Merger Plans Support Cement Industry Views

BMI View: The announcement that the world's two largest cement producers, Lafarge and Holcim, are in merger talks supports our view that global cement producers would continue to seek consolidation and strategic alignment, in order to tackle high levels of net debt and improve cost efficiencies. As the companies seek to circumvent substantial competition issues, we expect a glut of cement assets to hit the market. This is good news for the fast growing regional cement producers who are looking expand their footprint and compete with the majors.

The global cement industry has suffered over recent years, as a slump in demand following the financial crisis hit revenues and exacerbated high levels of net debt built up following acquisition sprees in the mid-2000s. Over recent years, the major cement producers have focused their attentions on reducing this debt burden, through a series of efficiency drives and asset sales. European cement producers have been especially hard hit, owing to the protracted recession in the region's construction sector, as well as the impact of currency drag on operating profits. Following the first nine month 2013 results of the major cement producers, we stated that the theme of strategic alignment, including improving efficiency and reducing debt, would continue over the coming 12 months (see, 'Cement Producers Face Uncertainty As Asian Woes Offset European Recovery', 14 November 2013).

We see the planned merger between Lafarge and Holcim as a continuation of this theme. The two companies were highlighted in our analysis as victims of domestic currency strength, especially compared to weakness in revenue generating markets (such as India and Indonesia). They have also struggled with high debt levels for a number of years and have been two of the most eager in pursuing a cost cutting and asset disposal strategy. The merger can therefore be seen as the ultimate step in achieving cost efficiencies, debt reduction and strategic alignment. Combined, the companies hope to generate EUR1.4bn in synergies and will seek asset sales equivalent to 10-15% of EBITDA, with the highest concentration expected to be in Europe, where both companies have a high level of market penetration.

Merger Helps Recovery
Lafarge, EUR And Holcim CHF, Share Price

Merger Plans Support Cement Industry Views

BMI View: The announcement that the world's two largest cement producers, Lafarge and Holcim, are in merger talks supports our view that global cement producers would continue to seek consolidation and strategic alignment, in order to tackle high levels of net debt and improve cost efficiencies. As the companies seek to circumvent substantial competition issues, we expect a glut of cement assets to hit the market. This is good news for the fast growing regional cement producers who are looking expand their footprint and compete with the majors.

The global cement industry has suffered over recent years, as a slump in demand following the financial crisis hit revenues and exacerbated high levels of net debt built up following acquisition sprees in the mid-2000s. Over recent years, the major cement producers have focused their attentions on reducing this debt burden, through a series of efficiency drives and asset sales. European cement producers have been especially hard hit, owing to the protracted recession in the region's construction sector, as well as the impact of currency drag on operating profits. Following the first nine month 2013 results of the major cement producers, we stated that the theme of strategic alignment, including improving efficiency and reducing debt, would continue over the coming 12 months (see, 'Cement Producers Face Uncertainty As Asian Woes Offset European Recovery', 14 November 2013).

Merger Helps Recovery
Lafarge, EUR And Holcim CHF, Share Price

We see the planned merger between Lafarge and Holcim as a continuation of this theme. The two companies were highlighted in our analysis as victims of domestic currency strength, especially compared to weakness in revenue generating markets (such as India and Indonesia). They have also struggled with high debt levels for a number of years and have been two of the most eager in pursuing a cost cutting and asset disposal strategy. The merger can therefore be seen as the ultimate step in achieving cost efficiencies, debt reduction and strategic alignment. Combined, the companies hope to generate EUR1.4bn in synergies and will seek asset sales equivalent to 10-15% of EBITDA, with the highest concentration expected to be in Europe, where both companies have a high level of market penetration.

Reports suggest that the asset sales will begin in earnest in order to pre-empt competition rulings and ensure they meet plans to close the deal in H1 2015; indeed the companies are reportedly already in talks with the European Commission to identify areas of weakness (as reported by the Financial Times). The cement industry has a difficult history with competition boards, and collusion accusations have been brought against major cement companies in a number of countries. This merger is therefore likely to attract significant attention and investigation; the Financial Times cites Deutsche Bank as highlighting at least 13 countries with competition concerns. We would highlight the UK, the Philippines, Serbia, Canada and Morocco as potential areas of concern, based on existing market share reported by both companies.

Europe And North America Present Competition Concerns
Larfarge And Holcim Cement Production Capacity, mt, by region, and estimated potential market share, % above columns

The merger will therefore inevitably lead to a large number of cement assets hitting the market. We would question the attractiveness of some of these assets, especially those in Europe, and anticipate that Holcim and Lafarge may struggle to achieve the prices they may hope for. Indeed, with major cement producers like Heidelberg and Cemex also struggling with high debt levels and targeting asset disposals and cost reduction themselves, it is questionable whether they will be in a position to seek acquisitions.

Conversely, this is good news for the small and medium sized cement producers globally, allowing them to snap up assets and compete in new markets. Already the major cement producers are being challenged by more local and regional players in certain emerging market cement industries as the period of consolidation and focus on debt reduction saw them miss out on growth opportunities in these markets and gave rise to domestic producers. Indeed, in their absence, local and regional players have been able to expand their market share. Nigeria's Dangote Cement is a pertinent example. The company has expanded aggressively into new markets across Sub-Saharan Africa, with little competition, and is already on track to double its capacity to 40mt over the course of 2014. Given that it takes between 3 and 4 years to develop a new cement facility, the acquisition of existing operating assets will be attractive to smaller companies looking to expand their global footprint.

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