- Asciano delivers expected weak March quarter results - Revised full year earnings guidance means minor changes to earnings estimates - Value on offer but some earnings headwinds remain

By Chris Shaw

Ports and rail group Asciano ((AIO)) yesterday reported March quarter results the market viewed as soft, reflecting weak underlying volumes for the Ports and Intermodal operations and the impact of wet weather on rail volumes.

In more detail, coal haulage volumes fell 6.6% in the March quarter, with Citi noting any recovery in the fourth quarter will likely be impacted somewhat by speed restrictions in both New South Wales and Queensland.

Intermodal volumes were down 5.8% for the March quarter, Citi expecting some one-off impacts in the fourth quarter given track closure disruptions and subdued steel volumes. The 8% decline in container port volumes in the period is likely a precursor to more weakness according to Citi, this given ongoing weak non-food retail volumes and the scope for industrial action.

Along with the quarterly report, Asciano management has guided to full year EBIT (earnings before interest and tax) of $530-$540 million, which Citi notes includes the $60-$70 million impact of material items.

The new guidance was only marginally below RBS Australia's existing forecast, which highlights the resiliency of Asciano's earnings in the broker's view. This resiliency reflects both take-or-pay protection in coal contracts and some scope for margin improvement.

The potential for strikes in the Ports business is a threat to earnings, RBS estimating a one-week strike could have a $4 million impact on Asciano's profits. BA Merrill Lynch agrees wage negotiations and the possibility of industrial activity continue to present some downside risk to earnings.

The outcome of any negotiations will be important, as JP Morgan points out labour costs represent more than 50% of operating costs for a port operation. This suggests negotiations will be tough, JP Morgan taking a more conservative stance than RBS in estimating a one-week outage due to industrial action could cost around $12 million.

The other earnings issue going forward for JP Morgan is congestion on the Hunter Valley rail network could remain in place for a further 12-18 months. To deal with this management is considering the temporary parking of trains, which should assist in cost management thanks to reducing the under-utilisation of labour.

In the view of Credit Suisse, the March quarter is likely to prove to be the bottom of the earnings cycle for the Ports division, as even allowing for some industrial action in coming months there is scope for Asciano to enjoy some market share gains.

As well, Credit Suisse notes the update from management also included the expectation trading conditions will slowly improve across all divisions. Market earnings estimates reflect this, as consensus earnings per share (EPS) forecasts for Asciano according to the FNArena database stand at 7.2c in FY11, rising to 10c in FY12.

Earnings forecasts have been subject to relatively minor changes post the update by management, while the consensus price target according to the database is $1.97, down from $1.98 previously.

The database shows Asciano is rated as Buy five times and Hold three times, with only one change in rating post the quarterly update. This comes from Credit Suisse, which has upgraded to Neutral from Underperform on valuation grounds.

The upgrade reflects Credit Suisse lifting the multiple for the Ports division to 15% from zero previously, which reflects the view the business is now near cyclical lows. BA-ML also has Asciano as a Hold, based on the view outperformance is unlikely given the near-term headwinds of wage negotiations and tough operating conditions.

In contrast, RBS Australia sees value as on its numbers Asciano is trading on an EBITDA (earnings before interest, tax, depreciation and amortisation) multiple of around 8.0 times for FY12. This implies Asciano is being priced on a rail multiple, this despite 36% of earnings coming from the Ports business.

Citi also rates Asciano as a Buy, based on the combination of an expected recovery in margins medium-term and top-line growth going forward. Macquarie agrees, seeing the stock as cheap given a solid earnings growth outlook from both cost reductions and additional coal contracts.

Asciano shares today are slightly higher and as at 11.10am the stock was up 2.5c at $1.665. Over the past year Asciano has traded in a range of $1.44 to $1.795, the current share price implying upside of around 19% to the consensus price target in the FNArena database.

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