Computershare runs out of tricks

Computershare’s core shareholder services arm is in decline and there are concerns about its diversification forays.

Computershare

The positive take on Computershare (CPU, $8.79) in the lead up to Wednesday’s full-year results is that at least the $4.8 billion market cap titan isn’t likely to be victim of overeager investor expectations.

Having built a truly global presence over almost four decades of acquisitions, Computershare has lost its vim and verve amid a slowdown in its core shareholder services arm, with lingering concerns about the worth of its diversifying forays into areas such as mortgage processing.

With investors expecting a further earnings downgrade, Computershare has been caught in a vicious cycle of pessimism that begets even more gloom. The stock is trading at 3 ½-year lows and has lost 26 per cent of its value this calendar year, with investors especially wary about the fallout from Britain’s Brexit decision.

In a blunt assessment, Bell Potter analyst Lafitani Sotiriou recently dubbed Computershare a “value trap” that deserved to trade on its lowly price-earnings multiple of around 12 times.

“We see the changing business mix (pushing into mortgage processing) coupled with the headwinds in its core registry business as the key issues making the business less attractive.’’

While not a material event, last month’s lodging of criminal charges in the US against five former and current employees (alleging ­illegal trading of information within its proxy solicitation arm Georgeson) shows the degree to which Computershare cannot win a trick.

Computershare still gleans about one-third of its revenue — and more than half of underlying earnings — from its traditional sharemarket-related pursuits.

Despite improving global markets, merger and acquisition and IPO activity has been subdued, which reduces demand for Computershare’s investor communications offerings such as proxy solicitation in takeover battles.

According to broker Credit Suisse, the value of global IPOs fell 46 per cent in the second half (year on year). Completed M&A deals — the most important driver — declined 16 per cent in the second half (relative to the first).

Announced deals, a harbinger of future revenues, fell 33 per cent. “We expect these softer activity trends to continue into 2016-17, partly underpinned by uncertainty surrounding Brexit.’’

The core share registry business is being affected by an ­ongoing reduction in retail investor numbers, the result of seven years of market gloom. Compounding the earnings drag, record low interest rates are subduing the returns on the $US15bn of client funds (such as dividend payments) held on behalf of clients.

To hedge its bets, Computershare has moved into non-equities pursuits such as mortgage processing, bankruptcy and class action administration, which tap the group’s mass market back-office expertise.

In its most recent acquisition, Computershare in February paid $US71m for the Florida-based mortgage intermediary Capital Markets Co-operative.

CEO Stuart Irving promised the purchase would make the group’s US processing business “significantly larger, more profitable and higher returning”.

In early May, Computershare won a contract to service the 30 billion quid of mortgages within UK Asset Realisation (UKAR), the GFC-era body formed to handle the orderly sale of government-owned home loan books.

The win should have been applauded, but as it happened it boosted Computershare’s British exposure ahead of the disruptive Brexit vote.

“Computershare’s core registry is in structural decline and headwinds in its adjacencies are yet to play out,’’ contends broker Morgan Stanley. “Gearing is high and acquisitions are being used to fill the earnings hole and reinvent the franchise.’’

In May, CFO Mark Davis affirmed guidance of “management earnings per share” coming in 7.5 per cent lower than the 2014-15 figure. Wary brokers have on average excised 8.7 per cent from the bottom line.

Of course the past is the past and the real driver of sentiment will be management’s guidance for the coming year, which it customarily provides at the profit tell-all.

The market expects a further 5-10 per cent hit, bearing in mind the company is 75 per cent through a $140m share buyback that enhances earnings per share.

Credit Suisse is even more downbeat, plugging in a further 9 per cent decline (in $US terms) for both the current year and 2016-17.

Investment newsletter Motley Fool warns against the temptation of bargain hunting: “Given the Brexit hangover risks associated with its new UK venture, it’s still too early to understand the full impacts Brexit will have on Computershare’s earnings.’’

Prosecuting the case for the optimists, broker CLSA last month upgraded the stock from an “underperform” to “outperform”.

“Despite continuing operational business headwinds, at these undemanding levels (the firm) acknowledges that value is emerging in Computershare,’’ it says.

Crowdsourced investor research platform Seeking Alpha dubs Computershare an “increasingly rare” beast: “A global firm with an indispensable role in financial markets that is trading below fair value.”

Credit Suisse, which also ascribes an “outperform”, expects earnings to recover in 2016-17, as earnings from UKAR and CMC start to flow.

Given Computershare’s acquisitive record across 20 countries, it is unlikely to have hung up its slide rule for good. This lull may indeed prove to be shortlived if management pitches to buy US registry rival American Stock Transfer and Trust, which is tipped to be offloaded by owner AST Pacific Equity Partners.

Then there’s the threat — or is it opportunity — of distributed ledger technology, which could eliminate the role of clearing as share settlements are done in real time. The ASX is well aware of blockchain — one such distributed ledger — although new bourse CEO Dominic Stevens has indicated a more softly-softly approach than his enthused predecessor Elmer Funke Kupper.

For Computershare, the implications of blockchain for its registry business are unclear. Depending on who you talk to, it’s either an existential threat or a harbinger of greater opportunities.

Credit Suisse views the threat of blockchain, which wouldn’t be introduced for at least three years, as “somewhat overplayed, with even our bear case implying only a 10-15 per cent earnings impact’’.

For Computershare’s 49,000 investors imbued with an unfair share of bad fortunes, they can only hope that’s the case.

The Australian accepts no responsibility for stock recommendations. Readers should contact a licensed financial adviser. The author does not hold shares in the stocks mentioned.