I purchased some Cemex (NYSE:CX) this morning to open a small exploratory position. Bought CX at $58.75 at what appeared to be the beginning of some recovery from the backlash following their earnings release a few weeks ago.
But I'm not a chart-watcher in general, so I can't really tell you if that's technically true -- it just seemed to me that their selloff post-earnings was well overdone for a company with a low valuation relative to earnings and free cash flow, dramatic growth potential, excellent operational expertise, and exposure to many of the key infrastructure markets around the world. It could be that I've just strapped on the cement overshoes for a further decline, but I don't think so.
Cemex is one of the largest cement companies in the world, headquartered in Mexico (the majority of their sales are now in the US, however, followed by Mexico, Spain and the UK if listed by individual countries -- though their South American businesses are also growing rapidly and are a significant portion in aggregate of their earnings).
They have been a serial acquirer and look to continue that path, and although their leverage has seemed extreme at times it does appear to have been well managed and well-covered by cash flow, and they are vocal about their financial discipline in acquisitions and their focus on keeping their interest coverage ratio growing -- it's over 6 right now, which means they have no trouble meeting their interest obligations. They are focusing on deleveraging their balance sheet, and they now have such impressive free cash flow -- roughly $2 Billion expected this year -- that they can easily grow pretty quickly without taking on dramatically more debt.
Cement is, in my opinion, an excellent proxy for economic growth and infrastructure growth -- if you think the global economy will continue to grow Cemex may seem promising, and if you think spending on global infrastructure like roads and bridges is very overdue for significant growth in many areas, Cemex looks like a no-brainer. I hold my Northern Orion (NTO) shares because I believe copper demand from the buildout of the world electrical and plumbing systems will be significant, and it's a similar demand for worldwide basic infrastructure building that made me look at cement.
The other big international player in cement that's publicly traded is Lafarge -- they're planning to buy out their US subsidiary this year if possible, and their stock has also performed quite well recently.
But when you look at the numbers and the plans of these two companies, it's really no contest -- Cemex has a significant lead in the areas that I think are important.
First, in markets -- Cemex is huge in Mexico, of course, and has a good and growing (thanks to NAFTA and direct investment) portion of the US market -- demand for highway building in both of those markets should be significant for many years, and they are also going to benefit from a recent duty-cut accord that should allow them to boost exports to the US by 50% in 2006.
But more importantly in the long term, they are focused on the areas of the world where infrastructure is truly inadequate and it appears that growth could be truly significant. South America is a large area, combined they had South American and Caribbean (ex Mexico) sales that approach their Mexican sales, and I believe (this is also part of the argument behind my Gol investment) that the growing middle class and influx of oil and mining money in Latin America will spur significant development in public infrastructure and housing, key areas of cement use.
And second, in aggressive expansion -- Cemex has been focused on becoming truly global in breadth as well as in reach. They already have a small foothold in the Middle East and in Africa to go along with their large market share in Western Europe and North and South America, but it's hard to call their holdings in the fastest growing part of the world anything but puny. Cemex sells about one-tenth of the cement in all of Asia that they sell in the US alone, and they are very intent on expanding their global reach by acquiring manufactureres with large operations or potential in India and China, and they also are looking at Eastern Europe as an enticing area for expansion. As far as I can tell Cemex has no Australian or Antarctican operations, but otherwise they have laid the groundwork for a march across the globe.
Much of Cemex's growth in this past year, which looks extraordinarily dramatic on the top line, was due to their largest acquisition to date, the purchase of Ready Mix Concrete [RMC]. They believe they'll be seeing additional savings from that purchase come through in the coming year, and given their reputation for cost cutting and low cost production I see no reason to doubt them.
And that leads to one of the most impressive thing about Cemex, beyond their very low valuation, solid dividend, and growth potential: their cost management. Cemex maintains very impressive margins, with an operating margin over 16% and profit margin near 14%, and solid ROE of 23% -- those all sound pretty remarkable to me for a commodity business with global competition. Lafarge North America, for comparison purposes, has an operating margin of 13%, profit margin of 6%, and ROE of 8.5% ... and yet they trade at twice the PE of Cemex following their recent burst on takeover news, and have a lower dividend.
Cemex didn't quite keep up with analyst estimates when they last released earnings, and folks seem worried about their integration of RMC and the competition they might see in their acquisition strategy, which explains whey they came down from their recent price of over $70 ... but to me, this looks like a nice opportunity to buy on the dips. I'll be keeping an eye on them to see if the price continues to be weak, and to see what their plans are for acquistions on the other side of the world, but at this rock-bottom valuation I'm pretty happy with what I'm buying today.