Portfolio holding PT Telekomunikasi Indonesia, known as PT Telkom (NYSE: TLK) is one of our favorite plays, for long-term growth and steady dividends. The stock has returned about 80 percent (including dividends) since we recommended it in the fourth quarter of 2008.

Data growth opportunities abound in Indonesia, where the penetration rate for 3G is only 11 percent and for smartphones only about 8 percent. Accordingly, PT Telkom reported that first-quarter 2012 revenues and EBITDA margin were better than expected. This performance appears sustainable as growth opportunities in the data segment remain strong and costs continue to drop.

PT Telkom’s cellular subsidiary Telkomsel, a market leader in cellular with more than 104 million customers, reported 8.9 percent year over year revenue growth for the first quarter, while its subscriber base increased by 12 percent on a yearly basis.

PT Telkom has made management changes in its mobile unit, bringing in seasoned executives with experience in monetizing similar growth opportunities in other Asian emerging markets. Telkomsel is expected to now focus on service quality, rather than price, when promoting data services.

PT Telkom’s margins should continue to improve, as the company spends less on marketing efforts and pricing wars. In the first quarter, EBITDA grew by 1.1 percent quarter over quarter and 13.3 percent year over year. Management has indicated that margin improvements seem sustainable into the second quarter and beyond, as revenues are boosted by stable marketing costs.

The company’s fixed line business reported 1.6 percent growth YoY in the first quarter, with ADSL growth offsetting declines in other segments. Margins also were higher than expected, rising to 46 percent partly because of lower costs.

The company has been cutting costs by forcing the early retirement of employees, bringing the total workforce below 20,000 from above 25,000 in 2007. This trend will enhance margins and mitigate the company’s perennial problem of wage inflation.

Boosting the stock this year has been a steady improvement in earnings and management’s proposal to increase the dividend payout ratio to 65 percent for 2011, and progressively thereafter.

The company’s solid cash flows and low debt levels will help its case when regulators review the dividend proposal. The government still owns close to 53 percent of Telkom Indonesia and has a say in major management decisions.
The company is now 71 percent into a buyback program of 645 million shares. We view buybacks as positive, provided they don’t undermine dividend payments and dividend growth.
 
The stock remains attractive at current levels, trading at a reasonable valuation of 12 times expected earnings while offering a 4.4 percent dividend yield. Buy PT Telekomunikasi Indonesia up to USD40.