Transurban Group's (TCL) investor day, held on the 4th May 2017, unearthed no information that we viewed as material or meaningful to the share price. However, it did reinforce our view that TCL is a high quality infrastructure stock with dependable drivers for solid distribution growth.
Here are our eight key takeaways:
- TCL believes appetite for higher risk bidding assumptions not seen since the GFC is emerging amongst its competitors.
- The NSW Government is yet to kick off a sell-down process for WestConnex but TCL stands ready to participate against tough competition.
- TCL's confidence that the West Gate Tunnel Project (formerly Western Distributor) will proceed has increased, with the timing for the release of the Environment Effects Statement still mid-2017.
- The USA provides a massive market opportunity for TCL, but projects take a very long time to develop.
- Cost-outs continue to be pursued in Brisbane, with savings now being extracted from O&M arrangements.
- There has been no noticeable truck diversion on Citylink since the lifting of truck toll multipliers on 1 April.
- TCL expects further capital releases from its assets (noting in particular the North West Roads Group and Transurban Queensland), which may further reduce the need for any potential capital raising requirement.
- NorthConnex construction is running on-time and on-budget.
Changes to EBITDA forecasts are negligible. We have reduced our assumed capital raising assumption from $800m to $400m in 2HFY18, given forecast credit strength and the expectation of capital releases from assets freeing up capital at the corporate level to fund growth projects. This reduces share base dilution but increases forecast debt and interest costs and reduces credit metrics (albeit still within management targets).
The net benefit to Free Cash Flow per share across FY17-20 is 1-3%.
We have raised our DCF-based share price target, primarily due to forecast changes and valuation roll-forward. Assuming the West Gate Tunnel Project proceeds but assuming no other uncommitted developments, we estimate investors buying Transurban at the current share price are chasing approximately 7.5% pa long run average equity return, below the 8% pa we assume in our valuation. That's skinny, but still a solid equity risk premium above current 10-year Commonwealth Government bond rates at 2.65% pa and average six month term deposit rates at close to 2.0% pa (albeit with capital at risk). We note the share price is back close to all-time highs even though government bond rates have risen about 80 bps off all-time lows.
In a low growth / low interest rate environment the conundrum for investors is what do you buy if you sell TCL? The share price of TCL's listed peers (and also REITs) have run hard off lows in March as fears of rapid bond rate rises dissipated. There is limited availability of high quality infrastructure investments, which should drive continued appetite for existing stocks.
In our view, the key threat to the sector is higher economic growth and higher bond rates resulting in a flow of funds out of defensives into more economically sensitive stocks. Given the number of false starts on that front and TCL's growth outlook, we expect TCL will continue to remain a core portfolio holding for investors.
We retain our Hold recommendation.
Morgans clients can login to view our detailed report and upgraded share price target for Transurban Group (TCL). Alternatively, please contact your nearest Morgans office for access.
Disclaimer(s): Analyst owns shares.
The information contained in this report is provided to you by Morgans Financial Limited as general advice only, and is made without consideration of an individual's relevant personal circumstances. Morgans Financial Limited ABN 49 010 669 726, its related bodies corporate, directors and officers, employees, authorised representatives and agents (“Morgans”) do not accept any liability for any loss or damage arising from or in connection with any action taken or not taken on the basis of information contained in this report, or for any errors or omissions contained within. It is recommended that any persons who wish to act upon this report consult with their Morgans investment adviser before doing so.