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Edited Transcript of AIA.NZ earnings conference call or presentation 21-Aug-19 11:00pm GMT

Full Year 2019 Auckland International Airport Ltd Earnings Call

Auckland Aug 26, 2019 (Thomson StreetEvents) -- Edited Transcript of Auckland International Airport Ltd earnings conference call or presentation Wednesday, August 21, 2019 at 11:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Adrian Littlewood

Auckland International Airport Limited - CEO

* Phil Neutze

Auckland International Airport Limited - CFO

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Conference Call Participants

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* Adam Fleck

Morningstar Inc., Research Division - Director of Consumer Equity Research & Regional Director

* Andrew James Bowley

Forsyth Barr Group Ltd., Research Division - Head of Research

* Jason Familton

Accident Compensation Corporation - Equity Analyst

* Marcus Curley

UBS Investment Bank, Research Division - Executive Director and Head of New Zealand Research

* Wade Gardiner

Craigs Investment Partners Limited, Research Division - Senior Research Analyst

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Presentation

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Operator [1]

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Ladies and gentlemen, thank you for standing by, and welcome to the annual results analyst presentation conference call. (Operator Instructions) I must advise you that this conference is being recorded today, Thursday, the 22nd of August 2019. I would now like to hand the conference over to your first speaker today, the CEO, Mr. Adrian Littlewood. Thank you. Please go ahead.

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Adrian Littlewood, Auckland International Airport Limited - CEO [2]

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Good morning, everyone. Get close. It's Adrian Littlewood here. Welcome to the 2019 results call joined by Phil Neutze, our CFO. So listen, I'm referring to in our presentation -- to the results presentation. And look, starting off for this year, looking out a good year. At the top line, our revenue up 8% -- almost -- [over] 8.5% for the period; earnings, almost 10% to $554.8 million in the period; and underlying profit up just a touch under 4.5% to just almost $275 million for the year. Those results underpinned by passenger movements, up almost 3% to 21.1 million; and aircraft movements, operating 178,000 movements for the year.

Across the entire business, turning to Page 5, I think we've maintained good, solid growth right across the business. If I look at our lines of business, aeronautical has grown almost 4% in the period supported by those passenger growth rates that I mentioned. Our retail business, which we've long signaled has continued to grow, and in this period for the year, up almost 19% as those new store developments have rolled out, flowing through to great results in per passenger performance. Transport continue to grow. Our investment property business continues to go from strength to strength with revenue in the period up 9.5%, and that's hitting our $100 million rent roll target a year early. And our investments in hotels and Queenstown Airport also continuing to deliver good results for the year.

We are in a period of significant growth and investment, and the next page really just touches on some of those milestones in the year. So it's been both a year of completing important projects, like our international departures project which you can see an image there, which have seen a big lift in both the passenger experience, the retail performance and the overall process for passengers traveling through international; as well as adding new car parking facilities and capacity across the precinct, but also looking ahead to critical new infrastructure projects. And just to give you a sense of the scale of what we've got on, we've now got projects with a value of over $1 billion at the physical works stage now underway in this period right now. So a real period of both growth and expansion for the future, and we remain confident about the long-term outlook for the business.

I'll touch on more detail across the lines of business shortly, but now I'm going to hand over to Phil Neutze, who will take us through some more detail on the financial performance. Phil?

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Phil Neutze, Auckland International Airport Limited - CFO [3]

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Thanks, Adrian. So yes, we did deliver another solid result in FY '19. So I'll provide a bit more color around the full year financial results.

Turning first to Page 8. So revenue growth of 8.7% for the year slightly outpaced OpEx growth of 6.3%, and that delivered EBITDA growth of 9.6%. Below line share of profit from associates halved from last year, and that was owing to a full year absence of NQA from the result. We sold our circa 25% shareholding in NQA in March 2018. As I predicted at the half year results, depreciation and interest were up by just under $15 million versus FY '18, and this was dominated by the depreciation expense on newly commissioned assets, for example, the international departures terminal expansion.

Reported profit after tax fell materially versus FY '18, and that was a year that was bolstered by the circa $300 million gain on the sale of our shareholding in North Queensland Airport. Underlying profit after tax growth of 4.4% was a little bit below the underlying profit before tax growth, and that was owing to our effective tax rate stepping up to 28% and that's where we expect it to stay for the next few years.

Looking at revenue on Slide 9. The 8.7% revenue growth across the business was dominated by retail income growth as well as investment property rental growth. As we've guided at the last 2 profit announcements, retail income growth of 18.5% maintained the strong growth during FY '18, and this was the result of 32 new stores opening during the year, plus the full year effect of the Duty Free MAG uplifts that took place when the full departures Duty Free spaces opened in December 2017. So we expect this rate of growth to moderate to similar levels to international passengers going forward, albeit perhaps still slightly above pax growth in FY '20. Investment property rental growth of 9.5% to $86.6 million, that was pleasing, and that reflected mainly new assets delivered this year and the full year impact of last year's additions, plus rent uplifts across the portfolio.

So let's turn to Page 10. As the market is aware, passenger growth continued to moderate in FY '19, down to roughly 3% international, that's excluding transits, and about 3.5% domestic. Tasman services were weak with capacity down by 1.5% and passengers down by 2.4%, which was driven mainly by not having 8 months of Emirates services to Melbourne and Brisbane. Emirates exited in March 2018 as well as a 4-month absence of AirAsia X, which exited in February '19. So there are some interesting dynamics hidden in the air around Chinese arrivals on indirect and direct routes. Adrian's told me he wants to talk about that, so he'll give you a bit more color on that in a few minutes.

So looking now at aircraft movements and MCTOW on Slide 11. Unusually, aircraft movements growth exceeded MCTOW growth this year, and that might lead us to believe that the upgauging of aircraft, so that's less flights but bigger planes, has come to an end. But this would be the wrong conclusion. Instead, it was really driven by having no Emirates A380s flying on to Tasman in FY '19 and less Air New Zealand 787 Dreamliners operating, and that was owing to engine maintenance absences and that led to a backfilling of capacity with smaller aircraft. Domestically, the frequency of some smaller capacity regional services increased and again, that drove faster growth in air traffic movements than MCTOW. Longer term, we still think there's more upgauging to come.

Turning now to Slide 12. As I forecasted a year ago and again in February this year, total OpEx growth normalized somewhat in FY '19 at 6.3%. That was versus 13.6% in FY '18. And the notes on this slide give a pretty good summary of the main drivers of this year's OpEx growth, so I'll leave you to read them at your leisure. But also that we expect this growth rate to slow down perhaps a little bit more in FY '20.

On to Slide 13. Queenstown Airport performed strongly in FY '19 with domestic pax growth of nearly 8% and international pax growth of 10%, and that led to our share of QAC's underlying profit increasing by 7.9% to $4.1 million. And coincidently, that's exactly the same as the contribution from the Novotel. The Novotel didn't perform so strongly this year, and that was owing mainly to greater competition in the Auckland's hotel market with additional rooms coming on stream and there was also a lack of major events in Auckland and the country this year. So we had to accept a small fall in average room rates to hold occupancy, and that combined with a modest ongoing OpEx growth led to a 9% reduction in our share of the Novotel's underlying profit.

I'll be handing back to Adrian shortly, but first, a quick look at CapEx and funding on Slides 14 and 15. So starting with CapEx, the chart on the right of Slide 14 shows that aeronautical CapEx fell off sharply in FY '19, while the other segments either remained steady or increased a bit. So we've just completed an intensive reconsultation with the airlines and BARNZ on the aeronautical CapEx program for the remainder of PSE3 and 4. And starting this year, so that's FY '20, we expect aeronautical CapEx to ramp up sharply so that by the end of PSE3, we're expecting commissioned aeronautical infrastructure will be pretty similar to our original PSE3 pricing forecast. So over FY '20, key construction projects underway include new taxiways and remote stands via north and west of Pier B, roading network upgrades, the Foodstuffs warehouse and office and Park & Ride expansions. And I think Adrian will be giving you more color on those shortly.

So looking now at funding on Slide 15. Our total borrowings increased by 6.3% in FY '19 to $2.2 billion. We remain committed to both our A- credit rating and to a dividend policy of circa 100% of underlying profit, and that means that approximately $100 million of our CapEx will be funded each year from cash flows that reflect our noncash depreciation expense. The rest will be funded by additional borrowings. So I do want to remind listeners that we have a very strong and conservatively positioned balanced sheet with FFO to net debt of 18.6% and FFO interest cover of 5.4x. So that compares with S&P's [indicative minimums] of 11% and 2.5%, respectively, for our A- credit rating.

So back to Adrian.

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Adrian Littlewood, Auckland International Airport Limited - CEO [4]

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Thank you, Phil. All right. So turning to Page 17 and just a bit more color on the travel and trade markets. So as Phil indicated before, softer year this year compared to prior years. [Trying to still get] growth and new capacity coming on to our markets. But as we said, breaking apart the numbers for the year, passengers up in domestic, 3.6%; international, 3%; against sort of slightly lower capacity. So you can obviously imply from that increasing loads and load management from the airlines.

Turning to some of the markets in particular. I guess we still remain optimistic longer term about the growth in tourism and trade for our country. I think long term, those underlying factors, I'll pause and I'll touch on those in a bit more minute -- in a minute, but I just wanted to touch on some of the markets. If I look at North America, again, good strong performance in the period supported by new routes: Chicago, opening up Houston continuing to go well, increased services to LAX and others, improving the connectivity into those markets. We still see opportunity for that to continue to grow. Obviously, we've got Air Canada flying to Vancouver for the summer peak coming this year. So that's looking good.

If I look at South America, on the other side, it has been a bit weaker. That -- the economy there in South America's been obviously a bit more volatile, and so that has affected there. And we've also seen some changes in routes through to Australia to South America. So that's looking obviously softer in the period.

If I look at now North Asia and Asia more generally, and Phil sort of alluded to this before, obviously in the period, we had Chinese nationals down about 8.5% in the period, but a large part of that reflected the shift -- constant shift away from indirect travel through to New Zealand over Australia. So obviously, Chinese carriers into Australia pulled back on services that reduced capacity into that market, and we also saw that flow drop off across the Tasman. But actually underneath that, we saw some good, strong performance into the China market with direct travel from Chinese nationals to New Zealand up 4% in the period.

And if you look at the days spent in our country, indirect travelers spend about 3.5-odd days in our country, whereas direct is now up to 13.5 days. So almost 2 full weeks in our country on average. So in terms of value to our country and the kind of premium travel, I think, our country is after, I think that's a really good news story. So that transfer from indirect to direct, I think, is a good story for the future, and you can see that sort of showing up in some of the improving performance on the connections through to China. The other part of the China story is obviously the increasing diversity of markets through that -- those ports. So we're obviously still seeing the Indian market connecting well through ports like Guangzhou, but also Kiwis traveling and connecting through to Europe as well.

If I turn to Southeast Asia, again, we had some good changes there with Emirates adding services to Bali and adding capacity there as well as Philippines upgauging to Manila. That's all helping. And if I look at the Tasman, while it has been down, we've had some pretty significant structural changes going on there with Air New Zealand and Virgin separating, but Virgin committing and adding new services like the Newcastle service, also Air New Zealand upgauge; and added services to the Gulf Coast offsetting changes like AirAsia X exiting their Gulf Coast services overall. So look, a dynamic market and one of change. But I guess long term, we still remain comfortable with how that market looks.

Page 18 just gives a bit more detail on some of those moves and changes in the year, and this sort of paints a very simple picture of the changes there. We might just call out some of the other new routes, Taipei; new services to Seoul. I said Newcastle before. But also routes like the third service to Singapore through the partnership of Air New Zealand and Singapore has gone very well in the period. So as I said, we're looking forward to the new services like Air Canada coming in and through the potential around North America. American Airlines has signaled its interest in the Dallas route. And obviously, that antitrust immunity approval has now been secured by Qantas and American, which was one of the key enablers for that future route to grow. So again, looking at travel and trade markets, I think we can see certainly some softer performance on domestic markets, moderate growth on international compared to prior years. But long term, we still have some comfort.

Just giving a bit more on that comfort, I think if I look at Page 19, turning to the right-hand side on the long-term opportunities, I think we can see some other things coming down the line that will certainly help us. We're seeing some big investments in tourism infrastructure and product around the country. International Convention Centre will get done and start operating, and we are seeing still a continual flow of new aircraft coming off the order books. I mean we've been a bit insulated from issues like the 737 MAX issue. But obviously, the 787 issue has been affecting Air New Zealand. So looking forward to seeing that be resolved and closed out and can look forward to new products like the 777X coming onboard.

New Zealand is still sort of lowly serviced by the more efficient aircraft. I think we've gone from 5% of air services using the new generation aircraft, which are more efficient, to now 20%. But that still leaves a big gap to a bigger proportion. Maybe the last thing I'll call out on travel and trade markets as being the ongoing strength in New Zealand outbound in the period, up 5% -- over 5.5% in the period. So I think that remains a good sign for the future.

So moving on from travel and trade markets to Page 20 about our investments in future growth. I think, again, just closing out what I mentioned earlier, we finished some big projects in the last couple of years around international departures process in the security processing, the retail zone and the passenger dwell zone, a real lift in performance. We also completed some critical infrastructure around transport, which has made a big improvement in transport flows around here in terms of how we're managing that. And as Phil mentioned before, we have got a very complex and interconnected series of projects to get after, well over 200 projects, whether they're enablings or big anchor projects underway. And that's been through another deep consultation phase with the airlines as we start to convert those to physical projects and really pleasing at the year just to get 2 of those big anchor projects into the next phase.

So if I turn to Page 21, this gives you a bit of a simple articulation of those anchor projects. So you remember earlier this year, we announced the airfield and taxiway project. Very, very big project for us, the biggest, I think, since the build of the international -- the airport in 1966. That's now underway. We also announced the northern road network, which is a -- both -- really the setting up of the transport system for the future integrated terminal system, which is marked there in the orange. That's now appointments made and physical works started. And obviously, we continued our work on -- doing works in the current domestic terminal with increasing in space for security screening coming, new retail zones, amenity upgrades across a number of different things. So that work's continues to go through. So really pleasing to get those projects -- those big anchor projects into development.

Now we obviously have a series of these follow-on projects still to come. So if I turn to Page 22, I can just talk about those in a little bit more detail.

So breaking through the 8 anchors. Domestic jet terminal. A lot of work has gone to that with the airlines buttoning that down. Our next steps really are to land the procurement model and commence our enabling works, which is underway actually now; jet fuel systems, decanting all the activities in the current year and just rounding out the detailed design and getting that into works.

International arrivals has made excellent progress. ECI, early contractor involvement, is quite advanced. The design is largely done. We'd like to get the detailed design really buttoned down and into construction quickly and get that works going. It is a key enabler, as followers of ours will know, for creating capacity to allow us to get on with some of the other works, including the domestic terminal -- new domestic jet terminal.

I mentioned domestic terminal rejuvenation. So I'll move on to the cargo precinct. Again, a lot of work there around the cargo precinct and working through with the various parties involved in the trade system. Naturally, they are all interconnected in a way. So we've got to work through multiple parting discussions to try and land all that detail. I think, again, some really good progress in the period, still some detail to work through in terms of physical works and what that looks like. But again, will help us ultimately with the works around the domestic terminal longer term, but some good progress there.

On Page 23, taxiways and stands. I talked about constructions awarded. And going on the northern runway, we've been working hard on our notice of requirement process. So that decision was issued, and we're just working through some final discussions with appellants on that. The feasibility design is now complete. So we're now working on finalizing the reforecast, and we keep a live forecast on demand for runway and working through detail like procurement models and how we'd get after that. So lots of work there, probably provide a more fulsome update at our Investigator Day later this year in terms of timing and the engagement with the airlines on that work, but some excellent progress in the year.

Next, moving on to transport and our transport hub. Again, very good progress in the year. We completed the concept design, got prelim design underway and we also have a very strong early contractor involvement going. Again, we'd like to soon move on to finalizing our procurement approach and award our construction project in the next year and get on with that project. That's a multimodal hub and really needs to go alongside the domestic jet terminal and other works at the international terminal to provide a great passenger product and capacity for servicing them.

Lastly, northern road network. I talked about that before. That's now awarded. I might just add also lots of work on the southern network, which is not one of our 8 anchor projects, but is also important for connecting into the transport hub at the mainline Puhinui train station upgrade that is ongoing. So an awful lot of work going on in the business and some exciting stuff underway.

If I turn to Page 24, talking about our investment property business. Another strong year. Assets under management now sort of reaching $1.7 billion, so a big step up in continuing the growth in the last few years. In FY '19, we completed 3 developments with a NLA just a touch over 25,000 square meters, and we still remain confident. Our rent roll has now reached our target, which we set a few years back, of $100 million. We got there a year early, which is fantastic. And our occupancy is strong. Our key metric's WALT, remained strong and extended up to [9-point-almost-4] years, and that really reflects some of the big projects underway.

We've got the big Foodstuffs project there, which is now 85,000 square meters, up from 65,000 as we agreed on an extension to the new development we're building there for Foodstuffs; multiunit spec development underway in earthworks and a couple of other big projects still going. Also, obviously we have the 2 hotels underway. The Pullman, we broke ground not long ago with [Kiingi Tuheitia], and a midmarket product which is an upgrade of an existing commercial building which is underway. So it's 146 rooms. So lots of work going on there and lots of exciting projects ahead.

Land available for development has dropped down from about 240-odd to 209 as we went through a bit of a recalibration in our plan. We had some land that was taking up some of the transport works and some land set aside for public reserve, so we just updated that for the purposes of this period.

Moving on to Page 25, our theme around fast, efficient and effective. Look, continuing work on looking for efficiency and quality experience in terms of operations with our partners. Lots of projects we've talked to before about introducing new technology around whether it's airfield operations in the air operations with flight pads or ground operations with our border agencies. So lots of work going on there as well as a lot of new passenger products, whether it's mobile airbridges, new brake trolleys, WiFi upgrades. And we also launched a new customer guest philosophy across our organization which is called te kete aronui, which you can see on the right-hand side there, which has been really well received by our frontline teams and their partners.

Looking to next year, we'll continue to push for more efficiency around the parts of the process where we can influence it as well as working with our partners to look at trials of new technology to improve the digitalization of the passenger process and as well as recycling existing assets that are making way for future development like regional stands in the future. So lots more work to do there and lots to come, but making excellent progress there.

And a bit showing up on Page 26 in terms of customer outcomes and in terms of key operating performance. I think our customer surveyed outcomes have reached their highest score in 7 years, which is fantastic, as the new developments have come onboard. And it's reflected by some of the direct intervention surveys, which is the Airport Service Quality measure, which is international standard as well as in our self-selecting customer kiosk scores at the bottom there.

Also, core operating performance. The baggage reclaim times have improved, and the process times have improved over time. You can see that data there. And bussing has dropped down to about 3.5% of movements in the period as the new gates and stands have come on. Look, you're going to continue to hear us talk about the efficiency of the system and how we focus on working with the airlines around efficiency, whether it's on-time performance, service delivery on the ground, in the next few years as that becomes increasingly critical for customer service performance outcomes with infrastructure efficiency.

Turning to Page 27. Looking at our theme around strengthening the consumer business, as Phil mentioned before, a good, strong year for retail, reflecting what we signaled in previous years and the development coming on stream. So retail up 18.5%, very strong performance. Income per passenger up 15.5% almost, which is great as we brought on 32 new retail concepts in the period. Still 1 or 2 still to come, and it's not just been the international terminal. Also, domestic terminal has had a quite a number of retail upgrades. But that has flowed through to a good, strong growth and passenger spend rates up just over 6.5% for the period with Duty Free and the luxury categories really supporting that.

We've also seen our sort of initiatives in broadening our products in our online customer engagement improving. So there's Strata Club has grown over 85% in this period, which is fantastic. Strata Lounge, again, the premium lounge product, up almost 60% in the period as we work through our partners -- airline partnerships. And really pleased to see our off-airport retail businesses through the online channel The Mall growing really strongly, and it's really picking up, which is excellent. And we're testing new markets with WeChat channel and direct to China markets to really try and push that along. So I think some excellent progress there and some clues for where we want to look to growth in the future.

The next page just gives you a bit of a flavor, for those who don't travel through our airport often, around some of the retail product. It's a real quality experience and a real step-up and a real variety of both premium products, whether it's in the Luxury precinct, but also our F&B product, which we won an international award for our new food and beverage precinct in the last year.

Now turning to parking, Page 29. Look, not quite as strong growth in parking this year at 5.2% in the period. ARPS, or average revenue per parking space, grew almost 4% in that period. Continue to use valet as an opportunity while we were under construction as we added a new 1,000-bay single level, multilevel at the international terminal and continue to use technology to try and use -- and manage our demand. So that's been pleasing to be able to continue growth while adding new capacity.

We are continuing to add new capacity with valet storage spaces coming on stream in another -- about another 1,000 across the back end of FY '19 and into FY '20. That is a very popular product. And we also created some dedicated ride-sharing spaces at the back of domestic terminal. And to help support the new ride-sharing services, we completed an agreement with Uber for that in the period.

Looking ahead, on top of the capacity I just mentioned, we're full steam ahead with new capacity. So we've got a new Park & Ride South facility, which is being built out across the Puhinui bridge to the south, about 2,000 bays there, looking to break ground on that pretty soon with a target completion in 2021 calendar year. And that really ties up with the upgrade to 20B, the intersection upgrades and the Puhinui train station interchange upgrade. And then we're also quite well advanced, as I mentioned before, obviously on the multilevel car park outside the front area of the terminals.

I might just on the right-hand side call out the growth in transactions coming through our Strata memberships. So we are looking to cross-sell between our products and our channels using our Strata membership accounts and great to see that starting to grow through the year.

Maybe finally for me, just finishing off some of the other themes we touched on across people, place and community. So I mentioned customer experience really lifting in the period. It's great to see that also recognized as being one of the top 10 trusted corporate brands in New Zealand, which I think is pretty good for a nonconsumer brand for the third year in a row, which is fantastic. Also gaining recognition for our continued focus on minimizing our impact on the environment and also working hard on safety. And I just did want to call out a 41% reduction in passenger injury rate in the period, and that's really come about through really sharp focus on safety around our precinct.

And then lastly, the continued focus on how do we get local people into the -- that really huge number of opportunities we have for jobs around here, and we remain very supportive of the Ara jobs, a skills hub that we started. And in fact, we've relocated Ara to a brand new location at the old golf club facility, and actually I think those numbers there reflect a relatively quiet year as construction projects are kicking off, lots of opportunity for that to grow and get local people into local jobs.

Right. I'm going to hand back to Phil to just finish off with regulatory and guidance. Phil, over to you.

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Phil Neutze, Auckland International Airport Limited - CFO [5]

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Thanks, Adrian. So we're nearly there. So let's turn to regulatory on Page 32. You'll recall that in February this year, we lowered our target return for FY '18 to '22 from 6.99% down to 6.62% after-tax, and that was following the Commerce Commission's final report on our PSE3 aeronautical pricing. Since then, the MOT has begun consultation on the draft Civil Aviation Bill, and we have submitted on the proposed changes. Amongst other things, we've reiterated that the current economic regulation is working well, and that was supported by the Commerce Commission welcoming our PSE3 pricing response.

On to guidance now on Slide 33 before we open up to Q&A. So as it says on this page, we expect the underlying net profit after tax, excluding any fair value changes and other one-off items, in FY '20 to be between $265 million and $275 million. And we expect total capital expenditure in FY '20 of between $450 million and $550 million. Total commissioned CapEx during PSE3 is still forecast to be broadly consistent with the original pricing forecast.

So Adrian and I are happy to respond to any questions now.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Your first question comes from the line of Andy Bowley from Forsyth Barr.

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Andrew James Bowley, Forsyth Barr Group Ltd., Research Division - Head of Research [2]

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I've got several questions here. First of all on retail, and Phil, specifically, you referenced retail income being or potentially being slightly above pax growth in fiscal '20, i.e., the year ahead. What are the drivers of this in terms of, I guess effectively, inflationary type benefit?

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Phil Neutze, Auckland International Airport Limited - CFO [3]

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So the drivers, yes, the obvious reason for the slowdown in growth is we've finished lapping all the increases in the space and new stores over the last couple of years. So going forward, it's a mixture of PSR increase. Some of those retailers will be above MAG and generating uplifts there, and there are small increases in MAG over the period.

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Andrew James Bowley, Forsyth Barr Group Ltd., Research Division - Head of Research [4]

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Okay. And then so talking about PSR growth, during fiscal '19, you saw PSR growth of 7%, which is the first lift for some time. On my simple math, that recoups the declines that we've seen over the last 4 years or so. But over the same period, we've seen retail income per pax, at least retail income for international pax, increase 30% or so. And I recognize that there are some uplifts that would've fit in domestic and off-airport-type retail income. But it kind of implies that concession rates or effective concession rates have increased quite materially. In light of that kind of the PSR-type increases that we've seen, are those concession rates sustainable on a go-forward type basis? Or does this kind of pose a risk in terms of the retail income type outlook, particularly under the, I guess, the next resets for these -- for Duty Free contracts?

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Adrian Littlewood, Auckland International Airport Limited - CEO [5]

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Yes, Andy, Adrian here. Look, I think you got to look over the long period of time. We -- we're in a period of, I guess, resetting our contracts and getting to market around a bunch of these things. So I think there's some change that you can attribute to that. I think there has been some concession expansion off the back of it. I think that also reflects some of the nature of the passenger changes that went on there. But if I have to take a broad view, look, I think we also look to the opportunities we see in off-airport continuing to grow, the ability to broaden and optimize the various concessions that we have to lift the concession rates and improve the mix over time. So look, I think we'll take a long view on this. But I think we've got a good plan in place for the long term, and that's partly because of the approach we've taken about building in our channels beyond the traditional.

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Andrew James Bowley, Forsyth Barr Group Ltd., Research Division - Head of Research [6]

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So in essence, you're still comfortable with the expectation? Or you believe that you can continue to grow retail income per pax over the medium to longer term?

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Adrian Littlewood, Auckland International Airport Limited - CEO [7]

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Yes, that would be our objective, and I think we faced the same kind of questions when we went through the last Duty Free cycle. And so I think we do think ahead to the next cycles to think about how do we position well for the future, how do we set up our product and our infrastructure for that, how do we think about the different channels and customer mixes and how do we reach those customers in different ways. And I think looking ahead, I think we've got more tools in our kit bag than we've ever had before in the past, and that's been about the conscious choice to invest in channels and marketing channels.

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Andrew James Bowley, Forsyth Barr Group Ltd., Research Division - Head of Research [8]

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Great. Then lastly for me in terms of international fleet capacity growth, we saw 3% in the last financial year. That was a tad softer than what you would have expected a year ago and even at the interim stage in terms of the conference call that we had then. What are your expectations for the year ahead in terms of what's implied in guidance?

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Adrian Littlewood, Auckland International Airport Limited - CEO [9]

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Look, I think you can take from that, that it's going to be a softer year ahead than we had thought maybe a year or 2 ago. We knew that there would be some lapping as we were going through the back end of that really growth cycle that we would -- as Phil mentioned before, once you lapped those numbers, it gets hard to hold up that rate. So look, I think I would say domestic will continue to be soft. And I think you're sort of seeing that probably in the indications from Air New Zealand today. I think international markets will be soft compared to prior years, with some growth there. It will be very much how each of those markets within that picture overall performs. And I think there's a broader question here about as a sector and as a tourism industry, how do we adjust our posture and how do we go after markets rather than just sort of accept the cycle as a cycle.

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Operator [10]

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Your next question comes from the line of Wade Gardiner from Craigs Investment.

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Wade Gardiner, Craigs Investment Partners Limited, Research Division - Senior Research Analyst [11]

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A few questions from me. First up, with the last draft to that changes to that CAA Act, how comfortable are you that, first of all, that you -- that there might be changes to that draft that we saw a few months ago? And if there aren't changes, how comfortable are you that it's not going to make a significant impact to, I guess, the way the regulatory system will work?

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Adrian Littlewood, Auckland International Airport Limited - CEO [12]

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Yes, maybe just a couple of comments and then Phil can jump in if he likes. I guess going into this, the intention, we understood it, was there's no intent to change the regime and the way it worked. And I think the commission, as Phil mentioned before, has reflected its comfort with how the regime is working. Look, I think it is clearly an omnibus bill that's attempting to draw together many different strands into one. I think it's through an exposure draft, which is very early stages. As Phil mentioned, there's a lot of engagement across the entire sector on the bill as it currently stands. And obviously, yes there's plenty more work to go on that path. But yes, I think you can expect us to be quite vocal about our position on the draft and in how to fix infrastructure investments generally in New Zealand.

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Wade Gardiner, Craigs Investment Partners Limited, Research Division - Senior Research Analyst [13]

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Do you think you're getting any traction around the sort of consultation versus negotiation element?

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Adrian Littlewood, Auckland International Airport Limited - CEO [14]

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Yes.

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Wade Gardiner, Craigs Investment Partners Limited, Research Division - Senior Research Analyst [15]

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Okay. Next question. Just -- you talked -- what's that, sorry?

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Adrian Littlewood, Auckland International Airport Limited - CEO [16]

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No. No. Go ahead.

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Wade Gardiner, Craigs Investment Partners Limited, Research Division - Senior Research Analyst [17]

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Sorry, I thought you were going to say something more. Just -- you were talking about China being weak before and direct is up 4% -- but at the half year, direct was up 7% to 8%. So can we therefore read that in the second half, the run rate was more like a negative 4% for China? Would that be right?

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Adrian Littlewood, Auckland International Airport Limited - CEO [18]

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Yes, I think if your numbers are right, that would suggest that's correct. I would also say that we were -- it's interesting. We aren't directly -- so we weren't directly served by 737 MAX other than Fiji Airways. But I know the Chinese carriers had quite a number of them. And so there was a bit of a response to that domestically where airlines were pulling back wide-body planes to serve domestic markets. There was a bit of that going on in China. So I think there was a bit of just sort of resetting and adjusting as the Chinese carriers went through that.

I mean I've spent a bit of time up in China as our team are regularly up there and permanently up there, and the feedback we get is still quite positive on New Zealand as a market. It's a high-yield market. It's good quality. They're diversifying the market, as I said before, beyond just pure China. So I think they're really pleased with that. And I think you're seeing some confidence with China Eastern, which is upgauging its aircraft, and I think they -- the services for the year ahead look solid. It's really that indirect service that's just dragging a little bit on the numbers as you know. But again, longer term, I think -- New Zealand actually is a pretty attractive and open destination for the Chinese market.

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Wade Gardiner, Craigs Investment Partners Limited, Research Division - Senior Research Analyst [19]

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Okay. Where -- around the CapEx spend, it was down a bit on the guidance that you gave us at the half year. Specifically, where was -- what wasn't spent, I guess, in that second half? And how comfortable are you that -- again, I mean, this is a question I asked in the first half, that we're getting into sort of a [shoot] only a couple more years to go and you've still got, by my numbers, well over $1 billion to spend. You're pushing it well into those last couple of years. Can you spend it?

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Phil Neutze, Auckland International Airport Limited - CFO [20]

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Yes, so good questions, Wade. So on the first one, the, I guess, undershoot versus earlier midpoint guidance on CapEx was in aeronautical, and it was largely in terminals capital expenditure. And it reflected the more extensive and longer duration of consultation and design work there. We have made great progress. I talked about earlier that we've been in detailed consultation with the airlines and the representatives over the last couple of months.

So as Adrian mentioned, we are expecting to provide a lot more color around that in the Investor Day in November. But what we can say is we are on the ground on some pretty material spend. You're probably seeing the media releases around taxiways Mike and Lima and the northern remote stands that's underway. And as Adrian mentioned, we've also appointed contractors for the northern network work. So we're ramping up sharply this year and there will be, yet again another big step-up next year.

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Wade Gardiner, Craigs Investment Partners Limited, Research Division - Senior Research Analyst [21]

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Okay. And just finally for me, I mean, you talked about this consultation with BARNZ around these projects. Given what's happened with, I guess, the passenger growth in the last -- the last 6 months have certainly been weaker. Are they starting to push back on some of these projects?

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Adrian Littlewood, Auckland International Airport Limited - CEO [22]

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No, look, I think as Phil mentioned, it's been a very detailed bit of consultation. Just to give you a bit of color on this. When you're running 200-plus projects that crumble into each of their individual projects with their individual drivers, you can often get different things happening at different times. And I think what we've been trying to do is keep the overall system picture complete. And I think you can naturally expect that as markets are changing, that affects different people's attitudes towards it. So the whole process that we've been doing in the last couple of months has been about just ensuring the calibration and the alignment around which of the projects that are proceeding and what is the scope and are those drivers still correct.

So it's been a very intense and productive process, and I think it's been welcomed by the airlines in terms of that focus. And I think that's given us a really clear path from here to go. So it's a little bit hard to get into that kind of detail in these results calls. But what you just need to know is we're going to be going at it really hard in the next sort of while, and we are looking with that commitment from the airlines to get after.

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Operator [23]

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Your next question comes from the line of Marcus Curley from UBS.

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Marcus Curley, UBS Investment Bank, Research Division - Executive Director and Head of New Zealand Research [24]

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Just firstly on the CapEx, Phil. I took note of the fact that you said commissioned CapEx. They are broadly in line with PSE3, but you didn't say total CapEx. So could you give some color on what you think you're going to do on gross CapEx across the period? Whether that is going to fall short, given the delays in the domestic terminal?

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Phil Neutze, Auckland International Airport Limited - CFO [25]

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Yes. As we've, I think, talked about at the half year, there is expected to be a small reduction in growth CapEx over PSE3. Just a quick reminder to everybody listening that when we set aeronautical prices, it relates to commission assets that are in use during the period. So we're comfortable on that aspect. But if the -- we have started slower on some elements and some projects that there'll be more spend on PSE4 and less on PSE3 than originally expected.

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Marcus Curley, UBS Investment Bank, Research Division - Executive Director and Head of New Zealand Research [26]

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Any size of magnitude? Like, I suppose, when I do my numbers, it feels like you're already -- when you look at the FY '20 guidance for aeronautical at, let's call it, $250 million, you're on a gross basis. It looks like you're $600 million behind in the first 3 years.

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Phil Neutze, Auckland International Airport Limited - CFO [27]

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So yes. The delta will be a lot smaller than that. So as we've mentioned, we plan to provide a lot more detail on this in the Investor Day in November. But gross CapEx, I think we were forecasting around about $2 billion a couple of years ago. It will be within $100 million or $200 million of that we're expecting.

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Marcus Curley, UBS Investment Bank, Research Division - Executive Director and Head of New Zealand Research [28]

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Okay. And then just on the longer-term picture. Can you give us some color? Have you retimed the opening of the domestic terminal following your reconsultation?

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Adrian Littlewood, Auckland International Airport Limited - CEO [29]

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Look, we haven't got an updated time line on that yet, Marcus. I think we'll save that for November. I mean we remain focused on getting the thing going as quickly as -- and as safely as possible. So that's been a big part of the consultation with the airlines. But I think we need to just land that detail in the next little while, and we'll announce that and talk about that program more broadly in November.

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Marcus Curley, UBS Investment Bank, Research Division - Executive Director and Head of New Zealand Research [30]

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Sorry to be a pain. Any chance of it being pushed past PSE4?

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Adrian Littlewood, Auckland International Airport Limited - CEO [31]

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No. It's in PSE4.

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Marcus Curley, UBS Investment Bank, Research Division - Executive Director and Head of New Zealand Research [32]

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Okay. Could you give us some color on the decisions around the runway? I think you have to do significant work this year, make a decision on the timing to activate the charges in 2021. Could you give us a bit of perspective on how you're thinking about those issues?

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Adrian Littlewood, Auckland International Airport Limited - CEO [33]

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Yes. So just a reminder, the triggers before the runway land charge, as instituted, is $50 million vested and a Board decision to proceed with construction. So look, 2 separate issues here: one is around the long-term forecasts; and then the other is on the construction. But on the forecast, again, has been subject of quite in-depth and quite detailed discussions and modeling alongside the airlines. Because obviously, you can imagine flight choices, frequency, et cetera, and demand just generally does affect all that. So I think quite a robust process and I think a very positive process undergoing. No new update on timings on that. We remain focused on the long-term picture on that and continuing to focus on the development of the runway. It's classically one of those things given it's an oil tanker of a project that it's not a switch on, switch off kind of thing, and they have very, very long lead times. So we just need to keep an eye on the timelines on that, and we'll continue to work through that. But again, we'll talk more about that in November.

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Marcus Curley, UBS Investment Bank, Research Division - Executive Director and Head of New Zealand Research [34]

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At what stage do you think you'll confirm whether the hurdles have been met? Is that sort of late in the financial year? Or is that -- we'll hear with more precision on the Investor Day?

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Adrian Littlewood, Auckland International Airport Limited - CEO [35]

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Yes. I think we're going to again talk about it more at the Investor Day. But look, it will be in FY '20 at some stage when we review that.

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Marcus Curley, UBS Investment Bank, Research Division - Executive Director and Head of New Zealand Research [36]

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Okay. And could you talk a little bit about -- you mentioned Qantas and American, you have potential for a Dallas route. Is that the sort of key prospect for the coming financial year for material new service?

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Adrian Littlewood, Auckland International Airport Limited - CEO [37]

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Yes. Look, I think we'd also like to see more services year round to LAX. It's obviously a key hub for New Zealanders traveling to North America. As we see it, the seasonal Air Canada service is in there. I mean Canada is an interesting one. That's quite a -- it could be quite a balanced service with inbound in our peak period, and outbound to Canada in their winter period. So -- and it obviously services the rest of the -- northern part of North America. So those are some areas that we'd be focusing on. So -- but it is a shift a little bit away from lots of the new routes and destinations to more frequency-engaged and improving the performance of those routes as the best guide to future growth. So it's a bit of a shift for us, but if I think about Air Canada, we've been working on that one for 4 years, so they had very long lead times.

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Marcus Curley, UBS Investment Bank, Research Division - Executive Director and Head of New Zealand Research [38]

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And then finally, what's just a follow-up on Andy's question. You've obviously got reasonable visibility now over seat capacity in the first part of the year, first half. Can you -- can you not give -- as it stands today, what seat capacity growth is on international and domestic for the winter season?

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Phil Neutze, Auckland International Airport Limited - CFO [39]

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So I think what we can comment is that we're expecting FY '20 passenger growth to reduce a little bit on what we have seen in FY '19 if you look forward to the remainder of PSE3. So looking from the end of FY '19 to the end FY '22, we're expecting international and pax growth would be in the sort of 2.5% to 3% range, with international at the high end, domestic likely at the low end.

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Operator [40]

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Your last question comes from the line of Adam Fleck from Morningstar.

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Adam Fleck, Morningstar Inc., Research Division - Director of Consumer Equity Research & Regional Director [41]

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Adrian, you mentioned the increasing importance of outbound New Zealander movements, and it seems to be supported by our New Zealand talking about 7% to 8% capacity of long-haul this morning. But can you remind us what that mix would mean for things like retail, car park any other parts?

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Adrian Littlewood, Auckland International Airport Limited - CEO [42]

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Yes, sure. Look, from our point of view, Kiwi outbound traveling is a positive dynamic. Obviously they tend to be -- or they certainly are the car-parking customers as well as strong propensity to spend in our retail stores whether it's on core Duty Free specialty or food and beverage, which has very high penetration rates. So look, certainly we are interested very strongly in Kiwis traveling and supporting our business, and it -- I think it was 5.7% growth in the last year, I think it has been a great support. And I think when we look back sort of 5 years, just structurally, aviation markets are quite different. Kiwis just have access to so many more destinations at a much better price. So remaining comfortable with that has been an important part of our future. But different to our international inbound passengers for home, it's core retail and Duty Free that is the dominant part there, obviously, lease car parking and transport.

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Adam Fleck, Morningstar Inc., Research Division - Director of Consumer Equity Research & Regional Director [43]

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Okay. Great. That's helpful. And then I appreciate the focus on OpEx. It seems like that will continue to slow as a rate of growth. Efficiency improvement, I know you talked about, but are there specific areas of opportunity you're looking at to maybe cut cost as passenger growth is slowing here?

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Phil Neutze, Auckland International Airport Limited - CFO [44]

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So we have a focus right across the business. So you may have noted that OpEx actually reduced a little bit between second half of '18 and second half of '19. So we always predicted a somewhat of a surge to come through at the start of this current pricing period, which was FY '18 to '22 we've largely pushed through that (inaudible) wave. So there aren't really specific areas, that's pretty much across the board really, a continuation of what you've seen in H2 '19.

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Adrian Littlewood, Auckland International Airport Limited - CEO [45]

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Yes and it's one of the challenges we've naturally got because obviously, we've got some of the core operating numbers we need to keep our business fit and healthy through this kind of cycle, but at the same time, we're investing heavily in new capacity. So that means lots more people and attention focused on the big projects. So in terms of raw headcount, we've got 40% in the last sort of 3 or 4 years as we support that project step up. So I think that's our natural challenge, is how do we both support the big lift in projects at the same time as keeping the core operating business fit and healthy.

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Adam Fleck, Morningstar Inc., Research Division - Director of Consumer Equity Research & Regional Director [46]

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Sure. And just, if I may, one follow up on that. So I noticed in the cost line, the marketing and promotional expenses again declined year-over-year. Is that just as we expected as aeronautical support tailed off through PSE3? Or are there underlying changes to that? How do you think about that going forward?

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Adrian Littlewood, Auckland International Airport Limited - CEO [47]

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Yes. Look, I think that's the substance of it, is just making sure that we're tracking well and being really focused on where we apply our marginal marketing dollar. Again, it should track that record growth. But equally, we're just mindful. We want to keep a careful eye on that and make sure we're not pulling back because you want to bear, as I said earlier. Really focusing on where your next growth markets are and trying to simulate that growth where we can. So we're just taking a bit more of a targeted approach to where we want to apply that dollar, and clearly, we still need to support our channels and our retail market in other areas. We're trying into WeChat and other areas. So we are still keen to try stuff as we go through this cycle.

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Operator [48]

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Your last question comes from the line of Jason Familton from ACC.

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Jason Familton, Accident Compensation Corporation - Equity Analyst [49]

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Just 2 or 3 from me. Just first one on the dividend. I think your payout ratio is about 100%. I'm just trying to understand as to why you didn't pay 100% on the dividend this year.

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Phil Neutze, Auckland International Airport Limited - CFO [50]

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So it's pretty consistent with where the level of payout has been over the last 5 or 6 years, excluding of course, the capital return that we did back in 2014. So pretty close. And we look to round the nearest $0.0025 also, and we look to the future directory those preference for ongoing growth in dividends. So all of those things go into the mix.

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Jason Familton, Accident Compensation Corporation - Equity Analyst [51]

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Okay. The other one, just on the guidance. You pretty much talked about most of the other lines. Can you just give us some sort of, I guess, more detailed guidance on depreciation [a bit, of interest] for the coming year, Phil?

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Phil Neutze, Auckland International Airport Limited - CFO [52]

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Sorry, I don't have that in front of me, sorry. But let's come back to that. We're going to be speaking with most of you after this so we'll give you some more detailed guidance on that.

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Jason Familton, Accident Compensation Corporation - Equity Analyst [53]

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Okay. And then the final one is just on, I guess, the retail income growth. So the comments around it, being modestly above the international pax growth. Can you talk to, I guess, the [Mall-wards] part of it? And clearly, it's grown well in the second half, you're going to be lapping a relative -- I guess, weaker comp in the first half. Just The Mall, I guess, should be growing. And it clearly is unrelated to international pax growth. How does that fit as part of that picture?

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Adrian Littlewood, Auckland International Airport Limited - CEO [54]

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Yes. You're right, Jason. So quite an important part of the longer-term plan, and as we've talked about for many, many years now, The Mall and the off airport stuff is about opening up our addressable market and allowing us to tap into markets that don't pull through the cost of building new capacity in the terminal. So look, off airport and Mall has gone really well in the period. And The Mall is interesting in that it's giving options for brand owners. We're starting to have these conversations with brand owners who are seeing this as a way just to -- just release new product at different price points, test new markets. And that -- we're still just starting out on this, so we still see that as a real opportunity to explore with retailers and brands about how we can use that channel more effectively and cross-sell between our channels. Off airport has continued to grow, and it's really, as we said before, a function of what's happening in the city more generally, additional luxury stores going in. You're starting to see much more investment and new capacity in department stores, and other areas around Newmarket and Auckland downtown. And that should hopefully support the off airport business in the long term. So yes, we do see that as an important part of the future retail story.

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Operator [55]

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There are no further questions at this time. I would now like to hand the conference back to today's presenter, Mr. Adrian Littlewood. Please continue.

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Adrian Littlewood, Auckland International Airport Limited - CEO [56]

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Well, thank you, folks. Thanks for dialing into the call. And thanks for the questions. We look forward to seeing those of you in the various meetings in the next couple of days. Thank you.

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Operator [57]

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Ladies and gentlemen, this does conclude our conference for today. Thank you for participating. You may now all disconnect.