Sydney Airport is better than it looks

Forget the figures you see on CommSec. Here’s the real Sydney Airport.

Sydney Airport is a great example of how investing opportunities come about. Take a look at your broker’s ‘Company research’ page for the stock. It doesn’t matter if you use CommSec, Westpac or any of the other big names, they all fall for the same trick.

Judging by its financial ratios alone, no-one in their right mind would look twice – or even once – at Australia’s largest airport. Earnings per share are half what the company pays in dividends, revenue is lower today than it was in 2005, and the stock sports a price-earnings ratio of 56. As far as investments go, Sydney Airport looks about as attractive as a blob fish.  

All of those numbers, though, are wrong. Most brokers or financial data providers – such as CommSec and Google Finance – don’t distinguish between different accounting policies. They just take the reported statutory figures in the annual report and call it a day. This is why it’s important to dig deeper.

Let’s start with the top line. Sydney Airport’s consolidated accounts don’t adjust for when it was partly owned by MAp, which had stakes in several other airports. The 2005 income statement, for example, isn’t looking at Sydney Airport specifically, which is the only part that matters to investors today (it is now wholly owned by SYD shareholders following the recent restructure).

Far from having revenue of $1.4bn in 2005 – as the basic data suggests – Sydney Airport brought in $619m after you strip out all the other assets. Here is the original press release from 2005. That’s an important distinction because it means revenue has actually doubled since then, not fallen 15%. Sydney Airport is very much a growing business. 

Highly profitable

And what about profitability? The raw figures suggest that the airport was barely profitable until 2015. What the numbers don’t tell you is that this was done intentionally, and for good reason.

The airport is listed as a stapled security, which is one part equity and another part debt. When you buy a share, you are, in effect, lending to the airport and buying it at the same time.

This allows the airport to distribute income to shareholders as 'interest' on a loan – which is tax deductible – and under-report profits to gain a tax advantage. Over the past five years, Sydney Airport has made more than $2.9 billion in operating earnings, yet paid only $4 million in tax. For most stapled securities, statutory net profit is meaningless.

To figure out what Sydney Airport is really earning, you’ll need to bypass the annual report and head to the investor presentations. On page 10 of the 2015 results investor presentation, you’ll see Sydney Airport’s statutory income statement and an uninspiring net profit of $283m on the bottom line. On page 11, however, you can see a step-by-step reconciliation to ‘net operating receipts’ of $578m, or 26.0 cents per share.

Net operating receipts is a proxy for Sydney Airport’s free cash flow (not quite, but we’ll leave something for another day). This figure is the best measure of the airport’s underlying earnings and is what management uses to determine distributions to shareholders. Just under 100% of the airport’s net operating receipts are paid to shareholders as dividends.

So where does that leave us? Sydney Airport has a 10-year revenue growth rate of 7%, not negative 1.6%; dividends are comfortably covered by free cash flow; and the underlying price-earnings ratio is around 28, not 56. It may not be a screaming buy, but Sydney Airport is a high-quality asset – and it’s in better shape than the brokers let on.

Note: The Intelligent Investor Growth and Equity Income portfolios own shares in Sydney Airport. You can find out about investing directly in Intelligent Investor and InvestSMART portfolios by clicking here.

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