Indonesia Coal - Alert: Compromised Domestic Coal Price Agreement? - Citigroup

NEWS

Investor Daily quoted one of the directors of PLN as saying that PLN has reached a price agreement for its 2011 coal purchase with 75% of its seven suppliers. He expected the remaining price negotiation to be concluded by the end of February. However, he declined to mention the agreed price and volume.

Separately, the Chairman of Indonesia Coal Mining Association stated that the majority of the suppliers have agreed to use the average of the Indonesia Benchmark Price for the months of November 2010, December 2010 and January 2011 as the reference price for PLN’s coal purchase.

COMMENT

The inclusion of the January 2011 price in the average calculation is a compromise, in our view, as previously PLN insisted on using 4Q10’s average. While the inclusion of the January price would increase the reference price by 7% to US$104/t, it is still nearly 8% lower than if the reference price used January price alone.

We have factored in 10% discount on domestic selling price to our 2011 price assumption of US$122/t (effective domestic price of US$110/t). Hence, if the Chairman’s statement is accurate, then the domestic reference price is c. 5% lower than our expectation.

The potential impact to our earning forecasts would vary from one producer to another depending on their domestic sales portion but we think it would not be too significant. The largest impact would be on PTBA given that the majority of its sales are to the domestic market and we estimate c. 7% lower earnings to our 2011E forecast. The impact on Adaro’s 2011E earnings would be c. 2%.

Adaro is our top pick in the sector for its compelling valuations and our view that consensus’ margin expansion expectation is too bearish. We also like ITMG for its low domestic price risks.