Indonesian government primes Indosat privatization

Danareksa has already been selected as one global co-ordinator for the next stage of Indosat's privatization and having received written submissions from international banks, is currently in the process of oral presentations to select either one or two joint global co-ordinators to join it.

Telecoms experts say that the Indonesian government is prepared to cede control of Indosat (the country's sixth largest company by market cap) in a bid to raise funds of up to $300 million. Based on Indosat's current market capitalization of $1.06 billion, it would need to sell at least 30% to achieve this level and would see its stake almost halve from a current 65% level.

As the sale is likely to be one of the biggest revenue spinners for the government's privatization programme this year, it sits at the top of its agenda and will not only precede IPOs for Telkomsel and Satelindo, but is also likely to hit the market before the end of the second quarter. The government has set itself a Rp6.5 trillion ($630 million) target for privatization proceeds in 2002 up from Rp3.5 trillion ($340 million) in 2001 and will use funds to part finance a Rp43 trillion ($4.1 billion) budget deficit and meet IMF conditions for fresh loans.

In its desperation to meet 2001's target, the government was forced to rush a secondary sale of PT Telkom shares to market in December. This deal, which raised Rp3.1 trillion ($300 million) via Bahana Securities, Goldman Sachs, Merrill Lynch and UBS Warburg, was nevertheless considered a great success as it hit the market just as fund managers started looking for outperformance in Asia's lesser MSCI-weighted markets.

However, as the head of telecoms banking at one investment bank recalls, "We told the government they were crazy to go ahead with the sale when they did because they'd be leaving too much value on the table for investors ahead of proposed tariff increases. But they needed the money and had no choice, just as they do now with Indosat."

Since the1.2 billion share Telkom deal was priced in mid-December at Rp2,600 per share (a 3.7% discount to close), the stock has risen by about 30%, closing yesterday (Thursday) at Rp3,700. Analysts say that part of the reason can be attributed to the subsequent announcement of tariff increases, which will see a variety of domestic telephone rates rise by 13% to 17%.

But it also reflects a re-rating of the entire telecoms sector, which is now trading on an EV/EBITDA ratio of about four times 2002 earnings against a three times ratio at the end of last year. Having ranked as one of the world's cheapest telecom operators, investors appear to have been buying in to Telkom's high growth rates and clean balance sheet.

Where Indosat is concerned, bankers say the government is open to a number of options including a combined strategic sale and public offering, which will see its stake drop below 51%, or a public offering alone, which may keep its stake above 51% and raise lesser proceeds of about $150 million. Since the company's IPO in October 1994, the government has never sold further equity.

However, despite the sector's strong fundamentals, a divestment is fraught with a number of problems. Chief among these is Deutsche Telkom's 25% stake in Satelindo - Indosat owns the remaining 75%.

Deutsche Telkom wants to sell out

The German telco wants to sell out of an investment which cost it $586 million back in 1995 and JPMorgan has been appointed M&A advisor. However, telecom bankers report few willing buyers of minority stakes in Asian telcos, with the most obvious candidate, SingTel, already tied up with rival Telkomsel, in which it owns a 22.3% stake.

"The strategic issue is a bit of a mess," one banker comments. "The only reason any major telco would want to invest in Indosat itself is to get cheaper access to Satelindo. It would have no interest in Indosat's declining IDD business."

As most potential investors (Telstra and Vodafone being the most frequently cited) are more likely to want to purchase a direct stake in Satelindo, government coffers are unlikely to benefit, although Satelindo's would if a new buyer purchased more than Deutsche Telkom currently owns.

Satelindo prepares IPO

The second major problem is Satelindo's own IPO plans. The mobile operator represents 80% of Indosat's Net Asset Value (NAV) and as such experts believe that the parent's valuation will suffer considerably once it is spun out. Currently, the stock trades flat to PT Telkom, which in turn derives 50% its NAV from domestic fixed line services and 50% from Telkomsel.

JPMorgan and Lehman Brothers were recently mandated to lead the flotation, which bankers believe should raise $200 million to $300 million and subject to price, will be well received because of the company's high growth rates. Satelindo is also keen to come to market with a mixed secondary and primary share offering so it will be able to raise funds to finance capex currently constrained by its debt load ($583 million at the time of its restructuring last May).

Some bankers, however, have pressed the government not to spin it out. As one comments, "Minus Satelindo, Indosat actually has a negative value as itÆs recorded declining revenue growth over the past nine to 12 months."

And a second adds, "The only real comparison comes from France Telecom which spun out Orange. But in this instance you could argue that Orange realized greater value for the parent as itÆs a global brand and the parent was just a domestic fixed line operator. But Indosat and Satelindo are a domestic play and it would be much easier for the government to entice foreign investors if they stayed together."

Telecom experts say that Credit Suisse First Boston is clear favourite to win the Indosat mandate given its advisory role last year unwinding the company's cross shareholding issues with Telkom. Of the other major investment banks, Lehman and JPMorgan are already mandated to lead Satelindo, while Goldman Sachs and Merrill Lynch are too closely associated with Telkom and Salomon Smith Barney and UBS Warburg stand poised to win the Telkomsel mandate.

Telkomsel nears mandate selection

Indonesia's largest cellular operator is going through the final approval process ahead of final selection and both banks seem likely to be appointed because of their respectively close relationships û UBSW with Telkomsel management and SSB with Telkom management.

Although size details have yet to be finalized and timing may be pushed back to 2003, experts believe the deal could potentially raise up to $700 million, subject to improved market conditions. Indeed, one of the key issues facing Indosat, Telkomsel and Satelindo is whether the market can absorb the issuance planned.

Trading on the Jakarta Stock Exchange has doubled over the past month, but still only amounts to about $50 million per day. Year-to-date, the JCI also ranks as Asia's best performing index up 15.203% to close yesterday at 451.636.

Some believe this may count in the companies' favour. As one banker concludes, "The liquidity issues mean that Indonesia is a very hard market in which to put money to work. If companies are able to provide new product enabling investors to play the market, then paper should be well received."

Few also doubt that Indonesia presents one of the most attractive emerging market telco plays, with Telkomsel, for example, forecasting that it will reach five million subscribers at the end of the year, up from 3.1 million at the end of last November.

As Lehman analyst Peter Milliken says, "Investors have been re-rating Indonesia. They'd overlooked it before, but now that they've re-focused, they like what they see. Telkomsel and Satelindo are quality companies with good cash flows.

"Subscribers are growing by about 70% per annum and it will take at least another three years just to catch up with the penetration rates of China or the Philippines," he continues. "In developed markets, telcos have gone ex-growth and even in a lot of developing markets, growth is decelerating. Indonesia is one of the few places in the world still blessed with low penetration and a huge population."