Australia | Oct 28 2013
-Coal exports strong, rail weak
-No evidence of economic recovery
-Still plenty of positive aspects
By Eva Brocklehurst
Coal export volumes may be growing strongly, particularly in Queensland, but there's no evidence a domestic cyclical recovery is loading up other parts of Asciano's ((AIO)) container, ports and haulage business. The company has downgraded guidance and expects profit, ex material items, to be flat in FY14. Underlying earnings growth is expected to be below FY13, which in Macquarie's calculations implies 0-13% growth. The guidance highlights a lack of volume in a very high fixed cost business.
After a downgrade to guidance one would expect brokers to take a razor to ratings but Asciano remains Citi's preferred exposure for an economic recovery in the transport sector, some of which is expected in the second half. Supported by above-market growth in coal, and gains in terminals, the majority of the business looks solid to the broker. JP Morgan is also upbeat and thinks the investment Asciano is making to expand capacity and achieve increased productivity and efficiencies will place it in a strong position to leverage off any improvement in economic conditions. The broker is also encouraged by the lift in coal volumes and the increased hauled/contract volume ratio.
Macquarie is waiting for the recovery train. The share price may have improved dramatically over the past several months but there has been nothing in the business to warrant this and the stock has been downgraded to Underperform from Neutral. Macquarie stands alone on the FNArena database, where the stock has seven others with Buy ratings. The price target is $6.26 on consensus estimates, which is signalling 7.1% upside to the last share price. The range of targets is $5.48 to $6.73.
Coal tonnage was up 16.5% and supported by a 13.9% increase in average haulage length in the September quarter. This provided some offset to the fact that Pacific National's rail's intermodal volumes were down 2.6%. Citi views this as a reflection of a weak revenue environment that has countered any savings the company has made in the division. Asciano continues to expect difficult conditions for the rail, terminals and logistics segments. Intermodal rail is of most concern as it is a fixed cost business and volumes are soft. Nevertheless, there appears to be no loss of market share and JP Morgan expects bulk grain should pick up in December.
While coal exports are growing strongly, Morgan Stanley is also mindful that expectations of a domestic cyclical recovery are yet to be met. The broker wants to see accretive acquisitions, significant savings and a genuine cyclical recovery before letting off the brakes. Forecast earnings growth has been trimmed for FY14 to 5% compared with the 12% growth seen in FY13.
Container volume grew by 6% in the quarter and this was ahead of industry growth of 2-3%. It appears Asciano gained market share but Morgan Stanley warns of the volatile nature in the consolidation of shipping. Asciano expects a slowing of industry container volumes to 1-2% for FY14. Morgan Stanley assumes Asciano can extract $185m in savings compared with the initial target of $150m over FY12-16 but earnings margins are still expected to fall and a higher cost of debt contributes to the broker's expectations of normalised profit falling by 4% in FY14 to be just 2% higher than FY13.
Despite a stronger quarter of container volumes across the ports, management pointed to a slowing in the lead up to Christmas and Macquarie expects this weakness will become more apparent in coming months. The broker was most disappointed by rail, with weakening demand in Western Australia leading to falling earnings expectations for the year. In contrast, coal growth was strong but this was only in line with expectations and largely on the back of miners trying to maximise volumes. Macquarie was surprised to note the volumes are pointing to Xstrata's haulage picking up the majority of coal growth in NSW.
These are near-term headwinds in BA-Merrill Lynch's opinion but the Buy thesis is intact. Market share in terminals has rebounded to 49% during the quarter, up from 47% at the end of FY13. The 97% on-time coastal performance is at an all-time high and Asciano has effectively contracted 75% of its container volumes to 2017. Other positives for Merrills include the business improvement program, making the broker comfortable about the $22m in savings factored in for FY14.
Credit Suisse also thinks the intermodal volumes, while disappointing, mask strong results from coal and ports. The broker has lowered earnings forecasts by around 5% to reflect a delay in economic recovery but, should management go easy on acquisitions and focus on execution, then the scope for dividends is large. FY15 free cash flow yield is currently at 7.4% and growing for subsequent years. Moreover, Credit Suisse observes the growth in cash flow is more leveraged to the contracted expansion of the coal business rather than the underperforming rail.
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