Energy infrastructure with income stability

High DPU from cash flow payouts. SP AusNet (SPN) owns and operates about A$6.5bn worth of energy infrastructure (electricity and gas) in the state of Victoria, Australia. SPN is listed on both the Singapore and Australian stock exchanges. It is structured as a stapled security, allowing investors to own two or more related securities that are bound together through one vehicle. The structure allows SPN to pay distributions out of operating cash flows, which include both net profit and non-cash charges like depreciation. SPN is paying out 11.564 A$ cents for FY08 – up 2.6% YoY. SPN guidance for FY09 DPU is at about 11.85 A$ cents, implying a quality 9.3% FY09 distribution yield on today’s exchange rates.

Revenue structure key story here. SPN owns electricity transmission and distribution and gas distribution assets – which are considered regulated natural monopolies due to their strategic nature. What this means is that about 90% of SPN’s revenue is determined by regulating authorities using a methodology that considers cost of capital, inflation, demand trends, likely operating expenses and capex required to maintain the asset. The tariff structure for the distribution assets includes a demand capacitybased component as well. The long-term cash flow visibility is a key selling point for SPN as a yield story.

Where is the growth? Of course, the regulated revenue structure also limits the upside. We do see some avenues for growth – relative population growth in Victoria, government measures to expand availability of piped gas, the installation of “smart meters”, piggybacking a lucrative telco leasing business onto existing networks, and so on. Any significant impact from these avenues would likely be slow to materialize. SPN may also try and jointly work with the Alinta assets that are currently retained by Singapore Power, 51% SPN owner, after SPN’s ambitious acquisition attempt fell through last year. The Singapore Power connection between the two entities may not fly with regulators however and could limit the extent of their cooperation.

Acquisitions are a far more likely bet as a catalyst for re-rating. The infrastructure space has captured a lot of attention and infrastructure funds are hopeful that the recent market volatility may have churned up some choice distressed sales. But SPN at this point is quite significantly leveraged (76% debt-to-regulated asset base) and any sizeable acquisitions will have to await further clearing of the debt and equity markets. We do not have a rating on this stock.

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