Aurizon: A Dividend Downer For Investors

This story features AURIZON HOLDINGS LIMITED. For more info SHARE ANALYSIS: AZJ

Bulk earnings continue to weigh on Aurizon Holdings with coal volumes under pressure in H2 FY24. Higher costs eroded the result and the outlook for FY25.

-Aurizon’s dividend disappointed in FY24 (and likely beyond)
-Sustainability of bulk earnings questioned
-Earnings downgrades underwrite lower target prices

By Danielle Ecuyer

For a company which is treasured by investors for its dividend yield, the latest FY24 results from Aurizon Holdings ((AZJ)) left a sour taste in shareholder’s mouth.

The decline in the share price on the day reflected the disappointment on the lower-than-expected 2H24 dividend of 7.3c, some -9% below forecasts; the result of a weaker-than-anticipated performance.

Ord Minnett failed to hide its disappointment as the three major divisions of network, coal and bulk all pulled up stumps which were lower than the analyst’s forecasts. 

Are bulk earnings sustainable?

Morgans states 2H EPS slipped -24% below consensus which was attributed to a “material” lift in net interest costs and higher depreciation and amortisation charges.

Jarden, not a daily monitored broker, zoomed in on the bulk business which revealed a -17% decline in 2H earnings before interest and tax. Reasons for the fall included wet weather, issues with the customer ramp up, and a softer performance from grain.

After a host of bulk misses on multiple reasons, Jarden is questioning if the “one-off” reasons represent fundamentally based issues, such as more exposure to lower quality counterparties, or problems with the location of growth and customer targets, or just “bad luck”.

Whether the disappointing results for bulk are “non-recurring” or structural, Jarden positions its FY25 and FY26 earnings forecasts well below consensus, awaiting confirmation the company can significantly improve the outlook.

Morgans is looking for “moderate” growth in bulk over 2024, with the analyst stressing over circa $2bn in capital has been invested into bulk and the division’s EBITDA needs to rise by over 20% for Aurizon to generate the goal of double-digit earnings return (pre interest and tax) on the investment. 

The company’s touted growth from the Northern Iron contract, Morgans suggests, is a possible question mark over this division’s earnings sustainability with this contract extending for only three years.

Macquarie is equally cautious on bulk, but UBS seems more relaxed, noting network and bulk EBITDA reported earnings were in line with estimates and have been guided to grow in FY25.

Macquarie refers to management’s target of 10% return on invested capital for bulk and containerised freight, which equates to four times or $200m above current earnings.

Barrenjoey emphasises bulk has the potential to be the earnings driver for Aurizon. With the investment spend completed between FY22 and FY24, new contract wins could provide leverage. The success or otherwise of this division is seen by Barrenjoey as the key to growth and investor sentiment.

Evans and Partners also weighs into the bulk division’s travails. This analyst, like others, is concerned about “the lack of progress across these divisions”. Bulk central’s ongoing underperformance and absence of new contract wins since 1H is highlighted as the disconnect between ongoing investment (-$30m at Flinders Port Logistics) versus new customers.

With a -$2bn investment in bulk since FY22 and a $101m earnings before interest and tax contribution in FY24, Ord Minnett is also seeking earnings growth into the future. This broker believes evidence of benefits from the investment would assist investors’ faith and market confidence in Aurizon’s strategic aims.

The coal engine beholden to export markets

Turning to coal, Macquarie highlighted an earnings before interest and tax rebound of 25% including an increase in the network tariffs by 25%. Whereas Citi assesses 2H coal volumes were around -3% below expectations. Queensland was flat over the period and export data are inferring year-on-year falls over the June quarter. 

Citi cautions the 1HFY25 annual comps on thermal coal and NSW could be challenging with an overall tough 1HFY25 and more growth pushed into the 2H. Increasing depreciation/amortisation charges also risk pushing flat EBITDA results into falling operating profits.

UBS homes in on coal margins, which continue to be challenged to return to pre-covid levels. In the absence of sizable cost savings or re-pricing, UBS analyst believe coal margins will not revert.

Barrenjoey turns to network as the most significant contributor to EBITDA in FY25 because of an increase in the maximum allowable revenue of around $80m. But when it is combined with higher costs and yields normalising, the expected increase in coal volumes is not forecast to deliver more than a flat FY25 EBITDA result, the analyst states.

For Evans and Partners, FY24 coal EBITDA proved in line, up 16% on the previous corresponding period. Higher volumes were countered by increased operating costs and the customer mix.

Brokers seek more confidence in earnings growth

When it comes to the balance sheet, capital management and the payout ratio, the six brokers monitored daily have a mixed view on the outlook for Aurizon.

A reduction in gearing is the reason Barrenjoey ascribes to the resumptions of higher capital distributions. An 80% dividend payout and $150m share buyback equals around a 115% total payout or circa 7.6% distribution yield, the analyst estimates.

Macquarie affirms management’s position of buybacks (reinstated after three years at this result) will continue to utilise the company’s balance sheet. UBS gauges the buyback as a return of capital more than 100% of FY25 EPS forecasts or circa 110% on its estimate, as reflective of management’s desire for flexible capital management on shareholder returns.

In line with EPS downgrades, Morgans lowered its dividend forecasts by -3% to -16% for FY25 to FY27 assuming an 80% payout ratio.

Turning to the FY25 outlook, Macquarie slices EPS forecasts by-16% and -12% for FY25 and FY26. Macquarie has a target price of $3.60, together with a Neutral rating.

Morgan Stanley raises its rating to Equal weight from Underweight with a revised target price of $3.55, down from $3.77. This broker considers the valuation as “reasonable” with Aurizon making some progress on the non-coal growth, although risks remain in terms of implementation, including the conversion of trials into contracts for the likes of land-bridging for car importers.

Jarden (not monitored daily) believes the company will be challenged to retain its circa 80% dividend payout target, although the announced $150m buyback is considered as a peace offering to shareholders.

Jarden has downgraded the stock to Underweight from Neutral and lowered its target price to $3.25 from $3.75. 

Post the fall in the share price in response to the result, UBS assesses most of FY25’s downgrade through management’s guidance in combination with lower dividend expectations are now discounted. UBS rates the stock as Neutral; target price $3.40.

Citi has a Neutral rating and target price of $3.55.

Morgans expects capex to increase to -$560m-$640m excluding -$80m in transformation costs. With a Hold rating, Morgans believes the long-term value of network and coal is curbed by the outlook for coal export markets, but both should generate sufficient returns to offer shareholders dividends and cash returns, while offering investment options into bulk and freight. Target price $3.42.

Barrenjoey states maintenance capex at around -$680m, up from the circa -$500m per annum invested in One Rail, includes cost inflation and around 60% will generate a regulated return. Barrenjoey is another broker seeking more sustainable earnings growth to become more positive on Aurizon. The stock is rated Neutral along a revised target price of $3.60 from $4.10.

FY26 will be a “pivotal year” for Aurizon, Evans and Partners predicts, as expected flat coal earnings will need to be offset by bulk and containerised, with these strategies yet to deliver. This broker has reduced its valuation to $3.72 together with a Neutral rating.

Ord Minnett has downgraded to Hold from Accumulate and slices its target price to $3.60 from $4.10. This analyst seeks increased earnings growth to re-establish confidence in the outlook for the company and for an improved view on Aurizon.

All of Ord Minnett, Morgans, Macquarie, Citi, UBS and Morgan Stanley make up FNArena’s daily monitored coverage for Aurizon Holdings. The average target price from these six brokers post FY24 disappointment (yet again) is $3.52, suggesting the share price might look a little undervalued. All six have a Neutral/Hold (equivalent) rating for the shares.

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