DPU surprises on the upside

Time lag impacts 2Q10. CitySpring Infrastructure Trust reported a 11% QoQ increase in 2Q10 revenue to S$92.1m but a 31% fall in cash earnings to S$9.6m. The negative variance was primarily due to the short-term timing mismatch between changes in City Gas’ tariff revenue and fuel costs, which we understand have shot up significantly over the last six months. City Gas raised its tariff by 7.5% effective 01 Aug and by 13.8% effective 01 Nov. Over time, City Gas should be net neutral to fluctuations in fuel costs. Basslink’s telecoms network made its maiden contribution to cash earnings this quarter.

DPU surprises on the upside. CitySpring declared 1.05 S cents in 2Q10 DPU, down 40% YoY and QoQ because of the enlarged post-rights unit base. This was 5% higher than the pro forma 1 S cents estimate. The manager said CitySpring will target the same quarterly payout for the remainder of FY10. The 4.2 S cents annualized payout outperforms our 3.9 to 4 S cents annual estimate. The manager said that the trust increased the absolute level of payout (S$41.2m versus S$34.3m) because of its “comfort” with the performance of the three businesses.

Looking ahead after the cash call. We believe CitySpring will likely be able to deliver gradual (but modest) organic growth in distributions in the long term, driven by increasing City Gas volumes and the fledgling telecoms business at Basslink. Still, significant income growth will (in our opinion) have to be fueled by external growth. The rights issue has improved CitySpring’s ability to consider such growth. One major project coming up is the City Gas network conversion project, where discussions continue with the regulator. At IPO, the project cost was estimated at S$200m (over a period of five years). The manager continues to explore acquisition opportunities but reiterated its skepticism of hard-and-fast yearly targets and its insistence on acquiring on its own terms. Our interpretation: don’t expect anything too soon.

Defensible yield. Our earning estimates now reflect actual 1H10 results. We note the manager is still in discussions with DBS Bank on the terms of the planned new revolving credit facility. Our DDM-derived valuation assumes a 6.4% discount rate and a 0% terminal growth rate. On this basis, our fair value estimate for the trust is 68 S cents (unchanged). The annual yield of 7.3% is fairly defensible in our view, because of the stability inherent to the business models of the three regulated assets. Maintain BUY (29% total return).

CitySpring in $235m rights issue

Cash call to pay down debt and position company for new investments and possible acquisitions

CITYSPRING Infrastructure Trust said yesterday that it is raising $235.2 million through a rights issue to reduce its bank debt, readying it for new investments and potential acquisitions.

Fai Au Yeung, chief executive of CitySpring’s trustee-manager, said that the capital raised from unit-holders will give it greater flexibility to grow by investing more in existing assets or buying new assets.

CitySpring said that it expects to save $4.7 million a year from the debt reduction, which will also free up its ability to borrow more in future.

Existing unit-holders are being offered one new unit for every unit they hold, or 489.97 million units in total, at 48 cents each – a 38.5 per cent discount to the closing price of 78 cents on Thursday.

CitySpring’s unit price ended 3.8 per cent lower at 75 cents yesterday.

‘The cash call is no surprise and we view it positively,’ OCBC Bank analyst Meenal Kumar said in a report. Paying down debt ‘clears part of the overhang’ created in 2007 when CitySpring bought Basslink, an undersea electricity transmission cable in Australia, for A$1.177 billion ($1.42 billion) in a deal financed purely by debt, Ms Kumar said.

‘The trust can now shift out of neutral gear and seriously consider growing its asset base over the next 12 to 18 months,’ she added.

Temasek Holdings, which owns the trustee-manager and is CitySpring’s largest unit-holder with a 27.77 per cent stake, has agreed to subscribe to at least 27.77 per cent, and up to 32.01 per cent, of the rights issue, through a sub-underwriting agreement.

That means Temasek’s stake in CitySpring could rise to as much as 29.9 per cent at the end of the offer, if it is allocated rights units that other unit-holders do not buy. That would still be below the 30 per cent shareholding threshold at which Temasek would be forced to make a general offer to buy out the rest of CitySpring’s unit-holders, under Singapore Exchange rules.

Temasek’s backing for CitySpring’s cash call is reminiscent of its support for DBS Group’s own $4 billion rights issue last December. At the time, Temasek, DBS’s biggest shareholder with a 27.6 per cent stake, agreed to subscribe for up to a third of the DBS rights shares.

DBS and UBS are managing the CitySpring rights issue and have fully underwritten the offer.

The rights issue is renounceable, which means unit-holders who choose not to invest more money in CitySpring by subscribing for the rights units can sell the rights on the market, though that would mean their own stake in the trust would be diluted.

The estimated net proceeds of $227.5 million will be used to repay part of a $370 million loan that CitySpring took out with DBS last year.

Mr Fai said that CitySpring is negotiating with DBS to replace that term loan with a more flexible revolving credit facility that can be tapped repeatedly for up to $370 million when needed, even after part of the loan is repaid.

CitySpring has received in-principle approval for the revolving loan, which will have a term of at least two years, although the details have yet to be finalised, he added.

On Tuesday, CitySpring said its cash earnings – which it uses to gauge its performance as a business trust – fell 22 per cent to $13.9 million for the three months to end-June from a year earlier, as revenue slid 17 per cent to $82.8 million.

Mr Fai said that CitySpring is ‘always looking’ for possible acquisitions but has not found a good deal since its Basslink acquisition.

‘Right now there are a lot of potential deals, but nothing which is attractive from a valuation perspective,’ he said.

‘Our primary region is Asia-Pacific. We’re not going to look for things that are particularly exotic or not well-regulated.’

CitySpring will consider acquisitions outside Asia-Pacific, but only if the reasons are ‘compelling’, he said.

‘Anything in Singapore, we are going to be particularly interested in. But there’s nothing I can see on the horizon at the moment.’

Asked what types of assets CitySpring would be interested in, he said: ‘I don’t think we would stray too far from traditional definitions of infrastructure. We’re not going to do mobile operators or airlines. It would be very traditional classes of infrastructure assets.’

Finally calls for cash

Rights issue to raise S$235.2m gross. CitySpring Infrastructure Trust (CitySpring) has announced a fully-underwritten renounceable one-for-one rights issue to raise gross proceeds of approximately S$235.2m. The rights issue price is S$0.48 per rights unit, or a 38.5% discount to yesterday’s close of S$0.78. The theoretical ex-rights price (TERP) is S$0.63 per unit. Sponsor Temasek Holdings will take up its full pro-rata entitlement of 27.77% of the rights units, and will sub-underwrite another 4.24% of rights units.

Repaying debt at the trust level. The estimated net proceeds of S$227.5m will be used to repay part of the S$370m DBS term loan at the trust level. The manager disclosed that it intends to replace that facility with a revolving credit facility (RCF) for the same S$370m amount (with only approximately S$142.5m drawn). CitySpring has received in-principle approval from DBS for the RCF but terms and costs are still being negotiated. The manager estimates net interest savings of S$4.7m per year, which takes base management fees and RCF running costs into account (but not any upfront fee). Using this estimate, it calculates pro forma 1Q10 DPU to be 1 S cent on the enlarged units base versus 1.75 S cents current.

Call gives new flexibility. The manager said the rights issue and the committed RCF gives CitySpring flexibility both in terms of funding power and timing. This flexibility could potentially be deployed towards funding acquisitions or enhancement opportunities at existing assets. The latter opportunities could include investments in the new telecoms business at Basslink or partially funding the gas network conversion program at City Gas (which could start as soon as 2HCY10).

Valuation. The cash call was no surprise, and we view it positively as it clears part of the overhang of the 100% debt-financed Basslink acquisition. The trust can now shift out of ‘neutral gear’ and seriously consider growing its asset base over the next 12 to 18 months. No post-rights DPU guidance is given. We believe it will be determined by the exact RCF terms and the timing/extent of any enhancement plans. If payout is unchanged, we believe an annual post-rights DPU of 3.9 to 4 S cents is a fair benchmark (a yield of 6.2-6.3% on the TERP). While this per-unit number is lower, the rights issue has created scope for DPU growth that was previously absent (in our opinion). Maintain BUY with S$0.84 fair value estimate, with earnings estimates unchanged for now. Ex-rights fair value would be S$0.68.

Flat DPU Guidance Despite Strong Cash Earnings;Lacking Near-term Catalysts

Quick Comment: CitySpring’s FY4Q09 cash earnings of S$21.8 million were higher than our expectations and comparable to the previous quarter’s, despite a downward revision to City Gas’s tariff in February 2009 to adjust for lower fuel costs. Management’s FY10 dividend guidance of S$0.07 implies a 13% yield, which is attractive compared to that of REITs, in our view. The stock has risen 5% since the beginning of May but has underperformed the STI, as concerns remain on the trust’s inability to grow inorganically, due to the current credit crunch.

What’s new: CitySpring reported 4Q09 (January-March 2009) revenue of S$97.3 million (-3.8% QoQ, +1.5% YoY), due mostly to higher revenue from SingSpring. Despite a tariff reduction in February 2009, cash earnings were higher than our expectations at S$21.7 million (+7.6% QoQ, +7.3% YoY). Net losses declined significantly to S$0.4 million (3Q09: -S$21.3 million), due to a S$8.9 million fair value gain on derivative financial instruments.

What we liked: 1) Cash earnings protected by interest rate floor; 2) CRSM was positive for first three months of the year, cumulative availability above 97%; and 3) Basslink Telecoms will be operational by the middle of the year and provide organic growth.

What we did not like: 1) No increase in dividend payout for FY10; 2) CRSM for full year was negative, due to low volatility; 3) write-down of intangibles on the Telecoms Agreement amounting to S$11 million; and 4) reduced gross margin for City Gas as a result of the tariff reduction.

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