Terms and Valuation Impact of Crown Deal

From: http://www.treasury.govt.nz/media/FNZC_pres.pdf

Terms and Valuation Impact of Crown Deal
MATERIALS FOR DISCUSSION
CONFIDENTIAL | JUNE 2003
NZ Treasury - First NZ Capital

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CONFIDENTIAL

Key Terms

Crown has provided Tranz Rail with a $ 44 million short term deposit

Crown to provide Tranz Rail with an additional $ 126 million in cash:

$ 50 million for surrendered land and leases

$ 75.8 million for a 35% shareholding in Tranz Rail

Crown to have right to nominate 3 out of 7 directors

Crown will:

Purchase the Rail Network for $ 1

Assume the related expenses and capex obligations

Crown will commit to $ 100 million investment programme on the Rail Network

Tranz Rail to have exclusive access to the Rail Network for approximately 68 years subject to “ use it or lose it” criteria

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Access Pricing Principles

Overriding principle - access charges to be set at levels that are expected to ensure that Tranz Rail is commercially viable

Charges to be set on a forward-looking basis every three years:

Tranz Rail’s actual returns may differ from its expected returns used in setting the charges

Charges will not be adjusted within the three year period

Accordingly, Tranz Rail may earn more or less than its WACC

Charges to be set so that Tranz Rail is expected to make an economic return of not less than zero:

Economic return equals NOPAT less capital charge

Explanatory memorandum and following pages provide a guide to the calculation of NOPAT and capital charge

Access charges to be capped so that Trackco does not earn an economic return greater than zero:

If applicable, Tranz Rail can earn more than its WACC

Access charges for nine months to 30 June 2004 fixed at 9/12ths of $ 55 million

Tranz Rail’s access charges for the 2005, 2006 and 2007 financial years will not exceed:

$ 60 million, $

65 million and $

70 million, respectively

FNZC estimates that Tranz Rail’s access charges will be below these level

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NOPAT: First NZ Capital Estimates

Net operating profit after tax is calculated:

After depreciation but before amortisation of goodwill

Before interest expenses on debt and interest costs implicit in leases

Excluding lease payments relating to capitalised leases ( but including depreciation on leased assets)

Based on cash tax

For Tranz Rail, NOPAT excludes revenues and expenses not related to rail and ferry operations

For Trackco, NOPAT excludes revenues and expenses not directly related to the provision of rail infrastructure services ( e.g. property and sub-leases)

Calculation of Opco's NOPAT FNZC Estimate
(NZ$m) FY2004
EBIT 49.1
add back GATX Charge 20.3
less GATX Depreciation Charge - 6.1
Unlevered Tax 0.0
NOPAT 63.4

Calculation of Trackco's NOPAT FNZC Estimate
(NZ$m) FY2004
EBIT 5.3
Unlevered Tax 0.0
NOPAT 5.3

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Operating Capital: First NZ Capital Estimates

Operating capital is calculated as the sum of the depreciated book value of fixed assets, capitalised leases of operating assets and net working capital

Assets will be valued at accounting book value based on GAAP

For Tranz Rail, operating capital excludes assets ( including working capital) not directly related to Tranz Rail’s rail and ferry operations

For Trackco, operating capital is based on the acquisition price for the Rail Network ($1) Calculation of Opco's Operating Capital FNZC Estimate

(NZ$m) FY2004
Average Fixed Assets 341.3
Average GATX Balance 54.8
Investments 5.0
Net Working Capital 20.2
Operating Capital 421.3
Calculation of Trackco's Operating Capital FNZC Estimate

(NZ$m) FY2004
Average Fixed Assets 12.4
Investments 0.0
Net Working Capital 3.3
Operating Capital 15.7

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WACC: First NZ Capital Estimates

Calculation of WACC based on generally accepted methodology in New Zealand

Tranz Rail and Trackco are to have the same WACC except for:

Availability of tax losses

Different proportions of debt and equity

FNZC’s key assumptions:

Tax rate of 33%

Post-tax market risk premium of 7%

Asset beta of 0.45

Gearing equal to average book values of debt and equity over three year period

This produces the following WACC estimates for FY2004:

9.3% for Tranz Rail

7.1% for Trackco

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Valuation Impact of Crown Deal: First NZ Capital Estimates

FNZC has conducted an indicative valuation of Tranz Rail based on FNZC’s assumptions and projections reflecting the impact of the Crown deal

FNZC’s indicative valuation of Tranz Rail is $ 1.30 per share:

Reflects the impact of the equity placement to the Crown

Excludes the benefits associated with Trackco’s $ 100 million capex programme

The increase in Tranz Rail’s value is mainly attributable to:

A net reduction in Tranz Rail’s cash outgoings of approximately $ 20 million per annum

Approximately $ 0.15 per share associated with the reduction in Tranz Rail’s operating leverage

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Conclusion

The Crown deal:

Reduces Tranz Rail’s operating expenses

Relieves Tranz Rail of the capital expenditure required to maintain and upgrade the Rail Network

Substantially reduces Tranz Rail’s risk

First NZ Capital estimates that the value of Tranz Rail under the Crown deal is $ 1.30 per share

This exceeds the value of Toll’s offer at $ 0.95 per share

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