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Potential of China Merchant Pacific to own Australia Toll Roads

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From the Australia times comes an interesting article about China Merchant Group, China Merchant Pacific’s parent making a foray into  Australia infrastructure. The last news on CMG is that they are in Sri Lanka dealing with toll roads and that perhaps CMG wants to make CMHP their default vehicle to consolidate the roads.

China Merchants Group, one of China’s biggest state-owned enterprises, is eyeing investment opportunities in Australia as state governments look to privatise assets such as toll roads and other infrastructure to reduce debt.

Asked specifically if Australian infrastructure was on CMG’s agenda, he replied: "I don’t think we are currently in a position to reveal any detailed discussions with potential business parties. Many China Merchant Group companies are listed on stock exchanges, so we have to closely comply with the rules about revealing sensitive information."

His comments will prompt speculation that CMG may be part of a consortium bidding for the $6bn Queensland Motorways (QML) business or may be interested in other assets being earmarked for sale by state governments.

Key players said to be lining up in the QML bidding process include infrastructure managers Hastings Funds Management and CP2 as well as Transurban Group and IFM Investors.

Four consortiums have reportedly been seeking the backing of equity partners for their bids.

China’s $US600bn sovereign wealth fund China Investment Corporation helped bankroll CP2’s $2.2bn bid for Melbourne toll road owner ConnectEast in 2011 alongside the National Pension Service of Korea and US-based Teachers Insurance. Bidders have until February 7 to present indicative offers for QML.

This is interesting. They are basically venturing into a territory where the banks have so much experiencing making the whole world eat infrastructure as trusts. And what an acquaintance told me is that Australian’s turn out to be bigger liars in business than the Chinese!

A CMG subsidiary, the Singapore-listed China Merchants Holdings (Pacific), is a leading toll road company focused on investing in and managing toll roads in Southeast Asia.

The company is one of the leading toll road operators in China and is the single largest toll road company listed on the Singapore Stock Exchange.

Dr Fu said CMG was potentially eyeing toll road acquisitions on the Chinese mainland. "Some governments might consider to sell off their toll road, for instance to reduce their gearing. We have a China Merchant Highways. It would be in a position to do something provided the term is right."

Dr Fu said moves by the Chinese government to reform state-owned enterprises would do nothing to curtail their ambitions to invest abroad.

The government wants to reform the governance practices of SOEs as part of a wide-ranging package of reforms to crack down on corruption and encourage China’s transition to a more market-focused and service-driven economy.

"I think they encourage SOEs to expand their businesses to overseas provided the investment was made sensibly. I think they would encourage it," Dr Fu said.

Nothing much will come out of this for CMHP, unless they get more investors interested in subscribing to the shares they placed out. A wealth of end-game that can happen here.

China Merchant Pacific Holdings–Relocation and removal of toll gates

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Toll road operator China Merchant Pacific Holdings, listed in Singapore on the SGX announced some proposed changes to one of their joint venture toll roads yesterday

[Announcement]

Some past readings that may interest you:

The summary is that, in a previous announcement, the government authorities of Guizhou province have exercised their authority to relocate and remove certain toll stations along Guihuang Highway as part of the urban transportation plan for development of Guiyang City.

In the framework agreement, CMHP is also will replace the concession to operate the Eastgate Expressway, with a total length of 13.69 km  that links Guiyang Airport with parts of Guiyang city and Majiang city with a new concession for the operation of a section of a proposed new expressway to be constructed between Xiaobi and Jianpo in Guiyang City.

This new concession will commerce from 30 Jan 2016 (2 years later) . This concession will run to April 2027, which is the old concession for Guihuang expressway before an earlier announcement shorten it to 2021.

A compensation of HKD 238 mil will be paid in 4 batches on 25 Jan 2014 (tomorrow), 15 Dec 2014, 30 Jun 2015, 31 Jan 2016, or half yearly.

The impact

CMHP has indicated, in both this and previous announcement that due to the compensation, impact is not material:

Taking into account the Compensation Amount to be received by GHPL and GEPL as a result of the Toll Station Relocations, the entry into the Guihuang Highway Agreements is not expected to have a material impact on the net tangible assets or earnings of the Company and its subsidiaries.

Seems to me that it indicates more that the impact is offset by the compensation amount more than talking about the new concession.
Guihuang contributes roughly HKD 120 mil yearly to CMHP’s profits plus roughly HKD 35 mil in Repayment of Shareholder loans. There after 2018, the toll profit is likely to fall to 72 mil as per the last announcement, which runs to 2021.

The compensation of 238 mil makes up for the removal of toll gates and the profit loss for this 2 years.

It is the performance of the new toll roads that we will not know. Infant toll roads are not immediately profitable, and very likely will suffer from losses and takes some time to grow.

The opportunity here is that the concession for the new toll road will push for a further 6 years to 2027.

I seriously think the management have no idea if there will be a material impact for the new concession. Perhaps they are using projection figures (which should be rather assumption based)

Still, there shouldn’t be any impact to the dividend. Hell, this compensation and the sale of the New Zealand property business can pay for 2 full years of 5.5 undiluted dividends.

Summary

I think I will see if I can take a look at the Agreement in detail in their office. It may reveal more information.

There are some who have reservations investing in a business like this, and this announcement, the previous announcement, together with the toll free holidays for all China toll roads, have indicated how tied to government policy it can be.

It also highlights that there are compensation agreements that can protect the businesses in the event of government redevelopment.

Its up to you to choose whether you can live with such an operating environment, but I felt comfortable that for such an investment there is a prudent use of cash flow to pay out dividends instead of choosing to pay out all the free cash flow to us shareholders (in that case the yield can be in excess of 10%)

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China Merchant Pacific: The Dividend Growth Thesis

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China Merchant Pacific is a China Toll Road operator listed in Singapore currently spotting a high dividend yield of 6.25%

China Merchant Pacific announces their 3rd quarter 2013 results yesterday night. I was initially going to post some thoughts on this but waited for the announcement so that this would be a more fruitful posting.

Before reading this, you may want to revisit some older articles on China Merchant Pacific (CMHP)

3rd Quarter Results

As a note to all un-invested investors or investors new to CMHP, CMHP financial statements includes:

  • 49% of Yong Tai Wen Expressway which CMHP do not have control of. This will jack up the assets, debts and free cash flow

Results can be review here (Q1,Q2, Q3)

Profits, Revenue and Cash Flow

Revenue and gross profits have done well growing by 37% and 43% respectively. This would account for their 2 toll roads Yong Tai Wen and Beilun.

Profit for the period grew 36% to 223 mil while those directly attributable to CMHP shareholders grew by 46%.

Much of the growth comes from the contribution of Beilun expressway, which w as acquired on 6 Aug 2012.

In September this year, CMHP was able to sell away their New Zealand property division. This will be accounted as assets and liabilities held for sale.

In 9 months, profits attributable to CMHP grew 40% from 322 mil to 449 mil, largely in line with expectations and my forecast.

The traffic volume and the revenue looks as expected. We are just glad there are at least some minor growth in YTW, which seem rather matured.

In terms of profit, Guiliu have some sickening growth. This toll road have 10 years more to run. A little bit more growth and it can make up for Guihuang which will lose contribution from 100% to 60%.

In terms of profit, YTW finally show some growth in profit contribution.

This 2 quarters have surprised us with the profit contribution of Beilun. We were expecting each quarter for Beilun to contribute 15 mil in profits, but turns out that they can consistently contribute near 100% more at 30 mil.

The likely reason is due to a restructuring of expensive debt and financing it on parent loans borrowed at much lower interest rate. We have to hold this execution and discuss this later.

Overall, we should expect full year net profit to come in near 600 mil, probably around 580 mil.

This will adequately pay the 5.5 cents 6.2% dividend (at 88 cents share price) which when not fully diluted requires 246 mil ( 42% payout) or 367 mil when fully diluted (63% payout)

Baring any fraud, dividend looks safe.

On a 9 month basis, EBITDA comes up to near 1.5 bil. That’s some sickening cash flow considering they only pay out 246 million. On a full year basis, EBITDA perhaps will come close 1.9 bil.

The Free Cash Flow is lower and if we account for the 9 months after taking into account interest payment and taxes, payment to minority shareholders is 1.14 bil.

I do think Free Cash Flow full year could be around 1.3 bil, taking into consideration tax payable, minority share holder payment.

Net Debt Position

There are many line items concerning the calculation of net debt but here are those we are focusing on:

  • Current Interest Bearing Liabilities
  • Dividends payable: This is a strange part of CMHP in that these are dividends payable to the parent, but the parent chose not to take dividend. So this eventually is suppose to be paid they are not taking payment, which essentially feels like a loan. The strange thing is that it is considered short term but keeps accumulating!
  • Non Current Interest Bearing Liabilities: Remember this includes non-controlling YTW debts as well. Part of this includes a 1.163 bil worth of convertible bonds at a conversion price of 84 cents which will dilute CMHP existing shareholders by 218 mil shares
  • All debts are amortizing, meaning that there are regular paying down of debts from EBITDA compare to most REITs and business trust.

Net Debt for this quarter (Q3) stands at 2.55 billion.

Last quarter (Q2) this position stands at 2.894 billion.

Q1 stands at 3.305 billion.

They shaved off 344 mil in the latest quarter.

Since the start of the financial year they shaved off a total of 750 mil in debt or an average of 250 mil.

With assets at 13.4 billion, net debt to asset is 19%.

Net debt to asset goes down to 10% when convertible bonds are fully converted

Judging by the way this progressed, it will not be surprised for them to shaved off another 250 mil in the next quarter.

This will result in net debt ending at 2.2 billion.

Valuation

The best valuation tool I feel tends to be the EV/EBITDA. The problem is that EV is hard to get due to the 49% YTW CMHP do not own.

Assuming 51% stake of YTW is acquired at 2.7 bil HKD.

The EV will come up to 2.7 + 4.68 + 2.55  = 9.9 bil

At EBITDA of 1.9 bil, this  comes up to 5.2 times.

As  always, this is just an estimate.

The Edge: China Merchants seeks heft, Hong Kong listing to boost market value, raise funds and grow

A week ago, CMHP went on a publicity campaign to talk more about the future of this company. Many points was discussed.

Listing in Hong Kong

The requirements to list in Hong Kong is that CMHP will need to have a net asset of 38 bil HKD.

Currently, when RCPS is fully diluted, the net asset value is only 5 bil HKD.

They have an ambitious plan to reach the heft of Jiangsu and Zhejiang Expressway, which are 41 bil and 31 bil respectively.

Acquisition from parents

One way to reach that size is to acquire toll roads from parents China Merchant Holdings.

The problem with that is that the stakes of their parent in these toll roads are very fragmented, ranging from 2% to 20%.

That creates complexity, but it also begs the question how accretive these toll roads are and why  since the management have a sizeable say when it comes to the management of toll roads on a parent level, was not able to convince the parent to consolidate the toll roads in them until now.

Acquisition from third party

Mr Jiang further drip tidbits that they are currently in negotiation with 10 toll roads.

There needs to be some caveat here. Prior to the acquisition of YTW, CMHP have been sitting on 2.2 bil in cash for some time, often citing that they are prospecting acquisition targets.

For a long time they only managed to acquire 2 more toll roads and recently failed with one (although due to special circumstances)

This track record should make us wary about the claims of management that this will happen with a high degree of success.

BOT

Mr Jiang drip more areas of growth, specifically the opportunity to build, operate and transfer expressway by leveraging their close connection with China Merchant Ports to develop roads near ports.

This would be welcome, and an area of growth by making use of the cash to reinvest at a higher ROIC.

It is also an area where the company can grow without thoroughly relying on acquisition, although seeding infant expressway will take some time.

The growth model

Since toll roads have a much shorter concession span compare to other operating assets (actually not that short considering there are gambling concessions that is even shorter, but comparing to pipelines, ports and property land lease, 10-20 years is rather  short), there needs to be a consistent reinvestment of toll roads.

The company attracts investors by offering a fair dividend yield. The dividend yield is paid out using a small portion of free cash flow (in this case possibly 25% of FCF).

The rest of the free cash flow is going towards paying down debt.  Evidence from this year, CMHP have paid down nearly 750 mil in debt and likely this will reach 1 bil. Assuming  convertible bonds is converted, the possibility of paring down debt in 1 year is possible.

CMHP can levered up and acquire  toll roads with 100% debt, pay down the debt quickly, then repeat the process again.  As long as the roads are of conservative IRR that is accretive to shareholders, this process is possible once they reach the current size.

With their assets size, a conservative debt leveraged could possibly be playing around 4 x EBITDA, in this case 8bil.

Leverage up  4-6 times, unlevered fast, leverage up again.

In the case of Beilun, although its profit was not good,  the acquisition at 1.1 bil generating 60 mil in profit, improved to 120 mil upon debt restructuring. There are much improvements from debt restructuring, better operations and organic growth.

Dividend growth comes from a base case of 5-6% + organic growth from GDP (likely 2%) + reinvested retained earnings/ cash flow (x%)

I refrain to put an amount seeing it is usually calculated as ROIC of retained earnings because I doubt I can predict their pace of acquisition.

The Achilles heel or the important area is the predictability and sturdiness of the cash flow (tied closely to  toll roads)

Accumulation of Cash

In the worse case scenario, much of the depreciation and debt amortization cash flow freed up cannot readily flow to shareholders in dividends, buy back or acquisitions.

In this case, CMHP may accumulate the cash.

In the next few years, aside from the 5.5 cents dividend, there could be 950 mil of FCF left over after it  goes zero debt. On a fully diluted basis this would come up to $0.14.

An accumulation of that on a 4 year basis would represent $0.56 in net asset, or 65% increase in asset from current net asset.

This is an estimation and it is likely we won’t know how this cash will be used,

Conservative Parent

The interest of us minority share holder is invariably tied to the parent. Signs of parent liquidating their position can be a potential red flag to re-evaluate our position.

From the Edge, it does indicate that even though the parent would like to make CMHP shares more liquid, they are unwilling to reduce their position.

This plus the fact that management are rather conservative in their acquisitions and target leverage, leads us to believe as of now, interest are aligned.

Summary

Like People’s Food, CMHP have been around for sometime and it continues to remain under the radar due to its low liquidity.

Our job is much more focus on trying to carry out as much due diligence possible. Remaining misinterpreted that this is just another S-Chips works in our favor

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China Merchant Pacific Q2 2013 Results

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China Merchant Pacific (CMHP) yesterday announced second quarter results and declaration of 2.75 cents  dividends.

I was rather interested to see if the recent weakness in the share price is indicative of  the market anticipating a weak set of results.

Fortunately, the results are pretty predictable.

For new investors to this may want to  take a look at this 2 articles

If we take a look at full year profits it looks good in all areas. Net profit improved 37% for the first half from 222 mil to 304 mil. So did the top line.

Across the board, traffic actually improved. Nation wide toll reduction and toll free holidays look like its not affecting them in Q2.

The economic slow down doesn’t seem to have put a dampener on results. Yet.

You can see that the acquisition of Yongtaiwen provides much cash flow, but it is such a mature toll roads that it doesn’t give the kind of growth rate we see of Guiliu and Guihuang in the past.

(Click to see larger image)

You will be quick to extrapolate the results to full year. Do note that  traffic does fluctuate, and for different toll roads there are different peak quarters.

  • Q1 have 4 holidays
  • Q2 have 3 holidays
  • Q3 have 1 holidays
  • Q4 have 3 holidays

Forex Gain

One interesting thing is that for the quarter, CMHP made a 30 mil gain from forex movement of RMB vs HKD.

I always thought that those currencies are all pegged versus the USD

Resourceful folks can hop on to Yahoo Finance for a quite look at HKD versus RMB.  Compared to 2012, which was more stable, 2013 was more turbulent.

I would think you win some you lose some when it comes to forex movement.

The past 13 years have been either stable or RMB strengthening. I do worried that if I forecast correctly, a strong USD would be rather detrimental to CMHP when they convert from RMB to HKD.

However if HKD/USD Strengthen against SGD, this might indicate less cash flow to pay for our dividends.

Beilun’s Surprising Performance

The surprising thing about this earnings was the performance of Beilun. In first quarter earnings was 17 mil, this quarter it was 31 mil.

Massive improvement.  Traffic volume was 13% better, revenue 18% better. And since revenue figures are in RMB, its not fully a currency gain.

What we suspect is that this is due to a refinancing of Beilun’s debt at a lower interest rate.

Recall that Beilun owes 1200 mil in debt to 2018 (5 years) and recently there was a renewal of a loan facilities for USD 150 mil (1153 mil HKD). (Read here)

The outperformance of Beilun is likely a combination of better traffic  figures, currency appreciation and debt refinancing.

What would be a safe estimation of Beilun’s full year earnings next year? I suppose we can optimistically forecast 90-100 mil. Good enough for 27% of fully diluted dividend or 41% of undiluted dividend.

Forecasting full year earnings and dividends

A safe estimation will be that all else being equal, second half full year earnings should come in near 580-590 mil.

How much can 590 mil pay for? Do be aware that CMHP can dilute share holders 50% due to convertible preference shares and convertible bonds that are exercisable at a price of  84 cents.

This look up table can serve as a guide. You will notice that at full dilution number of shares is 1074 from CMHP’s spreadsheet. They are correct. I am wrong.

However, the difference is not too much of a difference.

If both parents and convertible bond holders don’t convert or if  one party convert, CMHP is capable of declaring up to 9.5 cents dividend.

At a share price of 84 cents, that’s a 11% yield.

If fully diluted, a safe zone will be 8.5 cents, for a 10.1% yield.

CMHP have indicated they won’t do that. And would likely pay out 5.5 cents. At fully diluted, that would represent 63% payout.

At 5.5 cents, this represent a 6.5% dividend yield out of earnings (compared to 90-100% cash flow payout for REITs and business trust)

Free Cash Flow

If you  think the dividend pay out of earnings is sick, take a look at the free cash flow. a Half year FCF of 1041 mil, we may be looking at a full year  FCF of 1800 mil.

You would have to deduct 140 mil of interest payment and 200 mil of taxes from this figure, and you will still get 1460 mil that CMHP and half of YTW that CMHP don’t own can call upon.

If I am correct, in 2 years, YTW will repay all their debts (the underlying have been amortizing debts, as is Beilun. What you see here are nett of those amortization). In 5 years, Beilun will clear the loans. The cash flow then of those free up cash flows can flow more to CMHP parent.

Of course, you can look at this and say that they can comfortably pay out a 25% dividend yield per year but do note that their toll roads concession is much much shorter than your 70 year land lease of retail malls, 30 years land lease for industrial buildings, 40 years land lease for typical China land lease.

  • YTW 17 years to go (2030)
  • Beilun 10 years to go (2023)
  • Guiliu 11 years to go (2024)
  • Guihuang 14 years to go (2027)

CMHP will have to buy more roads or assets, to replenish many expiring concessions.

Look at this as if they can pay out 400 mil in dividends yearly and use 1000 mil to buy 1 toll road every 2 years.

 

I am pretty glad they provided this slide. Shows a lot of information at a glance.

Leverage

One thing about about CMHP is that they do amortize their debts (unlike the REITs and Business trust that roll them over)

For the first half of the year, they repaid 500 mil. That should work out to 400 mil for YTW, 100 mil for Beilun.

YTW debt should be repaid in 2015 while Beilun 2018.

What we anticipate is that this freed up cash flow would go into future free cash flow for development.

I don’t quite agree with CMHP way of calculating their debt levels, considering that they omit 500 mil worth of dividends payable which is suppose to be dividends due to their parents (getting very strange why they keep them there)

Total debts:

  • Short term interest bearing liabilities: 271 mil
  • Dividends payable: 536 mil
  • Long term interest bearing liabilities: 3680 mil
  • Total: 4487 mil

Cash: 1593 mil

Net debt: 2894 mil

Net debt to asset: 2894/13455 = 21%

It gets more conservative considering 1100 mil worth can be converted to equity, in which case the gearing can be reduce to 14%

1894 mil is almost 1 year of free cash flow. HKT Trust holds 2.6 times EBITDA, APTT holds nearly 5 times EBITDA, the reits even more (note these are EBITDA while  for CMHP I am stating free cash flow)

The debt levels look very conservative on paper.

Summary

All in all, pretty satisfied with the result. The only thing not satisfied was me buying nearly half at an average price of 90 cents.

That is still a  rather nice 6.1% yield at that price.

CMHP is rather heavy in the portfolio, but let me evaluate whether what is developing in China will have any bearings on future cash flow.

Bullet trains, railway and improving alternative transport may affect  future earnings.

Perhaps, if all goes well I can bump this up to 10% of my portfolio.

As always, I feel that CMHP can provide more prompt reporting of traffic figures so as to smooth out any surprises.

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