Cement Industry

Analysis of Maple Leaf Cement, Pioneer Cement & Cherat Cement

I.

Corporate Governance Analysis

Balance of Power

Mr. Syed Mazher Iqbal joined PCL in September 2009 as Executive Director and was promoted to CEO
position in March 2010. At Pioneer Cement, the power lies with the incumbent managers especially with
the CEO and Chairman Shafiuddin Ghani Khan. Presently Shafiuddin is also COO of Forbes Forbes
Campbell. Initially it was owned by Noon Group by holding 60% of shares but in June 2009 Vision
Holding Middle East became its major shareholder after purchasing its shares. (See Exhibit 4P for list of
directors). Directors does not belong to Noon Group and most of them are non-executive. Management
power is highlighted by the point that other shareholders lack cohesiveness thereby making it hard for
an individual shareholder to exert influence over the managers. Managerial remuneration of the CEO is
above Rs. 10 million in 2013. Total remuneration and breakdown by salary, bonus etc. of CEO and other
board members has been given in Exhibit 3P. The CEO only held 100 stocky whereas the stocks hold by
other directors and their family members are shown in Exhibit 2P. The board of directors also include
independent non-executive directors, non-executive directors and executive directors shown in Exhibit
5P.
Share voting structure
There are differences in voting rights across shares. Preference shares are non-voting whereas ordinary
shares are given voting rights.
Banks, DFIs, NBFCs, Insurance Companies, Takaful, Modarabas and Pension Funds hold 14.8%, Vision
holding Middle East holds 47.045% shares with the majority shareholding rights, National Bank of
Pakistan holds 12.065% shares whereas Mr. Cevdet Dal who is non-executive director holds 10.56%
shares.

Nearly all big investment analyst and portfolio management firms follow PCL including Standard capital
securities private limited, Reuters, InvestCap, Taurus Research, JS Investment, Arif Habib Securities, IGI,
Cyan and many others. Trading volume as given by KSE is 898500 shares. Average trading volume is
1515633 shares per year. And the average trading volume of entire KSE100 index was 143837670. PCL

was 6.24% of the total. Therefore the relationship between the firm and financial markets is a strong
one.
The firm has a good reputation as a corporate citizen. Pioneer cement Ltd. is engaged in corporate social
responsible projects by getting involved in religious, charitable, educational and civic activities. PCL has
constructed primary school for boys and girls and a Mosque in Chenki Village, a dispensary near the
factory site. PCL also reconstructed Metal road for residents of chenki and jabbi village. In addition to
fulfilling social obligations in the adjoining areas, the Company also made donations to organizations like
TB Centre, Family Support Programs, Emergency response center and SOS schools.

Stockholder Analysis
Following are the marginal investor in the company. Banks, DFIs, NBFCs, Insurance Companies, Takaful,
Modarabas and Pension Funds hold 14.8%, Vision holding Middle East holds 47.045% shares with the
majority shareholding rights, National Bank of Pakistan holds 12.065% shares whereas Mr. Cevdet Dal
who is non-executive director holds 10.56% shares. The marginal investor of PCL is Vision Holding
Middle East which at present hold 47%. The board of directors, CEO, CFO, and Company Secretary did
not trade any shares throughout the year.

Industry Name

Advertising
Aerospace/Defense
Auto & Truck
Auto Parts
Bank
Brokerage & Investment Banking
Building Materials
Business & Consumer Services
Chemical (Basic)
Coal & Related Energy
Computer Services
Computer Software
Computers/Peripherals
Construction
Diversified
Educational Services
Electrical Equipment
Electronics

Number of
Firms

65
95
26
75
7
49
37
179
47
45
129
273
66
18
20
40
135
191

CEO
Holding

12.00%
4.57%
9.51%
6.41%
0.13%
5.62%
6.33%
8.87%
5.45%
6.50%
8.14%
9.12%
3.03%
10.74%
15.99%
3.35%
7.76%
5.36%

Institutional
Holdings

28.05%
50.51%
39.55%
49.49%
49.63%
45.49%
61.11%
50.86%
27.38%
31.54%
39.34%
46.84%
49.68%
40.10%
49.93%
51.16%
32.36%
39.11%

Insider
Holdings

29.01%
12.60%
15.58%
14.07%
1.53%
14.89%
11.12%
21.00%
19.17%
15.19%
20.27%
20.55%
10.54%
18.43%
20.93%
19.78%
17.06%
16.15%

Electronics (Consumer & Office)

Oil/Gas (Production and Exploration)
Oil/Gas Distribution
Pharma & Drugs
Power
Precious Metals
Total Market

26
411
80
138
106
166
7766

8.09%
8.62%
2.73%
4.35%
3.54%
9.21%
6.52%

30.35%
32.08%
38.06%
36.78%
49.14%
15.34%
42.74%

Risk and return

Top down Beta
We ran a regression of our companies stocks returns against the index returns (KSE-100 index) using
daily data for 2 years. Below are the intercept and slope of the regression:

After running the regression Intercept came out 0.0023 and Slope is 1.508. by looking into this we got
the idea that PLCs stock performance is directlyThis tells us that the performance of the companys
stock was tied to KSE returns. When KSE returns were zero, the companys stock returns were almost
zero as well. The stock returns movement is connected to index movement; this means the performance
of the stock is questionable. The slope is 1.508 which tells us that the stock is risky since it is exposed to
the market returns so much. PCL stock offers high returns but also poses more risk. The standard error
shown above tells us the range for the estimate of the slope coefficient, 0.156 which means the lower
range for this slope is 1.20 and upper limit is 1.815 as given above. R2 is 15.9% which means only 15.9%
of the data is explained by regression. The rest is unexplained variation.
Market Value of Debt

17.03%
18.03%
6.14%
11.02%
7.98%
21.07%
16.45%

PCLs total interest bearing debt is Rs.2500399000 with no operating lease. Total interest paid on debt is
Rs.133392050. The credit rating we obtained from interest coverage ratio method is for PCL was AAA.
On the basis of this rating our default spread was 6.99% for Pakistan. We added this default spread to
the risk free rate of 10.44%. By which we got pretax cost of debt for PCL. Marginal tax rate is 35%. We
used the following parameters for calculating the market value of interest bearing debt:
Coupon payment (PMT) = Annual interest expense from last year (gross)
Maturity (n) = Weighted average maturity of debt
Face Value (FV) = Book value of interest bearing debt
Interest rate (r or i) = Pre-tax cost of debt
we estimated the present value of the debt. In this way we arrived the market value.
Afterwards we then calculated market value of equity from the formula: market price x numbers of
shares outstanding. MV Equity for PCL came out Rs.10764591110, by taking into consideration shares
outstanding and computing the weights of debt and equity:
Market value of debt = market value of interest bearing debt + PV operating leases = Rs.1540948533
MV Equity = Market cap = Rs.10764591110.
Estimating cost of capital
To estimate the return on capital for PCL, we calculated re = rf + (rm - rf). PCLs return on equity for
2014 came out to 27.3%. WACC = re x (E/V) + (1-t)(rd) x (D/V). WACC came out 26.13% based on return
on equity and after tax return on debt came out 13.6%.

Measuring Investment Returns

Estimating return on Capital: Since return on equity is 27.3%, we assume that the firm is picking
mediocre projects, not good ones. For estimating return on capital we measured after tax operating
income and book value of debt and equity at the start of the year. PCL after tax operating income =
Rs.1572141350. PCL Book value of debt and equity = Rs.11602157000.
ROC = Operating income * (1- t)/ BV (Debt + Equity). ROC for PCL = 14%. Return on capital is even lower
for PCL which shows us that company does not pick good projects. However a rising trend in revenues,
profit shows improving financial health. Accounting returns always need to be restructured in order to
view fair returns on existing projects.
From WACC to EVA: we calculated EVA using the formula: NOPAT Capital * cost of capital. PCLs EVA
for 2013 was Rs.430545070. This is the economic value added profit for PCL for this year however EVA
before and after this year is negative this is due to the reason of poor projects in which company is going
to invest

Capital Structure
Qualitative Analysis of Optimal Capital Structure

Tax Rate: The effective tax rate of PCL is 30% which is comparable to the industry average. It operates in
competitive tax rate. Added Discipline: Initially in 2009 PCL debt ratio high at 50% but afterwards when
in 2010 Vision Holding Middle East purchased its stock so its debt ratio started to decrease and after
which the power of debt to act as disciplinary mechanism decreased and stockholders power on
company increased. Bankruptcy Cost: The chances of bankruptcy is low because after 2009 its earnings
are in growing pattern which shows that there is little chance of bankruptcy. The PCL bankruptcy cost is
high due to long live product. The cement product it offers is actually long live product which is now
demanded by the construction due to high construction taken place in Afghanistan and PCL mainly
exports to Afghanistan as well. Agency Cost: The agency cost of PCL is lower because of its low
intangibles and its upfront projects. Which means that the company can borrow without having agency
cost. Future financing flexibility: Given the rising demand of cement for construction work ongoing in
Afghanistan and other countries, Pakistans cement industry will need future financing to grow and keep
pace of supply with demand. We predict that the three companies will borrow more and therefore will
not value keeping financial flexibility as an option.
Cost of Capital Approach to Optimal Capital Structure

The above model shows that our D/V ratio is 12.52%. We calculated beta from regression and beta

D/(D+E) Ratio =

Beta for the Stock =

Cost of Equity =
Rating on Debt
After-tax cost of Debt =
WACC
Implied Growth Rate =
Enterprise value
Value/share (Perpetual Growth) =

RESULTS FROM ANALYSIS

Current
Optimal
12.52%
30.00%

Change
17.48%

1.5
19.82%
Not rated
7.05%

1.75
22.68%

0.25
2.86%

7.63%

0.59%

18.22%
2.94%
Rs10,840,747,643
Rs47.39

18.16%

-0.05%

Rs10,877,252,120
Rs47.55

Rs36,504,477
Rs0.16

comes out to be 1.5. Market premium was 11.25%. Our calculated cost of equity came out to be 19.82%.
There was no explicit credit rating of PCL therefore we used interest coverage ratio to find rating from
Moodys website Pioneer as having interest coverage ratio of 14.2 which gives credit rating of AAA.
Using this we our after tax cost of debt came out to be 7.05%. Our current came out to be 18.22%. Using
and implied growth rate of 2.94%. Our enterprise value is Rs.10840747643 assuming perpetual growth
at a given rate. Dividing by the current number of shares 227149000 we get value per share of Rs.47.39
for PCL.
Our optimal capital structure shows that D/V ratio will be 30% with beta came out to be 1.75, due to
which my optimal cost of equity will be increased and it will be 22.68%. After tax cost of debt will be
7.63% assuming existing debt is refinanced at a new rate. Our optimal (lowest) WACC is 18.16%.

Enterprise value at this WACC came out to be Rs.10877252120. Value per share also increased and
would be Rs 47.55 at this optimal capital structure.
Although the risk free rate is 10.44% for Pakistans 10Y issued government bonds, we subtracted the
sovereign default spread from the bond rate to compensate for default risk. That gave us a workable risk
free rate of 2.94% in the currency of analysis.
Mechanics on computing optimal debt ratio

Output Summary
Debt to Capital
Cost of capital
Enterprise value
Value per share

Current
12.52%
18.22%
Rs10,840,747,643
Rs47.39

Optimal
30.00%
18.16%
Rs10,877,252,120
Rs47.55

Refinancing old debt: We assumed that all debt is to be refinanced. Our Optimal debt ratio is increased
to 30% due to which our rating decreased. And currently we have debt ratio of 12.52% at 18.22%
interest. If we increase our debt to 30% we still be able to remain our credit rating same. We would have
to refinance at 18.16%. And it is possible to get renegotiated interest rates as a bank will probably have
covenants that allow them to renegotiate the interest rate on old debt and many corporate bonds today
have put clauses allowing bondholders to reset interest rates in the event of a recapitalization. Firm
value calculation: In estimating the change in firm value, we calculated the change using both perpetuity
and a growing perpetuity assumption. We assessed the implied growth rate in PCLs cash flows from our
market value but we capped this growth at the risk free rate. We assumed that the risk free rate is a
good proxy for long term nominal growth rate of the economy. Per value share change: per value share
change came out with a difference of Rs.0.16. To compute this change, we divided the firm value change
by number of shares before stock buyback. Investors will obviously demand their returns before selling
back shares to the firm.
Checking for downside risks
To check for downside risk, we can either reduce operating income based on past standard deviations in
operating income or we can constrain our bond rating to be higher than investment grade. We can then
compute the optimal debt ratio with this constraint. Our final recommendation on debt ratio for PCL
reflects this downside assessment and if we allow operating income to change as the ratings change we
get an optimal debt ratio of 20%
If we allow to increases in PCL operating income we see this is financed by an equal amount of
borrowing therefore our current debt ration increases.

RESULTS FROM ANALYSIS

D/(D+E) Ratio =

Current
16.50%

Optimal
20.00%

Change
3.50%

Beta for the Stock =

Cost of Equity =

1.5
27.72%

1.55
28.22%

0.05
0.51%

AT Interest Rate on Debt =

12.18%

12.47%

0.29%

WACC

25.15%

25.07%

-0.08%

10.84%
Rs12,891,075,728.50

Rs12,969,655,834.41

Rs78,580,105.91

Rs47.39

Rs47.74

Rs0.35

Implied Growth Rate =

Firm Value (Perpetual
Growth) =
Value/share (Perpetual
Growth) =

Dividend Policy
Qualitative analysis of dividend policy
During the last few years PCL dividend and its payout ratio is as follows
2009

2010

2011

2012

2013

Total Dividend

283937

Dividend Payout Ratio

0.184958134

It shows that PCL paid that high amount of dividend in 2013 because of very good profitable year.
Whereas company did not buy back any amount of share during the last five years. The company is
expected not to pay dividend because its cash outflow has decreased and as shown that its EVA is also in
decreasing pattern which shows that in the upcoming year company will be making capital expenditure
so it would not be able to pay the expected dividend to its shareholders.

PCLs EVA is as follows

EVA-Past
EVA-Future

2009
-469270.0335
2014
-956705.04

2010
-1523776.805
2015
-955679.99

2011
-815512.3979
2016
-925593.44

2012
-488535.7374
2017
-859354.24

2013
430545.0651
2018
-748122.15

This EVA model shows that in its earlier year in 2009 to 2012 PCL EVA is negative this is because of the
reason of not making a good profit in these years but afterwards in 2013 PCL EVA is positive and it is the
same year in which company paid divided afterwards EVA again became negative this is because

company is expected to be making capital expenditure so in turn we will not be able to return dividend
to shareholders. And if we look into balance sheet in year 2009-12 we had higher debt ratio and in 2013
our debt ratio decreased and our equity amount increased. When we were over levered we did not pay
any dividend but afterwards when our equity amount increased we paid dividend.
Comparing EVA and Jensens Alpha

EVA
Jensen's Alpha

2014

2015

2016

2017

2018

-956705.04

-955679.99

-925593.44

-859354.24

-748122.15

-15.2%

-14.2%

-13.2%

-12.2%

-11.1%

If we look to the future EVA and Jensens alpha they both are negative which means that in the future
they will not be fulfilling the expectation of stockholders and the projects will not be adding any
economic value to the firm.
Framework for analyzing Dividend Policy
We collected the information for calculating FCFE for the last five years from cash flow statement,
income statement and balance sheet. For this we took net income for each year and added back
depreciation and amortization and subtracted capital expenditure and changes in non-cash working
capital.

Valuation
Cash Flow Choice: WACC for PCL is calculated and came out 24.36% for 2014. ROE is 27.3%, after tax
return on debt is 13.6% and sustainable growth is 4%. On the basis of these values terminal value is
calculated. Compared to DDM, FCFE and FCFF calculations for PCL are more robust. By using FCFE model
our enterprise value came out Rs.432.94 and FCFF gave enterprise value of Rs.432.94. whereas price to
earnings ratio came out Rs.99.928 this gives of price multiple and from DDM model value came out
Rs.77.96. which is not truly depicting the value and it is misguiding us because of my company not giving
dividend except 2013. So according to my model price to earnings ratio is giving us good picture and
this shows that our stock is undervalued and we are expecting its leverage to change in the coming years
because of credit rating which I calculated from interest coverage ratio calculation and it came out AAA.
I used interest coverage because there was no evidence found about the credit ratings of PCL. I believed
P/E ratio is a good measure of enterprise intrinsic value.
Growth pattern choice: By looking at the historical pattern we found out that our earning per share has
on average increasing pattern of Rs.1.5 per share. EPS for 2013 is Rs.6.76 which shows a remarkable
improvement from 2010 in which our EPS was Rs. -2.65 per share. The main reasons behind this is
improvement in revenues and cutting distributions and administrations expenditure. By looking at this
inconsistent trends, we also used industry model so that we can also arrive at forecasted earnings. The
plowback ratio came out 100% which shows that much of earnings is being reinvested and rate of return
on invested capital is expected to be 38%. The growth of cement industry is dependent of volume of

demand and we know that as there is construction boom in Pakistan and in Afghanistan cement industry
will keep growing in the upcoming years
Value: Based on the discounted cash flow model, our value of PCL is Rs.17708028310. Divided by
227,149,000 shares of the company, we obtain a value of Rs.77.96 per share for PCL. Which we said that
is not the true picture because of PCLs EVA which is negative throughout except 2013.
Value Enhancement: from evidence it shows that PCL is not paying dividend except 2013. When we used
FCFE model it gave value of firm Rs.98342127970 which gave us present value per share of Rs.432.94
and from FCFF model it gave value of firm of Rs.100531156870 which gave us value per share of
Rs.430.27. whereas our P/E ratio is 99.928 and our market value per share is 47.39 therefore I think P/E
ratio is a better predictor of firm value as compare to other values.

Value of firm using FCFE

Total Present Value
Present Value per share

98342127.97
432.9410562

Value of firm using FCFF

Total Present Value
Value of Debt
Present Value per share

Price to Earnings

98512518.37
967904.3223
429.4300835
99.92779875

Using P/E ratio, we calculate the price to earnings be Rs.99.92 against EPS Rs.5.48.
EV/EBITDA
EV as in 2014
Enterprise Value per share

0.810
1789416870
7.88

And If we moved to the optimal debt ratio, value of equity for PCL would increase to Rs.7185590227.
Firm value = Rs.10877252120 less debt value = Rs.3691661893 equals value of equity Rs.7185590227.
Current value of equity is Rs.10764591110. Therefore after moving to the optimal debt ratio, value of
equity will increase. To find the value of control: we used PCLs value at optimal debt ratio less PCLs
value at current debt ratio so our value of control came out to be Rs.36504477.

Sensitivity Analysis
Using Sensitivity Analysis, we realized that in order to change the value per share by Rs.1, the FCF would
need to change by Rs.174491000. therefore sensitivity of our model is Rs.174491000 which can

fluctuate our cash flows. In order to change our FCFE by Rs.1 our required rate of return need to be
decreased by 20.4%. This is due to my company which is lacking high growth.
PCL value at Optimal Debt Ratio
PCL value at Current Debt Ratio
Value of Control

10,877,252,120.00
10,840,747,643.00
36,504,477.00