Challenges Remain For Babcock And Brown

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This story features MACQUARIE GROUP LIMITED.
For more info SHARE ANALYSIS: MQG
The company is included in ASX20, ASX50, ASX100, ASX200, ASX300 and ALL-ORDS

By Chris Shaw

In the first bit of good news it has enjoyed for a while Babcock & Brown ((BNB)) announced yesterday its banking syndicate had waived the right to review the group’s corporate debt facility, which had been in place in the event of the market capitalisation of the group falling below $2.5 billion.

News of the waiver triggered a bounce in the stock yesterday but as brokers note today, the road back to its previous market standing remains a difficult one for the group as there remains a need to reduce gearing and to boost the value of its listed fund offshoots.

As Citi points out, in financial terms the decision by the banking syndicate is of little impact to Babcock & Brown as while it agreed to pay a higher rate of interest on the debt outstanding it only means something like an additional $10-15 million on a facility worth $2.8 billion.

This suggests it is something of a short-term fix that creates its own longer-term problems, at least as far as UBS is concerned. The broker takes the view the agreement with the banks increases the need for some asset sales, which in turn will limit the group’s organic growth outlook in later years. This is especially the case as given the company’s model is now evolving there remains the question of what will be an appropriate level of gearing for the group going forward.

ABN Amro is also cautious on the benefits of the announcement as the broker points out there remains the issue of getting good prices for the assets to be sold, which should be no easy task in the current environment. As well, the broker agrees with UBS that growth going forward may be curtailed somewhat as the higher cost of debt means there will be less capital available for investment elsewhere.

Merrill Lynch makes essentially the same point, noting while the risks of forced asset sales and short selling on the market have been reduced by the waiver, there will be lower returns on equity going forward.

ABN Amro sums the company up by identifying three possible issues with the company going forward, these being the potential for sizable write-downs on asset values, the need to make bridging loans to listed offshoots and the potential for further delays to asset sales given current market conditions.

Having said that the broker sees enough value in the group’s development assets that if the company can work its way out of its current position there is substantial valuation based upside in the longer-term. But given it will take some time for this to be realised the broker is staying with its Hold rating at present.

It is a view widely shared in the market, as the FNArena database shows six Hold recommendations against a single Outperform rating, this from Credit Suisse. The broker accepts there has been some brand damage done to the stock in recent months given the debt and credit market issues but continues to see value in the shares, estimating at present they are trading on a 12-month forward earnings multiple of about 4.4 times compared to Macquarie Bank ((MQG)) at 7.6 times, while also appearing cheaper in net tangible assets (NTA) multiple terms.

The broker has retained its price target of $12.00 on the stock, which is far and away the highest in the FNArena database and compares to an average target of $8.40, down from $9.06 prior to the news largely on the back of Citi cutting its target to $8.31 from $9.50. UBS remains the most bearish with a price target of $6.80, the only one currently below the trading price of the shares.

Today Babcock & Brown is weaker along with the broader market and as at 11.35am the stock was off 30c at $7.20, though it is worth noting the shares rose 14% yesterday when news of the waiver filtered through. The stock’s trading range over the past year is $4.70 to $32.50.

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