Transurban Group: An eventful half

About the author:

Author name:

By Nathan Lead

Job title:

Senior Analyst

Date posted:

08 February 2023, 7:00 AM

Sectors Covered:

Infrastructure, Utilities, Banks

• Transurban Group (ASX:TCL) released its 1H23 result (EBITDA +54%, free cash +84%) broadly in line with market expectations. FY23 DPS guidance was upgraded, the CEO announced his intended departure (late 2023), and a 50% stake in the A25 was sold to CDPQ.
• 12 month target price lifted (login to view).
• HOLD retained, given potential 12 month TSR of c.6% and 5yr IRR of 7% pa at current prices.

Analysis

A 35% increase in portfolio average daily traffic, combined with strong toll escalation, helped drive a 43% increase in toll revenue. The fixed cost leverage saw this revenue growth leverage into 54% EBITDA growth.

FY23 DPS guidance upgraded +4 cps to 57 cps (+39% on pcp). The guidance includes c.2-3 cps support from capital releases. We upgrade our FY23F DPS to align with guidance, and leave FY24/25F (64.5/71.75cps) mostly unchanged. However, we caution that management incentives for aggregate free cash growth across FY24-26 imply potential for significantly lower DPS than our forecast.

Inflation is benefitting the c.68% of revenues that have direct linkage to the spike in CPI (with lagged impact benefitting even into FY24). However, cost growth is also elevated with TCL continuing to expect total cost growth in FY23 to be greater than the 10.9% growth in FY22. We layer additional costs into our forecasts (as well as update our forward CPI and interest rate assumptions). 

Corporate debt capacity looks to have expanded given the FFO:debt (c.11%) has risen well above the ratings downgrade trigger. Corporate liquidity will be boosted by the A25 sell-down and targeted $1.9bn capital releases across 2H23-FY25 (albeit both will result in a reduction in annual cashflow). This puts it in a solid position to fund development projects and pursue M&A such as ConnectEast. 

While the weighted average cost of debt was stable during the period at 4% pa, it is likely to trend upwards as the cost of debt to be replaced across FY23-26 is below current market rates. Furthermore, there will be a step change in debt service as capitalised interest related to development projects is expensed when they become operational.

For instance, TCL has indicated a neutral impact on free cash when the West Gate Tunnel Project opens (targeted for late CY25) as its EBITDA contribution is absorbed by the increase in interest expensing.

TCL’s corporate tax is complex and there is insufficient transparency to accurately forecast tax payable. Nevertheless, we think when tax starts being paid at the corporate level (TCL pushed this out one year to FY26), it could create a >4cps/$100m cashflow headwind. This will reduce debt capacity albeit will be mitigated by the franking credits created by the tax payments.

The 50% selldown of A25 asset level equity for CAD350m vindicates our view that the A25 has limited equity value after deducting the CAD650m corporate debt that is allocated against the asset (albeit not the zero that we had factored in). With this transaction, we now deduct the CAD corporate debt from the corporate value.

Forecast and valuation update

Mild downgrades to FY23-25F EBITDA (higher costs, sluggish speed of Citylink recovery, M7 construction impacts) but upgrades from FY26F (Brisbane and Sydney strength, M7+M12 integration project benefits). All periods impacted by A25 selldown.

Note our forecasts do not factor in the full earnings power of WestConnex once the Western Harbour Tunnel (2028/29), Sydney Gateway (late 2024), M6 Stage 1 (2025), and Beaches Link (proposed) become operational.

DCF-based valuation rises (login to view), as a result of forecast changes, rebasing to 1H23, adjusting for the A25 sell-down, inclusion of M7+M12 integration project (including c.3 years concession extension), and model alterations.

Price catalysts

Q3 traffic release typically in mid-April.

Risks

Traffic risk, with heightened uncertainty from COVID impacts. Macro drivers (population and employment, interest rates, inflation, AUDUSD).

Capital management, including both sources and uses of capital. Project cost over-runs and delays.

Find out more

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