Australia | Mar 26 2021
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Computershare will break into the US corporate trust industry with a substantial acquisition promising long-term earnings potential
-Acquisition doubles Computershare's exposure to margin balances
-Low capital intensity versus mortgage services but benefits long-dated
-Short-term impact could be slightly negative
By Eva Brocklehurst
A significant US acquisition by Computershare ((CPU)) offers substantial earnings potential, over the long term. In the short term, without the anticipated synergies, the company will be saddled with a transition period that will last for several years.
Computershare will acquire the Wells Fargo Corporate Trust business for US$750m, raising $835m (US$634m) through a rights issue with the remainder of the purchase price funded by debt.
Morgans notes the acquisition does have large transaction and regulatory costs which lift the overall acquisition capital deployed to US$1bn. Overall, the broker believes this deal makes strategic sense as Computershare already has a large presence in this market in Canada.
The business is also light on capital and aligns with existing operations in the US. The main risk is the length of time to separate the Corporate Trust entity from Wells Fargo, around two years, meaning the timeline to achieving synergies is 3-5 years.
Citi also points out, during the transition phase, Computershare will not have full control in order to improve products and extract cost synergies. The acquisition will double Computershare's exposure to margin balances, to US$35.3bn from US$17.6bn, mostly leveraged to shorter term rather than longer term rates.
Citi highlights Computershare now has very material leverage to rises in shorter term interest rates, if and when these occur. The acquisition price looks expensive but once adjusted for the potential for material accretion this is less the case, and the broker calculates the acquisition has the potential to add 30% to earnings per share by FY25 or FY26.
Ord Minnett agrees the real rationale underpinning the acquisition is a strong bet on rising interest rates, with half of the uplift in organic earnings by FY25 expected to come from margin income, yield curve steepening and moving US$6bn in balances to earn a higher yield.
Computershare expects the transaction to be 15% accretive, post synergies and Morgans notes a fair amount of the route to achieving this target is predicated on organic growth. Moreover, the broker points out revenue growth for this division in Wells Fargo has trailed client balance growth, signalling some revenue pressure may have existed previously.
Investors may welcome the pivot towards US corporate trusts yet, while this is a cash generating business with low capital intensity, Citi suspects organic growth is relatively modest, noting the business seems to have lower organic growth compared with its Canadian counterpart.
The broker concludes the risk of material customer attrition is partly countered by Computershare's deep knowledge of the acquired business and the long life of existing contracts.
Long Term Potential
The impact on the short term is less clear to brokers and it remains possible accretion will not start to appear until FY23. One feature that could deliver earlier accretion would be quicker-than-expected margin income enhancement and, for Citi, this is probably the main swing factor.
Otherwise, the impact on the short term could be slightly negative, as the broker points out there will be three months in both FY21 and FY22 when equity has been raised but there are no earnings from the acquired business.
Macquarie considers the changes to margin income mix and duration, as well as leverage to an improving interest-rate environment, will provide the upside for earnings as there are no hedges on the Wells Fargo book.
Yet, the broker agrees accretion from the acquisition is heavily reliant on long-term synergies although the company has a strong track record when it comes to acquisitions. Computershare successfully integrated the US Shareowner Services acquisition in 2011.
Macquarie also welcomes the reduction in Computershare's reliance on the more capital intensive US Mortgage Services business. Wells Fargo Corporate Trust business is one of the top four operators in the US market and generated revenue of US$477m in 2020.
While acknowledging capital-light earnings compared with mortgage servicing, which requires investment, Ord Minnett considers the scale benefits are too long dated to be assessable by investors.
The broker ascertains the company is expecting a pick-up in second half earnings, with respect to FY21 guidance which was re-affirmed on a pre-entitlements basis. This implies a 27% improvement in the operating environment, excluding seasonality, which Ord Minnett asserts is a stretch.
FNArena's database has three Buy ratings, two Hold and two Sell for Computershare. The consensus target is $15.42, signalling 2.9% upside to the last share price. Targets range from $10.75 (Ord Minnett) to $21.00 (Macquarie).
See also, Treasure Chest: Rates Key To Computershare on March 8, 2021.
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