NetLink NBN Trust - Attractive 6.5% Yield Amid Lower Risk-Free Rate
- NetLink Trust's share price is trading at 12-month forward distribution yield of 6.5%, implying yield spread of 360bps. Singapore Government’s 10-year bond yield has shrunk to 2.9% (3.5% in Nov 2022) implying a yield-spread of 360bps (similar to its average spread since IPO), but higher than last 12-month average of 290bps.
- DBS Macro team forecasts Singapore’s 10-year bond yield to drop to 2.8% by end of 2023 which might increase the yield-spread further and lead to a rally in NetLink Trust's share price. We expect NetLink Trust (SGX:CJLU)’s distribution per unit (DPU) to rise by 2% annually over the next few years, and the yield spread to narrow to 250bps, reflecting its resilient nature of distributions.
- High inflation should not eat into distributions. Inflationary pressures on capex and opex are taken into consideration under the Regulated Asset Base (RAB) model. We expect the regulatory weighted average cost of capital (WACC) for NetLink Trust to be raised by 300-500 bps for the next review period over Jan 2023-Dec 2027 due to the sharp rise in the risk-free rate.
- We estimate every 10 basis point change in regulatory WACC would have a +1% impact on its EBITDA and forecast a 300-500 basis point hike in regulatory WACC. In terms of timeline, we expect a revised regulatory WACC to be announced in the first half of calendar year of 2023. Despite a higher regulatory WACC, NetLink Trust may raise its distributions by only 2%-3%, in our view, as it focuses on the long-term sustainability of its distributions.
Upgrade NetLink Trust to BUY with a higher target price of S$0.98.
- We switch from DCF to yield spread over the risk-free rate to reflect the current market volatility. We model a 250bps yield spread assuming a risk-free rate of 3.0%, to arrive at a target distribution yield of 5.5% on a 12-month forward DPU of 5.40 cents. This translates to a target price of S$0.98 for NetLink Trust. DBS Macro team forecasts Singapore’s 10-year bond yield to drop to 2.8% by end of 2023 so our 3.0% risk-free rate assumption is conservative.
- We have not captured any upside from potential rise in capex or acquisition. We expect annual capex of S$55- 60m in the long term, and any potential rise in capex (due to inflation) or acquisitions could be a positive surprise leading to higher distributions, which has not been factored into our valuation.
- Any sharp rise in the risk-free rate from our base-case of 3.0% to 3.5% coupled with NetLink Trust’s yield spread hovering around 350bps (vs base case of 250 bps) may lead to our bear-case valuation of S$0.77 for NetLink Trust.
Above is the excerpt from report by DBS Group Research.
Clients of DBS may access the full report in PDF @ https://www.dbs.com/insightsdirect/.
Sachin MITTAL DBS Group Research | https://www.dbs.com/insightsdirect/ 2023-01-10 2023-01-10
Previous report by DBS:
2022-11-03 NetLink NBN Trust - Trading At A Fair 6.2% Yield.