business in terms of sales and even higher in terms of profitability. So, de-merger of that business is right now not a priority for us.

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