3 Ways SMRT Corporation Ltd Might Change Under the New Rail Financing Framework   

SMRT Corporation Ltd  (SGX: S53) made a key announcement last Friday.

The land transport firm proposed a sale of its rail business’s operating assets to Singapore’s government under the new rail financing framework (NRFF) and outlined how the business is about to change.

This development could be significant, since SMRT Corporation’s rail segment accounted for 52% of total revenue for the financial year ended 31 March 2016 (FY2016).

Here’re three ways the NRFF could change SMRT Corporation:

1. Emergence of asset-light business model

The Land Transport Authority (LTA) is the regulatory body purchasing operating assets from SMRT Corporation. The operating assets encompass a number of things, including trains, signaling and communication system, power supply, escalators and lifts, automatic fare collection system, and more. Here’s a snippet from the press release:

“As part of the transition to the NRFF, LTA will purchase the operating assets of the North South, East-West and Circle Lines held by SMRT Trains as well as the operating assets of the Bukit Panjang Light Rail Transit held by SMRT Trains’ wholly-owned subsidiary, SMRT Light Rail Pte Ltd.

The LTA will purchase these assets at an estimated total Net Book Value as at 30 September 2016 of S$991 million (S$1,060 million including GST), in accordance with the terms of the sale and purchase agreements signed between the parties.”

With the purchase, SMRT Corporation will transition to an asset-light business model. The land transport firm said that it will be focusing on two operational areas: providing quality service to commuters; and maintaining the trains to ensure a smooth ride.

2. Capital expenditures are likely to come down

Under the current rail financing framework (CRFF), SMRT was expecting to spend billions over the next few years on capital expenditures. The company explained in the announcement:

“Over the next five years, the total estimated capital expenditure of SMRT Trains under the CRFF could reach about S$2.8 billion.”

The shift to the NRFF is likely to relieve SMRT Corporation from the need to shell out billions in capital expenditure in the future. The firm’s operating cash flows and capital expenditures over the past few years are summarised in the chart below:

Source: SMRT Corporation’s earnings report and annual report

You can see that SMRT Corporation’s track record in generating free cash flow (operating cash flow minus capital expenditure) has been spotty over the timeframe we’re looking at. The shift to the NRFF could help boost the firm’s ability to generate free cash flow.

3. Debt likely comes down too

If the NRFF deal goes through, SMRT Corporation will receive the payments in tranches. The land transport firm will receive an initial payment of $797 million upon completion and the rest over the next three years. Here are more details from the announcement:

“Payment for the assets will be made in tranches: S$797 million will be made on the initial completion date, with the balance of the consideration payable over the next three anniversaries of the completion date.

SMRT Trains has provided warranties on the conditions of the assets. LTA will also carry out an assessment of the condition of the assets and is entitled to withhold payment for assets requiring rectification or replacement.”

The cash received could come in handy as SMRT Corporation has been in a net debt position in its last four fiscal years. The graph below illustrates SMRT Corporation’s level of cash and equivalents and borrowings in the past few years:

SMRT Cash Borrowings
Source: SMRT Corporation’s earnings report and annual report

With the payments received, SMRT Corporation expects to retire some of its existing debt. The company also indicated that it does not intend to pay a special dividend to shareholders. The following are words on the matter from the horse’s mouth:

“SMRT does not intend to use the proceeds from the asset sale to pay any special dividend to shareholders of SMRT Corporation Ltd. SMRT group’s total debt level is expected to be at S$762 million on 30 September 2016.

To be prudent, the Company intends to use part of the net proceeds from the Proposed Sale to retire some of its existing debt. A portion of this debt was used to fund investments in its rail operating assets.”

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore contributor Chin Hui Leong doesn’t own shares in any companies mentioned.