Macquarie SMGR High utilisation limits upside

Event
We reiterate our Outperform rating on Semen Gresik (SMGR) and raise our target price to Rp4,700 on the back of earnings upgrades.

Impact
Remains a beneficiary of the structural cement demand trend. Cement consumption per capita in Indonesia is very low at 167kg and suggests that long-term prospects remain promising. SMGR is the market leader in this oligopolistic industry, and hence we believe it should continue to benefit from this long-term trend.

However, lack of spare capacity will limit upside relative to peers. SMGR is running at 92% capacity utilisation currently, which we believe will limit its ability to capitalise on the industry recovery forecast for 2010–11. Considering regional acquisitions to mitigate capacity constraints.

Management has stated that it is looking at potentially acquiring cement plants in the region, preferably in Malaysia. We would view this as positive only if the company then delays construction of one of its two plants, which is expected to cost US$670m over the next five years.

Margins set to expand. We expect margins to expand as costs decline due to lower-priced coal contracts and rupiah appreciation. Coal accounts for 30% of costs and around 40% of costs are dollar-denominated.

Java main growth area in 2009–11, SMGR least exposed. The infrastructure projects that have been launched by the government are centred primarily in Java, which is the stronghold of Holcim Indonesia and Indocement. SMGR has the least exposure to Java and would not benefit as much as its rivals.

Valuations attractive on a historical basis. SMGR is trading at one standard deviation below its average PER. On EV/EBITDA and P/BV, it is slightly below historical averages.

Earnings and target price revision
We revise up our 2009 and 2010 EPS estimates by 20% and 9% to Rp492 and Rp559, respectively. We raise our target price to Rp4,700 from Rp3,700.

Price catalyst
12-month price target: Rp4,700 based on a DCF methodology.
Catalyst: Reduced capex spending, regional acquisition, government infrastructure projects.

Action and recommendation
We reiterate our Outperform rating and raise our target price to Rp4,700 . However, our sector preference is INTP, which has spare capacity and low capex requirements going forward.