DMC1974. read the folowing notes by Macquarie + the general...

DMC1974. read the folowing notes by Macquarie + the general market downturn.



These Flashnotes have been approved for external distribution to clients only


Event
The proposal of a third operator Melbourne is not a surprise, but speculation in the Sydney Morning Herald suggests the timeline has accelerated from 2015 (Port of Melbourne) to 2013. Asciano has reiterated that it has a lease until 2017. AIO also pointed out on the site tour in November that it must obtain 30 months notice and that the land at Webb dock has subsided. Thus there would need to be significant rehabilitation to upgrade the site to a hard stand capable of containers, both the Port Authority getting hold of site in July 2012 (assuming notice this month). Thus the time line of 2013 looks very ambitious for a working container port.

Impact
It is within AIO's interest to fight any early eviction, however, if the government is prepared to sponsor the development, we doubt AIO can prevent it. The question is what compensation would be paid to AIO. The claim puts AIO in a similar position as if it has not moved. Our interpretation is that compensation will cover additional costs, and possibly ensure stable profitability until 2017 for the auto and general cargo business. Thus it should not provide the basis for an upgrade, but will lower earnings risk.
The negatives are potentially:
Third operator in Melbourne. AIO's argument for some time has been the threat at Sydney and Brisbane was only moderate as 94% of the ships called at Melbourne. Web dock provides an additional 2 berth spaces relative to the 8 held by AIO/DPW, thus could naturally take 20% market share. Importantly, the third terminals at all the east cost ports would have 2 berths, thus would be relatively balanced enabling them to compete with AIO/DPW.
If the third operator is Hutchinson, AIO becomes the independent, with DPW and Hutchinson having global networks. Whether this actually delivers them a better outcome is yet to be proven. The recent shift by Hamburg Sud to DPW reflects willingness of the global head offices negotiating a deal and might be evidence of the threat, but at this stage we do not believe it is a major issue. Globally, port contracts are typically negotiated on a port by port basis. Australia is the exception to the rule as it is based on all three ports. Shipping lines would certainly be happy to see this break down, however if Hutchinson wins Melbourne, we don't think this will change.
AIO and DPW both want Swanson Dock extended to accommodate larger ships. The question that emerges is whether this extension gets delayed by the PoM to aid the development of the third operator's business. For AIO and DPW, if Webb is fast tracked, the need for expansion is delayed possibly to 2020, thus capital expenditure is also delayed, which is positive.
Currently we have factored in price declines of 5% in the first year and a further 2.5% in the second year of the port opening. Factoring in Melbourne opening in FY14, instead of FY17 impacts our FY14 expectation by $20m, FY15 by $32m, FY16 by $18m, FY17 by $10m and thereafter no effect. We had already factored in a pricing impact in 2015 and a volume impact in 2016 and 2017. It has simply been brought forward the effect of competition.
What is clear is that AIO will fight hard to protect its current position.


Action and recommendation
24 months ago when AIO was first listed such an announcement would be a major negative, however the focus of the business has shifted somewhat, and the advent of competition has been slowly occurring. Thus such comments are negative only in that the timing is earlier than we had expected. Our valuation of the port business (at ~11-12x EV/EBITDA) we believe is capturing the impact of competition on the earnings stream. Secondly, the business has changed in the last two years as coal/bulk minerals haulage has developed. Coal will near 50% of the EBITDA, and is predictable contract revenue, thus earnings revisions if they were to occur would be contained to 2% of EBITDA for three years.
Overall AIO's share price is starting to capture much of the upside, with our target price of $2.02. However, in the next 10 weeks the news flow for AIO should be strong, with a level of deriskng to occur. The earnings are likely to be strong, with management's guidance of $675-700m looking conservative (we are forecasting $724m), and we anticipate some additional contracts in coal. Signing of BHP to the Northern Missing link would be a major positive, refocusing the potential for additional contract wins in Queensland.
At this stage our recommendation is unchanged.