Bareksa.com - PT Wismilak Inti Makmur Tbk was established in 1963 by Wisman Ali (Lie Koen Lie) in Surabaya. Wisman Ali married Sinta Dewi Sampurno which is the daughter of Liem Seeng Tee; the founder of the renown Sampoerna. Business wise, WIIM and HMSP are not affiliated. The Company was listed in the Indonesian Stock Exchange on the 18th of December 2012.

As the 6th largest tobacco company in Indonesia, WIIM currently has not produced a National product which is well known produce of the company throughout the country. On the other hand, WIIM has products which are known unique to specific areas such as Galan in Sumatra and Wismilak in Java. These brands were able to survive for 50 years and this proves the strength of the brand.

WIIM’s distribution network is able to reach all parts of Indonesia. The Company’s marketing and distribution coverage areas includes Sumatra, Java, Kalimantan, Sulawesi, Bali, Nusa Tenggara, Maluku and Papua. WIIM is represented by 18 branches, 4 stock points and 29 sales agents.

WIIM have a good financial performance as it can be seen from its DER in 3Q13 of 0.5x vs 0.8x in FY12, a growth of Sales / Income from 2009 to 2012 amounted to 34%/63% CAGR. In 2012-2016 we forecast that revenue and profit will grow 32%/20% CAGR.

PT Wismilak Inti Makmur Tbk (the Company) was established in 1963 by Wis-man Ali (Lie Koen Lie) in Surabaya. Currently, the Company has the production capacity of ~4.5 billion cigarette sticks both Hand produce (SKT) and Machine produce (SKM). Per 2013, the utilization rate for SKT and SKM production are 99% and 55% respectively. As of now, the Company utilizes 4 factories that are located in Surabaya and Bojonegoro in producing SKT, SKM, Filter Rod and OPP Sheet. Management is planning to move the factory in Bojonegoro to Surabaya with an estimated completion time in 2015.

WIIM’s coverage spans nationwide reaching Sumatra, Java Borneo, Celebes, Bali, Nusa Tenggara, Moluccas and Papua. The Company’s presence is represented by 18 branches, 4 stock points and 29 sales agent throughout Indone-sia. Their network is as shown as bellow:

WIIM’s business segments and overview:

- SKT Cigarettes: These types of cigarettes are hand produced. In 2013, the Company’s production capability is ~480 milllion sticks. Production of SKT is situated in both Bojonegoro and Surabaya site.
- SKM Cigarettes: WIIM is able to produce ~4.032 billion machined processed cigarette sticks. The factory that produces SKM are only located in Surabaya.
- Filter Rod and OPP Sheet: The Filter Rod and OPP Sheet production facility is within the Surabaya site. Most of the production; approximately 85%, are sold to external entities where it also includes exporting the produce.
- Cigars: Cigars production are very minute in respect to the total production line.

The market share of tobacco products SKM Wismilak is largest in North Sumatra with a share of 11% followed by Central Java and East Java at 5% and 4% respectively. As for the product SKT Wismilak, Medan has largest market share of 10% followed Yogyakarta with 5% and Potianak of 5%. Cigar products have a market share of 16% of the national market cigars.

WIIM’s production capacity by the end of 2013 are 480 million sticks and 4.03 billion sticks for their SKT (hand-processed) and SKM (machine-processed) respectively. By the end of 2013, the Company has a number of production facilities that is situated in two different locations in East Java province namely;

- Jl. Buntaran 9 and 9A, Surabaya

1. Primary and Blending: In this facility, the ingredients (tobacco, c loves and sauces) are goes through fermentation and chop ping which are later then blended. This facility has an area of 13.002 m2.
2. SKM: In this area, machine produced cigarettes are made. This facility has an area of 3.900 m2.
3. Research and Development: On this 2.500 m2 land, a laboratory is situated. This division also deals with the quality assurance of the cigarettes products of the Company.
4. Filter Rod and OPP Sheet production is conducted in this 3.024 m2 facility.

- Jl. Buntaran 18, Surabaya

SKT: In this area, hand produced cigarettes are made. This facility has an area of 8.352 m2.

- Jl. Sraturejo 99, Bojonegoro

SKT: In this area, hand produced cigarettes are made. This facility has an area of 1.380 m2.

In 2014, the management is planning to move their SKT production facility from Surabaya to Bojonegoro. They are aiming to finish this relocation by the end of 2014 or early 2015 at the latest. The main concern of this rearrangement is cost related. The minimum wage in Surabaya is ~Rp 2.2 million whereas in Bojone-goro it is ~Rp 1.1 million. This being considered, it can halve the labor cost in regards to SKT produce where it makes up 18% of COGS of SKT.

Cigarette Industry Outlook

In 2013, the total production of cigarettes in Indonesia is ~343 billion sticks by De-cember. This is a +5.21% YOY increase compared to 2012’s figure of 326 billion sticks. Going forward, forecast that production of cigarettes will increase by +7.2% CAGR in the period of 2013 to 2016F. The absence of any law and/or regulations in regards to limiting cigarettes production eliminates one of the biggest deterrence to the sector’s growth.

Increase in the number of production is due to the ever rising demand from the consumers. Shown bellow that the populations above 15 years old for both gen-ders are expected to grow by +1.8% and %2.2% CAGR for the male and female popu-lation respectively in the period of 2013 - 2016F. As the smoking permissible population increases, the number of cigarette consumers will move up accordingly. Ap-proximately 63% of males in the age of older than 17 years old smokes in 2013 and it is expected to go up to 77.5% in 2016F. For the females, it will increase to 6.2% in 2016F. The increase are due to additional population aging to the smoking permit-ted age.

Revenue growth in the period of 2009 to 2012 was at an impressive rate of 34% CAGR. The growth was supported by the expanding production capacity of SKM of 13.5% CAGR and SKT of 4.6% CAGR in the period of 2009 to 2012. Going forward we re assuming that by 2016F, the production capacity of SKM remains unchanged whereas SKT’s production capacity is forecasted to increase to ~900 million stick from 460 million sticks in 2013. The assumption of no expansion on SKM production capacity is as the current utilization of the machine is only at 55%. That said, an extra 45% room of increase is still present without the need of capital expenditure on machineries.

The correlation between the volume of cigarettes produced and the increase in revenue in 2009 to 2016F. We forecasted that revenue will grow by 29.6% CAGR from 2013F to 2016F. This growth will be pushed by the increase of production volume expansion in 2013F to 2016F by 43.1% CAGR of the consolidated SKM and SKT produces. We are optimistic with our production volume due to the absence of any law and/or regulations in regards to cigarette production cap.

In 2009 to 2012, the major contributor to revenue is the SKM products. These prod-ucts are Wismilak Diplomat, Galan Mild, Diplomat Mild. Going forward, we view that SKM will still dominate in contributing to the WIIM’s top line at an average of 79% of revenue (2013F-2016F). Second biggest contributor is SKT and in 2013F to 2016F, we expect it to contribute 15% on average to revenue. Additionally, filter products and other revenue serves the rest towards the total sales.

Looking forward, we forecast that net income will grow by 20% CAGR in 2012-2016, with net margins in the range of 5%-6%. We are quite optimistic with the Company’s production volume growth of 20.5 % CAGR 2012-2016. In addition to current prod-ucts, the company's strategy in adding new products will be catalyst in the in-crease in production volume. In 2014, the company will be launching 3 new ciga-rette brand which we expect will contribute significantly to the company's sales.

Factors of production cost such as labor costs and also the cost of advertising will be a key competitive advantage of the company. In order to counter labor cost derived pressure, the Company is planning to reallocate their SKT facility from Su-rabaya to Bojonegoro by early 2015 the latest. In Surabaya, minimum wage is set at Rp 2.2 million whereas in Bojonegoro it is Rp 1.1 million. This is an example of how in the future the company will be able to manage costs hikes from labor cost.

Investment Thesis

- Potential Production Volume Hikes

Currently the company produces two sorts of cigarettes: SKT and SKM. For SKT’s production volume, they are operating on 99% utilization rate, producing approximately 480 million sticks per year. On the other hand, their SKM is only operating at 55% utilization rate, producing slightly bellow 2 billion sticks annually. This pre-sent us a 45% hike potential in production volume with the absence of capital expenditure need as the machines is already there. SKM contributes 79% in 2013E to revenue thus any increase in volume would translate to increase in the Company’s topline.

- Defensive Towards Exchange Rate and Interest Rate Volatilities

The Company is considered to be defensive towards any volatility of the Rupiah and interest rate. WIIM’s exposure towards the Dollar is small as all of their trans-action are denominated in Rupiah. They use imported tobacco that may form 25% maximum of their whole tobacco need. The price of imported tobacco and local tobacco are insignificantly different and the Company always has the option to decrease the portion used. Additionally, WIIM is resilient towards interest rate hikes due to their low current DER of 0.6x. As they are low indebt, the Company’s interest expense cost will not pressure greatly.

- Vertical Integration and Government related Advantages

WIIM is currently well represented in Indonesia. The Company’s coverage spans nationwide reaching Sumatra, Java Borneo, Celebes, Bali, Nusa Tenggara, Moluccas and Papua. The Company’s presence is represented by 18 branches, 4 stock points and 29 sales agent throughout Indonesia. The Company has a competitive advantage as they are vertically integrated from production, marketing and down to marketing. This gives them more control in the passing of their produce.

The Indonesian Government has a quite supportive view in the sector as they charge reasonable excise tax on the cigarettes. On top of that, as SKT produce hires numerous labors, they charge an even lower excise tax compared to other types of cigarettes that utilizes machine.

Valuation Method

We are initiating coverage on WIIM with DCF (Discounted Cash Flow) based meth-odology using following parameters:
- WACC: 9.15%
- Beta WIIM: 0.2722
- Risk Free-Rate: 8%
- Risk Premium: 8%

WIIM currently is trading at Rp 695,- (closing price on 30 January 14) equates to Rp 1.47 trillion market capitalization or reflects 10x FY14F P/E and 9.6x FY15F P/E. Hence, we recommend BUY on Rp 829 price target, 19.3% upside from current price. Our target price implies 11.9x FY2014F P/E and 11.5x FY2015F P/E. Our targeted net profit for FY14F is Rp147bn and this is 2.8% higher than consensus whereas for 2015F figure, it is –o.4% lower compared to consensus.

*This article is part of The Equity Research of PT Buana Capital (www.buanacapital.com)