United Tractors - Turning more sanguine - Citigroup

 Reiterate Buy; Raising target price by 18% to Rp26,000 — The hike follows higher earnings forecasts for 2011-12E factoring in higher Komatsu sales volume and valuation rollover to June 2012E (15x 12-month forward P/E). The good share price performance (+8% since the announcement of rights issue plan) suggests the market views the plan positively, and we concur. We maintain our Buy call on the stock’s undemanding valuations of 2012E P/E of 11.8x vs. 15.5% earnings CAGR in 2012-13.
 Pamapersada's margins to improve in 2Q-4Q11 — Still unfavorable weather and strong rupiah in 1Q11 continued to weaken margins of UT’s mining contracting unit. We expect margins to bottom out in 1Q11 as we expect better weather condition to reduce operating costs and improve productivity and hence improve margins.
 Upside risks to Komatsu's sales — While the impact of the Japan quake and supply availability remain quite uncertain, we think there are upside risks to the market’s expectation of 6,500 units in 2011. Under our very conservative assumptions (please see overleaf), we think UT can deliver at least 7,000 units in 2011E.
 Rights issue: Positive for medium and long-term earnings — United Tractors is slated to raise US$700m from the upcoming rights issue. We view positively UT’s plans to acquire minority stakes in medium-sized coal mines, using the rights issue proceeds, with the intention to secure exclusive contracting contracts. This will enable Pamapersada to grow faster and enhance margins as room for substantial margin
expansion from existing top clients is quite limited.
 Catalysts — We expect firmer margins in 2Q11 results (to be released in late July), largely on Pamapersada’s higher margins to positively surprise the market. This, coupled with potential upside risks to heavy equipment delivery, should prop up the share price, in our view.