The market appears not to like the idea of dropping $2.35B on the acquisition of One Rail.

What or who is One Rail I hear you ask? One Rail name was created only last year, with the group formerly known as Genesee & Wyoming Australia. One Rail came about following acquisition of a remaining 51.1% stake in Genesee & Wyoming Australia by Macquarie Infrastructure and Real Assets and Dutch pension fund PGGM from Brookfield Infrastructure. 

While the market may not like it, if you do this this sector is investible the One Rail acquisition makes sense and I agree with CEO Andrew Harding that it is strategic and transformative. Harding was quoted saying “It is fully aligned with Aurizon’s strategy to grow our Bulk freight business into new markets and new geographies in Australia. At our investor strategy day in June, we detailed our aspiration to double our earnings in the bulk business over the coming decade. The One Rail acquisition delivers a step change for Aurizon Bulk as a new entrant in the SA and NT region and supports the ongoing growth of non-coal revenue in the Aurizon portfolio.”

The debt funded acquisition will put the newly formed group into the position of not being dependent on coal which despite what our federal government tells us, is on the decline. Coal haulage account for around a third of Aurizon revenue last financial year.

The assets in Aurizon line of sight include thousands of kilometres of lines between South Australia and NT as well as infrastructure in South Australia, five rail yards, 68 locomotives, over 1000 bulk freight wagons and some 400 employees. The combined group will haul commodities including manganese and rare earths.

Aurizon plans to offload One Rail east coast coal carriage, and this is the part that the market is less thrilled about. There is concern Aurizon may be stuck with these assets with no ready buyers. The divestment is also expected to be a demand before regulatory approval for the acquisition is granted. 

Another path would be a new company formed these assets. While haulage contracts are in place, the business would face the prospect of rising maintenance cost and declining revenue. Ouch. 

Either way, ratings agencies seem to point to Aurizon needing to act quickly with the non core One Rail asset arrangements to maintain current credit ratings.  

Moody’s analyst Arnon Musiker says “The company’s financial leverage will be weaker than the rating tolerance level as a result of the additional acquisition debt, and the rating is consequently predicated on Aurizon commencing deleveraging within 2022, as well as divesting East Coast Rail within the envisaged timeframe” 

@looking4growth unless I am mistaken (and just looked at the recent results) around half Aurizon revenue is from the coal network. 

Also in the last quarter, coal revenue was down 11% and not projected to increase, especially due to CN purchase slowdowns. There is a reference to the relatively young Asian coal gen fleet in the report, however, these are built with specific calorific content which means not all coal is suitable. 

The coal network has another problem, it is huge, which means maintenance costs. Indeed these were also highher in the previous quarter compared to the corresponding period. 

Not a chartist here so cannot comment on that. 

Recently I’ve had been able to spend time looking more closely at this one. For a large company they are surprisingly organised. I have worked at several large companies (think 150,000+ employees). These places get surprisingly inward focused and lose sight of the end customer. It appears Aurizon has managed to keep themselves out of such a place.

The business is Australia’s largest heavy haul freight railway operator. A significant part is the Central Queensland Coal Network that consists of 2,670 kilometers of track network. This part of the business is already in decline and expected to rapidly decrease as the world increasingly decarbonizes. Australia’s largest consumer of coal, Japan, has announced it will be out of coal by 2030. You can be assured management will be thinking how to accommodate these challenges – especially maintaining such a network with declining revenues. 

The company transports other commodities (incl iron ore), agricultural, industrial, and retail products so the complete focus cannot be on the coal story.

Share price of the last 12 months has been in steady decline however earnings yield remains reasonably strong at circa 9% making me wonder how oversold this has become. 

Has it been too far oversold or is the market actually forward looking at the coal challenges.