Sydney Airport: Result 2012

Record traffic numbers have contributed to an excellent full-year result from Sydney Airport. Looking at Sydney Airports Corporation (SAC), which operates the airport and of which the listed Sydney Airport (SYD) owns 84.8%, a 3.6% increase in traffic resulted in revenue growth of 6.9% to $1,040m.

About 42% of total revenues was aeronautical, which rose 7.6%, 23% was retail (up 5.3%), 16% was from property and car rental (up 8.3%) and 11% was from car parking and ground transport (up 8.9%). The remaining 8% came mainly from the direct recovery of security costs.

The traffic growth was helped by two new international low-cost carriers, Scoot and AirAsia X, commencing a daily service to Sydney Airport, between them adding about 4% to total international seat capacity.

Asian traffic growth

Overall, inbound passenger numbers were relatively flat from North America and Europe, but there were large increases from parts of Asia, with New Zealand up 5%, China up 9%, Japan up 12%, India up 11%, Malaysia up 44% and Singapore up 36%.

The property growth of 8.3% was helped by the inclusion of a full year of revenues form the Central Terrace Building, as well as rent reviews and the Virgin lounge extension at Terminal 2. A new Rydges 4-star hotel is on track for completion in ‘mid-2013’, while an Etihad lounge is due to open by the end of 2013.

Car parking revenue growth of 8.9% was primarily driven by record online bookings and an additional 3,300 spaces.

Somewhat slower growth in operating expenses, of 4.3% to $192m, resulted in a slightly faster, 7.3%, rise in earnings before interest, tax, depreciation and amortisation (EBITDA), to $848m.

A little over half of this was paid out in interest, leaving profit before tax of $414m and operating cash flow of $474m after adding back mostly non-cash items. (This is all set out on pages 10, 12 and 13 of the results presentation if you want to follow it through.)

The airport (SAC) has a policy of paying out 100% of this operating cash flow, meaning a payment of $402m to the listed SYD (84.8% of $474m). After $10m of net costs, this left net operating receipts of $392m, or 21 cents per stapled security, exactly covering, for the first time, SYD’s distributions to shareholders of 21 cents.

Debt-funded capex

The eagle-eyed may notice that there are a couple of things missing from these calculations. The first is capital expenditure – those terminal upgrades don’t pay for themselves.

Or so you’d think. In fact they do, in a sense, because all capital expenditure is funded by increases in debt. But because EBITDA is rising faster than the debt (and the interest bill), it means that the EBITDA coverage of the interest bill is actually rising – from 1.21 in 2002 to 1.71 in 2007 to 2.15 in 2012.

It’s a bit like having an investment property, against which you borrow a little more each year to pay for improvements, and the interest bill rises more slowly than the rent. It’s probably not the most conservative approach, but for a large stable asset like Sydney Airport it works well enough.

The other thing that's missing is tax, which the company doesn't pay at the moment due to accumulated losses from when it was privatised and tax deductions on the redeemable preference shares through which it delivers part of its economic profit. The company doesn't provide forecasts for when its losses will run out, but it's expected to happen around 2020.

The ATO has challenged the tax deductibility of some of these RPSs and, while the company is defending its position, if it loses the case it could be hit with a tax bill of up to $79m, the equivalent of about 4 cents per share. There may also be some tax to pay in future years, although this would probably also result in franking credits. Further details of this issue are provided in an FAQ released alongside the full-year results.

All of this leaves lots of juicy cash flows to be paid out to shareholders, and now that they actually cover distributions from the listed company, we'd expect those distributions to start rising again, alongside (or perhaps slightly behind) management’s stated aim of ‘delivering EBITDA and cash flow growth significantly above passenger growth’.

On top of a 6.6% starting yield, albeit unfranked (you can't have everything), that makes for a compelling valuation. The stock is barely changed from 1 Feb 13 (Long Term Buy – $3.18). LONG TERM BUY.

Note: The model Income and Growth portfolios own securities in Sydney Airport.