Aurizon Holdings: Continued focus on Bulk’s growth

About the author:

Author name:

By Nathan Lead

Job title:

Senior Analyst

Date posted:

15 February 2022, 10:15 AM

Sectors Covered:

Infrastructure, Utilities, Banks

• We view the 1H22 result as solid, with the key interest being the deployment of capital into Bulk, rebound in Coal’s unit metrics, and the dividend reduction to support the funding of the One Rail acquisition due to complete in coming months.
• The story remains one of Coal and Network facing long-term sustainability issues, but in the meantime generating strong cashflow to support returns to investors and a pivot into Bulk. ADD retained. 12 month target price lifted to (login to view).

Event

Aurizon Holdings (ASX:AZJ) released its 1H22 result, with EBITDA -1% on pcp (+5% ex revenue one-off in the pcp) and a 10.5 cps DPS (-27% on pcp, 95% franking vs 70% previously).

The result looked clean, with no material items and 103% cash conversion of EBITDA.

Result analysis

EBITDA -1% to $727m was in-line with Visible Alpha consensus estimate. Our group forecast ($742m) missed in the Network segment (access revenue -5%, EBITDA -7%), albeit Network has mechanisms that will allow it to recover c.$30m of access revenue shortfall in later periods.

Coal (above rail revenue +3%, EBITDA +4%) beat our forecast due to an uptick in pricing (CPI and surge), lower unit costs, and less fleet but with lower contracted tonnes. Bulk (revenue +7%, EBITDA +1%) was broadly in-line, with additional costs as new contracts and assets ramp up. 

Underlying EPS -1% to 14.0 cps was driven by lower EBITDA and higher D&A. AZJ lowered its dividend payout from 100% to 75%, as per its plan to reduce dividend payout in the next 1-2 years to part-fund the One Rail acquisition. 

Free CF +26% to $362m (benefitted from lower tax, debt service, and investment spend than pcp) was below our forecast ($436m), as the benefit of FY21’s $78m Network take-or-pay receivable was offset by short-term incentive payments and investment required for the ramp-up of Bulk’s operations.

We think debt capacity will be close to fully utilised within AZJ’s BBB+/Baa1 credit rating constraints once the One Rail acquisition is completed (currently targeted for April, only awaiting ACCC approval due March), as indicated by the short-term reduction in dividend payout and the planned hybrid issue later in CY22.

Outlook statements

FY22 EBITDA guidance remained unchanged at $1425-1500m (ex One Rail), which is -1% growth on pcp at the mid-point. Our forecast is in the bottom half of the guidance range, targeting lower Network to be offset by Bulk and Coal. AZJ highlighted the grain haulage growth it expects under its new 10 year CBH contract. 

FY22 capex guidance lifted to $540-480m vs $475-525m (ex growth) previously. This change reflects the inclusion of $100m growth capex for Bulk contracts, in addition to the rollingstock being cascaded from Coal into Bulk.

Forecast and valuation update

Changes to FY22-24F EBITDA of -2% to +2%, and long-term c.2% upgrade from updates to macro assumptions (which also negatively impacts debt service).

We lift our valuation of the existing business by (login to view). However, we think the One Rail acquisition is value dilutive by 23 cps (previously 31 cps).

Investment view

Key share price drivers in the short term will be completion of the ORA acquisition, the amount of value realised by the divestment of ECR, and the extent of ongoing ESG-related selling pressure.

We rate the stock an ADD on the basis of valuation support and solid dividend yield.

Price catalysts

Release of Q3 above rail volumes (expected in March).

Attractive sale price for divestment of ECR (will have look-through value implications for AZJ’s Coal haulage business).

Completion of funding program for ORA acquisition (including hybrid issue).

Risks

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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