Infrastructure First few years are the hardest - CIMB

~ There are two events in 2011 that could serve as catalysts for the infrastructure sector, we believe:
1) the passing of a proposed land-procurement law; and
2) the re-evaluation of toll-road project deadlines.
~ Combined with this year's Infrastructure Conference in April, infrastructure development could accelerate as early as 2012.
~ Risks that may hinder this are spiralling oil prices which in the past had stalled many projects.
~ However, downside from higher energy costs should be limited by a strong rupiah, in our view.
~ Toll-road operators should be clearer winners while cement producers would benefit from an acceleration of projects and higher cement prices after keeping prices flat for two years.
~ Our picks for the sector are JSMR for toll roads and INTP for cement.

Maintain Overweight on infrastructure sector in Indonesia. There are two events in 2011 that could serve as catalysts for the infrastructure sector, we believe:
1) the passing of a proposed land-procurement law; and 2) the re-evaluation of toll-road project deadlines. Combined with this year’s Infrastructure Conference in April, infrastructure development could accelerate as early as 2012. Risks that may hinder this are spiralling oil prices which in the past had stalled many projects. However, downside from higher energy costs should be limited by a strong rupiah, in our view. Toll-road operators should be clearer winners while cement producers would benefit from an acceleration of projects and higher cement prices after keeping prices flat for two years. Our picks for the sector are JSMR for toll roads and INTP for cement.

Light at the end of the tunnel? After the stalling investments of the past 5-6 years, 2011 could be a turnaround year for the infrastructure sector with major regulation changes. Bureaucracy and political interest remain stumbling blocks to progress; but we expect changes following the President’s plans to take sterner action to address this problem.

Re-evaluation programme: by Mar 11. The re-evaluation of 24 projects stalled by
equity-financing and land-acquisition problems is due at the end of Mar 11 and Apr
11, according to sources. With a major infrastructure conference planned for mid-Apr
11, we believe the government will push through its draft bill. In the worst case,
the land-acquisition bill should be passed by Jun/Jul 11.

Impact of oil prices. Jasa Marga should be the main beneficiary given the defensive nature of its operations, namely resilient traffic volume. It could also take advantage of high inflation through future tariff hikes. For cement producers, we expect them to raise selling prices as they did in 2008. So far, several producers have been signalling plans to raise ASPs by 3-10%.

Financing costs. With interest rates poised to rise this year, toll-road operators with major projects that require new financing may face higher interest costs. This may burden the likes of Jasa Marga but is well expected, given the negative spreads between deposit and lending rates.

Valuation and recommendation
Among infrastructure-related stocks, Jasa Marga (due to its earnings performance and defensive nature) and most contractors (due to under-ownership, less liquidity) had outperformed the index in the past 12 months. Cement stocks weakened in 2H10 due to declining rates of growth in cement volume. In our view, the sell-off was rather excessive, particularly given their resilient margins that should contribute to earnings despite some volume weakness.

Maintain Outperform on Jasa Marga. If the three events expected in 2011 meet their deadlines, the major beneficiary would be Jasa Marga. The company has stakes in six projects (two partly delivered this year) that have been stalled by slow land acquisition. The company’s interest in three other projects could also benefit this year from land reforms. Jasa Marga typically benefits from higher inflation with its defensive vehicle volume. We have a higher target price of Rp4,550, still based on DCF (WACC 10-10.3%) after upgrading our earnings forecasts for higher inflation and lower debt assumptions.

Maintain Outperform on Indocement. Being the leader in Java’s cement market, the company should benefit from infrastructure project acceleration. It has spare capacity to raise production and effective cost management so that it may not need to raise selling prices as quickly as its competitors. We maintain our target price of Rp21,500, based on 15.6x CY12 earnings, in line with the market.

Maintain Neutral on Semen Gresik. Historically, Semen Gresik is the pick during inflationary periods given its resilience and defensive geographical profile. Downside risk is that Semen Gresik’s capacity is closer to 100% today than in 2005 or 2009, necessitating higher selling prices. Having said that, higher energy costs could serve as an opportunity for it to raise prices and improve its revenue growth, though at the cost of market share. We maintain our target price of Rp10,500, at 14.0x CY12 P/E.

Maintain Neutral on Holcim. Despite its volume spurt in Jan 11, spare capacity is not as abundant in absolute terms so that it may need to raise prices earlier than Indocement. Margin expansion and higher growth than peers have been priced in, we believe. We maintain our target price of Rp2,500, based on 13.7x CY12 earnings.