Cover Story 2: A reboot for toll highways
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This article first appeared in The Edge Malaysia Weekly on April 11, 2022 - April 17, 2022

IT was not a secret that a corporate exercise involving highways under Gamuda Bhd was in the offing. Nevertheless, the timing and the structure of the corporate exercise that was put in place caught the market by surprise.

Until early last Monday, nobody knew of the existence of an entity known as Amanat Lebuhraya Rakyat Bhd (ALR). But by late afternoon, ALR was hogging the limelight. Prime Minister Datuk Seri Ismail Sabri Yaakob and Works Minister Datuk Seri Fadillah Yusof announced that the company would take over the four highways under Gamuda and its associate company Lingkaran Trans Kota Holdings Bhd (Litrak).

The four concession companies and their respective highways to be taken over by ALR are Kesas Sdn Bhd (Kesas Expressway), Syarikat Mengurus Air Banjir dan Terowong Sdn Bhd (SMART Tunnel), Sistem Penyuraian Trafik KL Barat Sdn Bhd (SPRINT Expressway) and Lingkaran Trans Kota Sdn Bhd (Damansara-Puchong Expressway, or LDP).

Kesas is 70%-owned by Gamuda, while the remaining 30% is held by Perbadanan Kemajuan Negeri Selangor (PKNS). SMART is a 50:50 joint venture between MMC Corp Bhd and Gamuda.

As for SPRINT, Litrak holds 50% equity interest in the highway concessionaire, while Gamuda and Kumpulan Perangsang Selangor Bhd (KPS) hold 30% and 20% respectively. LDP is wholly-owned by Litrak, which in turn is 43.17% controlled by Gamuda. Hence, Gamuda’s effective interest in SPRINT is 51.6%.

To recap, under the government’s proposal, Gamuda and Litrak received offers from ALR to buy up the entire equity interest in the highway concessionaires in a deal that would eventually see the toll charges for the use of the highways being abolished. ALR values the four highways at RM5.4 billion, including debts of RM2.06 billion.

ALR plans to raise funds through the issuance of a sukuk and repay sukuk holders using the net proceeds from the toll collection. After the sukuk has been repaid, the company will hand over the highways to the government.

An integral feature of the proposal is the extension of the concession period of the highways of between six and 10 years. In return, the toll rates remain unchanged and collection will cease when the proceeds are sufficient to redeem the sukuk. The target date for this is May 2032.

Since the proposal was announced by the prime minister and works minister themselves, the government’s green light is a given.

As for shareholders of Gamuda and Litrak, it is unlikely that they will oppose the proposal because it allows them to exit an investment that has been on their books for more than 20 years. Also, the surplus cash flow will come in handy when bidding for new infrastructure jobs.

The proceeds from the sale of the highways will turn Gamuda into a net cash company of RM600 million, compared with net debts of RM1.7 billion now. KPS is likely to get RM181 million, while the transaction values Litrak at RM2.698 billion, or an indicative price of RM5.08 per share.

Take-up of bonds

A corporate exercise involving highways under Gamuda has been on the cards for more than seven years. It gained traction in 2019, when Pakatan Harapan (PH) was in control of Putrajaya, with the transaction valued at RM6.2 billion at the time.

Gamuda deputy group managing director Mohammed Rashdan Mohd Yusof still remembers the day when the deal was scuttled. “We were supposed to sign the SPA (sale and purchase agreement) with the government in February 2020, but that was when Tun Dr Mahathir Mohamad resigned as prime minister,” he tells The Edge in an interview.

The journey has been long and arduous for Rashdan, who has been working on monetising the highways for more than four years. After the PH deal was put on the back burner, he continued to work on another proposal.

A highway trust was then proposed, where the highways would be injected into a trust that would issue bonds that come with a partial government guarantee (GG). Meanwhile, the bonds would be repaid through the proceeds from the toll collection, with the GG being an added assurance. However, this proposal did not get the approval of the government as it did not want to increase its liabilities.

Early last year, ALR approached Gamuda with the current proposal. The discussions eventually culminated in the announcement by the prime minister last Monday.

Rashdan feels that nobody loses out under the current proposal. He explains that although the extension of the concession period is between six and 10 years, the sukuk is expected to be fully redeemed by 2032, based on a base case traffic volume compound annual growth rate (CAGR) of 1.7% per annum.

“The redemption date is based on the assumption that traffic grows at 1.7% and toll rates remain. If traffic growth is higher than 1.7%, the sukuk should be able to be redeemed earlier,” he says.

Rashdan thinks ALR will issue the sukuk in a series of tranches up to 15 years and it should qualify for a good rating, maybe even AAA.

Although the sukuk is expected to get a high rating, investors will still want some kind of assurance that the paper will be redeemed in the event there is a situation that is beyond anyone’s control that causes a reduction in traffic.

“The problem with long-term paper is that the cash flow cannot be predicted with certainty. For instance, if there is another lockdown, it will affect traffic flow and toll collection. Bond investors would want some kind of protection against such downside,” says an analyst who follows the bond ratings of highways.

The analyst points out that Maju Expressway Sdn Bhd’s MEX Highway bonds were downgraded due to the drop in traffic during the pandemic.

 

See also “Slippery road to toll-free highways’ on Page 39

 

The mechanics of the deal

In a recent interview with The Edge, Gamuda deputy group MD Mohammed Rashdan Mohd Yusof explains the mechanism of the proposal made by ALR and why he thinks it will be beneficial to all stakeholders involved — the government, the highway concession companies and the rakyat.

 

The Edge: The proposal by Amanat Lebuhraya Rakyat Bhd (ALR) doesn’t look very different from a highway trust, wouldn’t you agree?

Mohammed Rashdan Mohd Yusof: That is correct, but I wish to highlight that ALR is a private company formed under the Companies Act. It is not a trust. ALR shareholders are not-for-profit and cannot extract any dividends. It is because of this mechanism that they can reduce the concession period for the highways because all the excess funds will go toward redeeming the sukuk.

 

Previously when the highway trust was suggested, the issue was the extension of the concession agreement until the trust was able to redeem the bonds. Does that issue still exist here?

That is still the case. The extension that has been provided is approximately six years for Kesas and SMART and 10 years for LDP and SPRINT.

As mentioned by Works Minister [Datuk Seri Fadillah Yusof], the extensions of six and 10 years effectively is only a buffer. The extension actually depends on the traffic growth. So, if the traffic growth is good, the concession period will be shorter because the sukuk will be paid earlier.

For example, for the LDP, the expected tollable period is projected to end in May 2032 [if traffic conditions are appropriate], which is less than two years from its existing concession that ends August 2030. For the SPRINT highway, [Damansara and Pantai], it will actually be shortened by two years and seven months from their existing concession at the end of December 2034. For SMART, the concession will be shortened by 10 years and seven months from its existing concession end date of December 2042.

 

Kesas and LDP are mature highways, so their base traffic is already quite high compared with the other highways being sold to ALR, namely SPRINT and SMART. Assuming that the concession period for these two highways ends in May 2032, is it then correct to assume that the extensions to the existing concession periods of three years and nine months for Kesas and one year and nine months for LDP are enough to cover the shortfall for the rest of the highways, which have shorter concession periods?

That is correct, because the issuance of the sukuk is at the holding company (ALR), so all these cash flows are aggregated, and because Kesas and LDP are two huge pillars with massive cash flow engines, their cash flows are sufficient to cover any potential shortfall, although we don’t anticipate any free cash flow deficits from the two smaller highways.

 

Assuming that the traffic flow is as projected and everything is on a par with the concessions scheduled to end in 2032. Can motorists then expect to see the toll booths being brought down?

ALR would not know what the government’s plans are once it gives the concessions back. But of course, the hope and expectation are for the toll booths to be taken down.

As for ALR’s financials, according to its own website, it says it will be transparent and provide such info bi-annually, so that all of us can gauge when it can deliver its mandate of returning the concessions.

 

Will there be an extension to the tolling period should there be some kind of upgrade to the highways, whereby further capital expenditure (capex) is required?

All these highways are highly mature, and there are no road reserves left, so there is unlikely to be any lane expansion to these highways, as it is physically impossible. So, there won’t be any major capex required, just operations and maintenance (O&M) expenses.

 

For these highways that will have an extension to their concession period, will they now have to sign an amended agreement?

Once the boards of the holding companies of the four concession companies have approved and accepted the offer, we will make the announcement that we have accepted. And on the same day, the new concession agreement will be signed.

My understanding is that the new concession agreement will mention the extension of just under six years for the Kesas/SMART concessions and just under 10 years for LDP/SPRINT. It will also state that the concession is to be immediately returned to the government upon early redemption of the sukuk.

It will also state that the toll rates are to be frozen at the current rates until the end of the concession. Because there is no difference between the new concession rate and the current toll rate, the compensation payments from the government will hence be nil.

The supplemental concession agreement will be signed as soon as the offer is accepted by the boards, which hopefully will be in the next fortnight. After that, we have to go through the EGM (extraordinary general meeting) process and so does Litrak, which we hope to hold next month in May. Once we get the green light from our shareholders, hopefully ALR’s sukuk can be issued and we get our payment latest by early June.

This new concession agreement will be only effective once ALR pays us the money and the acquisition is complete.

 

Who dictates what targets ALR will set moving forward, as the holding company of the four highway concessions?

My understanding is that ALR does not have a collection target per se, as we ourselves never had a collection target imposed on us either. After all, it is structured as a ‘not-for-profit’ entity. All free cash flow collected from the tolls, after operating expenditure (opex) and capex, will be ring-fenced and used solely to service interest and principal payments for the sukuk.

ALR cannot pay any dividends or make any distributions to shareholders or any third parties, so surplus funds will be used for the early redemption of the sukuk.

 

Is the CAGR of 1.7% per annum the benchmark for the concessions ending by May 2032?

The simulation for when the concessions are supposed to end was done based on a projection by independent consultant Jacobs, of a traffic volume CAGR of 1.7% per annum. Based on this traffic projection, the concessions can all end by May 2032.

So, if the growth in traffic is better than 1.7% per annum, then the concessions will end even earlier. But on the flipside, if it is worse than 1.7% per annum, then the concessions will end slightly later, perhaps one year later. Bear in mind that the toll rate here does not increase, so that will be highly conducive for traffic growth. The more traffic there is on the highways, the shorter the concession will be. It is as simple as that.

 

If traffic falls below the projection of 1.7% CAGR per annum, you have a buffer to increase the tenure of the concession?

Yes. For example for the LDP, the existing concession ends in August 2030. But with the extension of just under 10 years as a buffer to the sukuk holders, the new concession ends in July 2040, which is the maximum extension period for the concession. If traffic growth, for example, declines to, say, 1.1% per annum, then probably another 1½ years or so would need to be added to this projection. So instead of May 2032, the concession will probably be extended until November 2033 or by early 2034, which is fine because it is still well within the maximum extension given.

 

So by 2034, the sukuk will be redeemed and the concessions will come to an end?

My understanding is based on the more prudent expectations of the rating agencies, where they would take a conservative haircut to the 1.7% CAGR per annum growth. Their [rating agencies] projection will probably be less than 1% traffic growth. Even at that rate, the concessions will probably end by the year 2034. Nonetheless, according to the Jacobs report prediction, the concessions will come to an end by May 2032.

 

What if the highways hit the 1.7% growth target, but then the sukuk is not fully repaid by 2032. Is there a possibility of something like that happening?

No, because the 1.7% CAGR per annum growth in traffic has been accompanied by some very prudent opex budgets too. In fact, in all likelihood, if they meet the 1.7% and the management team is more efficient with their opex, it might save a few months from the May 2032 end date. It might even be slightly earlier, say, February or March 2032.

 

What has been the historical aggregate traffic growth for the highways in the past 15 years, stripping out the two pandemic years of 2020 and 2021?

For the past 15 years up to 2019, the historical aggregate traffic growth was about 2% CAGR.

 

Has the traffic growth been lower in the past two years?

During the MCO (Movement Control Order), it was terrible. But the minute there was the RMCO (Recovery MCO), traffic jumped straight back up. Right now, traffic is more or less what it was at pre-pandemic levels.

 

Who guarantees the sukuk?

My understanding is that nobody guarantees the sukuk. There is no government guarantee, no public funds used, no recourse to the government whatsoever. So, this proposal is completely off the balance sheet for the government.

 

But then who bears the risks if there is insufficient cash flow to service the sukuk?

The structure has been de-risked so much that it can withstand even the worst-case scenarios, which is why I believe ALR is applying for an indicative ‘AAA’ rating.

 

What is the worst-case scenario? What would be the biggest risk?

The worst case is if you have a pandemic every year from now on and you have a ‘no growth at all’ scenario for the next 15 to 20 years from current levels of traffic. But clearly, you can see that such a scenario is highly unlikely to ever happen.

 

Generally, ALR is going to issue a series of tranches. What is the tenure of the longest-dated sukuk?

I believe ALR will probably issue its longest tranche at maybe 15 years. I think they must have a call structure because the government wants ALR to redeem the sukuk early and they expect everything will end in 10 years. So, the sukuk must have a call structure where in the 10th year, they can call everything.

 

So this whole mechanism will not work if there is no extension to the concessions granted?

Yes. The full extensions must be there to comfort the sukuk holders who are funding ALR 100%. Hence, it is crucial. Nonetheless, for the motorists, the actual extension is much shorter, as ALR effectively has a ‘concession period reduction’ obligation. The concession must end when the sukuk is fully repaid and ALR must redeem the sukuk as soon as possible.

 

Do you foresee a competing offer coming into play?

No, because everyone else is very profit-motivated.

 

What if a competing bid comes in with the same amount offered by ALR, and they say they can also reduce the toll rate?

If they [a profit-motivated competitor to ALR] do that, what will happen is the concession will just be very long. And if the concession is too long, the bondholders will object because they don’t want to have so much risk back-ended. And why would the government even agree to give a longer extension than ALR’s in the first place?

 

Can ALR change the O&M contracts?

ALR is completely independent. So yes, they can hire anyone they want as they are masters of their own ship.

 

Analysts are saying this is a good deal for Gamuda as you also have some projects going on, for example, your bid for MRT 3, and the cash flow would come in handy. But what if this deal does not go through, how would you address the funding for these projects that you plan to undertake?

At the moment without the sale, our net debt is only RM1.7 billion. It is small considering our capital employed, which is more than RM10 billion, and our gearing is thus comfortably low. Our balance sheet is already very strong.

If the deal does not go through, then we will continue to collect the compensation payment from the government for the highways. Last year alone, we collected RM389 million.

 

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