Australia | Jul 28 2020
This story features PERPETUAL LIMITED. For more info SHARE ANALYSIS: PPT
Perpetual has taken a major step up in its global strategy with the acquisition of a stake in US fund manager Barrow Hanley, while signalling future dividend policy is likely to be lower.
-Acquisition diversifies operations and provides global growth platform
-Sizeable recent outflows in Barrow Hanley of concern to brokers
-Dividend pay-out policy to downshift from FY21
By Eva Brocklehurst
Wealth manager Perpetual ((PPT)) is hoping a bold acquisition will transform its business and overshadow a poor FY20 performance. That is Citi's assessment of the acquisition of US fund manager Barrow Hanley, with the medium term likely to be challenging and full accretion on the transaction not available until FY22.
Perpetual will acquire a 75% interest in Barrow Hanley for $465m. Year one accretion to earnings per share is estimated at more than 20% from date of completion. The company is banking on growth from building out the Barrow Hanley global equity products and distribution capability.
Strategically, the acquisition makes sense to Morgans as it diversifies operations and provides a platform for global growth. Of concern to both brokers, however, is the sizeable outflows seen recently in Barrow Hanley, and what Morgans describes as "patchy" fund performance.
Still, the transaction marks a turning point in the execution of Perpetual's global growth strategy and the broker upgrades to Add from Hold. Morgans calculates the transaction will triple the company's current level of funds under management.
Credit Suisse assesses the acquisition multiple is flattered by a depressed acquisition price and inflated earnings. It is below current listed peer average trading multiples and at a discount to Australian historical wealth and fund management acquisitions.
There is upside if Perpetual can refine the Barrow Hanley distribution capability in the US and expand to Europe/Asia, the broker adds, as several strategies are performing strongly and could attract flows. Important to note nonetheless: staff and contract retention risks are elevated during acquisitions.
Moreover, Barrow Hanley is overweight US equities which are facing significant pressures. Brokers acknowledge an element of trust surrounds execution while Perpetual argues there are growth opportunities in global equities which have been undersold so far.
Ord Minnett highlights the transformational aspect of the acquisition, which re-establishes the importance of the Perpetual Investment division within the group although US equities are now the predominant asset class. The broker also asserts the transaction will transform the share register, with the institutional placement dilutive to what is a highly retail-dominant register.
Morgan Stanley understands this is a complementary acquisition, with low overlap to existing products and provides a larger footprint in the US, UK and Hong Kong. The company's investment in a new US distribution team is the key to unlocking value from Barrow Hanley, in the broker's view, as well as the previous Trillium acquisition.
Barrow Hanley currently manages US$44.1bn across US, global and emerging market equities and fixed income. As part of the acquisition Perpetual acquire US$44m in seed capital and US$10m to fund escrowed shares.
Credit Suisse calculates this takes the total purchase price to US$519m and notes Perpetual is acquiring preference shares which, after the initial two years, will increase the earnings flowing to staff and reduce the earnings flowing to Perpetual. The company will fund the purchase by a mix of new debt, equity and cash, including a $265m equity raising and $284m in new debt.
Ord Minnett considers value accretion is more muted than the company forecasts as the transaction doubles down on the "value" investment style and dilutes higher-quality cash flow from the Perpetual Corporate Trust business.
Citi also points out reliance on an unfashionable "value" style has been one of the issues confronting Perpetual in Australia, contributing to a sub-optimal performance although this has shown some sign of turning around recently. Still, the broker accepts this could be the right time to buy value.
The company has also pre-announced underlying profit for FY20 of $93.5m, missing several broker estimates. Citi suspects this was, in part, driven by a slowdown in non-market revenue in Perpetual Private.
A final distribution will be paid in line with the current pay-out ratio of 80-100% of net profit. Going forward, the company will then shift its pay-out policy to a range that reflects underlying profit as opposed to net profit.
Given Perpetual intends to lower gearing and invest more in distribution capabilities future pay-outs are likely to be lower, Citi warns, and future dividends unlikely to be fully franked.
As a result, Ord Minnett assesses the after-tax dividend yield for retail investments is well below the corresponding accretion to earnings per share from the transaction. Credit Suisse forecasts a -50% cut to the final dividend and expects a 50-60% pay-out policy of underlying net profit in FY21 that would facilitate repayment of debt over five years.
The FNArena database has one Buy rating (Morgan Stanley) and six Hold. The consensus target is $36.13, signalling 10.0% upside to the last share price. Targets range from $28.90 (UBS, yet to comment on the acquisition) to $45.00 (Morgan Stanley). The dividend yield on FY20 and FY21 forecasts is 5.5% and 5.1%, respectively.
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