Nomura Coal mining Indonesia (Update 5) Tambang Batubara Bukit Asam

Sitting on potential upside
 Downward protection
PTBA’s long-term contract with PLN, now 8.0mn tonnes p.a, should give the former not only a captive market but also downside protection on PLN’s sustainable demand and high dependence on PTBA’s coal.
Pricing should not be an issue due to: 1) its link to the international price and 2) no government intervention in the pricing negotiations.

 Remain positive on railway
We remain positive on the outlook of the railway performance, and believe it will meet our conservative target of 22.7mn tonnes by 2017F. Key factors are: 1) cultural change in management of PTKA (the railway company), 2) feasibility of the railway project, and 3) PTKA’s reliance on the project to boost its profitability.

 Many ways to monetize reserves
PTBA’s US$2.3bn projects, if executed in time, can more than quadruple production to 50mn tonnes in 2016, we believe. Execution is key, but PTBA’s strong partners should lower the risk. Funding should not burden the balance sheet given the projects’ leverage and PTBA’s small stake in the projects and strong cash positions (US$571mn by end of 2010F).

 Reasonable PER valuation
PTBA’s higher 2011F PER multiple is due to its high cash balance. Stripping out the cash position, PTBA’s 2011F PER stands at 14.9x, which is lower than its peers’ 17.8x.

 Risks to our investment view
Key risk factors include coal price volatility, disconnection between coal and oil prices, weather, regulation, high reliance on a single customer and on railway performance.

Valuation methodology
We set our 2011-end target price at Rp30,000/share using a DCF methodology with a 11.9% weighted average cost of capital (WACC). Our target price implies 2011-12F EV/EBITDA of 16.1-8.8 and PER of 23.0-13.2x. Our 11.9% discount rate is based on the following assumptions: 1) 9% risk free rate, 2) 6% risk premium, 3) 1.21 levered beta, 4) 10% gross Rupiah cost of debt, 5) 25% income tax rate, and 6) 50/50
debt/equity ratio. Our DCF valuation is based on our 10-year (2012-21F) financial forecasts, and afterwards we take a terminal value based upon 10% terminal value growth for the available reserves after 2021 (1,740mn tons in our estimate). We think that 10% terminal value growth is reasonable because at the end of 2021, the implied PTBA mine life (based on 2021 production of is some 24mn tons) is still over 72 years.
In addition to that, due to the significant resources that PTBA has, we also add valuation of PTBA’s resources in our DCF calculation which is based upon US$0.25/ton of resources, lower than the current valuation of some US$0.7-0.8/ton.

Sensitivity analysis
We conducted sensitivity analysis on our 2011-12F earnings forecasts on three main variables: coal price, railway volume and railway tariffs.

 Coal price
Our sensitivity analysis suggests that for every 10% change in our 2011-12F international coal price assumptions, our 2011-12F earnings forecasts would change by some 18-16%, respectively.

 Railway volume
Railway performance is very critical to PTBA’s production and earnings achievements. Our sensitivity analysis suggests that for every 10% change in our 2011-12F railway volume assumptions, our 2011-12F earnings forecasts would change by some 13-10%, respectively.

 Railway tariff
We have assumed that railway tariffs will increase by 5% in 2011 and 2012. Our sensitivity analysis suggests that for every 10% change in our 2011-12F railway tariff assumptions, our 2011-12F earnings estimates would change by 4-3%, respectively.

 Exchange rate
Our sensitivity exercises suggest that for every 10% change in our 2011-12F exchange rate assumptions, our 2011-12F earnings estimates would change by 15-14%.