DBS Indo Coal: BUY for rebound in 2H

* Rapid growth led by domestic consumption
* Strong balance sheet offers M&A opportunity
* BUY on dips in 2Q for seasonal upswing in 2H
* Reinstating coverage of Adaro and PTBA with Buy rating, Hold ITMG

Growing domestic demand and resilient export. We expect a strategic shift in the Indonesian coal sector, from being export centric to one that is more domestic driven. New power plants with 10GW capacity will commence operation by 2012, and more coal fired plants will be built under the government's plan to improve the low 61% electrification ratio. Coal export remains resilient with strong demand from Asia, especially China, Japan and India. We expect domestic coal demand to growth at an average rate of 12.8% p.a. against 5.7% p.a. production growth for 2009-15. Strong demand from both the domestic and export markets will lead to better pricing power for coal miners.

Strong balance sheet for M&A. We expect Indonesian coal companies to register 14% earnings CAGR in FY09-12F, supported by 11% production growth and 3% higher coal prices. The healthy balance sheets (net cash for PTBA and ITMG, and 0.3x net gearing for Adaro) bode well for M&A of new mines and new JVs to increase production. ITMG plans to acquire several coal assets near its concession area, while PTBA is eyeing two coal mines in Kalimantan. ADRO's net gearing remains low at <0.4x despite its recent venture into ICP, and we expect more JVs to drive the group's longer term growth.

BUY on dips in 2Q, for seasonal upswing in 2H. We expect Indonesian coal counters to see some volatility in the near term, as the sector has outperformed the JCI by c.1.3% and Chinese coal stocks by 30% year to date. Assuming a temporary 5% decline in spot coal prices, we expect only 4%-14% downside for stocks under our coverage. Any dips should be a buying opportunity to capture a rebound in 2H led by the seasonal peak in coal prices ahead of the winter season.

ADARO is our top pick. ADARO is our top pick for its solid production growth track growth and more resilient earnings from its integrated operation. We also favour PTBA for its leverage to strong domestic growth and superior ROE. We believe that near term upside for ITMG is capped until M&A materializes. ITMG's current valuations are in line with peers and does not price in its depleting reserve.