Perusahaan Gas Negara Strong Presence aligned with National Interest

We think that PGAS-Pertagas potential M&A schemes, full “open-access & unbundling” proposals are still at a very early stage, thus needs further study & unlikely to proceed in the mean-term. We view that PGAS should maintain its dominance in the industry given its vast experience in the industry to provide solid distribution to cater domestic needs. We like PGAS given its rich cash to cater diversified projects aligned in strengthening its vertically integrated value chain.

What happened?
There have been plans regarding a merger of two prominent entities, PGAS & Pertagas, as well as plans by the government regarding full open-access & unbundling implementations to comply with Permen ESDM No.19 year 2009. Pertagas is supporting the unbundling policy as it would reduce the gas price charged to customers. In contrarian, PGAS agrees unbundling policy under a condition that higher gas price may be charged to its customers given that operational cost hike is imminent mainly as unbundling policy would make PGAS potentially lose its 5% corporate tax rate discount incentive.

Regarding open-access policy, it does create an efficient and effective gas distribution flow in a national interest perspective, however, full-implementation would be hard to be realized given technical barriers in the fields. Furthermore there is also an issue regarding potential merger of PGAS and Pertagas given that there are cross sections of PGAS pipe expansions with Pertagas’ existing pipes, which is the main reason that hampers PGAS’ business growth.

How we see this?
We see that proposals for various potential M&A schemes, full open-access and unbundling policy, remains unclear, thus needs further study and unlikely to proceed in the mean-term. We sense that these overhanging issues is driven for national interest thus we that PGAS should maintain its dominant presence in the gas distribution and transmission market as to have maximum optimization of gas deliveries to cater domestic needs as part of national interest in reducing Indonesia’s dependencies on oil import.

Trading at a bargain
PGAS is currently trading at xx 2014 PER, a xx% discount to its historical forward PER. We maintain our BUY call with TP of IDR6,000. Risks to our call: 1.) Unfavorable government policies, 2.) Limited gas supply from upstream O&G blocks.

Potential impact of open access policy.
The government is currently pushing open-access policy for PGAS as to comply with Permen ESDM No.19 2009. PGAS has implemented its open-access post 2005 for its transmission business. However, it may be difficult for PGAS to implement open access for its existing distribution pipelines given technicality reasons in the field therefore dedicated pipelines is still necessary to be implemented and is already in compliance with Permen ESDM No.19 2009 article 10.

Unbundling policy should increase costs
PGAS current transmission business segment has already implemented unbundling policy by separating the gas trading segment by setting up a subsidiary, PT. Gagas Energy Indonesia. However, PGAS distribution business segment does not separate its distribution and trading business. We see that unbundling policy for its distribution business may lead to cost hike as PGAS may potentially lose its 5% corporate tax rate discount. It is worth noting that PGAS is currently eligible for a 5% reduction in tax rate as an incentive for public companies whose outstanding shares are more than 40% owned by at least 300 public shareholders, each of whom holds less than 5% of the total paid up shares.

PGAS and Pertagas JV issue?
One of the main issue why there has been a push from the government regarding PGAS and Pertagas merge scheme is that both of the companies could create potential synergies. Currently, PGAS is experiencing gas supply crisis to serve domestic industrial needs. PGAS gas distribution infrastructure facility is well equipped in North Sumatera, however Medan has been suffering gas supply crisis. Meanwhile, there has been gas oversupply as to cater the demands in East Java.

In order to cater the needs in West Java-Sumatra high gas consumption, the government is planning to make a gas distribution connection from East Java to West Java. However, there have been competition between PGAS and Pertagas as there are 11 intersections in the West and East Java area which has emerged a drawback to Pertagas and has hampered PGAS’ pipe expansion in connecting gas distribution from East Java to West Java. Despite this, several strategies from PGAS such as building LNG facilities to cater gas supply needs and acquiring upstream oil and gas (O&G) blocks to secure gas supply is deemed as a wise move in our view.