Brookfield Infrastructure Partners LP BIP

RBC

[retiredcf]

November 2, 2023

Outperform

NYSE: BIP; USD 25.09; TSX: BIP.UN

Price Target USD 40.00 ↓ 45.00

Brookfield Infrastructure A “sigh of relief” rally

Our view: Based on our conversations with investors heading into the quarterly results, we attribute the rally in the units to investors who have been looking to buy the stock but were waiting to hear the commentary and disclosures on the conference call. We think investors who know BIP well will appreciate the commentary on unit buybacks given the signalling with respect to management’s confidence, as well as its being a way to tangibly push back on concerns about the mechanics of BIP’s fee structure. We think the market will be looking for meaningful buybacks if the units remain depressed.

Key points:

A “sigh of relief” rally. Based on our recent conversations, we believe that many investors who know Brookfield Infrastructure well were waiting for the Q3/23 conference call before stepping in to buy the units. Overall, we believe the in-line results, the reiteration of its outlook set out at the September 2023 investor day, and especially the commentary with respect to unit buybacks paved the way for investors to step in and buy the units.

Buybacks highlight BIP’s view on value while also helping to push back on certain criticism related to the fee structure. So far in Q4/23, BIP has bought back almost one million of its units under the normal course issuer bid. On the conference call, management stated that it viewed unit buybacks as an attractive way to invest in its own assets (i.e., assets it knows well) when the unit price is not reflecting fair value for the business. As BIP executes on its asset divestiture program, it will evaluate the use of those proceeds with respect to new investments versus unit buybacks. Based on the formulas for the management fee and the incentive distribution fee, unit buybacks result in lower total fees paid to Brookfield unless the unit price increases. Put differently, unit buybacks provide strong alignment between investors and Brookfield with respect to unit price appreciation.

Adjusting estimates to reflect the Q3/23 results and the ramp-up in the Data segment; rolling out our 2025 estimates. Our new 2023 and 2024 FFO/unit estimates are $2.96 and $3.30 (previously $3.01 and $3.41), respectively, with the changes reflecting segment performance in Q3/23 and trends observed as part of the quarter, as well as a slower ramp-up in Data cash flow that is more consistent with the investor day disclosures. We introduce our 2025 FFO/unit estimate of $3.56, with growth from 2024 primarily reflecting the ramp-up in Data cash flow as well as organic growth, largely stemming from the capital backlog.

Valuation: Reducing our price target to $40.00 (from $45.00) to reflect a reduction in comparable company valuations. We continue to use a sum- of-the-parts approach, which now results in a valuation range of $36.00– 45.00 per unit. The primary driver behind the reduction in our sum-of- the-parts valuation range is lower valuations for comparable companies, particularly in the Data segment.

Capital allocation a key focus for the market

•  Positive messaging on unit buybacks. With the decline in Brookfield Infrastructure’s unit price, we believe that investors will be attracted to the partnership’s messaging around unit buybacks, as well as the actions it has taken so far in Q4/23 (i.e., repurchasing almost one million units under its normal course issuer bid). We see potential for even greater unit price appreciation if Brookfield Infrastructure is able to complete an asset monetization at an attractive multiple and elects to deploy some, or all, of the capital into buying back its units.

•  Highlighting the “strong environment” for capital deployment at returns “well in excess” of its return target. Brookfield Infrastructure noted that the market backdrop has created a “strong environment” for capital deployment. The partnership also stated that it expects returns on new investments to be “well in excess" of its 12–15% return target and that its capital deployment in 2023 should provide it “some of the best risk-adjusted returns [it has] seen in the last decade.”

  o Further expansion in Data. Brookfield Infrastructure noted that it reached an agreement to acquire a portfolio of data centers out of bankruptcy from Cyxtera, as well as the associated real estate underlying several of the sites from third parties. This transaction, which Brookfield Infrastructure expects to close in Q1/24, follows the previously announced acquisitions of Data4 and Compass that closed in August and October, respectively.

o Still upbeat on potential to monetize roughly $2 billion of assets in 2024. Given its asset base that spans multiple geographies and infrastructure asset classes, Brookfield Infrastructure remains optimistic with respect to its ability to execute on its longstanding capital-recycling strategy to monetize assets at attractive valuations relative to where it believes it could redeploy that capital. Even though infrastructure valuations have contracted, we believe Brookfield Infrastructure has multiple capital deployment options (including unit buybacks) at expected returns that would exceed the returns from asset monetization candidates.

 Interest rate exposure appears to be manageable, including for future capex as part of the organic capital backlog. The partnership highlighted that it has locked in interest rates for more than 90% of its debt with an average maturity of seven years. Further, Brookfield Infrastructure noted that a hypothetical 200 basis point increase in its cost of debt would impact FFO in 2024, 2025, and 2026 by only $25 million, $20 million, and $50 million, respectively. To frame those hypothetical amounts, Brookfield Infrastructure stated that it expects inflation indexation in 2023 to grow FFO by more than $100 million. With respect to future capex, Brookfield Infrastructure previously put in place interest rate hedges covering the debt funding for its US$3.6 billion capex commitment for the Intel semiconductor project, which represents about 50% of its capital backlog. We believe this aspect of risk management has been underappreciated, particularly against the backdrop of rising interest rates, which have hurt other companies’ project returns.

Quarterly results in line with our forecast and consensus

In Q3/23, Brookfield Infrastructure’s FFO/unit was $0.73 versus our forecast of $0.75 and consensus of $0.74 (eight estimates; range of $0.73–0.77).

•  Utilities: FFO for the quarter was $229 million versus our forecast of $225 million.

•  Transport: FFO was $205 million compared to our estimate of $203 million.

•  Midstream: In Q3/23, FFO was $163 million compared to our forecast of $169 million.

•  Data: Quarterly FFO was $66 million versus our estimate of $74 million.

•  Corporate: FFO was ($103) million compared to our forecast of ($92) million.