Gajah Tunggal: Turning around - Daiwa Bahana Securities

§ New products, ample capacity and retail presence to fund growth: As part of its growth strategy, GJTL, Indonesia’s largest tire maker with a total capacity of nearly 165k pieces/day (exhibit 5), is focusing on new products (exhibit 7) such as the Zeneos motorcycle tire brand and Komodo 4X4 radial tire. Currently, its wide-product range caters to a variety of popular brand models (exhibit 8), suggesting volume resilience. GJTL’s new products development is supported by a strong in-house R&D department in Tangerang (exhibit 6). Furthermore, GJTL has ample room to grow as the 1Q16 average utilization rate only reached 74% (exhibit 5). Separately, we expect growth in replacement tire sales going forward on the back of a 7% CAGR in 4W unit sales (exhibit 9). This segment of GJTL’s business is supported by higher retail outlets with 119 TireZone stores (exhibit 10) in 1Q16 (FY15: 112). This note marks a transfer of analyst coverage.

§ Higher sales to the US market; Optimistic on long-run local prospect: On the export front, GJTL is benefiting from an opening in the US market left by Chinese producers following the implementation of the US anti-dumping policy in July 2015, despite performance slowdowns in other overseas markets. The increase in the US market sales has resulted in a higher proportion of export revenues of 43% (exhibit 11) in 1Q16 (1Q15: 41%). Note that GJTL’s 1Q16 exports to the US accounted for 72% of total exports versus 60% in 1Q15 (exhibit 14). On the local front, tire manufacturers are adversely affected by weak automotive sales amid the slow economic growth; however, the management believes that the Indonesian market still offers solid prospects in the long run, backed by the government’s strong commitment to infrastructure development. At this stage, we forecast growth of 8-7% y-y (1Q16: 16.1%) in 2016-17F export revenues respectively vs. local growth of 5-4% y-y (1Q16: 8.9%) for top line growth of 8-5% y-y.

§ Expect lower raw materials prices and improved operating margins: Looking ahead, we expect GJTL, with 70% of its production costs being USD-linked, to continue to benefit from lower raw materials prices as well as a relatively stronger IDR performance. Testimony to this is GJTL’s stellar 1Q16 results (exhibit 15) which show substantial operating margin expansion. We have assumed an IDR:USD rate of 14,000-13,500 in 2016-17 (FY15: IDR13,788) with lower natural rubber prices of USD115-135/mtn in 2016-17 (FY15: USD142/mtn) (exhibits 16). We have raised our 2016-17F gross margin to 20.4-20.5%, versus the 1Q16 level of 23.9%.