ConnectEast Group (CEU.AX) Hard Road ƒæ Investment Opinion ¡X We think EastLink is a great asset and are optimistically forecasting traffic growth of 21% by Dec 08 and 30% by Aug 09. Unfortunately due to starting traffic figure coming 7% below our estimate, our whole traffic ramp-up profile has been rebased down again. Consequently, our valuation has been cut by 22% to 68cps (from 87cps). Note, there will be time to include the blue-sky in the asset and buy the stock, but that time is not now. With default risk looming, we retain SELL rating with lower TP of 58cps (from 70cps). ƒæ Credit Risk Rising ¡X As CEU agrees, the company is already in distribution lock-up for the next two years. However, our concerns are more serious on the balance sheet side. With tolled traffic for the first month coming 27% below PDS est (136K v/s 186K vpd) and average toll charges in-line with our est ($3.11 v/s CIRe $3.12ps), the credit profile of the asset is not encouraging. ƒæ Okay For Now, But... ¡X CEU has sufficient cash to supplement shortfall in debt service in the next couple of years, however, ICR on the stock is expected to fall below 1.0x once that cash is used up. We are forecasting 16%, 10% and 8% pa growth in traffic over FY10e¡VFY12e respectively. ƒæ Result was Non-Event ¡X FY08 loss of $13.6m (CIRe loss of $11.9m) was a non-event. Although CEU is re-affirming DPS of 10.5cps until at least March 2010, we see pressure mounting on the Board to review it, especially if the volumes do not pick-up. ƒæ Earnings Change ¡X Please see Figure 3 for earnings change.
ConnectEast Group Company description ConnectEast is the concession holder of the 40km $3.8b EastLink toll road currently under construction in Melbourne, Victoria. ConnectEast holds the concession for a period of 39 years.
Investment strategy We rate CEU Sell/High Risk (3H) with a target price of $0.58ps. The gradual de-risking of the project as it progresses through the various stages of traffic ramp-up should result in a lower risk premium on the stock. Valuation Our DCF valuation of CEU is $0.68ps using a risk-free rate of 6.0%. Our valuation is based on traffic assumptions c27% less than that forecast by the consortium, and a more conservative estimate on inflation (2.5% vs. 2.65%). However, our target price of $0.58ps has been computed after ascribing a 15% discount for high level of gearing and distribution quality. Risks We rate CEU High Risk, referencing a number of quantitative and fundamental screens. Aside from interest rate risk which may impact our valuation, inflation will impact both earnings and valuation given that toll charges on the road are set to increase in line with CPI. Other risks include traffic risk, and risks associated with changes by the State government to terms of the Concession Deed. Should the impact of these factors be greater than anticipated, the stock may have difficulty achieving our target price. Likewise, if any of these factors proves less of an effect than we expect, the stock could materially outperform our target.
CEU Price at posting:
0.0¢ Sentiment: Sell Disclosure: Not Held