APA Group: Resilient but with challenges

About the author:

Nathan Lead
Author name:
By Nathan Lead
Job title:
Senior Analyst
Date posted:
26 August 2021, 12:30 PM
Sectors Covered:
Infrastructure, Utilities

  • FY21 saw mild declines in key earning and cashflow items, albeit supported by one-off items.
  • We think there is the potential for solid Free CF growth over the next 3 years.
  • ADD retained. While we have reduced our 12 month target price to (login to view), the share price has similarly corrected, resulting in 12 month potential TSR of 10%.

Event: FY21 result

FY21 EBITDA was down -1% (<1% below consensus) and Operating CF down -3% (2% above consensus), with APA noting challenging market conditions.

FY21 key result items

Key factors in the EBITDA decline were a step-up in corporate costs (the majority as APA invests with focus on growth), lower contracted capacity (NSW) and softer contract renewals (Qld) (which begs the question whether the East Coast Grid Expansion will be fully contracted when built), initial positive contribution from Orbost (VIC), and a spike in Asset Management (one-off customer contributions).

The Operating CF decline was influenced by strong EBITDA cash conversion (c.100%), one-off SEA Gas distributions in the pcp, higher interest paid (reduced capitalisation re Orbost), and higher tax paid (higher taxable income). Free CF was down -6%, with sustaining capex continuing to move higher.

Growth capex of $287m (with the bulk in WA) was broadly flat on pcp. $769m of assets entered service during FY21, with a further $335m WIP. APA now expects to spend $1.3bn across FY22-24 from which incremental earnings will be generated, up from $1bn previously.

APA said key credit metric FFO:debt declined 90 bps to 11.3%, still well above the minimum 9% required of APA’s BBB/Baa2 credit ratings. However, we calculate the ratio as relatively stable at 11.9%, given the higher AUDUSD reduced net debt.

As well as having ample liquidity ($1.9bn of cash and undrawn debt), APA was able to self-fund sustaining capex, distributions, and growth capex from Operating CF.

Outlook indications

First-time DPS guidance for FY22 was +3.9% growth to 53 cps, broadly in-line with consensus expectations.

Given FY22 DPS guidance, APA’s target of 60-70% payout of Free CF implies -1% to +16% growth in Free CF in FY22 (c.7% at the mid-point). We target +11% growth assuming flat EBITDA and a decline in interest paid (FY21’s early bond redemption), tax paid (tax refund due), and sustaining capex (no major overhaul).

Forecast and valuation changes

We update our forecasts for lower interest, inflation and AUDUSD rates, as well as 2H21 performance. These changes result in a downgrade to forecast EBITDA and higher net interest paid initially, partially offset by lower sustaining capex.

We’re expecting strong Free CF growth across FY22-24F, supported by low tax payable, but then a marked CF decline in FY25 when tax paying rebounds.

Our June 2022 valuation based on a DCF has reduced 40 cps to (login to view) as a result of the forecast changes. This implies 12x EV/EBITDA (FY13F basis).

Investment view

We continue to like APA for its revenue quality (c.88% of revenue is take-orpay/regulated, c.11yrs average contract term, c.91% investment grade customers), strong cash generation, debt capacity to fund growth, and open register making it a potential target in the current hot M&A environment for ASX-listed infrastructure.

Price catalysts

Utilisation of c.$3bn of debt capacity within current credit ratings.

North America asset acquisition requiring market education and a capital raising.

Resolution of Orbost issues, which continue to be a drag on investor sentiment.

Risks

Macro (commodity prices, Australian and USA inflation/interest rates, AUDUSD).

Domestic gas demand/supply and regulatory developments.

ESG headwinds / long-term asset stranding.

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