Adbri: Initiating Coverage. Headwinds in Housing Construction Likely and Stock Screens as Overvalued

We initiate research coverage of Adbri ABC, with a fair value estimate of AUD 1.90 per share. Shares currently trade at about a 45% premium to our valuation, on a P/E ratio of 12. We do not expect dividends in fiscal 2023 given a stretched balance sheet, but from fiscal 2024 we expect a return to fully franked dividends averaging a 6% yield over the 10 years to fiscal 2032. We expect operating margins and return on capital will not return to historical levels given increasing price competition from imported clinker, a key input in cement production. This affects Adbri as a domestic producer as it needs to compete with low-price imports. Firm earnings are derived from the segments of nonresidential and engineering, residential, and mining, comprising 50%, 35%, and 15% of fiscal 2022 revenue respectively.

We assign Adbri a High Morningstar Uncertainty Rating, reflecting the group’s exposure to cyclical building construction, and the impact of reforms to the carbon emission reduction Safeguard Mechanism on firm earnings. We assign a Standard Capital Allocation Rating based on its relatively weak balance sheet, fair investment efficacy, and appropriate shareholder distributions.

Adbri lacks an economic moat. The firm has more than 40 aggregate quarries, which also supply external customers and its own cement and concrete businesses. But given competition from low-cost imports, which have lower capital requirements and can be sourced cheaply, we do not think Adbri has an economic moat in its segments of cement, lime, or masonry. Concrete and aggregates are also no-moat businesses, given their quarries are generally located further away from customers than competitors’ quarries.

We estimate a return on invested capital below our weighted average cost of capital in the near term. Toward the end of our 10-year forecast horizon, we expect ROICs close to our estimate of the company’s cost of capital.