Transurban powers ahead

The strong institutional response to Transurban’s capital raising to part fund the development of Melbourne’s West Gate Tunnel comes as no surprise. I wrote about why Transurban deserves a spot in your portfolio in August this year.

In the capital raising, 94% of entitlements available to institutional holders were taken up at the offer price of $11.40, raising approximately $1.35 billion. Those not taken up were auctioned and achieved a clearing price of $12.50 per security, a premium of $1.10 to the offer price. Retail security holders will now have their chance to participate.

On Friday, Transurban’s securities closed at $12.80. The renounceable entitlements (which are not eligible for the December distribution payment of $0.28) closed at $1.12.

The West Gate Tunnel Project

The $6.7 billion infrastructure project is aimed at relieving congestion in Melbourne, reducing reliance on the West Gate Bridge, providing a direct freight link to the Port of Melbourne and removing trucks from residential areas in the inner west. It also includes an upgrade to the Monash Freeway in Melbourne’s east and access improvements to Webb Dock. It comprises the following core components:

• Upgrade and widening of the West Gate Freeway from four lanes to six lanes in each direction;
• New tunnels under Yarraville, connecting the West Gate Freeway to the Port of Melbourne precinct and western edge of the city. The twin tunnels will be three lanes each; and
• Port of Melbourne, City Link and city connections, including a new bridge over the Maribyrnong River.

Transurban is also delivering within the funding framework new lanes to the Monash Freeway, access improvements to Webb Dock and 14 km of walking and cycling paths.
The project is expected to complete in 2022.

Funding

The total project cost is estimated to be $6.7 billion. This includes a State Government contribution for land acquisition, rail stabling works and other associated activities. The Government will also contribute to the project.

Transurban’s share is $4.0 billion, of which $1.9 billion is being raised through a renounceable entitlement issue (see below), with the balance to be debt funded as required.

Tolling

Transurban will toll, operate and maintain the West Gate Tunnel Project from construction completion in 2022 until 2045. Tolls will be escalated by 4.25% pa from opening until 30 Jun 2029, and thereafter escalated by increases in the Consumer Price Index.

The current car toll is estimated at $3.02, while heavy commercial vehicles to pay up to $21.92 (depending on size and time of day). There will also be a city access toll that applies to cars between 7.00am and 9.00am exiting at Footscray Road or Dynon Road.

As part of the deal with the Victorian Government, Transurban has secured a 10-year extension to the CityLink concession from January 2035 to January 2045. It has also obtained higher toll escalation of 4.25% pa from 1 January 2019 to 30 June 2029, and thereafter at CPI. This was previously set at CPI for the whole period (until 2035), and capped at 2.5% pa.

Entitlement offer

The renounceable entitlement offer is on the basis of three new securities for every 37 securities currently owned, at a price of $11.40 per new security.

The Retail Entitlement opens tomorrow and closes at 5.00pm on Wednesday 24 January 2018.

Transurban security holders can take one of three actions. Accept the entitlement, with payment due by 24 January. Sell their entitlement on the ASX, with the entitlements to trade initially under stock code (TCLRA). The last day of trading is 17 January.

If Transurban security holders take no action, then their entitlements will be auctioned, with any proceeds in excess of the offer price (net of withholding tax and expenses) paid to the shareholder. These payments will be made around 1 February.

Guidance confirmed

Transurban confirmed full year guidance for a distribution of 56c per security. The new securities being issued won’t qualify for the 28c distribution to be paid on 28 February, but will qualify for the final distribution (expected to be 28c) to be paid in August 2018.
Based on Friday’s closing price of $12.80, Transurban is yielding a pretty tight 4.41%, of which 9% is franked.

What do the brokers say?

The major brokers are positive on Transurban with three buys and three neutrals. Following the announcement of the transaction, three brokers raised their target price. The consensus target price is now $13.04, a 1.9% premium to Friday’s target price.

Source: FNArena

The brokers have Transurban trading on a forecast yield of 4.4% for FY18 and 4.8% for FY19.

How to play

If you are a current Transurban security holder and have the cash, it is a no brainer to accept the entitlement offer.

If you aren’t a Transurban holder, do you rush in now at $12.80? I think not, because despite the extension to the CityLink concession and toll escalation terms, Transurban looks pretty fully priced. While the distribution growth is interesting, the yields are not compelling.

I think Transurban is now a ‘buy in weakness’ stock. This may come if the bond market has the wobbles. While Transurban is fully hedged and any vulnerability to higher interest rates is a refinance risk, the market will label Transurban as a ‘bond proxy’ and like Sydney Airport, utility stocks and property trusts, sell it down. This may be the opportunity.