Straits Asia Resources - Boundary approval comes through

We reiterate our Outperform recommendation and increase our DCF-based price target to S$3.00 from S$2.25, on the back of the Sebuku boundary being approved.
Reserve upgrade leading to higher production. We believe that the boundary approval will lead to roughly 50mt upgrade to reserves (and further upside through additional exploration). We have therefore increased our 2010 production forecast from 12mt to 13.5mt and long-term production from 16mt to 20mt.

Higher ASP and lower costs. We have increased our estimated average selling price for the company by about 6–7% due to increasing production out of Sebuku, which is of a higher quality coal vs Jembayan. Further, given Sebuku’s lower strip ratio of around 4–5x, low transportation distances and excess capacity, we have also reduced our production cash cost estimate by 6% in 2010.

Short-term cautious, but medium-term upside risk to coal price forecasts in 2011+ towards US$85–90 due to a tightening supply/demand balance.

Valuation is attractive vs peers, as the stock trades at 2010E adjusted PER of 13x vs the sector’s 20x. We think it is appropriate to strip out amortisation for the company to be comparable with its peers.

Key risk – production delays beyond March 2010? Post the Cagar Alam boundary being approved, the company is required to get an environmental permit and borrow use permit. The company believes that this process is administrative and on-track. We highlight that should bureaucracy lead to further delays, there would be downside risk to our forecasts.

We downgrade our 2009 earnings estimate by 26% to reflect the one-off expenses, higher taxes and warrants dilution, but upgrade those for 2010-12 by 64%, 28% and 56% to factor in the impact of the boundary approval. We raise our target price to S$3.00 from S$2.25.

We reiterate our Outperform recommendation with a revised price target of S$3.00. We believe that the boundary approval is transformational, which should lead consensus to upgrade reserves, production, average selling price and lower costs.

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Straits Asia Resources: 1Q09 results within expectation

Straits Asia (SAR) reported its 1Q09 net earnings of US$35.5mn, a 10% q-o-q decline and came in inline with our estimate.

Total revenue decline by 8% q-o-q to US$139.6mn due to lower sales volume of 1.6mn tons (-21% q-o-q) amid better ASP (+17% q-o-q). We expect production in coming quarters to pick up to achieve the full-year target of 10mn tons.

Production cost dropped by 11% q-o-q due to lower production volume (-13% q-o-q) despite a slight increase in production cash cost (+3% q-o-q).

SAR balance sheet remains firm with total cash balance of US$183mn and net gearing ratio of 26%.

Generally the 1Q09 results is inline with our expectations, hence we are maintaining our view that SAR profit in FY09 will still be growing as a result of higher sales volume and ASP. We expect sales volume to reach 10mn tons with an ASP of US$78/ton for FY09.

We are maintaining our forecast for SAR, however, we raised our TP to S$1.55 as we have lowered our WACC to 11.4% due to lower risk premium assumption. Hence, we reiterate our BUY recommendation on the counter.

Straits Asia Resources - Lacklustre takeover offer

PTT International (PTT), one of Thailand's largest energy companies, has made a mandatory takeover offer for Straits Asia Resources Ltd (SAR) at S$0.807/share. The offer is a result of it purchasing Straits Resources Ltd's 47.1% stake in SAR as part of a strategic alliance.

The offer price was derived from SAR's 20-day volume-weighted average price (VWAP) prior to 20 Mar 09, but falls 4.5% below SAR's last transacted price and 7.9% short of its six-month VWAP. In addition, it values SAR at a modest 2.2x FY09F PER and 1.2x FY09F NAV - far lower than the 11x PER price tag that Chinalco and Alcoa forked out for their stake in mining company Rio Tinto just a year ago. We are of the view that the takeover offer undervalues SAR, and do not expect investors to accept the offer. SAR will be appointing an independent financial adviser to provide a recommendation in connection with the offer.

No intention to privatise SAR. PTT's takeover offer for SAR appears to be a procedural obligation as a result of it crossing the 30% ownership level. It has articulated its intention to retain SAR's listing status on the SGX-ST, and added that it currently has no plans to introduce any major changes to SAR's business, redeploy its fixed assets, or discontinue the employment of its employees. As such, the takeover offer will probably result in a change of SAR's effective ownership with no major changes to the group's strategy or management.

Good dividends and earnings prospects provide little incentive to accept offer. SAR's shareholders may reap better returns in the long term by holding on to their shares, given the group's generous dividends and robust outlook. SAR's dividends yielded a generous 11.5% return in FY08, and we expect FY09 yield to increase to 17.8% on the back of higher earnings. Earnings are expected to more than double in FY09 thanks to higher coal prices secured during the commodity boom in 2008.

Sound fundamentals, maintain BUY. PTT's takeover offer puts an end to months of speculation over SAR's privatisation. It also rules out any acquisition by Noble Group Ltd (previously reported to be one of the interested bidders) or other strategic investors in the near term. We maintain our BUY rating and S$1.15 fair value estimate for SAR and do not expect PPT to raise its offer price. As for Noble, our BUY rating and S$1.33 fair value estimate remains intact.

Straits Asia: Stick to fundamental BUY

The long awaited speculation of Straits Asia Resources (SAR) share divestment by its parent has finally concluded but falls below market expectation. Straits Resources (SRL) has agreed to sell 60% of its stake in Straits Bulk (SBI) (which owned 47.1% stake in SAR) to PTT Int’l Coy Ltd (PTT) for US$335mn. Furthermore, PTT will tender the remaining outstanding SAR share for S$0.807/share. Despite lower than expected offer price, we still view that SAR’s fundamental remains firm. As such, we maintain our TP of S$1 and recommend shareholders not to accept the tender offer.

Structure changes. After the acquisition, PTT and SRL will have a 60% and 40% stake in SBI respectively, thus engages in a so-called co-investment. Other than SAR, SBI also owns coal assets in Brunei and Madagascar. Based on the initial agreement, most of the management in SBI will be retained although PTT will put several representatives in both SBI and SAR. Thus, there might be some changes in SAR’s management, but are unlikely to be drastic, in our view.

Operations remain firm. Aside from the structural changes, operational wise, we believe SAR is still on solid ground. The company is eyeing a production volume of 9-10mn tons for FY09 and will expand its total capacity to 19mn tons p.a. Exploration is still ongoing to further strengthen its coal reserves and resources, which currently stands at 112mn tons and 638mn tons respectively.

Remains a BUY. We retained our forecasts for SAR as we view that changes in parent-level structure will not impact the operational activity. We maintain our target price of S$1.00 and recommend shareholders not to accept the tender offer, as the offer price is too low while the outlook for the company remains firm.