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This week I have take attention to Petrosea (PTRO) that continues to declining lately, especially after its stocksplit with a ratio of 1 : 10 in last March. When this article was written, PTRO was at the position of 2,075, so if counted from the last six months, PTRO already lost more than half of its market value, precisely 52.0%. But from the fundamental side, PTRO’s financial performance was actually good in the First Half of 2012, where the company recorded US$ 21 million of net profit that is reflects 26.2% of ROE. So, what’s wrong with the stock?

PTRO was previously an oil and gas service company established in 1972, and listed on the Stock Exchange since 1990. In 2009, the Indika Group through Indika Energy (INDY) acquired the company, and PTRO officially became a subsidiary of INDY. In the hand of Indika, PTRO then became a mining contractor and provider of engineering services for three coal mining companies of INDY’s subsidiaries, ie PT Kideco Jaya Agung, PT Santan Batubara, and PT Mitra Energi Agung, with also accept orders from other coal mining companies (which are not INDY’ subsidiaries). In first half 2012, PTRO recorded revenues of US$ 174 million, of which US$ 65 million of which comes from Kideco, Santan, and Mitra Energi, and the rest comes from third parties.

About INDY’s ownership over Santan, INDY holds a 50% stake of Santan through PTRO, so Santan is also a business unit of PTRO. The other half of Santan’ ownership is held by Harum Energy (HRUM).

Back to Petrosea. Related to declining of its shares in recent months, the story is quite long. So when the acquisition is fully completed in August 2009, the total number of PTRO shares that had been taken over by INDY, including through tender offer, was 98.6% or nearly 100%. Given that PTRO is a public company that listed on the stock exchange, then the IDX as the stock exchange authority ordered INDY to refloat PTRO shares to the public, at least 16.6% of the total paid up capital of the company. INDY then performed the refloat gradually, until finally on February 24, 2012, INDY finished their refloat after released 28.8% of PTRO shares to the public, so that they held 69.8% of the remaining. Overall, INDY has released a total of nearly 29 million shares of PTRO, or 28,997,000 shares to be exact (this is the number of shares before stocksplit), including 3.8 million shares of stock options that were purchased by two foreign funds, namely Citigroup and Macquaire Capital.

Interestingly, based on information disclosure on the Singapore Exchange (INDY had its bond listing there), INDY had reap gross cash of US$ 116 million from the refloating process, which is after brokerage fees, the net was approximately US$ 113.6 million. Yep, INDY grossed US$ 113.6 million from floating 28.8% stake of PTRO. While when they acquired PTRO, the cost was only US$ 83.8 million to acquire 81.9% stake. So, how much the profit? You can count it by yourself. But clearly, this suggests that management of INDY was an extremely good stock trader that could make an 'added bonus' of their investment activity, in this case the acquisition of PTRO.

Anyway, since there are million of shares that were dumped into public, the declining of PTRO shares price could be explained. Including, the stocksplit is also likely to lure traders and investors to buy the shares, but it did not prevent the further declining. But one thing for sure, this stock is now relatively undervalue, with PER only 5.6 times at the price of 2,075 (but technically, of course, the stock is still in its heavy bear period).

You may ask, does the same thing (stock refloating) was also occured, or will occur in other INDY subsidiary which is also listed on the exchange, PT Mitrabahtera Segara Sejati (MBSS)? I have not checked yet, but I think it wasn’t, because the public ownership of MBSS has already large enough, ie 23.9%, so that INDY has no obligation to refloat their MBSS shares to the public.

Back again to Petrosea. Now, what about its prospects? To be systematic, I will explain the things you need to know about this PTRO point by point. Okay, here we go!

1. Overall, PTRO has three business lines, namely 1. Coal mining services, 2. Port logistics services, engineering, and water treatment, and 3. Engineering and construction services for oil and gas mining. In first half 2012, the coal mining service business accounted for 92.4% of total revenue, aka very dominant, so practically PTRO does not have a lot of stories of two other business.

2. PTRO has investment placements in two companies, namely 50% stake of Santan Batubara (as mentioned above), and 47% of PT Tirta Kencana Cahaya Mandiri, a drinking water company. In first half 2012, PTRO had a profit share of US$ 3.6 million from the two companies, but this is a relatively small number.

3. Related to the company's growth, at the end of 2011 PTRO had (or rent) a total of 29 fleet of heavy equipment for coal mining operations. The number is grew by about 50% compared to the number of fleet by the end of 2010, ie 19 fleet (note: a fleet of heavy equipment consists of a single unit of excavator, five to eight units of dump trucks, and others). In terms of the volume of overburden, during 2011, PTRO has moved as much as 116 million BCM of overburden, grew 43% compared to 2010. For the year 2012, the company plans to add about 10 - 15 fleet of heavy equipment, and aims to increase the volume of overburden by 40 - 50 % compared to the year 2011 .

For a side note, one of the fundamental differences between coal mining company with coal mining services/contractor company is seen from the growth indicators. The growth of the coal mining company can be seen from the increase in the amount of coal produced. While the growth of coal mining contractor can be seen from the increase in the volume of overburden, which is a layer of soil excavated, so the coal underneath can be taken. If the number of coal is calculated using the units of tons, then the volume of overburden is calculated using the unit of bank cubic meters (BCM). If you use the data from one of the largest coal companies in Indonesia, Kaltim Prima Coal, a mining contractor must dig 9 BCM of overburden (in average) to obtain 1 ton of coal.

4. About new contracts obtained by the company, during the first six months of 2012, PTRO has signed two new contracts worth US$ 188 and 471 million respectively, with Santan Batubara and PT Gunung Bayan Pratama Coal , both of which are the existing customers (and indeed half of Santan is owned by PTRO itself). When viewed from here, then the target of 40 – 50% of increase of overburden volume if fairly realistic. Until the First Half of 2012, PTRO itself has recorded a revenue increase of 55.2%.

5. Unfortunately, despite the significant increase in its revenue, PTRO’ net income only rose 8.7%, and the operating profit also rose 11.2% only, so it is clear that the problem lies in the operating expenses. And indeed, PTRO operating expenses increased sharply from US$ 4.6 into 19.1 million, which was primarily due to decrease in net income of associated companies (Santan and Tirta), the increase in interest expense, and the increase in losses from disposal of assets. When viewed from the side , it looks like Indika Group as the owner of PTRO is not so concerned about whether the company’s profits will rise or fall, because it is INDY that important, as it is the parent company of all mining business units of Indika Group. This conclusion is came from the point number 6 below.

6. One major cause of the increase in PTRO operating expenses was due to the increase of interest expense, which is caused by long-term loan of US$ 85 million from a related party, in this case Indika Capital Resources (ICR), which is another subsidiary of INDY. It is a form of cost transfers from INDY to PTRO, given that ICR uses interest paid by PTRO to warrant or pay interest on bonds issued by INDY. To put it simply, PTRO have to pay the interest expense of its parent company. In first half 2012 , INDY recorded liabilities of a total of US$ 495 million from its three different bonds.

7. PTRO pay interest at 9.85% per annum to the ICR, and the number of loans granted will be raised in the coming years to reach US$ 140 million (from currently US$ 85 million). Meaning? The interest to be paid by PTRO to ICR may rise again. In first half 2012, PTRO paid interest expense of US$ 6 million. And if the interest expense continue to rise until it reaches a substantial number, let say US$ 10 - 20 million, then it could decrease PTRO’ net income significantly, considering that the PTRO current net income was only US$ 21 million.

8. DER of PTRO was 2.0 times, and this is not so good, so despite PTRO had 26.2% of ROE, but its ROA was only 8.8%. However, keep in mind that the PTRO total liabilities should be much smaller if there was no debt from ICR. Excluding the debt from ICR, most of PTRO debts are payable and leasing liability of heavy equipments, which does not bear interests so that it had no negative effect on the net profit of the company. So in this case I still think that PTRO is a coal mining service company that is quite profitable.

9. The recent decline in coal prices do not or not yet affect PTRO financial performance as a coal mining contractor, at least when viewed from the rise of its revenue. However, the value of profit sharing from Santan Batubara was reduced by about 50%, and it had significant negative influence on PTRO net profit.

10. In terms of size, PTRO is not a large coal mining service company. Four large mining contractors in Indonesia are Pamapersada (a subsidiary of United Tractors/UNTR), Bukit Makmur (a subsidiary of Delta Dunia Makmur/DOID), Thiess, and Darma Henwa (DEWA). However PTRO position as a subsidiary of INDY is fairly profitable for the company, given that INDY is one of the largest integrated mining services company in Indonesia .

11. In terms of quality of financial performance and stock valuation, the share of PTRO at the moment is the most attractive compared to UNTR, DOID, and DEWA. But in terms of management, UNTR, as a subsidiary of Astra Group, is still the best. However, if compared to Northstar Equity Partners (owner of DOID) or Bakrie Group (owner of DEWA), then we can say thay Indika Group as the owner of PTRO is still acting fairly to retail investors.

In conclusion, PTRO can be referred as a coal mining service company that is conservative from the side of operations, but a little bit complicated in terms of finance, which is because ‘bullied’ by its own parent, INDY. Not only in terms of financial performance, INDY even took profit from buying and selling the shares of PTRO, as we have discussed above. But fortunately the financial engineering of Indika Group was not as severe as other business groups that have been mentioned above. And PTRO’ status as a subsidiary of INDY automatically make it a company that has substantial access to many coal mining companies, so PTRO should have no difficulty in obtaining new clients or contracts to boost revenues. But once again, as already discussed above, for PTRO, the increase in its revenue does not always mean the increase in its net profit. On the other hand, the stock is currently the most attractive in its sector, both in terms of financial performance and valuation.

So, what is your recommendation on the stock? Well, just wait until it find its bottom price (stop declining). But since I am not comfortable with the management style of Indika Group, then I must say that PTRO is not suitable for long term investment.

PT Petrosea Tbk (PTRO)
Rating performance in 1H12 : A
Rating shares at 2,075 : A

Original article was written at August 28, 2012

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