Aurizon (ASX: AZJ) operates rail haulage of coal, iron ore, and freight. It also operates the Central Queensland Coal Network on a lease from the Queensland government that runs until 2109, with competitor access and access charges strictly regulated.

The rail network contributes half of earnings, mainly through network tariffs. Coal haulage from mine to port contributes a third of operating income, while the noncoal bulk segment contributes less than 15% of earnings.

Bad weather and weak commodity prices stall recovery

Aurizon is at risk of missing the bottom end of the fiscal 2025 EBITDA guidance range of AUD 1.66 billion-AUD 1.74 billion. Key headwinds include tough operating conditions for some commodity producers and heavy rainfall in Central Queensland, which has disrupted coal production.

We cut our fiscal 2025 EBITDA forecast by 2% to AUD 1.64 billion and our 2026 forecast by 1% to AUD 1.71 billion due to ongoing bulk weakness partly offset by new corporate cost-out initiatives.

Fair Value cut but shares still look cheap

We downgrade our fair value estimate for no-moat-rated Aurizon by 2% to AUD 4.40 per share. It remains significantly undervalued, trading on an enterprise value/EBITDA of 7.5 with significant upside to earnings if operating conditions improve as we expect.

We expect a medium-term earnings recovery as weather normalises and new noncoal bulk and containerised freight haulage services ramp up. We forecast a five-year earnings per share compound annual growth rate of 7%, driven by the coal and bulk haulage businesses.

We think coal haulage earnings should be solid. Volumes were up 1% in the year-to-date as weak volumes in Central Queensland were offset by growth elsewhere.

Conditions in noncoal bulk haulage appear to be going from bad to worse, with another customer bankruptcy and volumes down 20% in the 10 months to April, year on year. However, bulk only contributes about 10% of group EBIT and conditions should improve in the medium term.

Aurizon’s Central Queensland rail network, which contributes nearly 60% of EBIT, is defensive. Volumes fell 2% in the year-to-date but partial take-or-pay contracts soften the blow and any remaining hit to earnings should be recovered via the normal regulatory process in fiscal 2027.

What about the long-term outlook for coal demand?

Morningstar forecasts relatively flat global seaborne demand for metallurgical coal—Aurizon’s most important commodity—over coming decades because there is no viable alternative in making virgin steel.

Chinese demand is likely to fall as its economy slows and shifts away from fixed asset investment, and as it increasingly relies on scrap steel that can be recycled in electric arc furnaces without metallurgical coal. However, falling Chinese demand is likely to be offset by growing demand from India and Southeast Asia.

These markets are far more reliant on seaborne metallurgical coal than China, which is well supplied internally. As such, economic development in India and Southeast Asia should have an outsize impact on seaborne metallurgical coal demand and be highly supportive of Australian exports.

While demand for thermal coal in the Western World is dwindling fast, we think rapid growth in electricity demand and young coal power station fleets in Asia underpin a solid outlook for at least a couple of decades. Even if demand falls faster than expected, exports from Australia should be well supported due to its high-quality mines and short distances to port.

In saying that, Aurizon’s Queensland rail network has a concentrated customer base and is heavily exposed to coal. These are key risks if coal exports fall short of our expectations over the longer term.

Aurizon (AZJ)

  • Fair Value estimate: $4.40 per share
  • Moat Rating: No Moat
  • Star Rating: ★★★★★

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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.