Danareksa Gudang Garam (GGRM IJ, Rp11,350 BUY) Still attractive

TP raised to Rp13,500
Following the excellent performance in the first quarter of the year and buoyed by upbeat market sentiment, Gudang Garam’s shares have rallied 48% in the last one month. This prompts us to use a PE based approach besides DCF to value the stock. Our PE based approach uses a PE of 11.8x. This comes from an 11-year average historical forward PE, and is similar to the current forward market PE of 11.6x. Our new DCF valuation values the stock at Rp12,000/share, reflecting our assumption of improving working capital. Based on the blended valuation, we arrive at a higher target price of Rp13,500, implying 10.7-10.1x PE09-10F. The stock is still relatively attractive compared to its peers. BUY recommendation maintained.

More ambitious plans
The company has more ambitious plans. This year it hopes to launch some new brands besides rejuvenating its existing brands. In addition, it also hopes to invest more in an integrated computer system as well as improve its human resources in order to ensure efficiency and achieve further market penetration. Despite the higher investment costs required, we believe these efforts shall help to strengthen Gudang Garam’s position in the market in the longer term.

Consolidation of distribution
The company is still consolidating its distribution under its fully owned distributor, Surya Madistrindo. This shall provide solid support for its marketing initiatives. These plans are already well advanced and the management is confident that it will make 80% of its sales through its own channels by the end of this year despite its internal target to have the consolidation completed by the end of 2010. If all goes well, sales may surprise on the upside. On the operating side, the consolidation should improve the company’s working capital management due to faster receivables turnover as well as ensure margins enhancement.


Positive trend in the production numbers
The latest GAPPRI cigarette production volume numbers - which are based on the purchase of excise tax ribbons – continue to show a positive trend. On a monthly basis, the industry buying pattern is already back to normal with 20.7 bn sticks recorded in April 2009. Cumulatively, domestic excise tax ribbons purchased rose 7.9% YoY in 4M09, led by Gudang Garam which recorded astounding growth of 21% YoY (across the board). Despite the lack of any direct correlation with Gudang Garam’s actual cigarette sales, this bodes well for the company’s future sales we believe.

Danareksa Gudang Garam (GGRM IJ, Rp8,000 BUY) Earnings upgrade

Earnings upgrade



FY09-10 earnings forecast increased by 27-30%
We have raised our forecasts to reflect the excellent 1Q09 results. We forecast higher sales, higher margins, higher interest expenses, and a lower income tax rate. The net effect is 27-30% higher earnings forecasts for FY09-10. Applying a WACC of 16.5%, we arrive at a higher TP of Rp9,500 compared to Rp7,000 previously. Our new target price translates into a very attractive valuation of 7.5-7.1x PE09-10F and 1.0-0.9x PBV09-10F. Maintain BUY recommendation.

1Q09 Results: outstanding
Gudang Garam has posted an excellent set of 1Q09 results. Net profits jumped 132% to Rp781 bn on the back of a significant margins improvement and efficiency gains. Sales grew 11% to Rp7,651 bn, driven by higher selling prices we believe. The gross profits and operating profits increased by 58% and 94% respectively, beating expectations. Another boost was provided by the lower income tax rate of 28% as a result of new tax regulations, although net interest expenses did rise 11%.

Sales push
A sales push now appears to be in the making. In this regard, Gudang Garam increased its ownership in its now fully owned subsidiary, Surya Madistrindo, a distribution company in 2008. Consequently, Gudang Garam’s sales contribution through this subsidiary continued to increase (it rose to 23% YoY in 1Q09 from 5% in 1Q08). This is good news as it reduces Gudang Garam’s reliance on its existing affiliate distributors. And going forward, it should help Gudang Garam to boost sales further. Given the rosier prospects for the consumer sector as evidenced by high consumer confidence, we raise our sales growth estimate to 7.9% YoY driven by 5% price increases and 3% volume growth assumptions.

Excellent operating performance
The 1Q09 results show excellent operating performance. The gross margin rose to 22% from 15.4% in 1Q08 thanks to lower material costs, lower production overhead costs, and higher selling prices (the company successfully passed on more of its excise tax burden to the consumer). The company also managed to keep its operating expenses at a relatively low level. As a result, the operating margin jumped to 15.6%, its highest level in 6 years. The company’s balance sheet is very strong. Net gearing declined to only 16% from 21% at the end of 2008. Moreover, its net working capital shortened to 223 days, down 11 days y-o-y, largely because of improving inventory turnover.