Aurizon Holdings - Coal consideration

About the author:

Nathan Lead
Author name:
By Nathan Lead
Job title:
Senior Analyst
Date posted:
14 October 2020, 11:12 AM
Sectors Covered:
Infrastructure, Utilities

  • Even though Q1 coal haulage volumes declined, AZJ reaffirmed its FY21 coal haulage and EBIT guidance.
  • We make immaterial changes to our forecasts. 12-month target price reduces (login to view), as we factor in a more conservative valuation on the Above Rail business.
  • ADD retained.

Q1 above rail volumes

While Q1 Coal volumes declined (-5% or -2.8Mt on pcq), FY21 Coal haulage guidance remains unchanged at 210-220Mt. AZJ continues to expect a softer 1H21 – due to global recessionary conditions and China curtailing coal import volume – to maintain a similar annual result to CY19.

Guidance assumes railings improve in 2H21 as steel capacity comes back online in key export markets. Our FY21 forecasts assume the bottom end of the Coal haulage guidance range (volumes tend to spike in Q4).

In its 2020 Sustainability Report, AZJ forecast Australian coal export volumes to grow within a range of -2.6% to +1.6% pa CAGR over the next 20 years, based on International Energy Agency scenarios.

What’s the earnings outlook?

At its AGM, AZJ reaffirmed FY21 EBIT guidance of $830-880m. Our EBIT forecast is $856m, which is also broadly where consensus expectations sit. Across FY22-23F, we expect EBIT and Free CF (ex $170m Acacia Ridge sale) to average ~$920m and ~$650m per year, respectively.

This assumes Network and Coal benefit from recovering coal volumes, Bulk continues to grow, and capex runs at close to the budget of $500m pa.

What dividend can it pay?

We think FY21 EBIT could translate into 26.6 cps EPS, and AZJ pays out 100% of its EPS as dividends. The Federal Budget’s immediate deductibility of capex until FY22 could see a reduction in tax paid in the short term, but also reduce AZJ’s ability to 70% frank its dividend (the impact on EPS is also not obvious given the current vs deferred tax impacts).

On our forecasts, DPS averages ~31 cps across FY22-23F.

What’s weighing on the share price?

Since the release of its FY20 result in August, AZJ’s share price is down 13%, underperforming the broader market by 14%. While this is beneficial for AZJ’s $300m onmarket buyback program (~$90m completed), it is frustrating for its investors. We put the weakness down to short-term coal market weakness, limited earnings growth in a market thirsty for growth, ESG headwinds, and 15% shareholder cap (blocks takeover potential).

These factors seem to outweigh the attractive dividend yield, on-market buyback, solid balance sheet (BBB+ credit ratings), and above and below rail revenue protections.

What’s AZJ worth?

Our 12-month target price reduces (login to view), not due to our immaterial forecast changes but because we have reduced the long-term growth we ascribe to AZJ’s NonNetwork / Above Rail business.

We now value Non-Network at 9x EV/EBITDA (CY22F basis) instead of 10.5x (Network remains at ~1.15x EV/RAB). We estimate the market is factoring in only 7.5x EV/EBITDA for Non-Network (CY21F), which is excessively cheap.

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