jonathan myers, marchment hill consulting - rail privatisation – what is the potential?

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What is the potential?

5 December 2013

Rail Privatisation

Jonathan Myers, CEO and Transport Practice Leader

2 2 © 2013 Marchment Hill Consulting. All Rights Reserved. 2 © 2013 Marchment Hill Consulting. All Rights Reserved. 2

Potential for what…?

• Capital recycling?

• Increasing labour productivity?

• Subsidy reduction?

• Patronage or freight volume growth?

• Increasing rail’s market share?

• Broader social and economic reform?

The policy drivers for privatisation must govern any assessment of “potential”.

Usually there is more than one and they conflict!


Rail is a growth market

0

100

200

300

400

500

600

700

800

900

1000

0

2

4

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2003 2004 2005 2006 2007 2008 2009 2010 2011 2012

Australian Rail Activity 2003 - 2012

Passenger KM (billions) Tonnes Carried (million)Source: ARA


Mixed history of Australian and International Experience

Australian National

? Melbourne Metropolitan passenger operations and network

Victorian Country rail network

Westrail (Brookfield Rail)

Aurizon

New Zealand railway

Tasmanian railway

Canadian National

Latin American Railways

? UK ToCs

UK Roscos

Railtrack / Network Rail

London Underground (Metronet / Tube Lines London)


The potential positive implications are significant…

• UK – 1995-2012

Passenger volumes (millions of passenger km) +96%

Freight volumes (millions of ton kilometres) +53%

• US – 1982-1996

Freight charges reduced 4-5% EACH YEAR

• Brazil – 1997-2003

Freight volumes +20%

Freight rail market share +2%

Accidents -44%

• Mexico – 1995-2003

Freight volume and traffic density +44%

Number of locomotives used -9%

Fatalities -95%

• Central and Latin America

$1 billion saving / reduction in freight charges from privatisation to 1999 (purchasing power parity basis)

• Japan

Total Factor Productivity gain of 2.5%


Most recent case…Aurizon

Great returns for Queensland Government

• Mar 2013 – sell down 9.3% for $806m

• Nov 2010 – IPO QR National $4,600m

BUT….

http://www.theaustralian.com.au/business/queensland-government-sells-half-stake-in-coal-transporter-aurizon/story-e6frg8zx-1226599087143#

http://www.smh.com.au/business/qrn-float-hauls-in-46b-for-bligh-government-20101120-181nt.html

8.6% 10.8%

19.1%

3.0%

-38.6%

-50.0%

-40.0%

-30.0%

-20.0%

-10.0%

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10.0%

20.0%

30.0%

-200

-100

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Network Coal Iron Ore Freight Unallocated

EB

IT $

m

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IC

Aurizon’s Financiall Performance by business unit

- FY 2013

Regulated network is allowed to

earn WACC of 9.96%, but ROIC

8.6%

Are other assets doing as well as

they should?

http://www.theaustralian.com.au/business/queensland-government-sells-half-stake-in-coal-transporter-aurizon/story-e6frg8zx-1226599087143















































Which assets? Which models?

Heavy rail:

• ARTC – IPO ?

• QR Passenger – franchise ?

• NSW Trains / Sydney Trains – franchise ?

(Transperth Trains and TransAdelaide, passenger operations and network, appear unlikely candidates at the

moment)

Light Rail:

• Sydney?

• Newcastle?

• Perth?

• Canberra?

• Hobart – staged PPP?

What is the objective…?


Growth and Attractiveness of ARTC

• Double digit revenue growth over past few years

• EBITDAI remains strong; $336mm in FY2013 (Increase of 26.7% from last year)

• Net loss of about $200m FY2013 (Impairment taken of $482m in N/S corridor), loss of $218m FY2012

(Impairment taken of $290m)

• Main customers:

- Pacific National, Aurizon, SCT, Qube, NSW Translink, V/Line, Southern Shorthaul Rail, Great Southern Rail,

Genesee & Wyoming Australia

- Woolworths has begun transporting groceries via North South Corridor.

• ARTC strategy for investment focuses on two main markets: Interstate network customers and Hunter Valley

customers

• Over $5 billion CapEx since 2005 – necessary to have strategy in place to reap the benefits of this upgrade.

Intermodal Interstate networks will be able to support transit that could prove very profitable, pending;

- Impairments are reversed and decrease in general (current strong EBITDAI)

- Strategy in place to increase and sustain a diverse portfolio of customers

- Regulatory Implications of carbon emissions


Selling points

Clear efficiencies associated with:

• Negotiated agreement for new capital investment with current users, i.e. users take on some risk to gain

capacity

• Better capital investment planning, design and delivery approaches / models

• Better contracting strategy with users across network and for core bottlenecks on issues such as:

- Term of contracts

- Take or pay arrangements

- Use of un-used contracted track capacity by ARTC to sell to other users


Risks of investing in ARTC include

• Asymmetric regulatory risk, i.e. if ARTC does very

well it will only ever earn its regulated rate of return

on capital

• Performance below expectations against budgets

and regulatory allowances, such as operating and

capital expenditure allowances are carried by

ARTC

• High dependency on the performance of ARTC’s

customers

Basis Risk Operating environment increasing Basis

Risk

• Extensive capital investment programs can

increase risks

• Ensuring alignment between ACCC and large

customer demands can increase basis risk

• Market conditions in coal export industry key

determinant of value and driver of new investment

• Market conditions and dynamic between freight

competitors


Other Factors and Risks

• Regulatory requirements and future changes

• Asset condition and vulnerability to extreme weather and other risks

• Ongoing maintenance and network development requirements?

• ACCC and FIRB impact on potential investors

• Would regulated WACC be sufficient…?

• Planned development of Australia’s integrated transport network

• Potential privatisation of further Australia ports (e.g. Melbourne)

- How will the privatisation of the port of Newcastle affect the Hunter Valley Network? Carbon emissions

• Customer acquisition and retention


Main Factors Affecting ARTC Purchase Interest

• Entire network, or split-up? (ex: N/S, E/W, and Hunter Valley)

• Valuation: What’s the price?

- Applying an EBITDAI multiple of 10x would suggest sale price of $2.6 billion,

- Total assets book value around $5.4 billion.

- Valuation largely contingent on

(a) understanding the nature and outlook of impairment assessments, as they are consistently close to half of

operational revenue

(b) proposed regulatory framework and investment requirements

Railroad industry EBITDA Multiple: http://pages.stern.nyu.edu/~%20adamodar/New_Home_Page/datafile/vebitda.html

http://www.fool.com.au/2013/05/29/will-abbott-copy-fortescue-and-sell-rail-assets/

http://www.theaustralian.com.au/business/economics/dont-expect-a-budget-panacea-privatisation-no-quick-fix-bankers-warn/story-e6frg926-

1226729553009

http://pages.stern.nyu.edu/~ adamodar/New_Home_Page/datafile/vebitda.html
















http://www.theaustralian.com.au/business/economics/dont-expect-a-budget-panacea-privatisation-no-quick-fix-bankers-warn/story-e6frg926-1226729553009



























Would you buy it?

• Potential buyers:

- Key customers…? (subject to ACCC)

- If network Split-up: (ex: Coal exporter may have interest in Hunter Valley Network)

- Current private rail network owners (e.g. Brookfield, Aurizon)

- IBs / Superfunds (ARTC has an appealing diverse revenue base)

- Other international investors (asset managers, coal customers…?)


Sources

• Nash, University of Leeds, ITS presentation on Rail Regulation, Jan 2011

• OECD Policy Round Table Report: Structural Reform in the Rail Industry, 2005

• World Bank Report, TP-6, September 2005: Results of Railway Privatisation in Latin America, Richard Sharp

• Louis S Thompson et al, “Private Investment In Railways: Experience From South And North America, Africa

And New Zealand”, European Transport conference paper, 2001

• UK ORR website dataportal (access October 2013)

• A Cost-Benefit Analysis of the Privatization of Canadian National Railway (Boardman, Laurin, Moore and

Vining), Canadian Public Policy, Volume 35, Number 1, March 2009

• EU Transport Research Centre, Rail Transport Thematic Research Summary, 2010

• World Bank Railways Database (accessed October 2013)

• “The Japanese Experience with Railway Restructuring”, Mizutani and Nakamura, conference paper 2001


About MHC

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energy, utilities, and infrastructure sector in Australia.

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