Australia | Aug 21 2017
The funds administration business of Link Administration was soft in FY17, although offset by strong results in corporate markets and the company's technology platform. Brokers note synergies from acquisitions are still to be realised.
-FY17 results driven by margin expansion, with potential upside
-Management expects long-term margins to settle around 30%
-Execution risk in pricing, client retention and acquisition integration
By Eva Brocklehurst
The key funds administration division of Link Administration ((LNK)) disturbed several brokers, as revenues fell -4% in the second half versus the first, largely from client in-sourcing. Still, this was offset by stronger results in corporate markets and the company's technology platform, IDDS.
Earnings growth remains strong, underpinned by margin expansion from the realisation of Superpartners cost synergies and accretion from the Capita Asset Services acquisition. Another $45m in Super Partner synergies is still to be realised.
Deutsche Bank believes the opportunity stemming from the rationalising of process and platform should deliver $70m in cost savings over the medium term and this, in turn, should help support the share price. The company has migrated the Superpartners clients onto its own platform and begun the process of rationalisation and cost reductions which should generate $45m in cost savings by 2020.
Funds Administration
At face value, Citi suggests there is a flat revenue outlook for two years for the funds administration division. The win on the Tasmanian public sector fund should be a small, higher margin offset.
Macquarie is somewhat concerned regarding the soft revenue performance in funds administration but acknowledges the encouraging signs in corporate markets and IDDS. The broker notes there are few near-term catalysts, and there is a level of execution risk with the Capita Asset Services business.
Morgans expects funds administration revenue will remain under pressure through FY18 yet, on the positive side, the company has flagged three large contract tenders over the next 18 months from where it believes it could obtain new clients. Morgans likes the the business and envisages value emerging into FY19 on the benefits from the Capita Asset Services acquisitions and further Superpartners synergies. The broker upgrades to Add from Hold as a result.
Margins
Morgans highlights the strong second half results in corporate markets and IDDS. These businesses improved earnings margins by 3-4% and the cost reductions in corporate markets were particularly encouraging, given a -10% decline in margins since FY14.
Macquarie finds value in the stock at current levels, and the business that has a reasonable level of near-term earnings certainty. Conversion of operating free cash flow remains low at 82% although Macquarie recognises this increased slightly in the year. Management expects long-term margins to settle around 30% after fully integrating the lower margin Capita Asset Services business.
UBS observes the results was driven almost entirely by margin expansion as revenue was up only 1%. The soft revenue trends concern the broker, particularly in funds administration. Still, UBS remains attracted to the infrastructure-like qualities and the strong earnings growth outlook although agrees lacklustre revenue growth increases the prospect of a current price/earnings de-rating.
Citi retains a Buy rating, noting some challenges in funds administration but robust growth in earnings per share on the back of Capita Asset Services and Superpartners. While the company has suggested the margin target for FY20, inclusive of the lower margin Capita Asset Services, is now in the order of 30%, Citi observes this still includes a margin of at least 34% on the original business.
Just as the original target was likely to be conservative, given the scale benefits from Superpartners, the broker forecasts a slightly higher margin of 31.8% in FY20.
The final dividend, 8c fully franked, was -20% below Credit Suisse estimates. Fund administration also missed the broker's forecasts by -6% The company has confirmed that the loss of the Kinetic account will affect fund administration revenues by -3%, beginning in the fourth quarter of FY18.
Credit Suisse retains the view that the company has risks surrounding pricing, client retention and acquisition integration. The high growth profile and strong cash flow aside, the broker believes the valuation remains full considering the risks and maintains an Underperform rating.
The broker was not expecting a dividend reinvestment plan with a -1.5% discount. The company will partially fund dividends to new shareholders from the recent equity raising via the dividend reinvestment plan, which will not be neutralised.
FNArena's database shows four Buy ratings, one Hold (UBS) and one Sell (Credit Suisse). The consensus target is $8.59, suggesting 11.7% upside to the last share price. Targets range from $7.70 (Credit Suisse) to $9.05 (Citi).
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