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Port of Newcastle

USD Trade Idea: New Port of Newcastle (PON) 10 Year Bond (BBB-/Baa3)

IAM Capital Markets View

PON has an essential role in the Hunter Valley coal export supply chain that generates earnings for the port to maintain an investment-grade credit rating. While it’s a coal-related port, there is trade diversification through various commodities that produce stable cashflow. This strategy is supported by the port’s growing service region, its natural deepwater harbour, large land bank (reclaimed land), and intermodal links.

The port’s landlord operating model reduces operating risks, given stevedoring functions are carried out by third parties. In addition, the port’s pricing regime for coal service charges are set under long-term bilateral agreements with vessel agents. The bonds are senior secured and rank parri passu with PON’s existing senior secured facilities. Investors will benefit from relatively restrictive covenants under the existing syndicated facility agreement (SFA), though these covenants are not part of the bond terms.

Financial metrics, including leverage, are relatively high but in line with the general port sector (including Pelabuhan Indonesia II and Port of Melbourne). However, PON is likely to deleverage over 2021-2025, in line with its adherence to an investment-grade rating. We believe PON’s inaugural USD 10 year bond offers very good relative value versus the BBB- opportunity set. Based on a clean price of AUD100.5 (yield of 5.8%), it will be in line with the average yield for single-B rated bonds in the Bloomberg Global High Yield Index, and more than compensate investors for any ESG-related risks.

Chart 1. Coal and ESG Diversification

Projections are based on PON diversifying away from coal into non-coal related trade activities
Source: PON Investor Presentation

The port has also been more active than others, such as NCIG, NQET, and DBCT, in managing ESG-related risks. This was evident through the recent NAB long-term sustainability-linked loan written in May 2021.

The arrangement includes AUD515m in sustainability-linked loans that incentivises PON by offering a lower margin on debt if it hits targets across a range of social and environmental metrics. This is the first sustainability-linked financing by an Australian seaport and the first such loan in Australia to include a modern slavery assessment metric addressing all of the borrower’s suppliers.

The other four metrics focus on emissions reduction, mental health first aid, diversity and inclusion, and achieving certified recognition against the NSW Government Sustainability Advantage Scheme.

Five Sustainability Linked Loan Metrics

PON will have the opportunity to earn a margin reduction over the next five years on the sustainability-linked loans if it hit targets across a range of social and environmental metrics.

  1. To keep Scope 1 and 2 GHG emissions below the 2025 trajectory level based on Port of Newcastle’s Well Below 2-degree scenario
  2. 100% of all existing and new suppliers active during the relevant calendar year screened for modern slavery risk and demonstrated engagement where medium or high risk is identified
  3. Establish an Aboriginal and Torres Strait Islander student internship program with the University of Newcastle
  4. Achieve accreditation of a number of mental health first aiders in each company department
  5. Demonstrated progression under the NSW Government Sustainability Advantage Recognition Scheme

Credit Fundamentals

PON is Australia’s deepwater global gateway, the largest on the nation’s east coast, and the third largest port in Australia by throughput. It handles trade worth AUD26bn for the national economy each year. The port currently handles 4,400 ship movements and 164mt of cargo annually.

With a deepwater shipping channel operating at 50% of its capacity, significant port land available, and enviable access to national rail and road infrastructure, PON is positioned to further underpin the future prosperity of the Hunter region, NSW, and Australia.

Based in the Hunter Region in NSW, PON operates under a 98-year concession arrangement (92 years remaining) with the NSW government. Entities within the obligor group that guarantee PON’s obligations include Port of Newcastle Investments (Holdings) Trust and Port of Newcastle Investments (Property Holdings) Trust. PON Financing is the financing vehicle for the PON Investments Group.

PON is owned 50% jointly by The Infrastructure Fund (TIF) and China Merchants Port Holdings Company (CMPort − Baa1). Both have a strong global track record in managing large infrastructure assets. TIF is owned by Macquarie Asset Management (MAM).

Exports of thermal and metallurgical coal account for 80% and 16% of PON’s volumes respectively. However, volumes from coal mines in aggregate are likely to decline as demand from thermal coal-fired generators reduces over time. The fall in China’s purchases of Australian coal since December 2020 has not had a significant impact on PON, as it has largely been replaced by increased shipments to India and South-East Asia.

Chart 2. NSW Ports

Projections represent the views of Moody’s
Source: PON Investor Presentation

Hunter Valley coal mines are high quality and internationally cost competitive. The mines have long-weighted average remaining lives (of > 20 years) and demand is still underpinned by coal’s use for essentially electricity generation in key Asian markets.

Chart 3. Thermal vs Coking Coal Projections

Projections represent the views of Moody’s
Source: PON Investor Presentation

As a landlord port, PON’s revenue is 100% related to core port activities of trade facilitation and property leasing. Approximately 60% of revenue is directly derived from coal trade, 25% from property leases, and about 15% from other diversified trade activity. Around 85% of its revenues are contracted under long-term, fixed-price agreements.

Within this, 60% of PON’s revenue is from navigation service charges under 10 year bilateral agreements with coal vessel agents (on behalf of vessel operators) and 25% of revenue is from income under lease agreements that have a remaining weighted average life of 16 years. The majority of leases are inflation-linked, while the navigation service charges under the bilateral agreements increase at the greater of inflation or 4%.

Chart 4. Monthly Trade Report

Source: PON Investor Presentation

Financial Metrics

Financial metrics, including leverage, are relatively high but in line with the general port sector (including Pelabuhan Indonesia II and Port of Melbourne). However, PON is likely to deleverage over 2021-2025, in line with its adherence to an investment-grade rating.

Chart 5. Financial Metrics

Source: Moody’s

PON has an extensive capex plan. The plan includes over AUD250m of projects in 2021-2025, and another AUD250m of projects in 2026-2031. PON’s liquidity and funding policies prioritise preservation of free cashflow (FCF) over distribution to avoid over-reliance on debt to fund capex.

The bonds are senior secured and rank parri passu with PON’s existing senior secured facilities. Investors will benefit from relatively restrictive covenants under the existing syndicated facility agreement (SFA), though these covenants are not part of the bond terms.

The currency-risk exposure is managed by a minimum 5 year hedging instrument on a rolling basis, while interest rate risk is limited to a minimum of 2 years. No debt service reserve account is required under bond terms, but the company’s treasury policies require a reserve equivalent to six months of debt service and operating expenditure.

Relative Value

We believe PON’s inaugural USD 10 year bond offers very good relative value versus the BBB- opportunity set. Based on a clean price of AUD100.5 (yield of 5.8%), it will be in line with the average yield for single-B rated bonds in the Bloomberg Global High Yield Index. BBB- rated Adani Ports and unrated International Container Terminal Services’ 10 year bonds are trading at or around 3.5-3.8%.

Chart 6. BBB- Rated Ports Trade Around 3.5-4% at 10 Year

Source: Bloomberg FIW Function

Ba1/BB/BB+ rated Chinese miner Yanzhou Coal issued a 3 year bond recently at 2.9%, but the deal might have been supported by domestic investors. If we extrapolate this to a 10 year maturity, the implied yield would be around 5-5.5%.

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