Transurban Group (ASX: TCL) may not be a household name, but if you live or drive in Sydney, Melbourne or Brisbane, chances are you have used one of the many toll roads the group has a stake in.
Founded in 1996, Transurban is the largest toll-road operator in Australia, with an interest in 16 major roads across Australia, as well as the USA and Canada.
Transurban is by nature a highly defensive stock, underpinned by the consistent and stable demand for its infrastructure, as well as a lack of real competition. This gives them a business model that is very resilient to an economic downturn, which can provide a high degree of certainty for investors.
Another positive aspect of Transurban's business model is the conditions that underpin most of its earnings. As all roads are built under government supervision, Transurban's tolling structure is highly regulated. Transurban's toll rates are typically indexed to inflation or a rate of 4%, whichever is higher. Over the last decade at least, the rate of inflation has been well under 4%, which has guaranteed Transurban a rising stream of profits. In addition, continued population growth should see rising vehicle numbers across its network into the future. For the June quarter of 2018, both car and heavy vehicle traffic increased over 4% across its Australian motorways.
Harnessing these tailwinds, Transurban has managed to grow free cash flow by over 20% over the past 5 years, which has also rewarded shareholders with an EPS growth rate close to 15% for the same period. Transurban has a policy of paying out close to 100% of its cash flow as dividends, which will give shareholders a substantial grossed-up 5.1% yield in 2019, with a share price of $11.85 at the time of writing.
However, due to the scale of Transurban's infrastructure, and the enormous cost of building new roads, Transurban is a company with a lot of debt. The debt-to-equity ratio is around 0.82, which means that Transurban has more debts than assets on its balance sheet. This is never a positive sign for a business and leaves the company exposed to a credit crunch in the future.
Foolish takeaway
While Transurban has a healthy and stable yield, I am troubled by its leverage and exposure to debt. I think Transurban would be a fantastic option for income investors for its yield, but not much else.
Investors looking for fat dividend yields and solid growth prospects should also check out these shares.
