$8.25 for Sydney Airport? Tell em they're dreaming

Fund managers aren't surprised that a consortium comprising of superannuation funds has lobbed a $22 billion bid for Australia's only locally domiciled listed airport, and have dubbed the offer opportunistic. 

On Monday, superannuation-backed infrastructure fund IFM Investors, QSuper (soon to be merged with Sunsuper) and New York-based global investment manager Global Infrastructure Management offered the shareholders of Sydney Airport (ASX:SYD) $8.25 per share, in a bid to take the listed airport private.   

We reached out to long-time Sydney Airport backer Catherine Allfrey of WaveStone Capital, as well as the firm's senior analyst Kirsty Mackay-Fisher for a better look at the bid itself and whether or not it presents fair value for the asset. Plus, M&A specialist Luke Cummings of Harvest Lane Asset Management shares the potential upside and risks for investors in Sydney Airport. 

Why Sydney Airport?

Mackay-Fisher describes Sydney Airport as a unique, monopolistic asset. It boasts a dual till structure, and also only has "lighthanded regulations" of price monitoring. 

It's also located in quite close proximity to the CBD - and while on a constrained footprint, there remain significant development opportunities, Mackay-Fisher says. For instance, the opportunity set around the Gateway precinct. 

"It's a unique asset, with a very long concession life over 76 years remaining, and a pathway to very consistent cash flow growth over that duration," she says. 

In the broader context, the bid comes in the midst of a global pandemic, and a fresh round of border closures and shutdowns locally. 

"When you look at it from that perspective, it is undoubtedly a little bit opportunistic. And you can't blame them for that," Mackay-Fisher says.

And while the bid is at a 42% premium to the airport's closing price on Friday, she argues it is pretty much in line with where Sydney Airport was trading prior to COVID-19 at 22.5 times to EBITDA. 

"The offer that's been lobbed for the airport is effectively in line with its pre-COVID trading levels. From that perspective, you could say it's a fair value," she says. 

The question is whether the bidding consortium has given the airport's shareholders a premium for control, Mackay-Fisher says. 

Is the bid fair value?

Mackay-Fisher argues that within a global context - and in a world full of liquidity - assets of this kind have been going for premium valuations as competition ramps up among infrastructure funds. 

"Anecdotally, you can see it in how these funds are broadening the way they characterise their investment pools. We're moving away from the sphere of traditional assets like toll roads and airports to government concessions or data centres," she says. 

This movement is reflective of infrastructure funds trying to find less competitively bid for monopolistic assets, she says. 

"So they've been fairly opportunistic in bidding for this high-quality asset," Mackay-Fisher says. 

"That's a full valuation, but there's no premium for control. And so we think it's such a unique asset, in a world of scarce infrastructure assets, that the super funds should pay a premium." 

Will the board try to hustle for a higher price? 

That's where it gets particularly tricky, Mackay-Fisher says. 

"In this instance, Sydney Airport is subject to a couple of conditions with its ownership. One of them is a restriction on foreign ownership, it's capped at 49%," she says. 

"And then there's a cross-ownership restriction as well, which could cap IFM's interest in the airport at 15%."

This potentially limits the number of other investors that could counter-bid for this asset, Mackay-Fisher says. And thus, it falls on Sydney Airport's board to impress upon the bidding consortium the uniqueness of this asset to try and extract more value for shareholders.

Could other investors come out of the woodwork?

Allfrey points to Macquarie's infrastructure business MIRA as a possible investor that could come to the table with a counter bid. 

"MIRA's been very active in the last 12 months in this market, having bought Vocus (ASX:VOC, delisted) and Bingo (ASX:BIN, delisted) and they're operating companies, not true infrastructure businesses, and fairly cyclical," she says. 

"So from that perspective, we would think that MIRA would have another look." 

However, MIRA would have to get a consortium together because of the foreign control cap on Sydney Airport, Allfrey says - but that's not completely out of their realm of possibility. 

"Other investors may also look at it, particularly if Gonski and Matthew Grounds open their Rolodexes and start ringing up people," Allfrey says. 

Cummings agrees that MIRA is an obvious possible contender for the bid, pointing to Bingo and Vitalharvest (ASX:VTH, delisted) as fresh acquisitions by the firm. He also points to any combination of the country's large industry super funds, for example, AustralianSuper, as an obvious candidate. 

"I think it would be hard for an offshore player. You could have someone offshore with deep pockets participating as a minor equity participant, owning 10% or 15% of the consortium bid," he says. 

"But it gets pretty tricky beyond that." 

Does this put other infrastructure assets and listed companies 'at play'? 

Potentially. Mackay-Fisher argues this offer highlights the value of Australia's listed infrastructure names - many of which have been hit significantly from the movement restrictions that have been put in place throughout the COVID-crisis. 

Generally speaking, these assets have long concession durations - which gives a company the right to operate a business within a government's jurisdiction or on another firm's property for a stated period of time.

"So it gives the valuation of the assets a lot of resilience against these near term disruptions and we're seeing the recognition of that in the bid for Sydney Airport," she says. 

Another asset that could be seen as an acquisition opportunity is Auckland International Airport (ASX:AIA), Mackay-Fisher says, which is currently trading on a very similar multiple to Sydney Airport.

"I think there are a few additional complexities with Auckland Airport that you don't have with Sydney Airport," she says.  

"They've got a large council as a shareholder. So, similar to UniSuper, you would have to have them on board with the transaction. But certainly, it potentially refocuses the mind on what assets are still listed and available for investment." 

In contrast, something like Atlas Arteria (ASX:ALX) has suffered from greater disruption from the COVID lockdowns, as there are less than 14 years left on the concession life of its main asset, she says. 

"When you're losing a year or two of cash flow, it's a much greater proportion of that overall pie than if you're losing a year or two of cash flow in Sydney Airport's case where they have 76 years of the concession remaining," Mackay-Fisher says. 

Cummings points to companies like Deterra (ASX:DRR), an iron ore royalty company that was spun out of Iluka Resources (ASX:ILU), as a possible takeover target. 

"It's way cheaper for BHP to buy that back than it is to keep paying the royalty based on where the stock trades at the moment, but I'm not necessarily sure that's something that BHP would do," he says. 

"There are also a number of royalty companies listed elsewhere, in Canada in particular, that basically have a portfolio of these royalties like Deterra owns. I would have imagined that they're running the ruler over the stock as it currently stands." 

He also points to Webcentral Group (ASX:WCG) as a potential target, as well as Oil Search (ASX:OSH) and some of the better quality listed investment companies. 

"Obviously, Wilson Asset Management has just launched this new vehicle which is predominantly aimed at targeting undervalued LICs relative to NTA. That seems to be pretty low hanging fruit," he says. 

"If you were asking me to pick anything at the moment where I thought retail investors could safely buy some of these things that may get bids or may get some kind of catalyst to unlock value, I think some of the better quality LICs that trade at a discount currently. It's hard to see how that will continue to be the case indefinitely." 

New investors have obviously been brought to the fore following the announcement, is this a popular strategy? 

Allfrey notes the recent share price surge and the increased liquidity in Sydney Airport's shares is likely due to hedge fund event traders taking advantage of the bid announcement. 

"There were 40 million shares traded today. That's out of 2.7 billion," she says. 

Cummings agrees, arguing that it would be predominantly offshore funds that would be buying into Sydney Airport now. 

"A lot of domestic fund managers who just own Sydney Airport because it's cheap or undervalued would be selling into some of the share price strength," he explains. 

"It's just a different type of manager or fund that wants to be in this stock now versus who would typically be the case." 

He points to the recent takeover of beverages giant Coca Cola (ASX:CCL, delisted), where newly invested hedge funds were able to improve the initial bid by "talking their own book". 

"In the case of Coca Cola, that's exactly what happened, they got a small bump," he says.

"If you think about what happened in Boral (ASX:BLD) recently, with Seven Group (ASX:SVW), same thing. So after that initial approach, I think the register composition changes a lot, where you end up with lots of hedge funds on the register rather than necessarily the stock standard institutions who you would expect to own it otherwise." 

He likens investing in a company following an announcement of this kind to putting a house up for sale.

"If there's a sale process underway, the chances of finding someone to buy it are much greater than if you just own a house and hope that someone's going to come and knock on your door one day and offer to buy from you," Cummings explains. 

"Most event-driven hedge funds would be similar, buying things once there has already been an approach, or better yet once there's an actual binding enforceable bid on the table." 

Cummings and his team bought some shares in Sydney Airport following the announcement but notes that he typically prefers transactions that are binding. 

"The problem with Sydney Airport now is that its share price has gone up in response to the approach, but it's still non-binding and subject to due diligence," he says. 

"We know who the major players are but we don't know how they're proposing to split the respective ownership stakes. We don't know how it's going to be funded. We don't know if there are any regulatory issues." 

He argues that it would make more sense for a typical long-only investor to sell some or all of their holdings in the airport than to wait for the transaction to play out. 

"If I was advising retail investors about transactions to participate in for stocks that are under takeover, Sydney Airport wouldn't be one that we would necessarily recommend. There's still too much uncertainty or downside risk involved in the transaction," he says. 

In contrast, while Allfrey notes that some investors may be happy to take a profit and move on, others have more time to sit on their holding. 

"It could be early next year, probably February or March before this completes, one way or another. And so, you have to compare it to the rest of your portfolio. If there's a cash bid on the table it ends up being very defensive, doesn't it?" Allfrey says. 

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