Macquarie In A Sweet Spot

This story features MACQUARIE GROUP LIMITED, and other companies. For more info SHARE ANALYSIS: MQG

– Macquarie acquires accretive Esanda portfolio
– Upgrades FY16 guidance
– Enjoying positive trading conditions

By Greg Peel

Macquarie Group ((MQG)) has announced the acquisition of the Esanda dealer finance portfolio from ANZ Bank ((ANZ)) for $8.2bn. The deal increases Macquarie’s motor finance portfolio to $17bn from $9bn. ANZ had ascribed a book value of $7.8bn to the portfolio, but Macquarie will be required to revalue in a lower interest rate environment.

Macquarie has suggested the deal will be immediately earnings accretive, adding around 1.7% or 10cps to earnings per share in the first year. While management has also declared the deal to be accretive to the return on equity (ROE) of Macquarie Leasing, no mention was made of the impact on group ROE.

UBS estimates the deal itself represents a return on equity of 10%, while Macquarie’s group ROE is running at 14%.

If this is at all a negative, a coincident profit guidance upgrade alongside the deal announcement should have shareholders eager to take participate in the capital raising Macquarie will implement to help fund the $8.2bn purchase. Macquarie will place $400m with institutions and offer a related retail share price purchase plan (SPP).

Macquarie management has upgraded its first half FY16 profit growth guidance to 55% from a previous 40%. Brokers are surprised, given the 40% figure was offered only a month ago. While the bulk of the upgrade relates to a performance fee payment on a single-asset infrastructure fund that is both a lot earlier and bigger than brokers had assumed, management also gave a nod to better than expected market trading conditions in the meantime.

As global interest rates continue to remain low, market conditions for “asset recycling” – divesting of older assets funded at a higher cost and acquiring new assets, such as the Esanda portfolio, on a lower funding cost – remain ideal, Citi notes. Meanwhile, trading desks are supported by the activity that market volatility provides.

While Morgan Stanley holds some concern that the group’s profit contribution from “lumpy” items such as performance fees, gains on sale and write-downs is at record levels, the broker believes operating leverage in asset management, accretive acquisitions, flexibility with the group’s approach to the staff compensation ratio and forex benefits are all providing tailwinds.

The risk as analysts look towards FY17 is of course that such positive conditions begin to fade, but Morgan Stanley estimates that following the integration of acquisitions, and a moderation in the contribution from lumpy performance fees, “annuity-style” businesses (stable and predictable recurring revenues) will account for some 62% of operating profit.

Brokers have upgraded their earnings forecasts for Macquarie in the wake of the guidance upgrade. Resultant upgrades to valuation are offset by the dilution of the capital raising, hence the FNArena database consensus target price has actually fallen, but only slightly, to $86.32 from $86.60. As one or more of the FNArena brokers are participating in the capital raising, they are restricted from offering a price target or a recommendation at this time.

The database otherwise shows three Buy or equivalent ratings and two Hold.

On a side note, Credit Suisse suggests the sale of the Esanda portfolio offers benefits to ANZ. Given motor leasing carries a higher risk-weighting in the loan book than, for example, mortgages, the divestment of the Esanda portfolio effectively increases ANZ’s tier one capital ratio while at the same time the bank books a profit on sale.

This profit would provide ANZ with the opportunity to go down the same path as Westpac ((WBC)) and impair its own (burgeoning, as Credit Suisse suggests) capitalised software balance in FY16. Furthermore, the redeployment of the $8.2bn in released capital should ultimately enhance ANZ’s return on equity, the broker notes.
 

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