SGX Yield Stock

Unearthing the treasure chest

Unearthing the treasure chest. Macquarie International Infrastructure Fund (MIIF) has concluded its strategic review on December 18 2012 with a decision to divest its assets namely Taiwan Broadband Communications (TBC), Changshu Xinghua Port (CXP), Hua Nan Expressway (HNE) and Miaoli Wind Company (MWC), as well as return excess existing cash to shareholders. The divestment of the assets is likely to take 12‐18 months.

We expect a one‐off special dividend of 4.03 cents per share, on top of a regular dividend of 2.75 cents per share, to be distributed in February 2013. Excess cash available for distributions should amount to approximately S$46.4mil.

Current valuations for MIIF’s assets are certainly not demanding, with CXP, HNE and TBC valued at S$101.6mil, S$140.2mil and S$492.8mil respectively. We believe MIIF is unlikely to face significant difficulties in offloading its assets at current valuations and could potentially realise a slight premium over its current valuations, given the yield‐hungry climate and the assets’ strong cash flow generation. The recent deals of Taiwanese cable TV operators Kbro and China Network Systems were completed at EV/EBITDA multiples of 11‐12 times, which could serve as a benchmark for TBC’s valuation. TBC has a EV/EBITDA multiple of 10x.

Regulatory risk already factored into HNE’s valuation. MIIF has already written down the book value of HNE by S$75.8mil to factor in the impact of recent toll adjustments. We are therefore comfortable that HNE’s current valuation could serve as a good proxy to its future sale price.

A cash windfall. Based on the current book value of its assets, we estimate that MIIF’s asset divestments would generate distributable income of 63.2 cents after factoring in management fees. In our opinion, the variable portion of the management fees is likely to be structured as a percentage of the asset sale prices in order to keep management’s interests better aligned with those of shareholders’. We assume that variable management fees would represent 1% of the asset sale prices.

We raise our fair value for MIIF to 70.0 cents per share from 68 cents, and may make further adjustments pending further visibility on asset divestment plans.

Winding down is the best option

• Board initiates orderly process to divest stakes in underlying assets to realise true values

• Process could be lengthy and difficult though

• Special dividend from payout of excess cash in the near term should help support share price

• Maintain HOLD with higher TP of S$0.65

Current structure not best suited to realise value . Following the completion of a strategic review, the Board of Directors of MIIF are of the opinion that its current structure may not be suitable to realise the value of its underlying businesses, and that the stock is likely being undervalued by the market. As a result of the higher than-ideal cost of equity, MIIF’s strategy of driving growth by investing in Asian infrastructure businesses also cannot be executed properly.

Fund to wind down over time. As a result of these observations, and given the lack of acquisition opportunities, the Board has decided to distribute existing excess cash to shareholders via a special dividend, and commence the process of an orderly sale of its interests in its four assets. As and when the divestment of these assets is completed, the proceeds will be distributed to shareholders. The corporate-level debt facility will not be drawn down and lapse upon maturity. To ensure alignment of interests with shareholders the manager’s fee structure will be changed in due course.

Positive step, but upside may be limited. This strategy is intended to close the gap between share price and fund NAV. Without an acquisition story, we reckon the fund fee leakage was a key reason for this valuation gap. Excluding fund fees, our valuation for MIIF stands at about S$0.65 per share, still lower than fund NAV (internal MIIF estimates) of S$0.70 per share, as we are less optimistic on valuations for Hua Nan Expressway. We think it could eventually prove difficult and time consuming for MIIF to realise the true values of its investments, and given the uncertainties involved in the process, current entry levels don’t look attractive enough to us. In the near term though, investors can look forward to a special dividend of about 3.0Scts from the payout of existing excess cash reserves, in addition to the 2.75Scts final dividend for 2H-FY12. This should lend support to the share price.