Muskita Aluminium Industries recently released its 1H05 results in line with estimates with Net Profit reaching CYP 2.24 mln (-14.4% YoY). Lower profitability resulted primarily from higher depreciation charges due to MAI’s expanded capacity base in Cyprus, increased energy costs, higher raw material prices and higher FX related losses, according to a report by Egnatia Financial Services.
MAI’s total sales increased by 4.5% YoY to CYP 14.5 mln. The increase in turnover was mainly attributed to higher local sales (+6.1% YoY) on the back of the strong local construction sector. We note that local sales in 1H05 represented 62.6% of total sales (vs 61.6% in 1H04). European export sales reached CYP 5.4 mln compared to CYP 5.3 mln in 1H04 (+1.8% YoY). We recall that revenues from European sales include direct sales from MAI’s wholly owned UK subsidiary, Universal Components (UC) (representing 70% of the value of total export sales in 1H05), and sales directed from UC to MAI servicing a number of big European clients.
The decision to service a number of European customers from MAI local
operations rather than from the UC directly was taken by the Group in order to benefit from the lower local corporation tax rates compared to UK’s higher rates (10% vs 30%).
Muskita’s gross profit declined by 10.6% YoY to CYP 4.7 mln, with the Group gross profit margin deteriorating to 32.7% against 38.3% in 1H04. MAI however, managed to sustain its gross profit margin at almost the same level as in 1Q05, an indication of a higher level of absorption rate occurred over the Company’s production costs.
On an annual basis, profitability and profitability margins, at all level, were burdened primarily by:
(1) The significantly lower gross profit margin from local operations from 43.3% to 35.1% in 1H05; this was mainly attributed to: Higher depreciation charges associated with the Company’s expanded capacity base in Cyprus (new plant in Limassol). The continuous surge in energy costs. The installation of the new pressure machine was the primary reason for higher electricity consumption. The increase in the average cost of primary aluminium from USD 1,663 per ton to USD 1,844 per ton in 1H05 (i.e. an average increase of 10.9% YoY). Egnatia note, however that the weakening of the US dollar vs. the CYP by an average 5.4% in 1H05 against 1H04 provided some relief on the negative impact of the rising primary aluminium prices gross profit margin
(2) A further squeeze in gross profit margin from European sales from 30.2% to 28.8% in 1H05 (vs 26.2% in 1Q05) amid higher competition from European rivals and other external factors, i.e. FX changes and the cyclical nature of aluminium prices.
Total Operating Expenses were contained by 2.9% YoY to CYP 2.1 mln due to lower unit production costs mainly stemming from productivity gains. Specifically, selling and distribution expenses and administration expenses declined both in absolute terms (-3.5% YoY and –2.3% YoY respectively) and in terms of revenues (from 7.6% in 1H04 to 7.0% and from 7.8% to 7.3% respectively).
Consequently, EBITDA fell by 4.7% YoY to CYP 3.5 mln, with margins deteriorating from 26.5% to 24.2% in 1H05 (vs 23.0% in 1Q05).
Net finance costs surged to CYP 160k vs CYP 33k in 1H04 due to higher interest paid on loan facilities and higher FX losses (CYP 113k vs CYP 48k in 1H04).
Net Profit for 1H05 was recorded at CYP 2.2 mln, down by 14.4% YoY, yielding an EPS of 2.71 cent vs 3.17 cent in 1H04. The P/E ratio based on the stock’s last closing price of CYP 0.63 and the annualised EPS stands at 11.6x.
On the Balance Sheet side, the Company’s working capital improved to CYP 9.7 mln vs CYP 7.0 mln in FY04. Egnatia note the large amounts of stocks and trade debtors evidenced in 1H05. The stocking up partly relates to the increased procurement of raw material stock (i.e. aluminium pillets) which was mainly pre-purchased at lower prices and was also directly connected with the increase in the Company’s production capacity. Debtors increases on the other hand, relate
to the late payment made by a customer. According to management, the payment has been made in early July and receivables are expected to return to normal levels (i.e. debtors payment collection period of c. 90 –95 days).
The Company’s Net Cash position improved from CYP 508k in FY04 to CYP 1.2 mln in 1H05, with MAI remaining almost debt free (Debt to Equity ratio stood at 2.1% as at 30 June 2005).
With no major capex scheduled in the near future and with the only major cash outlay being the payment of dividend, Egnatia believe MAI will continue to accumulate cash.
Buy Recommendation Maintained
Since Egnatia’s latest Company Update Report, MAI’s shares fell by 6.1% at CYP 0.63 per share against an increase in the Main and Parallel Index of 22%.
Following the release of 1H05 results and management’s views, Egnatia have fine tuned their previous estimates to account for the higher than expected increase in energy costs and depreciation charges. Consequently, Egnatia have adjusted their EPS forecasts for FY05 and FY06 lower by 8.2% and 7.2% respectively and for FY07 by 8.3%.
“We view that, our new EPS forecast of 5.6 cent for FY05 is within management guidance range. We currently believe that EBITDA and EPS CAGR would reach 3.2% and 3.4% respectively over FY04-FY07,” said Egnatia.
Reflecting the downward revision in earnings estimates, Egnatia have set its new Target Price at CYP 0.75.
“We believe our valuation still looks attractive yielding an expected return on current share price of 16%. We continue to rate MAI as a Buy and we support our recommendation,” said Egnatia.
Some of the factors on which the buy recommendation was based are:
The sustainable positive performance of the construction and housing
sector: the decline in interest base rates within 1H05 by 125bps, may provide an additional boost to construction activity given the lower cost of borrowing. The possibility of further future base rates declines towards Euro-zone rates coupled with an ease-up in oil prices, and thus construction materials costs, may sustain the sector’s buoyant activity.
Despite the slower pace in the growth rate in the local number of issued building permits each month in 2005, we note the higher number of permits issued in the period January to May 2005 (+5.4% YoY in 2005 vs +1.6% YoY in 2004).
The impact of MAI’s increased production capacity on top line sales,
profitability margins but more importantly on lower earnings volatility:
the new production plant in Limassol will (1) provide the required capacity to drive MAI’s overseas sales effort, thus reducing its over-dependency on the local market and (2) enable MAI to deliver high quality products whilst increasing productivity and attaining scale economies.
An attractive dividend policy – Dividend in both absolute and payout
terms is expected to remain at high levels.
High management quality with an excellent track record over the years.
On the other hand, Egnatia have concerns on the following issues relating to:
The continuously soaring real estate prices, the positive performance of the CSE Index (35% YTD), and the active illegal property market in occupied Cyprus might lead to a deceleration in the growth rate of the construction sector soon. We also note the slower pace in the rate of growth of issued building permits and their respective values in each month within 2005.
The Competition Commission is currently examining allegations against
MAI for possible abuse of its dominant position in the local market
MAI’s contingent liabilities amounting to CYP 3.4 mln from disputes on fixed asset purchase agreements.
