CLSA Coal Sector Update

Share prices of Indonesian coal companies have done very well YTD. For sure the easy money has been made but looking at current valuation, Olie thinks companies have not factored in excessive coal price relative to spot price and long term price outlook. The demand picture on the horizon is solid with China alone looking to add 60GW of coal-fired generating capacity every year. Indonesia has been and will be the biggest incremental coal supplier globally but this vastly underpowered archipelgo also has big domestic demand from its 20GW PLN and 25GW indepentdent power projects. For now and probably for the next 5-10 years, coal remains one of the cheapest source to fire power generation capacity trading at 77% discount to crude at current respective spot prices. This massive discount to crude oil will likely narrow.

Key points from the report:
We try to estimate what thermal coal prices are implied in share prices of Indonesian coal companies. We use PE as a primary methodology and adopt 2010 earnings and then also use DCF to have a feel on what short-term and long-term coal price implied.

Based on these methods, Adaro Energy is implying US$63/t to US$75/t thermal coal price hence offering cheaper entry to its growth potential, while one with highest implied price is Indika and therefore is looking more expensive than others.

Catalysts for the sector include thermal coal price movement (likely to be volatile in the short-term as it is driven more by crude oil price and US Dollar movements rather than by physical demand for the commodity, though long-term outlook remains positive), and M&A in the sector with Berau up for sale. With most companies have already locked in most of their tonnage for this year, we do not expect much upside surprise on earnings for this year.

We therefore like Adaro, for its size, growth outlook, and diminishing risk profile, ITM, for its exposure to thermal coal price recovery and robust balance sheet, and continue to see some upside in Bukit Asam. Despite its excellent asset quality, we continue to be concern on Bumi corporate governance risk despite excellent coal assets, and think that Indika is expensive.