Jenny Ruth: Toll gets rolling for the long haul

Two years after Australia's Toll Holdings gained control of the former Tranz Rail, now Toll NZ, those shareholders who resisted the $1.10 a share takeover offer have plenty of reasons to smile. The shares traded at $3.60 on Wednesday.

The horror $335.6 million net loss last year was to be expected as the new proprietor cleaned out the books and offloaded the tracks to the Government for a nominal $1 for what had been in its books at $348.7 million.

The latest result, a $41.4 million net profit for the year ended June, was the company's first profit since 2001 and a vast improvement on the $5.56 million that year.

Nevertheless, Toll NZ isn't satisfied. "Margins and return on capital remain lower than those required to support a sustainable level of capital expenditure," chairman Mark Rowsthorn says in the latest annual report.

Chief executive David Jackson says the best measurement to use is return on total assets. By that measure, the latest result represented only a 5.8 per cent return.

But Toll Holdings is unlikely to be too unhappy. Its return on its investment in the latest year was 18.75 per cent, its share of the profit was $34.9 million and its investment in 2003 was $186 million.

Jackson says he doesn't want to put a figure on what return on assets might be acceptable. "If you look at the parent company, it would probably be a minimum 16 per cent."

Asked what his timeframe for achieving that is, Jackson says "tomorrow" but then says it will inevitably take time.

"These big network businesses aren't easy to turn around. We're not a sausage factory."

He says it will take capital investment, efficiency gains, improved volumes and improved yields.

Some capital projects, such as purchasing locomotives, have 18-month lead times between ordering and commissioning. "We're in this for the long haul."

The latest result was made up of a $9.07 million first-half net profit with $32.34 million earned in the second half. Jackson says that reflects seasonal factors and improvements within the business.

That includes running 30-wagon coal trains on routes where the company had previously been running 25-wagon trains.

Of course, the strong economy has helped. Jackson admits that the prospect of a downturn is a concern "but I certainly don't see going to a defensive strategy. We're about growing this business aggressively. If the economy is trending one way, you just have to work harder the other."

Among the major milestones Toll NZ has chalked up under its Aussie owners are the 20-year contract signed with Fonterra, which includes the building of a 50,000 metric tonne dry store at a Toll-managed freight village in Hamilton, and its 13-year deal with coal miner Solid Energy.

Jackson says achieving such long-term contracts with smaller customers is difficult but that signing those contracts has had a positive impact on other customers' attitudes.

"There's a growing confidence with what we're doing with rail now in terms of improved service levels, in terms of our commitment to capital, in terms of our relationship with the Government.

"There's more of a preparedness to talk about long-term solutions where capital is involved."

The annual report shows Toll NZ has already spent nearly $49 million of the $100 million it promised to put into upgrading its locomotive and rolling stock before June 2008 - the company has already said it's likely to spend more.

The former Tranz Rail management's ferocious approach to cutting capital spending is one of the reasons the company got into such a parlous state before the Toll Holdings takeover.

Capital spending went from $218.7 million in 1998 down to $49.5 million in 2000. That was clearly inadequate and it rose to $54.5 million in 2002, although all these figures included track maintenance costs, now the Government's responsibility. The 2002 figure included $19.2 million spent on track maintenance.

Jackson won't say what a normalised capital spending figure for Toll NZ might be.

"It depends on a whole heap of things - we're wanting to buy some more locomotives and that could be anywhere between $80 million and $100 million, which is only a drop in the ocean really."

Contracts the company might manage to secure could also alter spending dramatically.

"We're not frightened to invest in the business, providing the returns are there."

Toll paid the government-owned New Zealand Railways $36.7 million for access to the tracks for the 10 months ended June.

One part of the business, the Hillside engineering services workshops in Dunedin, has grown dramatically under the present management with its staff having doubled. Last month, it won the contract to provide 18 new carriages for Wairarapa train commuters and has already supplied carriages to the Auckland Regional Council.

"Personally, I'm passionate about Hillside. I think we've got a great workforce. They just need some leadership and some opportunity."

Jackson won't be drawn as to how it measures up in terms of returns on capital compared with the rest of the company.

"It's a network business. If you try to cherry-pick the good bits, you haven't got a business."

While there had been some interest from third parties to buy the Hillside business, that wasn't an option."We want to be a self-sufficient railway company fundamentally."

Toll NZ has changed its accounting policy on valuing its right of way and fixed assets. That had the effect of boosting equity by $196.3 million together with the retained profits, equity rose to $305.4 million at June 30 against $712 million in total assets compared with just $67.7 million against total assets of $558.2 million a year earlier.

One major change from the previous regime is that Toll NZ now provides scant detail about the freight side of its business, just giving total sales and operating figures for each of the freight and passenger sides of the business.

"I got fed up with the way the press treated us" when Toll first came to New Zealand. "I decided to shut up. It was the best thing we could have done," Jackson says.

Who, what, where

* Toll NZ Headquarters: Toll Building, Smales Farm, cnr Northcote & Taharoto rds, Takapuna, Auckland.

* Profile: Toll operates the national rail network including freight and passenger services, a logistics arm including a road transport fleet, the Cook Strait ferries and the Hillside engineering workshops in Dunedin.

* Market capitalisation: $756.9 million with the shares trading at $3.60.

* Latest results: The company reported a $41.4 million net profit for the year ended June compared with a $335.6 million net loss the previous year.

* Management: chief executive David Jackson, chief financial officer Austen Perrin.

* Major shareholders: Toll Holdings with 84.24 per cent and Third Avenue Management with just over 10 per cent.