Adaro Energy (IDX: ADRO) – A Coal Hard Cash Machine

Background

• Adaro Energy is a top-down, thematic stock idea centred around Indonesia coal
• Adaro Energy is a fully integrated coal mining and energy company. Adaro Energy conducts business in coal mining and trading, mining services, logistics and power generation – with an overwhelming focus on the former 2 segments.

Why Indonesia Coal?

• At face value, coal might appear to be a sunset industry given the significant global emphasis on climate change. Unsurprisingly, this sentiment is evident in how the market has been punishing coal mining stocks.
• Yet, I think that this pessimism is overblown. I am bullish on Indonesia coal for 2 reasons.
  (i) Innate competitive advantages of Indonesia coal. E.g. Indonesia enjoys substantial freight cost advantage due to being closer to buyers
  (ii) Favourable macro backdrop. Indonesia’s international and domestic demand for coal is likely to remain robust going forward, at least in the medium term

Screening for Indonesia coal stocks

• Among a universe of Indonesian coal stocks, Adaro Energy stands out because of its foothold in overseas markets, higher margins vs peers and reasonable valuations

Theses

• Thesis 1: Strong downside insulation stemming from extremely high dividend yield (being a cash cow) alongside political lobbying power and strong balance sheet
• Thesis 2: Heavy emphasis on cost discipline helps Adaro defend earnings during times of coal price volatility

Risks and Mitigation

• Risk + Mitigation 1: FX risk (or rather, specifically IDR depreciation risk) is typically a top-of-mind concern especially for foreign investors considering Indonesian equities. While the stock is trading in and dividends are paid in IDR, Adaro’s functional currency is the USD.
• Risk + Mitigation 2: Adaro’s stock price is highly correlated to coal price. The best way to mitigate this risk is trying to time the market cycle and entering when coal price bottoms.
• Risk + Mitigation 3: Coal miners like Adaro pay huge amounts of taxes to the Indonesian government. There’s always a risk of the government adjusting taxes upwards given how profitable coal companies are. Nevertheless, Adaro is owned by very influential businessmen in a country where politics and business are highly intertwined. Hence, I don’t believe that this risk is alarming, but it is definitely non-zero.

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