Aurizon (AZJ) In for the long haul

The stock in focus this month is Aurizon (AZJ) – Australia’s largest rail freight operator, moving coal, iron ore, agricultural freight and more across the nation.

As mentioned in a previous newsletter, our investment managers frequently have to determine whether events and news that occur and affect a stock is a one-off event that will have no impact over our investment timeframe, or a secular change to a company or industry that will impact over the long term. Similarly, some companies are impacted but regulatory changes or rulings meaning that we need to determine the ongoing impact, or indeed if that ruling will be maintained or changed. The outcome of this decision is important because it can define whether there is an opportunity in the market, or a situation to avoid or even run away from – there’s no upside to being a hero in this business!

Aurizon is an example of this, with a recent draft ruling by the competition regulator having a large impact on the stock price in the near term. Given the effective monopoly the company has on haulage in the Queensland coal sector, the amount AZJ is able to charge and therefore receive as revenue is subject to scrutiny from the Queensland Competition Authority (QCA) and is reviewed every four years.

At the recent review, AZJ argued for a larger revenue number, given the high cost involved in funding and maintaining the massive asset that is the rail network that transports much of the coal mined in Queensland to port and the higher volumes railed in recent periods. The QCA disagreed and handed down a draft ruling significantly below that presented by AZJ. Given the potential impact on revenues, the market reacted immediately, and since the ruling AZJ shares have fallen as much as 15%.

Points to consider

Our job is to determine the likelihood of this ruling being revised, and the potential total impact on future revenues. Given the harsh terms in the draft ruling, particularly compared to a recent ruling by the Australian Competition authority over Hunter Valley haulage providers, we do see it as likely that the ruling will be revised to a more favourable outcome – however not to the level that AZJ were hoping for.

Over the longer term, given the quality of the assets, the scope for more efficiencies to be found in the previously government-owned assets and the improving outlook for their rail customers, we see the recent fall as an opportunity to add to exposures, not only in expectation of a slightly better revised ruling, but based on the overreaction to the draft decision.

If you would like more information please call 1300 ELSTON or email info@elston.com.au and an adviser will be in touch.