Significant benefits in Transurban's tunnel vision

Buying Sydney's much maligned Cross City Tunnel could give Transurban – the now front-running suitor – wider network perks and an expanded eastern seaboard presence.

Transurban was probably always in the box seat to acquire Sydney’s Cross City Tunnel and has made no secret of its interest in the troubled asset. Now Scott Charlton has put his foot firmly on it.

Transurban announced today that it had paid $475 million to acquire Royal Bank of Scotland’s $600 million of senior debt in the Cross City Tunnel, which was placed in receivership earlier this year. Transurban would pay a further $27.5 million to RBS over the next four years if CCT’s traffic volumes materially outperform its base case assumptions.

RBS, which like most of the big UK banks is still cleaning up its loan portfolios after the financial crisis, owns all the senior debt in CCT so Transurban is now the only secured lender to the entity.

Having earlier declared its interest in acquiring the tunnel (despite its disastrous history), that puts it in the box seat in negotiations with the receivers, KordaMentha. Transurban said the receivers would be instructed to continue with the sales process for the tunnel, a process in which it intended to participate.

The willingness of RBS to sell its debt at a discount to face value of between about 16.25 per cent and 20 per cent emphatically suggests there is no equity value in the Cross City Tunnel. RBS, Leighton Holdings and Eiser Infrastructure Partners paid about $300 million to buy CCT, which originally cost about $1 billion to construct and finance according to Transurban, out of its first receivership in 2007.

Transurban has always been the most likely buyer for CCT, which has been shunned by Sydney drivers from the moment it opened. It never came within a ballpark of its overly optimistic traffic forecasts.

Transurban already has a significant portfolio of Sydney tollroad interests: the M2, the Lane Cove Tunnel, a 50 per cent interest in the M7 and a similar interest in the M5. It also owns 75.1 per cent of the Eastern Distributor, which has been experiencing congestion. There could be significant benefit in reduced traffic volumes if it could encourage greater use of the CCT.

There could also be cost synergies and wider network benefits for Transurban from adding the CCT to its Sydney portfolio. Buying the debt at a discount means that the acquisition should be distribution-accretive on a stand-alone basis, but that suggests there could be meaningful upside if it also emerges as the owner of the tunnel.

The CCT fits with Charlton’s stated strategy of focusing on expanding within Transurban’s existing footprints on the eastern seaboard and its presence in the Washington DC area in the US. He has said that creates more value and has a bigger impact on cash generation than international expansion or buying into new domestic markets.

Given that there is a relative dearth of infrastructure in Australia which offers the potential to create a network, Transurban inevitably has to be a player when one of those assets becomes available.

With Transurban, which has a solid balance sheet, coming out of a major program of investment in its existing networks, it will generate increasing amounts of free cash to either acquire new assets or to distribute to its security holders.

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