Oman cement sector. Pricing Pressure to Continue. Highlights. Valuation

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1 omani cement sector Pricing Pressure to Continue November 24, 2010 Valuation Price * Fair Value Upside / Recommendation Market Cap. (RO) (RO) Downside Million RO Oman Cement % Accumulate 210 Raysut Cement % Under Review 253 *As of November 23, Sources: Reuters and NBK Capital Rebased Performance Nov-09 Jan-10 Feb-10 Apr-10 May-10 Jul-10 Aug-10 Oct-10 Nov-10 Sources: Reuters and NBK Capital Forecasts Oman cement sector 2011 F MSCI Oman P/E EV/EBITDA Revenue EBITDA EBITDA Margin Dividend Yield Growth Growth Oman Cement % -9.5% 47.7% 5.7% Raysut Cement % -11.4% 39.2% - Sources: Company financial statements, Reuters, and NBK Capital Key Figures Revenue EBITDA Margin Revenue EBITDA Margin Revenue Growth Growth Growth Dec M F EBITDA Margin Oman Cement 7.50% 39.5% -23.0% 46.4% -24.1% 47.5% Raysut Cement 0.30% 36.1% -32.7% 41.6% -30.3% 41.3% Sources: Company financial statements and NBK Capital Analyst Rajat Bagchi T E. rajat.bagchi@nbkcapital.com Highlights We have downgraded both Oman Cement and Raysut Cement due to anticipated drops in domestic cement prices: We believe cement prices in Oman will be affected by import parity pricing, and hence, we expect domestic prices to decline by around 12% to 13% from the current levels in the near-term and eventually follow the landed price of cement from the United Arab Emirates (UAE). Accordingly, we have lowered our forecasts and downgraded both stocks. We have reduced our fair value for Oman Cement by 20.4% to RO per share, which results in an upside of 10%. Thus, we now recommend Accumulate for the stock. A 2010 dividend yield of 6.5% only makes the investment case stronger. We have also lowered the fair value for Raysut Cement by 31.5% to RO per share, which is 22% lower than the current price. Following disappointing 3Q2010 results, we had put Raysut Cement Under Review (refer to the analyst comment dated October 21, 2010). In the meantime, the company announced its acquisition of UAE-based Pioneer Cement. We continue to keep the stock Under Review since the acquisition is likely to have material impact on our consolidated fair value. We are waiting for further information to assess the likely implications. The fair value of RO per share is only for Raysut Cement s existing, pre-acquisition business. Oman Cement negatives priced in; we remain more positive compared to Raysut Cement: We expect Oman Cement to benefit substantially from the new clinker plant [1.2 million tons per annum (mtpa)] which we now expect to be operational by the end of 1Q2011. By relinquishing clinker imports going forward, Oman Cement should generate healthy EBITDA margins and cash flows, albeit lower than our earlier forecast. We now expect a five-year average EBITDA margin of 45% for Oman Cement compared to our earlier forecast of 51% for the period between 2011 and Raysut Cement location disadvantage is likely to weigh on margins: Raysut Cement s location in Salalah (the southern part of Oman) results in additional distribution costs for selling cement in the construction-intensive northern part of Oman (mainly in and around Muscat). This results in lower EBITDA margins compared to those of Oman Cement. We now expect Raysut Cement to generate a five-year average ( ) EBITDA margin of 39% compared to our earlier forecast of 48%, mainly due to our expectation of lower cement prices. We expect Raysut Cement s five-year ( ) average cost of production per ton to be RO 14.4, 23.3% higher than that of Oman Cement (which we forecast at RO 11.7). nbkcapital. com

2 contents Sector Highlights... 3 Demand Outlook Positive but Further Price Cut Imminent... 3 Valuation Q2010 Results Review... 7 Revised Forecasts... 9 Oman cement co raysut cement co Financial statements oman cement financial statements raysut cement nbkcapital. com 2

3 SECTOR HIGHLIGHTS Demand Outlook Positive but Further Price Cut Imminent We believe cement prices in Oman will be affected by import parity pricing, and hence, should decline from the current levels in the near-term and eventually follow the landed price of cement from the UAE. Accordingly, we have revised our outlook on the Omani cement sector and now expect current bulk ordinary Portland cement (OPC) prices in Oman to decline from RO per ton (USD per ton) to the prevailing landed price of UAE cement (RO per ton/usd per ton). We expect this price cut to occur towards the end of 2011, which should result in volumes growth for the two Omani cement companies mainly from 2012 onwards. Anecdotal evidence suggests that imports from the UAE have intensified during the course of the year and are in the range of million tons of cement (around 26% of the total cement consumption in Oman) in Q2010 trend in cement sales volumes 10% price cut not enough: A 10% cut in domestic OPC bulk prices during 3Q2010 could not counter the significant drop in domestic cement volumes for both companies. Domestic cement volumes for Raysut Cement decreased by almost 35% year-over-year (YoY) to 336 thousand tons while, Oman Cement reported a 24% YoY decline in domestic sales volume to 416 thousand tons. Domestic cement volumes for both Omani cement companies showed a consistent decline during the first three quarters of 2010, a clear indication of shrinking market share due to the cheap imports from UAE. The 3Q2010 domestic sales volume was the lowest quarterly figure for both companies in the last five years. Differential between Omani and UAE cement prices unsustainable; expect near-term correction in domestic prices: Blended cement prices for Raysut Cement and Oman Cement dropped by 14.5% and 10% YoY to RO 27.8 per ton and RO 28.3 per ton, respectively, during 3Q2010. We believe that Oman Cement s new clinker plant holds the key to the domestic pricing strategy for the company going forward. The company s current clinker capacity of 1.2 mtpa results in 1.27 million tons of cement production, and hence, does not provide the required volumes for the company to engage in a price war with UAE cement players. To push cement volumes and use the excess grinding capacity (1.27 mtpa), the company has to rely on imported clinker, which is margin dilutive. Thus, the current strategy of maintaining cement prices at the expense of market share is understandable. However, the operation of the new clinker plant will eventually force the company to sell its increased volumes by reducing prices. Accordingly, we expect the company to cut domestic cement prices to RO per ton by the end of next year compared to our earlier assumption of RO 27.5 per ton. We expect Raysut Cement to follow suit as well. UAE cement sector cement prices close to the bottom, but significant excess supply rules out any potential recovery in prices: We believe the current OPC bulk prices of AED per ton (USD per ton) in the UAE are close to the bottom. The financial performances of the UAE cement companies during 9M2010/3Q2010 reveal that most of the companies are barely positive at the EBITDA level, implying that current cement prices are almost close to the cash cost of production. However, we believe the significant excess supply in the UAE cement industry rules out any potential recovery in cement prices. To put things into perspective, even if the cement demand in the UAE returns to the historic high levels of 20.8 million tons in 2008, there would still be an excess supply of around 3 4 million tons. These figures are based on effective production capacity, which considers only the current clinker capacity of 23.3 mtpa. The situation further worsens if we were to consider the excess grinding capacity of mtpa. With no signs of the domestic demand supply equation improving, the UAE cement players have entered survival mode and would tap any potential export market with a focus on breaking even. Hence, we believe cement prices in the UAE will be a key factor influencing cement prices in other countries within the region. nbkcapital. com 3

4 Impressive pipeline of infrastructure projects should propel cement demand in Oman in the medium-term: We are optimistic regarding the focused infrastructure spending by the government and expect the recently announced airport projects (an extension of the Muscat airport and modernization of the Salalah airport) to act as a trigger for the Omani cement sector over the next three to four years. Considering the location of the two companies, we expect Oman Cement to be the main beneficiary of the Muscat airport project (a total project value of RO 706 million; the project is expected to be completed over the next three years), while Raysut Cement stands to gain from the Salalah airport project (RO 300 million with a three-year execution period as well). According to the management of both companies, the government-backed nature of the projects is likely to ensure that the two domestic cement players will get preferential treatment over other competitors. If we assume that even 5% of the total project value (RO 1 billion) for the two airports is allocated toward cement purchases, this will result in around RO million of combined annual revenue for the two companies for the next three years. This is roughly 14 15% of the expected total revenue for the two companies in We expect execution delays of at least a year for both projects and expect cement volumes for the two companies to materially pick up from 2012 instead of In addition, comparatively lower cement prices should result in an increase in market share for both companies. Figure 1 Pipeline for Selected Infrastructure Projects in Oman Oman boasts an impressive pipeline of infrastructure projects Contract Value USD million Airpo rts Oman MOTC - Muscat International Airport Expansion - Phase 1 1,836 Oman MOTC - Salalah Airport 780 Oman MOTC - Al Duqm Airport - Package Oman MOTC - Al Duqm Airport - Package 1 75 Po rts Oman MOTC - Duqm Port - Marine Works 1,356 Oma MOTC - Salalah Port Expantion - Berths 7, 8, Oman MNE - Duqm Port - Ship Repair Yard and Dry Dock Complex 442 Oman MOTC - Muscat Sultan Qaboos Port Expansion 400 Sohar Industrial Port Company - Deepwater Bulk Jetty 250 Oma MOTC - Salalah Port Expansion - General Cargo and Liquid Terminal 120 Ro a ds a nd B ridg e s Oman MNE - Masirah Island Causeway 2,500 Muscat Municipality - Muscat Expressway 330 Oman Supreme Committee for Town Planning - Batinah Coastal Road 260 Muscat Municipality - Al Amerat to Qurayyat Road 179 Oman MTC - Hasik to Shuwaymiah Highway 178 Muscat Municipality - Wadi Adai Al Amerat Road 147 Oma MOTC - Salalah to Thumrait Road Dualisation 130 Muscat Municipality - Al Amerat to Bawshar Road 65 Sources: Zawya projects and NBK Capital We expect the growth momentum in the Omani construction sector to remain intact going forward, and expect the positives in the construction sector to act as the major driver for the Omani cement sector. According to forecasts from Business Monitor International (BMI) and the International Monetary Fund (IMF), the construction sector in Oman is expected to grow at an impressive six-year compounded annual growth rate (CAGR) of 10.7% compared to the country s expected nominal gross domestic product (GDP) growth rate of 9.4% during the same period. nbkcapital. com 4

5 Figure 2 Contribution of the Construction Sector in Nominal GDP 35 8% 30 7% Construction activity in Oman is expected to grow at a brisk pace going forward % 5% 4% 3% 10 2% 5 1% 0 0% f 2011f 2012f 2013f 2014f 2015f Nominal GDP (RO billion) Construction as a % of nominal GDP Sources: BMI, IMF and NBK Capital We expect the cement demand in Oman to almost mimic the country s real GDP growth rate in the medium-term, and forecast that cement demand will grow at a five-year CAGR of 4.5% to reach 5.85 million tons by We feel this forecast is conservative considering that historically cement consumption in Oman grew at an impressive 10-year CAGR of 12.7%, more than double the country s real GDP growth rate of 4.8% during the same period. On the supply side, we do not expect any capacity additions in Oman in the medium-term with the exception of the upcoming clinker capacity of Oman Cement. Since we expect Raysut Cement to continue to export cement to Yemen and to some African countries, these exports would result in lowering the domestic supply. Thus, we expect some cement imports to meet the local cement demand going forward. Figure 3 Omani Cement Sector Key Metric We expect cement demand in Oman to mimic the real GDP growth rate in the mediumterm f 2011f 2012f 2013f 2014f 2015f Effective year end cement capacity - Oman cement (million tons) Effective year end cement capacity - Raysut cement (million tons) Total effective cement capacity (million tons) Total cement consumption (million tons) YoY growth 3.1% 2.2% 4.4% 4.5% 4.5% 4.5% 4.5% Total excess capacity (million tons) Domestic cement sales volume - Oman cement (million tons) YoY growth 4.0% -20.2% 6.4% 16.4% 8.0% 3.9% 2.5% Domestic cement sales volume - Raysut cement (million tons) YoY growth 7.8% -33.7% 9.9% 14.8% 10.0% 1.0% 1.5% Combined domestic cement sales volume (million tons) YoY growth 5.8% -26.9% 8.0% 15.7% 8.9% 2.6% 2.1% Sources: Oman Cement and NBK Capital nbkcapital. com 5

6 Valuation Oman Cement We have reduced our fair value for Oman Cement by 20.4% to RO per share, which results in an upside of 10% from the last close. Thus, we have downgraded the stock to Accumulate compared to our earlier Buy recommendation. Our new fair value has been negatively impacted by lower cement price assumptions, which have resulted in significantly lower EBITDA margins and hence lower EBITDA. We believe the 12% decline in the stock price since our last update (dated April 7, 2010) presents an opportunity considering Oman Cement s strong fundamentals and our positive outlook on the company, in addition to the company s forward dividend yield of 6.5%. We believe the company s strong balance sheet lends further support to the investment case. At the end of September 2010, the company had a net cash balance (after debt) of RO 25.7 million (12% of the current market cap). In addition, the company also has an investment portfolio of RO 21 million, which is mainly composed of quoted equity investments. Having made adjustments for these, the company currently trades at a price-to-earnings ratio (PER) of 9.6x on 2011 net profit. Figure 4 Fair Value per Share Our new 12-month fair value for Oman Cement is RO per share, which represents an upside of 10% Valuation Method Old New Change Weight Value (RO) Weight Value (RO) Discounted cash flow 80% % % Peer comparison 20% % % We ig hte d a ve ra g e fa ir va lue 100% % % Source: NBK Capital Raysut Cement We have lowered the fair value for Raysut Cement by 31.5% to RO per share, which implies a 22% downside potential from the current levels. However, we continue to keep the stock Under Review until further information is released on the company s potential acquisition. The lower cement price assumption has mainly led to lower EBITDA margins compared to our earlier assumptions and hence the decline in fair value. On a conservative basis, we do not expect Raysut Cement to pay any dividends for the next 2 to 3 years as a result of funding the acquisition. Figure 5 Fair Value per Share Our new 12-month fair value for Raysut Cement is RO per share, which is 22% lower than the current price and does not account for potential acquisition Valuation Method Old New Weight Value (RO) Weight Value (RO) Change Discounted cash flow 85% % % Peer comparison 15% % % We ig hte d a ve ra g e fa ir va lue 100% % % Source: NBK Capital Sensitivity Analysis We did a sensitivity analysis for the Omani cement companies to analyze the impact of the change in cement prices on their respective fair values as shown below in Figure 6. We wanted to see whether it would be prudent for the Omani cement companies to maintain domestic cement prices at current levels at the expense of losing market share or reduce cement prices as we expect to happen. We feel the Omani cement companies would be better off reducing cement prices, which is likely to result in healthy volumes growth. To arrive at our conclusion, we made the following assumptions: nbkcapital. com 6

7 If both companies maintain domestic cement prices at RO per ton, this would result in no growth in sales volumes over the forecast horizon compared to the forecasted sales volume for Hence, we assume Raysut Cement and Oman Cement will clock an annual sales volume of 2.03 million tons and 1.76 million tons, respectively (our 2010 forecasts for sales volumes for the two companies), over the entire forecast period until We reason out that as long as there is a differential between the domestic cement prices and the landed price of cement from the UAE, any annual incremental demand will be met by imported cement from the UAE. For Raysut Cement in particular, we maintain our assumptions for annual clinker sales volume and export sales volume exactly equal to our 2010 forecasts. Accordingly, we assume that the company will annually sell 425 thousand tons of clinker at RO 16 per ton and maintain the annual export sales volume at 610 thousand tons over the forecast period. Price assumptions for the cement exported (mainly to Yemen) are exactly the same as we forecast for our base case (RO per ton). As mentioned earlier, our base case scenario assumes domestic cement prices will drop to RO per ton, and accordingly, we expect growth in cement volumes for both companies. The cost assumptions remain the same irrespective of changes in cement prices. Figure 6 Sensitivity Analysis Maintaining cement prices at the current levels may not necessarily have a positive impact on the fair values Domestic cement prices (RO per ton) Base case Oman Cement - Fair value per share (RO) Raysut - Fair value per share (RO) Source: NBK Capital 3Q2010 Results Review Similar Trend of Drop in Revenue Followed by EBITDA Margin Expansion Oman Cement Imports from the UAE hurt volumes; one of weakest quarters historically: Oman Cement reported a 31.3% decline in net revenue to RO 11.8 million in 3Q2010 compared to the same period last year, which is 14.4% below our forecast of RO 13.5 million. As mentioned earlier, cheap imports from the UAE were mainly responsible for the drop in domestic sales volume. During 9M2010, net revenue was down 23% to RO 40.6 million compared to the same period last year, and was 4.4% below our forecast of RO 42.5 million. Drop in domestic cement prices does not fuel volumes: Domestic cement prices for the company were RO 28.3 per ton during the quarter, almost 10% below prices in 3Q2009 (RO 31.4 per ton during 1H2010). EBITDA margin expansion our main rationale falling in line: Amid anticipated volume and pricing pressure, we expected the company to report healthy EBITDA margin during the year, which is materializing. Though EBITDA declined by 29% to RO 5.1 million (12% below our forecasts), the EBITDA margin expanded to 43.7% during 3Q2010 compared to 42.2% in 3Q2009. The company benefited from lower volumes of imported clinker (down 51.7% YoY to 135 thousand tons) as well as cheaper prices for the same. According to the company s management, clinker prices were down almost 30% to USD 45 per ton (average for 9M2010) compared to the same period last year. The EBITDA for the quarter would have been higher but for a major breakdown in one of the cement mills that led to around 30 thousand tons of cement imports amounting to RO 0.67 million. The mill has been fixed, and we do not expect any further cement imports going forward. Accordingly, we expect a higher EBITDA margin for 4Q2010 at 51.4%, which should push overall margins for 2010 to 47.5%. The 9M2010 EBITDA was 4.8% below our forecasts at RO 18.8 million, down 6.3% YoY. nbkcapital. com 7

8 Figure 7 3Q2010 Financial Performance Lower clinker imports led to margin expansion during the quarter Income Statement (RO Million) 9M2010 9M2009 YoY Growth 3Q2010 3Q2009 YoY Growth Domestic revenue % % Export revenue % % Net revenue % % Cost of sales % % Gross profit % % EBITDA % % Profit before taxes % % Taxation % % Net profit after tax % % Margins (%) 9M2010 9M2009 3Q2010 3Q2009 Gross profit margin 50.9% 41.3% 48.8% 45.2% EBITDA margin 46.4% 38.2% 43.7% 42.2% Operating Highlight 9M2010 9M2009 YoY Growth 3Q2010 3Q2009 YoY Growth Cement sales volume (million tons) % % Cement prices (RO per ton) % % Sources: Company financial statements and NBK Capital Raysut Cement Larger-than-expected drop in domestic volumes leads to disappointing 3Q2010 numbers: Raysut Cement reported a 37.8% decline in total revenue to RO 13.9 million in 3Q2010 compared to the same period last year, which is almost 16% below our forecast of RO 16.5 million. This was mainly due to a 44% drop in domestic revenues as a result of a nearly 35% decline in domestic sales volume. During 9M2010, total revenue was down 32.7% to RO 48.3 million compared to the same period last year, 3% lower than our forecasts. Pricing pressure: The decline in domestic revenue was further aggravated by a 14.5% drop in domestic prices to RO 27.8 per ton. We believe the company offered volume discounts in northern Oman (around 70 80% of Raysut Cement s domestic sales), resulting in lower effective prices. Domestic prices, similar to domestic sales volume, also showed a declining trend in the first three quarters of 2010 (RO 30.1 per ton in 1Q2010, RO 29.3 per ton in 2Q2010, and RO 27.8 per ton in 3Q2010). Exports add to the woes: Export revenue continues to be negatively impacted due to weak cement prices. The company s average cement prices in the export markets decreased significantly by 37% to RO 22.4 per ton, resulting in a 37.7% YoY drop in export revenue to RO 3.5 million. Though volumes were almost flat at 156 thousand tons during the quarter, clinker sales (65 thousand tons), which positively impacted volumes in the previous quarters, were the lowest during the year. Absence of cement imports leads to margin expansion: Raysut Cement reported an EBITDA of RO 5.29 million in 3Q2010, down 30.2% YoY and well below our forecast of RO 7.25 million. However, following the trend in 1H2010, the EBITDA margins expanded to 38.1% in 3Q2010 compared to 33.9% in 3Q2009, mainly due to a notable drop in cement imports. The company imported cement worth RO 5.45 million during 3Q2009, while cement imports were absent in 3Q2010. We would like to highlight that lower volumes and weak pricing during the year have resulted in the EBITDA margins consistently contracting from 47.2% in 1Q2010 to the current levels. During 9M2010, EBITDA was down 23% to RO 20.1 million compared to the same period last year; this was 10.6% lower than our forecasts. However, the EBITDA margin expanded to 41.6% in 9M2010 compared to 36.3% in 9M2009. Profit before tax (PBT) for the company was down 21.7% to RO 5.4 million in 3Q2010 compared to RO 6.9 million in 3Q2009. nbkcapital. com 8

9 Figure 8 3Q2010 Financial Performance Absence of cement imports led to margin expansion during the quarter Income Statement (RO Million) 9M2010 9M2009 YoY Growth 3Q2010 3Q2009 YoY Growth Domestic revenue % % Export revenue % % Clinker revenue Total revenue % % Cost of sales % % Gross profit % % EBITDA % % Profit before taxes % % Margins (%) 9M2010 9M2009 3Q2010 3Q2009 Gross profit margin 42.1% 36.7% 38.5% 34.9% EBITDA margin 41.6% 36.3% 38.1% 33.9% Operating Highlight 9M2010 9M2009 YoY Growth 3Q2010 3Q2009 YoY Growth Domestic sales volume (million tons) % % Export sales volume (million tons) % % Total sales volume (million tons) % % Clinker sales volume (million tons) % % Domestic cement prices (RO per ton) % % Export cement prices (RO per ton) % % Sources: Company financial statements and NBK Capital Revised Forecasts Oman Cement Management now expects the new clinker line to be ready for commercial production by the end of 1Q2010, resulting in a delay of around 9 to 10 months compared to earlier plans. Accordingly, we now expect the new clinker line to be operational for nine months during 2011 and assume it will operate at 70% utilization. This would result in an average utilization of 73.8% for a total clinker capacity of 2.4 mtpa. This forecast compares to our earlier assumption of a full year of operations during 2011 at similar utilization rates. In line with our expectation of growth in cement volumes from 2012, we now expect the company to gradually scale up its clinker utilization rate and operate at 97.5% by Figure 9 Oman Cement Old vs. New Forecasts The expected drop in cement prices will lead to lower revenue for 2011 New Forecast Old Forecast New Forecast Old Forecast 4Q2010 4Q Clinker imports (million tons) Total cement sales volume (million tons) Domestic cement price (RO per ton) Total revenue (after sales discount) (RO million) Source: NBK Capital We now forecast the sales volume will increase at a five-year CAGR of 7.1% (earlier assumption of 5.6%) from our forecast of 1.76 million tons in 2010 to 2.47 million tons in However, we now forecast total revenue growth will be comparatively subdued at a five-year CAGR of 2.5% (earlier assumption of 4.4%) over our forecast period (RO 51.8 million in 2010 to RO 58.7 million in 2015) mainly due to the anticipated drop in prices. nbkcapital. com 9

10 Figure 10 Oman Cement Trends in Sales Volume We expect the cement sales volume will grow at a healthy rate f 2011f 2012f 2013f 2014f Cement sales volume (million tons) Sources: Company financial statements and NBK Capital Net profit growth for 2010 is a bit exaggerated considering it includes a one-time government reimbursement of RO 7.34 million for earlier cement imports (the excess of cost over sales price of cement imported during 2007 and 2008). Adjusting for this, our forecasted net profit for 2010 would have been lower than that for Figure 11 Oman Cement Old Vs. New Forecasts We now expect slightly better margins in 2010 Income Statement (RO million) 2010 Forecast Old New Change Revenue % Cost of sales % Gross profit % Selling and general & admin. expenses % EBITDA % EBITDA margin 46.2% 47.5% EBIT % Reimbursement from govt Net profit before taxes % Tax % Net profit after tax % Sources: Company financial statements and NBK Capital Raysut Cement In light of the company s recent performance in 3Q2010, we now expect subdued cement volumes over the next four quarters. We forecast a recovery in cement volumes during 4Q2011 in anticipation of a drop in domestic cement prices. Needless to say, growth in the domestic cement sales volume will be the main propeller for growth in the total sales volume. We anticipate a 12.5% and 8.5% drop in domestic cement prices in 2011 and 2012, respectively, compared to our earlier assumption of a 4% drop in prices to RO 27.1 per ton in nbkcapital. com 10

11 Figure 12 Raysut Cement Old vs. New Forecasts The 4Q2010 revenues are nearly unchanged New Forecast Old Forecast New Forecast Old Forecast 4Q2010 4Q Domestic cement sales volume (million tons) Export cement sales volume (million tons) Total cement sales volume (million tons) Clinker sales volume (million tons) Domestic cement price (RO per ton) Export cement price (RO per ton) Average cement price (RO per ton) Domestic revenue (RO million) Export revenue (RO million) Clinker revenue (RO million) Total revenue (RO million) Source: NBK Capital We now forecast the sales volume to increase at a five-year CAGR of 6.5% (earlier assumption of 4.6%) from our forecast of 2.03 million tons in 2010 to 2.78 million tons in This is mainly due to the 7% growth in domestic sales volume during the same period. We are conservative regarding export sales volume, which we expect will grow at 4.7% during the same period. However, we now forecast total revenue growth to be almost flat compared to our earlier assumption of 3.7% growth over the forecast period. Figure 13 Raysut Cement Trends in Sales Volume We expect the domestic cement sales volume to grow at a healthy rate f 2011f 2012f 2013f 2014f Export Sales (million tons) Domestic Sales (million tons) Total Sales (million tons) Sources: Company financial statements and NBK Capital nbkcapital. com 11

12 Figure 14 Raysut Cement Old Vs. New Forecasts We now expect lower margins in 2010 Income Statement (RO million) 2010 Forecast Old New Change Revenue % Cost of sales % Gross profit % Selling and general & admin. expenses % EBITDA % EBITDA margin (%) 45.9% 41.3% Depreciation % Net profit before taxes % Tax % Net profit after tax % Source: NBK Capital EBITDA Margin Oman Cement is likely to be less affected due to the anticipated price cut We expect Oman Cement will generate higher EBITDA margins compared to Raysut Cement over our forecast period. The latter s location in Salalah results in additional distribution costs (five-year forecasted average of almost 20% of total revenue) for selling cement in the construction-intensive northern part of Oman (mainly in and around Muscat). Oman Cement will also benefit from the absence of clinker imports from 2011 onwards. The company has already imported 428 thousand tons of clinker in the first nine months of 2010, and we forecast an additional 47 thousand during 4Q2010, resulting in total clinker imports of 475 thousand tons during the year. This will result in clinker imports worth RO 8.3 million (considering average prices of RO 17.5 per ton), which would account for more than a third of the total cost of sales and 16% of the total revenue for In the absence of clinker imports next year, we expect Oman Cement will improve its EBITDA margin to 47.7% in spite of an anticipated drop in prices toward the end of Since we expect almost no increase in domestic cement prices over our forecast period for both companies, normal escalation in operating expenses will keep the EBITDA margins under pressure for both companies going forward. Figure 15 Trends in the Cost of Production per Ton We expect a lower cost of production per ton for Oman Cement in the next five years compared to Raysut Cement f 2012f 2013f 2014f 2015f Raysut Cement - cost of production per ton (RO/ton) Oman Cement - cost of production per ton (RO/ton) Source: NBK Capital nbkcapital. com 12

13 Acquisition of Pioneer Cement Raysut Cement has announced plans to acquire Ras Al Khaimah-based Pioneer Cement Industries (LLC). Acording to market intelligence, the deal has been mutually agreed upon by both parties and is currently in the due diligence phase. Pioneer Cement is a 51:49 joint venture between RAK Investment Authority and India-based Penna Cement Industries Ltd. We have limited information from official sources about the details of the deal and on Pioneer Cement. According to market sources, Raysut Cement has decided to pay USD 180 million for a 1.6 mtpa integrated capacity, implying an expected value (EV) per ton of USD 112.5, which is lower than the current replacement value. Preliminary information suggests that the deal will be mainly debt financed and the formalities of the acquisition are expected to be completed by year end. Debt-free status should come in handy: The acquisition will increase Raysut Cement s production capacity by almost 58% to 4.37 mtpa, while the company s clinker capacity will jump to 4.1 mtpa compared to Raysut s current clinker capacity of 2.6 mtpa. According to the nine-month 2010 financial statements, Raysut Cement is net debt free, with total debt of RO 1.58 million (USD 4.1 million) compared to cash and cash equivalents of RO 13.8 million (USD 35.9 million). With total equity of RO million (USD million), raising the required debt for funding the acquisition should not be a concern for Raysut Cement. The motive behind the acquisition: Raysut Cement has been exploring acquisitions within the region for some time now as part of the company s strategy to grow beyond Oman. We believe this acquisition comes as a move to counter pressure in the domestic market, which has been negatively impacted by cheap cement imports from the UAE, resulting in both volumes as well as pricing pressure for the two Omani cement companies. Raysut Cement s current location in Salalah (southern part of Oman) is also a disadvantage compared to the more lucrative construction market in the north where Oman Cement is located. This further aggravates the situation for Raysut Cement as it has to depend on the comparatively subdued southern market for a significant portion of its sales (average of 20 30% in the last three years). At the beginning of this year, Raysut Cement bid for another UAE-based player Star Cement. Compared to Pioneer Cement, Star Cement is significantly bigger with a cement capacity of 3.4 mtpa and clinker capacity of 2.2 mtpa. However, Pioneer Cement is already a fully operational setup compared to the relatively new production facility at Star Cement. Bigger is not always better: We believe any potential cement acquisition in the UAE will be margindilutive for a low-cost cement manufacturer like Raysut Cement. Hence, such an acquisition would result in potentially lower returns on the incremental capital. Currently, UAE cement players are barely breaking even at the EBITDA level compared to the EBITDA margin of 38% generated by Raysut Cement in 3Q2010. It would be a disadvantage for Raysut Cement to sell at lower prices in the UAE. Cement prices (OPC bulk) in the UAE are at historically low levels and are currently in the range of AED per ton (USD per ton), which is almost 37% lower than the prevailing cement prices in Oman (USD 68 70). We believe the wider regional presence that the company could achieve through the acquisition comes at the expense of continuing to remain a comparatively smaller but significantly profitable company. Deal pricing is currently in favor of Raysut Cement, but the revival in the UAE construction sector holds the key to long-term success: At an implied EV per ton of USD per ton, we feel the deal value is in favor of Raysut Cement considering it is lower than the current replacement cost of a new 1 mtpa integrated cement plant in the UAE which is in the range of USD (depending on the mix of the equipment supplier). On the valuation front, the listed UAE cement companies currently trade at a significant discount on EV per ton of USD 140 compared to the Gulf Cooperation Council (GCC), excluding the UAE, average of USD 249 per ton, mainly due to their notably lower EBITDA margins compared to their GCC peers. We have a negative outlook on the UAE cement sector, which is supported by the significant excess supply in the local cement market and a floundering construction sector. We believe any potential upswing in the UAE construction sector, if and when it happens, will hold the key for the long-term success of this acquisition. Net-net, we remain cautious and wait for details on the deal. nbkcapital. com 13

14 Oman Cement Co. Raysut Cement Co. key data key data Fair Value per share (RO) Closing Price (RO) * week High / Low (RO) 0.762/ YTD / 12-month return -14.4% / -16% Trailing P/E 7.2 Shares Outstanding (000s) 330,870 Market Cap (RO Mn) Free Float 20.64% Reuters / Bloomberg Code OCCO.OM / OCOI OM *As of November 24, Sources: Reuters, Muscat Stock Exchange, and NBK Capital Fair Value per share (RO) Closing Price (RO) * week High / Low (RO) 1.777/ YTD / 12-month return -15.2% / -14.5% Trailing P/E 10.5 Shares Outstanding (000s) 200,000 Market Cap (RO Mn) 253 Free Float 39.44% Reuters / Bloomberg Code RAYC.OM / RCCI OM *As of November 24, Sources: Reuters, Muscat Stock Exchange, and NBK Capital key metrics key metrics 2009A 2010F 2011F 2012F P/E EPS Dividend Yield 5.8% 6.5% 5.7% 6.1% EV/EBITDA RoAE 19.1% 19.0% 11.2% 10.9% RoCE 17.1% 13.2% 12.9% 13.1% EBITDA margin 39.5% 47.5% 47.7% 44.4% Net profit margin 35.5% 52.5% 36.5% 33.9% Sources: Company financials and NBK Capital 2009A 2010F 2011F 2012F P/E EPS EV/EBITDA RoAE 28.0% 19.1% 15.1% 14.3% RoCE 27.2% 19.8% 17.0% 16.5% EBITDA margin 36.1% 41.3% 39.2% 37.4% Net profit margin 32.1% 32.8% 27.9% 26.2% Sources: Company financials and NBK Capital forecasts forecasts RO'000s 4Q2010F 1Q2011F 2010F 2011F Revenue 11,228 11,900 51,844 46,698 EBITDA 5,773 6,050 24,615 22,286 Source: NBK Capital RO'000s 4Q2010F 1Q2011F 2010F 2011F Revenue 13,996 13,500 62,284 58,143 EBITDA 5,668 5,750 25,741 22,818 Source: NBK Capital Rebased Performance Rebased Performance Nov-09 Jan-10 Mar-10 May-10 Jul-10 Sep-10 Nov Nov-09 Jan-10 Mar-10 May-10 Jul-10 Sep-10 Nov-10 Oman Cement MSCI Oman Raysut Cement MSCI Oman Sources: MSCI, Reuters, and NBK Capital Sources: MSCI, Reuters, and NBK Capital **Please refer to page 17 for recommendations and risk ratings. **Please refer to page 17 for recommendations and risk ratings. nbkcapital. com 14

15 FINANCIAL STATEMENTS - OMAN CEMENT Income Statement (RO Thousands) Historical Forecast Fiscal Year Ends December Total Revenue 63,523 68,284 51,844 46,698 50,390 54,338 56,910 Cost of Revenue 46,086 39,009 24,729 21,724 24,900 26,723 28,562 Gross Profit 17,437 29,275 27,115 24,974 25,491 27,615 28,348 Selling/General/Admin. Expenses 2,516 2,314 2,501 2,689 3,127 3,470 3,617 Depreciation/Amortization 3,950 3,218 3,942 4,560 4,592 4,625 4,664 Ope ra ting Inc o me 10,972 23,743 20,673 17,726 17,772 19,519 20,067 Interest Income (Exp), Net Non-Operating (67) (21) (30) (628) (628) (412) (195) Interest/Invest Income - Non-Operating 3,156 3,639 2,779 2,253 2,272 2,292 2,305 Net Income before Taxes 14,108 27,363 30,761 19,351 19,415 21,399 22,177 Provision for Income Taxes 1,567 3,131 3,538 2,322 2,330 2,568 2,661 Net Income after Taxes 12,541 24,232 27,223 17,029 17,086 18,831 19,516 Balance Sheet (RO Thousands) Fiscal Year Ends December Historical Forecast ASSETS Cash and Short-Term Investments 19,281 4,407 41,200 48,766 53,321 59,081 63,823 Total Receivables, Net 7,109 5,140 5,521 5,137 5,543 5,841 6,260 Total Inventory 15,243 7,687 8,814 7,472 8,062 8,694 9,106 Other Current Assets 435 6,953 4,500 4,500 4,500 4,500 4,500 Total Current Assets 42,069 24,187 60,035 65,874 71,426 78,116 83,689 Property/Plant/Equipment, Total - Net 59,430 91,793 99,837 99,277 95,934 92,559 89,395 Long-Term Investments 19,098 15,151 13,000 13,000 13,000 13,000 13,000 TOTAL ASSETS 132, , , , , , ,084 LIABILITIES & EQUITY Accounts Payable 7,123 4,889 4,925 4,670 5,039 5,434 5,691 Other Liabilities 1,896 3,262 3,538 2,322 2,330 2,568 2,661 Total Current Liabilities 9,320 8,451 8,463 6,992 7,369 8,002 8,352 Long-Term Debt 502 3,721 8,000 11,333 8,000 4,665 1,331 Other Liabilities 1,360 1,579 1,607 1,607 1,607 1,607 1,607 Total Liabilities 15,056 17,543 21,953 23,815 20,859 18,157 15,173 Total Equity 117, , , , , , ,911 TOTAL LIABILITIES AND EQUITY 132, , , , , , ,084 Cash Flow (RO Thousands) Historical Forecast Fiscal Year Ends December Cash from Operating Activities 20,095 3,538 27,527 20,441 19,639 21,536 21,878 Cash from Investing Activities (7,119) 8,114 22,876 (2,054) Cash from Financing Activities (11,823) (9,234) (8,289) (10,821) (15,796) (16,505) (17,626) Net Change in Cash 1,153 2,419 42,114 7,566 4,555 5,760 4,742 Sources: Company financial statements and NBK Capital nbkcapital. com 15

16 FINANCIAL STATEMENTS - RAYSUT CEMENT Income Statement (RO Thousand) Historical Fiscal Year Ends December Total Revenue 89,081 89,346 62,284 58,143 59,980 62,495 63,641 Cost of Revenue 52,987 56,548 36,150 34,829 36,987 37,580 38,337 Gross Profit 36,094 32,798 26,135 23,313 22,993 24,915 25,304 Selling/General/Admin. Expenses Depreciation/Amortization 4,502 4,447 4,492 4,717 4,905 5,077 5,229 Operating Income 31,000 27,768 21,249 18,101 17,526 19,240 19,444 Interest Income (Exp), Net Non-Operating 1,949 2,388 (78) (59) (45) (39) (30) Other, Net (1,981) 1,874 1, Net Income before Taxes 30,968 32,029 22,821 18,101 17,571 19,327 19,541 Provision for Income Taxes 3,861 3,347 2,397 1,901 1,846 2,030 2,052 Net Income after Taxes 27,107 28,682 20,424 16,199 15,725 17,297 17,488 Forecast Balance Sheet (RO Thousand) Fiscal Year Ends December ASSETS Cash and Short-Term Investments 16,593 15,821 15,110 17,693 19,178 23,710 28,177 Total Receivables, Net 11,714 8,617 7,163 6,977 7,198 7,656 7,828 Total Inventory 7,817 12,284 11,211 9,884 9,597 9,999 10,342 Prepaid Expenses 3,457 4,530 4,827 4,070 4,049 4,062 4,009 Other Current Assets 2,654 4,527 5,000 5,000 5,000 5,000 5,000 Total Current Assets 42,235 45,779 43,311 43,624 45,021 50,427 55,356 Property/Plant/Equipment, Total - Net 73,434 74,951 76,460 77,814 78,008 77,571 76,458 TOTAL ASSETS 117, , , , , , ,814 LIABILITIES & EQUITY Historical Forecast Accounts Payable 2,579 1,625 1, Payable/Accrued 3,110 2,607 3,000 2,500 2,000 1,500 1,000 Accrued Expenses 1,976 2,954 1,976 4,983 3,779 3,599 3,437 Short-Term Debt 2,399 1, Other Liabilities 3,895 3,298 2,397 1,901 1,846 2,030 2,052 Total Current Liabilities 13,960 11,808 9,232 10,814 9,384 8,666 7,944 Long-Term Debt 2,397 1, Deffered Income Tax 2,926 3,245 2,397 1,901 1,846 2,030 2,052 Other Liabilities Total Liabilities 19,590 16,601 12,610 13,397 11,411 10,878 10,178 Total Equity 98, , , , , , ,636 TOTAL LIABILITIES AND EQUITY 117, , , , , , ,814 Cash Flow (RO Thousand) Historical Fiscal Year Ends December Cash from Operating Activities 25,935 22,282 22,201 24,572 18,889 21,080 21,559 Cash from Investing Activities (18,588) 3,451 (1,744) (6,012) (5,009) (4,515) (3,989) Cash from Financing Activities (18,061) (22,899) (21,169) (15,977) (12,395) (12,032) (13,103) Net Change in Cash (10,714) 2,834 (711) 2,583 1,485 4,532 4,467 Forecast Sources: Company financial statements and NBK Capital nbkcapital. com 16

17 RISK AND RECOMMENDATION GUIDE RECOMMENDATION UPSIDE (DOWNSIDE) POTENTIAL BUY MORE THAN 20% ACCUMULATE BETWEEN 5% AND 20% HOLD BETWEEN -10% AND 5% REDUCE BETWEEN -25% AND -10% SELL LESS THAN -25% RISK LEVEL LOW RISK HIGH RISK Disclaimer The information, opinions, tools, and materials contained in this report (the Content ) are not addressed to, or intended for publication, distribution to, or use by, any individual or legal entity who is a citizen or resident of or domiciled in any jurisdiction where such distribution, publication, availability, or use would constitute a breach of the laws or regulations of such jurisdiction or that would require Watani Investment Company KSCC ( NBK Capital ) or its subsidiaries or its affiliates to obtain licenses, approvals, or permissions from the regulatory bodies or authorities of such jurisdiction. The Content, unless expressly mentioned otherwise, is under copyright to NBK Capital. 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