Treasure Chest | Sep 30 2014
By Greg Peel
Computershare’s ((CPU) share price plunged over 10% in the days following the company’s FY14 result release back in August and has not improved much since on a net basis. Investors were expecting a pick-up in revenues, consistent with the recent pick-up in M&A activity locally and particularly in the US, hence were disappointed when revenue growth remained flat. More concerning was the revelation CPU’s costs had risen significantly and were expected to rise further.
Computershare derives earnings from corporate activity but like insurance companies, earnings are also closely tied to interest rates. It has thus understandably been a tough time for the registry service these past years given historically low global interest rates and, in earlier years, a dearth of M&A activity in the post-GFC funk. Investors have nevertheless taken the low interest rate environment on board but had hoped for some light at the end of the M&A tunnel. Unfortunately Computershare’s many other service businesses have been suffering, and will continue to suffer, headwinds.
Management announced at the result release it was now working hard to rein in those costs but analysts remained fairly cautious. While most thought the 10% price fall was a tad excessive the stock could only attract two Buy or equivalent ratings from FNArena database brokers, along with five Holds and a Sell. All price targets were set in the $12.00-12.60 range except for a particularly sceptical UBS (Sell), with an outlier target of $10.70.
One of the Buy ratings nevertheless came from BA-Merrill Lynch, who last week published a report on CPU in which the broker raised its target to a topside outlying $14.20, contributing to an FNArena consensus target of $12.41. The Merrills analysts have decided it’s now “time to get serious about rate leverage”, and suggests Computershare’s margin income could double in the next four years.
Merrills expects the global average benchmark interest rate to jump 225 basis points (ie add 2.25 percentage points) in that time as central banks around the globe begin to normalise monetary policy post-GFC and start hiking rates. The US Fed is an obvious case in point. The broker still expects weak margin income in FY15 for Computershare as rates remain low but forecasts a 10% lift in FY16 followed by further increases of 42% and 37% in FY17 and FY18. For every 1% rise in short-term interest rates, Merrills estimates a 25-30% increase in CPU margin income and around a 10% rise in earnings.
This equates to an expected 13% per annum earnings compound annual growth rate and Merrills’ $14.20 price target equates to a 21% total shareholder return.
Based on FY17 forecasts, Merrills is 10% ahead of consensus. Clearly the broker is expecting consensus to soon catch up.
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