- 1H19 earnings (EBIT -16% on previous corresponding period) was affected by the approach to revenue recognition of the UT5 Final Decision. While lower than the pcp, cashflow was stronger than we expected
- 12 month target price increased 19 cps to (Morgans clients access only).
- Hold retained, with an estimated 12 month expected return of ~8%
1H19 key take-outs
EBITDA declined 10% (12% below our forecast), with a 7% decline in revenue the key driver. The revenue decline was mainly due to Aurizon (AZJ) adopting a conservative approach to revenue recognition of the UT5 Final Decision impacting Network revenues.
Both network and non-network EBITDA declined 10%. Volumes were less than expected, albeit AZJ has reaffirmed FY19 coal haulage guidance.
The decline in costs (even with a spike in maintenance spend), with lower energy and fuel and track access costs, helped support the result. The 1H19 dividend of 11.4 cps implied a 100% dividend payout ratio. Operating CF declined 7%, supported by the $66m Cliffs termination payment.
FY10 earnings outlook indication
AZJ expects non-network EBIT in the range of $390-430m, and network EBIT could be between $380-485m depending on revenue recognition approach (and assuming actual volumes align with the QCA’s forecast). Hence, the potential EBIT range is $770-915m.
Balance sheet expected to strengthen
Gearing was 42%, above the target range of ~40%. AZJ says it has limited headroom within its key credit metric for its current credit rating in FY19, but significant buffer exists from FY20 with higher earnings expected.
We have changed our forecasts to reflect AZJ’s approach to revenue recognition of the UT5 Final Decision. This results in a material downgrade to our FY19 earnings forecast as the Final Decision revenue allowances are lower than the transitional revenues in FY19, and also because AZJ is provisioning for the FY18 UT5 revenue true-up in FY19.
However, this also results in material upgrades to our FY20-21F earnings, which is when we had previously assumed excess revenues would be returned to customers. Dividends are thus expected to decline in FY19 before lifting in FY20.
Our DCF-based sum-of-the-parts valuation as at December 2019 lifts 20 cents per share (Morgans clients login to view). This is a result of forecast changes. Our valuation implies an EV/EBITDA of 8.4x and a PER of 17x, on a CY20F basis.
The key regulatory risk (UT5 Final Decision) overhanging the stock has dissipated, and the UT5 revenue recognition issue impacting accounting profit has zero value impact. The dividend yield based on our FY19-22F dividend and current prices looks attractive (>5% cash yield, 70% franked in 1H19).
However, we temper our enthusiasm because of the downside risks from competition (volume loss and/or significant contract price deterioration) related to AZJ’s Coal contracts expiring through to FY23F.
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