Australia’s refined fuel reserves are steadily falling as the Iran war takes a toll. Australia has about 35 days of petrol supply (down from 60 in late February) and is highly dependent on imported fuels. Some scheduled shipments have been canceled, as oil shortages affect export nations.

Why it matters: The Australian government and industry are trying to secure more supply of refined fuels, but the sharp reduction in oil supply from the Middle East means countries highly dependent on imports, like Australia, will likely face shortages.

  • We think rationing is likely in Australia, which will weigh heavily on toll road traffic volumes. In the US, which is far more self-sufficient in fuel, we assume slightly lower traffic volumes because of high fuel prices.
  • Our fiscal 2026 and 2027 proportional EBITDA forecasts fall 11% and 21%, respectively. The DPS falls 15% and 30%. But we expect a recovery in fuel supply and strong growth in electric vehicle sales to drive a medium-term rebound in traffic volumes. Our fiscal 2030 EBITDA forecast sits just 2% below our prior estimate.

The bottom line: We downgrade our fair value estimate for wide-moat Transurban (ASX: TCL) by 5% to $13.30 per share due to lower earnings forecasts. Uncertainty about near-term earnings is high, and our forecasts are rough estimates. We expect more details in the coming weeks. Shares are fairly valued.

  • In our base case, Transurban’s net debt/EBITDA rises to 10 in fiscal 2027, and EBITDA interest cover falls to 2.1 times. These credit metrics aren’t too bad, and we don’t foresee a covenant breach.
  • If fuel rationing is worse than we expect or persists for longer, there could be implications for debt covenants and refinancing. However, like during the pandemic, we think lenders and governments would be highly supportive of good-quality firms hurt by temporary measures.

Potential fuel rationing is a risk to near-term earnings, but longer-term outlook is solid

Transurban is a major toll road investor with concessions to operate motorways in Australia and North American. Concessions grant the right to operate the roads and collect tolls for predetermined amounts of time. The core Australian roads are integral parts of the motorway networks in Australia’s three largest cities: Melbourne, Sydney, and Brisbane. The roads benefit from strong competitive advantages, and the assets generate attractive returns on initial investment, warranting a wide economic moat rating.

Granting toll road concessions allows governments to use private capital and expertise to provide necessary improvements to road networks. Typically, concession life and toll profiles are set in negotiation prior to the road’s construction, with the intention of providing a fair return for investors. Tolls increase in line with the consumer price index or at an agreed fixed rate, though some roads with meaningful competition have dynamic tolling, such as Transurban’s US investments. When concessions end, the company returns the roads to the government for no consideration, after repaying all related debt.

Operating cash flow should increase strongly during concession lives, as solid revenue growth, driven by rising tolls and traffic volumes, is leveraged over a mostly fixed cost base. Cash flow available for distribution to investors increases in line with a road’s operating cash flow until about 10 years before the concession life ends; thereafter, a portion of operating cash flow is used to repay debt. Cash flow stops when concessions end. Concessions on the Australian roads are set to end between 2026 and 2065. Including the long-life US assets, the weighted average is about 25 years. To extend its existence, Transurban will look to build new roads or undertake road upgrades that may require new equity issues or increased financial leverage, given that the firm currently pays out all free cash flow as distributions to investors.

Typically, cash flow is defensive and grows strongly, but returns are lower than they appear at first blush, given that the road concessions have finite lives.

Bulls say

  • Core Australian roads generate defensive revenue that grows with traffic volumes and toll price increases, which are at a minimum pegged to inflation. Solid revenue growth and a high fixed-cost base translate to strong cash flow and distribution growth.
  • Transurban owns high-quality infrastructure assets with limited regulatory risk.
  • There are attractive organic growth opportunities, such as potential widening of roads.

Bears say

  • Building and acquiring new roads can destroy equity value as a result of overbidding and overly optimistic traffic forecasts.
  • Transurban has high financial leverage. This could be an issue if there is another pandemic, fuel rationing or other disruption to traffic volumes.
  • Bond yields are likely to trend higher, detracting from profitability and the attractiveness of its distribution yield.

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Terms used in this article

Star Rating: Our one- to five-star ratings are guideposts to a broad audience and individuals must consider their own specific investment goals, risk tolerance, and several other factors. A five-star rating means our analysts think the current market price likely represents an excessively pessimistic outlook and that beyond fair risk-adjusted returns are likely over a long timeframe. A one-star rating means our analysts think the market is pricing in an excessively optimistic outlook, limiting upside potential and leaving the investor exposed to capital loss.

Fair Value: Morningstar’s Fair Value estimate results from a detailed projection of a company’s future cash flows, resulting from our analysts’ independent primary research. Price To Fair Value measures the current market price against estimated Fair Value. If a company’s stock trades at $100 and our analysts believe it is worth $200, the price to fair value ratio would be 0.5. A Price to Fair Value over 1 suggests the share is overvalued.

Moat Rating: An economic moat is a structural feature that allows a firm to sustain excess profits over a long period. Companies with a narrow moat are those we believe are more likely than not to sustain excess returns for at least a decade. For wide-moat companies, we have high confidence that excess returns will persist for 10 years and are likely to persist at least 20 years. To learn about finding different sources of moat, read this article by Mark LaMonica.