UBS Bank Danamon Indo Rating: Buy Target: Rp2,775

Bank Danamon Indo Rating: Buy Target: Rp2,775 Price: Rp2,225 RIC: BDMN.JK
Prior: Sell Prior: Rp2,200 Mkt Cap: Rp11,037bn BBG: BDMN IJ

We upgrade our rating from Sell to Buy for three reasons:
1) The bank is not going in for the rights issue to fix problems with the balance sheet quality;
2) it is doing the rights issue for the right reason—to comply with the Basel 2 operational risk standards, to improve its competitive positioning relative to other big banks, and to invest in high-growth businesses; and 3) its valuation on a post-rights basis is attractive at 0.9x P/BV, reflecting a lot

Q408 results indicate strong earnings power to withstand NPL shock
The bank recorded around 4% pre-provision ROA in Q408. This should be adequate to withstand the expected increase in credit cost in 2009. We believe Danamon needs around US$400m to bring its capital adequacy ratio (CAR) to 14-15% by end-2009. This includes the capital impact from the Basel 2 implementation, and the investment in Adira and calling in its subdebt.

The valuation is also attractive on a 12m forward post-rights basis
Using a scenario of a US$400m rights issue at a 40% discount to the market, we arrive at a post-rights 12m forward valuation of 8.4x 2010E PE for Danamon. This is attractive both on a historical basis as well as a comparison basis. The stock would trade at 0.9x 2010E P/BV, which is the least expensive among the banks we cover.

Valuation: raise price target from Rp2,200 to Rp2,775
We derive our price target of Rp2,775 using the Gordon Growth model on a post-rights basis. We assume 20% return on equity (previously 17%) and 18.3% cost of equity to arrive at the target P/BV multiple. We apply the multiple to 2010 BVPS which we then discount a year to arrive at the price target.