BHP Props Up Aurizon

This story features AURIZON HOLDINGS LIMITED, and other companies. For more info SHARE ANALYSIS: AZJ

The company is included in ASX100, ASX200, ASX300 and ALL-ORDS

Aurizon Holdings has won a long term copper haulage contract with BHP, but is it enough to stem the company’s tide of negative revisions?

-Aurizon Holdings wins copper haulage contract from BHP in South Australia
-Share price has been on a long trajectory southwards since pre-covid
-BHP contract more of a longer-term contributor
-Multiple risks remain for existing contracts

By Greg Peel

Over the past twelve months, the share price of bulk haulage company Aurizon Holdings ((AZJ)) has fallen -14%, against the ASX200 rising 11% in the same period.

Market sentiment has suffered from negative newsflow regarding Aurizon’s Bulk strategy, such as volume weakness and counterparty credit risks, along with weaker cyclical Grain performance in the first half.

Coal volumes for May have been impacted by ongoing production issues at Anglo American and wet weather in NSW. Macquarie expects the Goonyella rail corridor will be circa -12% below the target levels, and Blackwater/Moura -8%.

The drag on “below rail” (rail network) is irrelevant as the recovery mechanism will see it come back two years later, however it is likely to impact “above rail” (rolling stock) haulage volumes, Macquarie notes.

If this were not enough, Aurizon’s contract with Karara Mining Ltd’s (KML) troubled iron ore mine in WA is up for repricing in FY28, and its contract with Incitec Pivot’s ((IPL)) Phosphate Hill fertiliser mine is uncertain as Incitec contemplates a closure.

It’s always darkest just before dawn. This week BHP Group ((BHP)) and Aurizon signed off on a significant, long-duration transport agreement. Is it enough to reverse the trend?

Olympic Medal

Aurizon has successfully negotiated a broader supply contract for BHP Copper at Olympic Dam and its associated mines in South Australia.

The contract involves rail and truck movements, albeit the latter is one third of the revenue and is outsourced to an existing BHP contractor. The contract life is around 11-15 years, subject to contractual review and performance, which is materially longer than other contracts in the bulk portfolio.

The opportunity lays in BHP preparing to make a final investment decision (FID) to grow Olympic Dam’s smelting capacity to up to 80%.

This will dramatically increase the inputs required for transport, although Macquarie points out export tonnage falls (copper cathode is lighter than concentrate). It does provide a pathway for growth in the medium term (2030-2035).

The contract implies a revenue run-rate of $150mpa on average over the first ten years, moving 1.3mtpa of freight to/from BHP’s sites (including 300-400kt copper). Aurizon’s capital required is expected to be around -$100m, but given some utilisation of existing assets/invested capital, UBS notes, not all of it will be new investment, with a new rail freight terminal at Pimba (near Woomera SA) the largest single investment at -$40m.

The contract commences in October, hence there will be a part-period contribution in FY26, with full run rate to be achieved in FY28 following completion of the Pimba terminal.

Stability, But Growth?

Following a period of pronounced negative revision momentum for Aurizon’s Bulk segment, Jarden posits the addition of the BHP Copper Haulage contract can help stabilise earnings ahead of any organic earnings improvement anticipated in FY26, based on the broker’s forecasts.

Jarden estimates the contract could add between $20-25m of earnings (EBITDA) by FY28, when it is assumed full service and contracted margin will be reached.

Jarden still sees three key elements required before becoming more constructive on the investment outlook: 1) evidence that the Bulk division weakness has stabilised; 2) greater capital discipline with “growth” capex attributed towards Bulk and Containerised Freight expansion; and 3) improving cash generation/capital returns from the underlying Coal and Network businesses.

Jarden maintains a Neutral rating, lowering its target to $3.15 from $3.20.

Macquarie estimates the contract will add some 1% to profit. The BHP win is a positive, this broker suggests, but the upcoming repricing of the KML contract may see much of this growth eaten away, (pricing is dependent on underlying iron ore prices) and there remains a risk that Phosphate Hill is closed.

April/May coal volumes are still hurting, Macquarie notes. This creates a drag, albeit it is one-off in nature. The broker still struggles to see enough evidence the bulk strategy is delivering. Nonetheless, the implied yield of 6-7% should support the share price.

Macquarie retains its Neutral rating, increasing its target to $3.39 from $3.32.

Assuming around 5% growth per annum comprised of 1) inflation; and 2) BHP South Australian copper volume growth of 2-3% pa, Citi estimates the sales contribution would be circa $120-130m in first full year. In aggregate, capital required would be -$100m, of which at least -$40m is new/incremental; and assuming a cost of capital at 10%, this implies a $10m contribution to earnings, or about 1% in FY26.

Incorporating a partial year and interest, Citi estimates a largely immaterial impact on profit. A Neutral rating and $3.40 target are retained.

Based on existing strategy commentary, Aurizon targets low double-digit returns from Bulk investments, UBS notes, implying a $15-20m earnings contribution from the BHP contract.

UBS had already forecast some $100m earnings growth from FY25 to FY28, so this contract (and other contract wins) are conceivably already required to meet segment forecasts.

Therefore, from an earnings perspective, the BHP contact is positive but not obviously incremental and UBS hasn’t made changes to forecasts and/or valuation.

UBS has a Neutral rating and $3.20 target.

Shares in Aurizon Holdings peaked pre-covid near $6 in 2019 and have been on an elongated downsloping trajectory since. They briefly touched below $2.90 in May, a level not witnessed since 2010. The company listed in November 2010 as QR National Ltd and changed its name to Aurizon Holdings in 2012.

One fact Aurizon Holdings can boast about is it has grown into Australia’s largest rail freight operator.

On current consensus forecasts, FY25 should hardly show any growth, but FY26 should welcome a more decisive acceleration to the tune of 19%. The implied dividend yield of 5.8% for the running financial year is expected to jump to 7% as the resumption of growth is expected to also accommodate a higher dividend payout (to 21.6c).

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