The Distillery: Urban alchemy

Jotters heap praise on Transurban Group’s bid for control of the Cross City Tunnel with one eyeing an even bigger deal on the horizon.

Transurban Group’s bid for control of the Cross City Tunnel has received widespread praise from the commentariat. Widely considered the most logical acquirer of the distressed asset, Transurban made a hedge fund-like move with its acquisition of debt relating to the toll road, according to one commentator. But can it do what no other Cross City Tunnel owner has been able to, and turn the road into a financial success?

Elsewhere, the headline profit lift at Orica is not anywhere near as good as it sounds, according to one scribe, while another commentator continues to pile the pressure on David Jones as ASIC takes a closer look at director trading.

First to Transurban, The Australian Financial Review’s Karen Maley explains why the toll road operator was at home in adopting the hedge fund strategy of ‘if you own the debt, you control the asset’.

“…It was likely that Transurban felt comfortable adopting the slightly unorthodox approach to M&A because its chief executive, Scott Charlton, is a former investment banker, while its chairman, Lindsay Maxsted, was previously one of the country’s top insolvency specialists who managed the corporate restructurings of giant corporate collapses such as Abe Goldberg’s Linter Textiles and Alan Bond’s Bond Brewing.”

It’s quite a pedigree and it’s easy to see why the two leaders of the firm would be prepared to think a little outside the square when it comes to acquiring distressed assets. The question now is; will we see more of it from Australian companies?

The Herald Sun’s Terry McCrann labels Transurban the “most ruthlessly effective” toll road operator in the country and outlines why its position as the logical acquirer of the tunnel led it to pursue a win-win deal.

“It's a very different exercise by Transurban, which is the "natural" buyer of Sydney's Cross City Tunnel. It is so, in two ways. Generally as the biggest toll-road operator in the country; and operationally, with CCT's links to Transurban's existing Sydney toll roads. Those synergies enabled Transurban to "risklessly" buy out all CCT's debt, at a discount of around $100-$125 million. Its worst case is that somebody else ends up buying the CCT equity, and so, the tunnel. In which case it would … [make] a profit of $100 million-plus.”

While most analysts are confident no rival bid will be forthcoming, it’s still a wise move by Transurban. If someone wants to pay more than it thinks the tunnel is worth, then Transurban can pocket a healthy profit on the deal. Regardless of what happens, it has very little to lose.

However, its ability to win big will hinge on boosting traffic flows beyond their current weak state.

Business Spectator’s Stephen Bartholomeusz, meanwhile, expands on the synergies at Transurban’s disposal. A lift in traffic within the Cross City Tunnel will have valuable flow-on effects beyond the obvious gains in CCT revenues, specifically with the nearby Eastern Distributor.

“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.”

Fairfax’s Adele Ferguson, on the other hand, looks past this deal, mulling the opportunity for Transurban to make an even bigger move in Queensland.

“But the jewel in the crown for Transurban would be buying Queensland Motorways, which owns the tolling rights to five Queensland roads. At $4 billion-plus it wouldn't bid alone but with a consortium of superannuation funds, maybe including Uni Super. If Charlton can pull off both deals he will have created the most efficient toll road operator in the world and in the process achieved world dominance in the listed toll road operator space.”

The Australian’s Richard Gluyas is also looking to the future, pondering the impact of the bargain on the broader toll road sector.

“It's a small addition to the Transurban portfolio, but the huge discount to the tunnel's construction cost again puts the spotlight on the billions of dollars of shredded value in the industry's recent past. It makes it that much harder to convince investors to prise open their wallets and back projects, unless they're extensions to existing infrastructure with some empirical basis for traffic projections.”

Gluyas isn’t alone in recognising the changes afoot in the toll road sector, with the AFR’s Chanticleer columnist Michael Smith adding that financing of such projects has altered dramatically since the heady days of 2005/06.

“Infrastructure funding models have changed significantly since the Cross City Tunnel opened in 2005. Heavy debt is out of fashion and governments are looking at more innovative funding models to attract more private sector investment.”

The Cross City Tunnel auction follows quickly on the heels of the distressed sale of the Clem Jones Tunnel in Brisbane, which ironically was acquired by Transurban’s next takeover target, Queensland Motorways. Neither story offers potential infrastructure builders anything to get excited about.

Elsewhere, Orica’s results have the AFR’s Matthew Stevens digging deeper and discovering that the headline result of a 49 per cent lift in profit is not as strong as it sounds. The main positive Stevens can find is that the company did better than it expected when it downgraded forecasts in July, which is not a ringing endorsement.

Business Spectator’s Stephen Bartholomeusz also spotlights Orica, though more specifically its welcome gas deal with BHP and Esso that should provide it with gas security.

The move, which receives support from The Australian’s Tim Boreham, should help it avoid the price shocks that are in the offing for east coast consumers.

Finally, the AFR’s John Kehoe tries to sort through all the vested interests in the house price debate, while Fairfax’s Elizabeth Knight continues her investigation of the goings on at David Jones that led two directors to buy shares just days prior to the release of better-than-expected sales numbers.

“At best,” Knight contends, “the three men are potentially guilty of an error of judgment and a lack of an understanding of the industry and what factors can move a retailer's share price.”

With ASIC initiating an investigation there will be plenty more discussion about the share trades and shareholders have every reason to be frustrated given the damage the episode is causing the DJs brand.