MacQ AALI Cyclical Headwinds to Cap Run-Up

Cyclical headwinds to cap run-up

We expect CPO prices to remain weak in 2009: Our CPO price assumptions are US$400/t in CY09, US$450/t in CY10 and US$550/t for the long term. We believe that recent strength in the CPO price reflects market optimism from strong December exports out of Malaysia. However, we believe that strong exports were a function of stockpiling by China ahead of the Chinese New Year and by India in anticipation of an import duty levy. We expect exports to return to more normalised levels in coming months. In
addition, although inventories are likely to fall in 1Q09 due to seasonally low production, we expect pressure to return when production resumes in 2Q09.

Earnings hit from falling CPO prices: Based on our expectations of weak CPO prices in 2009, we estimate that AALI’s earnings are set to decline by a steep 43% YoY in FY09. However, we do note that AALI’s earnings are very sensitive to changes in CPO prices – every 1% change in CPO price from our base price assumption changes AALI’s earnings by 1.9%.

Weaker rupiah helps cushion some of the impact from weak prices: We have assumed a weaker rupiah against the US dollar (weaker by 10% for FY09 and 8% for FY10), reflecting our house view on potential weakness in the rupiah since our earnings update last October. The rupiah depreciation helps cushion some of the negative impact from weaker CPO prices, given that revenues are US$ driven while costs are mostly in rupiah. Every 1% change in the Rp/US$ exchange rate changes AALI’s earnings by 2%.

We downgrade our recommendation from Neutral to Underperform. We do believe that AALI is in a better position that its peers to deal with the current cyclical headwinds due to its strong balance sheet (zero debt). However, at12x 2009E PER, the stock is trading closer to +1 standard deviation above its historical average of 10x, which we think is unjustified, given the expected decline in earnings. Raise our target price to Rp7,800 from Rp5,100 previously