New rail financing scheme is the only way to save SMRT’s $2.8b capex woes

Even if it means limiting its earnings potential.

It seems like SMRT is willing to sacrifice everything on the altar of sustainability just to get rid of its skyrocketing capital expenditures--even its earnings.

However, it is understandable for SMRT to support the new rail financing framework (NRFF) as it was a case of any port in a storm. With its plummeting profitability under the current rail financing framework (CRFF), SMRT has no choice but to go with the flow.

According to UOB Kay Hian, the NRFF of the Land Transportation Authority (LTA) would set a profit sharing scheme that will limit the earnings upside of SMRT, where in the event of SMRT generating an earning before interest & tax margin (EBIT) in excess of 5%, LTA will share the upside of up to 95%.

"However, the LTA’s downside risk is limited to the quantum of the licence charge payable," the report said.

The report noted that there is no certainty that the trains will earn an EBIT margin of 5% when risks related to fare adjustment, increases in operating expenses and timing of asset renewal are taken into consideration.

"As an indication, a scenario with a 10% increase in net operating expense will require a 5.5% increase in fare revenue to achieve composite EBIT margin of 5%, which in our view, is no walk in the park," UOB said.

In return, SMRT will be relieved of its capital expenditures, which is expected to reach as high as $2.8 billion in the next five years.

“NRFF is more sustainable than CRFF given the challenges of the CRFF, such as rising operational and maintenance related costs to meet enhanced operating standards as well as fares not keeping pace in accordance with prescribed fare adjustment formula,” the report explained.