Steel Pipe Industry Upbeat Update On East Java Plant Visits

On 19 Sept we took investors on a 1-day visit to four of Spindo’s East Java plants, which made up 81% of its production capacity in 1H14. We got to observe the efficiency at its new Sidoarjo plant relative to its older plants, cementing our confidence in Spindo’s commitment to cost efficiency as the plant allows it to be more price competitive. We maintain our BUY call and DCF-based derived TP of IDR370.

Update on plant visits
On arriving at Surabaya’s Juanda Airport, our group boarded a bus that took us to Steel Pipe Industry’s (Spindo) Pasuruan, Sidoarjo, Warugunung and Rungkut plants. Although most of the plants (excluding Sidoarjo) are 33 years old on average, they are still well maintained and their workers are very professional. The plants only need a few well-rounded workers who shift their roles. Note that electricity and direct labor costs only account 2-3% of production cost.

Sidoarjo plant a testament to cost efficiency
We also visited Spindo’s new Sidoarjo plant (7% of production capacity), which started in April. There, we saw how cost efficient the entire processing of raw materials up to finished product was (operating+maintenance costs) compared to the older plants. We expect this to reduce Spindo’s manufacturing expenses, which account for ~13-16% of its cost of sales.

Well-known brand and tight quality control
From our observations, we get a sense that Spindo’s products are at a premium to its competitors in terms of quality and reliability. The company ensures that its steel pipe products pass quality screening tests at its laboratories before being delivered to the final customer.

Buying more IDR-denominated raw materials
Spindo expects to purchase more raw material from Krakatau Steel (KRAS IJ, NR), which accounts for 40% of its raw material purchases YTD, from 17% and 30% in 2013 and 1H14. This should reduce its forex exposure as most of Spindo’s products are sold in IDR.

Still plenty of upside to our TP
The share price has jumped 55% since we initiated coverage a month ago. Yet, there may still be plenty of upside to our DCF TP of IDR370, implying a 7x 2015 P/E. The key risks are rising raw material costs, USD/IDR volatility and project delays.