Aurizon Holdings: A major capital play via One Rail acquisition
About the author:
- Author name:
- By Nathan Lead
- Job title:
- Senior Analyst
- Date posted:
- 27 October 2021, 10:30 AM
- Sectors Covered:
- Infrastructure, Utilities
- While there is a valuation impact, we think the c.10% share price decline is an over-reaction to Aurizon Holdings' (ASX:AZJ) acquisition of One Rail. ADD retained.
- 12 month target price (login to view). FY22-23F DPS cut -30% (rebounding FY24)
Aurizon Holdings (ASX:AZJ) will acquire One Rail (OR), subject to ACCC approval. Following completion of the acquisition, AZJ plans to divest One Rail’s East Coast Rail. Completion of the acquisition is targeted for Jan-Apr 2022, and the divestment during CY22.
The acquisition cost is $2.35bn plus c.$80m transaction costs, implying 10.5x EV/EBITDA (CY21F). This is below the 11.2x EV/EBITDA paid by the vendors in 2019, but at a significant premium to AZJ’s recent trading multiple of c.7x EV/EBITDA.
If we assume East Coast Rail is worth 7-8x EV/EBITDA, then AZJ has paid 15-17x EV/EBITDA for One Rail Bulk. Even with this significant premium, AZJ says the acquisition is superior to buying back its own shares.
The $2.43bn acquisition cost will be fully debt funded, with $500m layered against the divested business and the remaining $1.93bn of additional debt raised against AZJ’s Above Rail operations. This incremental debt funding comes from:
- $900m of existing debt capacity within its target BBB+/Baa1 credit ratings;
- debt capacity from One Rail Bulk;
- reduced dividend payout over 1-2 years;
- increased capacity from convincing the rating agencies to reduce downgrade triggers; and
- hybrid issue for 50% equity credit in rating agency credit metrics.
AZJ plans to reduce its dividend payout from 100% (since 2015) towards the bottom end of its 70-100% policy range for 1-2 years to support credit metrics. Hence, a c.30% downgrade to DPS so as to retain c.$150-300m. However, under the demerger option existing AZJ investors would have access to East Coast Rail’s distributions (we think 3.7cps/13% downgrade offset); a trade sale at our valuation would provide a c.4% offset to the downgrade via debt paydown (1.2 cps)
Forecast and valuation update
While we have not yet factored the acquisition or its funding into our forecasts, we have downgraded our CY22-23F DPS by c.30% as per reduced payout and removed assumed buybacks from our modelling.
Given the above changes, the acquisition cost and assuming a preliminary valuation of $1.1bn for East Coast Rail (c.8 EV/EBITDA) and $0.75bn for One Rail Bulk (8.5x EV/EBITDA) our valuation declines to (login to view target price).
ADD retained. With recent share price decline, potential TSR is c.12%.
Attractive sale price for divestment of East Coast Rail (will have look-through value implications for AZJ’s coal haulage business).
Resilience of coal export demand and extent of supply-side constraints. Above rail contract capture, pricing, and retention. Network regulatory risks. Employee, cost and capital management (including M&A). ESG.
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