Small Caps | Oct 16 2019
The acquisition of Transit Systems Group is expected to transform Sealink Travel into a major operator of metropolitan bus services.
-Sealink Travel likely to be re-rated post acquisition
-Significant portion of revenue now subject to long-term contracts
-Sealink Travel now more an infrastructure management business
By Eva Brocklehurst
The marine transport & tourism business of Sealink Travel ((SLK)) will take the back seat in the bus going forward, with the company's acquisition of Transit Systems Group.
Transit Systems operates metropolitan bus services for governments in Australia, the UK and Singapore. The Transit Systems model is characterised by monthly service payments under long-term contracts, indexed to the consumer price index at both the revenue and cost levels.
There is also relatively modest capital expenditure because a significant portion of the buses are either government-owned (85%) or, if company-owned, up-front expenditure is reimbursed typically over the life of the contract.
The acquisition comprises a payment of $598m in cash and scrip, with a deferred consideration of $37m payable in cash in three instalments, for a total of $635m. There is an earn-out component of up to $63m. Consideration will be funded by an institutional placement and entitlement offer.
A key feature of the deal is that both the vendors and Sealink senior management will own more than 40% of the group. In addition to cash of $329m the vendors will take $269m in Sealink scrip.
Ord Minnett downgrades estimates for FY20 earnings per share by -10% and upgrades FY21 by 17%. The broker retains a Buy rating with a $5.85 target and expects the stock will be re-rated post the acquisition, which requires the usual regulatory approvals.
The broker observes the Transit Systems business appears to have growth opportunities both in Australia and internationally, having already identified New Zealand and the US as areas of potential expansion. A material bus tender pipeline of $3.56bn has been slated across Australia, the UK, US and Singapore.
Taylor Collison expects the stock should trade at a 9.5x FY21 estimated enterprise value/operating earnings multiple in the first full year of ownership, reflecting the diversity of earnings and superior operating margins but also taking into consideration a large portion of the business is contracted. The broker has a target of $4.50 and upgrades to Outperform.
Notable risks, Ord Minnett suggests, include exposure to the variability in passenger numbers on several of the routes the company services. Sealink Travel is also a sole operator on a number of key routes and there is a risk that competition emerges.
A significant portion of revenue will be subject to long-term contracts and there is a risk that one or a number of these could be lost, which may have an adverse impact on earnings.
Ord Minnett notes around one third of the Transit Systems contracts are due for renewal in the next 12 months, and the company has already been informed it will likely lose the London contract, although brokers expect this is unlikely to be material to earnings. The company asserts it can more than compensate for the loss of the London contract by winning a new route to service the Joondalup region in Western Australia.
Transit Systems delivered pro forma operating earnings (EBITDA) of $78m in FY19. Sealink has called out net synergies of $4-4.6m and guided to FY19 pro forma accretion in the high teens, before synergies and transaction costs.
Baillieu also upgrades, to Buy, with a $5.20 target, and considers the deal compelling. This view is based on the company following its traditional business model of transporting passengers to a timetable. Contracted revenues will also increase to 83% from 34% of the group on a pro forma basis.
Management changes will occur, with the Transit System CEO, Clint Feuerherdt becoming CEO of the combined group. Mr Feuerherdt will take 100% Sealink Travel scrip as consideration for his stake in Transit Systems.
The current CEO of Sealink, Jeff Ellison, will assist in the change over and remain on the board as a non-executive director. Founding shareholder of Transit Systems, Neil Smith, will join the Board of Directors upon completion of the transaction.
Transit Systems was founded in 1995 with a single bus contract for Midland Western Australia. Contracts were then won in Adelaide and Sydney before expansion to London in FY13. Entry to Singapore occurred in FY16. In FY19 Transit Systems acquired Sita Group in Victoria.
Ord Minnett now describes Sealink Travel as an infrastructure management business, as this will provide 85% of revenue. The remainder is the tourism component. Sealink traditionally operated a fleet of 27 ferries offering passenger, freight and charter services which then expanded to barge services across south-east Queensland.
Captain Cook Cruises WA was acquired in 2016 and in 2018 the company acquired Kingfisher Bay Resort Group, which included 2 resorts, as well as tourism and ferry services on Fraser Island.
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