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After an attractive share price pullback and the release of Q2 and YTD results on February 1, 2022, Broadridge (BR) is reasonably valued.
In my December 4, 2021 Broadridge Financial Solutions (BR) stock analysis I conclude that:
'As recently as late October, BR's share price was ~$185. Based on current FY2022 earnings estimates from 8 brokers, BR's forward adjusted diluted PE was ~29 based on a mean estimate of $6.43.
The recent pullback in BR's share price has led to a slightly more attractive valuation. However, I have a nagging suspicion that the growing number of Omicron coronavirus variant cases is going to lead to volatile market conditions; BR's share price could experience a further drop thus leading to a somewhat better valuation.
I am in no rush to acquire additional shares and will apply the Patience and Discipline personal attributes Charlie Munger encourages investors to use to improve investment success.'
This brief post touches upon why I have added to my BR exposure.
Business Overview
Please refer to my December 4, 2021 post.
Financials
Q2 2022 and YTD Results
I provide these links to assist you with your analysis: Q2 2022 10-Q, Q2 Earnings Release, and Q2 Earnings Presentation.
BR's adjusted EPS growth is in line with guidance and three-year objectives.
BR reported strong revenue growth across its Investor Communication Solutions (ICS) and Global Technology and Operations (GTO) business segments. Part of this growth was driven by the secular tailwinds in stock and fund position growth with the biggest driver being the contribution from new sales.
Low to no margin distribution revenue continues to grow at a double-digit pace and reached 17% YoY; this is significantly higher than projected at the beginning of the year. The growth has come from higher customer communications mailings as well as significant increases from higher postage rates.
Commission-free trading is the latest step in a long-term trend. It includes the rise of ETFs, lower trading costs across all participants and changes in investor interfaces that have helped propel high single-digit equity and fund record growth over the past decade. Given these trends, BR continues to invest in its capabilities to:
- meet the rise in demand;
- increase the digitization of critical regulatory communications;
- ensure new and existing investors receive the information needed to understand the risks; and
- participate in the governance of investors' investments.
Outlook
The following reflects changes to BR's FY2022 outlook.
Source: BR - Q2 2022 Earnings Presentation - February 1, 2022
Despite the expectation for continued operating income growth, the downward revision in adjusted operating income margin is attributed to drag from low to no margin distribution revenue.
Management expects the share of distribution revenue as a percentage of total revenue to decline over the long term.
Although BR expects to continue to see operating income growth, this growth will be partially offset by higher interest expense related to the acquisition of Itiviti. This is expected to persist until Q1 2023.
In Q2, BR reported another quarter of strong event-driven revenue on the back of healthy mutual fund proxy activity. Expectations are for event-driven revenue to remain strong in Q3 and Q4.
As with most other companies, BR is seeing a modest impact from higher labour inflation. Management, however, remains confident efficiencies will offset these additional costs.
Free Cash Flow (FCF)
I have closely followed BR since becoming a shareholder when it was spun off from Automatic Data Processing on March 30, 2007. Over these years, I have noticed that FCF in the first 2 quarters is consistently weak; the current fiscal year is no exception. In Q2, BR generated $28 million thus improving YTD FCF to a negative $123.8 million.
BR continues to invest heavily in its next-generation platforms and in particular, its wealth management platform. In the first half of FY2022, it invested $29 million in CAPEX and software and $236 million in its platforms.
On the Q2 earnings call, management indicated BR is at its peak investment levels for its wealth platform and spend on this front will decline.
BR's FCF recovers in the second half of every fiscal year with FY2011 - FY2021 FCF coming in at (in millions of $) 167, 238, 220, 334, 365, 362, 312, 556, 544, 500, and 539.
Looking at BR's Consolidated Statements of Cash Flows in the Q2 10-Q (page 7 of 63), we see:
- $149.1 million of Depreciation and Amortization; and
- $33.6 million in the write-down of long-lived assets and related charges.
for a total of $182.7 million.
These non-cash expenses distort GAAP earnings. As a result, it is important to look at BR's Operating Cash Flow and Free Cash Flow.
Management views FCF to be a liquidity measure that provides useful information about the amount of cash generated that could be used for dividends, share repurchases, strategic acquisitions, other investments, as well as debt servicing. It is a Non-GAAP financial measure and is defined by BR as net cash flows provided by operating activities plus proceeds from asset sales, minus capital expenditures as well as software purchases and capitalized internal-use software.
BR's strong free cash flow business model enables it to:
- pursue balanced capital allocation;
- commit to a rising dividend;
- fund investments in the company's platform and products; and
- make M&A investments that meet the company's strategic profile.
I see no reason to expect any changes going forward.
Credit Ratings
All BR's domestic senior unsecured debt ratings are the top tier of the lower-medium grade investment-grade category.
- Moody's: Baa1 with a negative outlook;
- S&P Global: BBB+ with a negative outlook;
- Fitch: BBB+ and stable.
These ratings define BR as having an ADEQUATE capacity to meet its financial commitments. Adverse economic conditions or changing circumstances, however, are more likely to lead to a weakened capacity of the obligor to meet its financial commitments.
Even if Moody's and S&P Global downgrade BR one notch, the definition reflected above still applies.
While the possibility of a downgrade in credit ratings is disappointing, management indicated on the Q2 earnings call that the focus remains on debt repayment and the maintenance of an investment-grade credit rating.
I view BR's credit risk as acceptable for my purposes.
Dividend and Dividend Yield
We see from BR's dividend history that it distributed its 2nd $0.64/share quarterly dividend in early January 2022.
At the time of my early May 2021 post, the dividend yield was ~1.4% based on a ~$164 share price. In early December when shares were trading at ~$171 the dividend yield was ~1.5%.
I purchased shares on February 1, 2022 at ~$151; the forward dividend yield is ~1.7%.
Although management remains committed to returning capital to shareholders, the majority of future returns from a BR investment will most likely be in the form of capital appreciation.
The weighted average diluted shares outstanding in FY2011 - 2021 was 128.3, 127.5, 125.4, 124.1, 124, 121.6, 120.8, 120.4, 118.8, 117, and 117.8 (millions of shares); this increased to 118.3 in Q1 2022 but has subsequently been reduced to 117.6 in Q2.
I envision share repurchases will continue to be lower than in recent years as BR works toward reducing the debt used to acquire Itiviti.
Valuation
My last major BR purchases were in November 2018 and February 2019.
At the time of my November 2018 purchase, BR's share price had retraced to ~$105. Based on reaffirmed guidance, BR’s forward PE was ~25.4 - ~26.3 and its forward adjusted PE was ~22.2 - ~22.98.
In February 2019, guidance had just been reaffirmed and using the ~$95.80 share price, the forward PE range was ~23.2 - ~24 and its forward adjusted PE range was ~20.3 - ~20.96.
In early December 2021, shares were trading at ~$171 and broker guidance was:
- FY2022 - 8 brokers - mean of $6.43 and low/high of $6.22 - $6.65. Using the mean, the forward adjusted diluted PE is ~26.6.
- FY2023 - 8 brokers - mean of $7.05 and low/high of $6.89 - $7.31. Using the mean, the forward adjusted diluted PE was ~24.3.
- FY2024 - 3 brokers - mean of $7.46 and low/high of $7.35 - $7.55. Using the mean, the forward adjusted diluted PE was ~23.
Using my ~$151 recent purchase price, the forward adjusted diluted PE based on current broker guidance is:
- FY2022 - 8 brokers - mean of $6.40 and low/high of $6.22 - $6.50. Using the mean, the forward adjusted diluted PE is ~23.6.
- FY2023 - 8 brokers - mean of $7.08 and low/high of $6.90 - $7.32. Using the mean, the forward adjusted diluted PE was ~21.3.
- FY2024 - 3 brokers - mean of $7.42 and low/high of $7.35 - $7.54. Using the mean, the forward adjusted diluted PE was ~20.4.
I am reluctant to use FY2024 estimates since only 3 brokers have provided guidance and so much can change in a couple of years.
Final Thoughts
BR was my 19th largest holding when I completed my January 7, 2002 Investments Holdings Review; in mid-April 2021 it was my 22nd largest and in mid-August 2020 it was my 18th largest. On February 1, I added to my exposure with the purchase of 200 shares @ ~$151 in a 'Core' account in the FFJ Portfolio.
In my recent Church & Dwight and Automatic Data Processing posts, I mention that my exposure to many companies is predominantly in tax-efficient accounts. The benefit of holding shares in tax-efficient accounts is that they can grow tax-free and any income generated incurs no tax.
There are, however, drawbacks to holding investments in tax-efficient accounts!
Canadian government regulations stipulate mandatory minimum annual withdrawals once a Registered Retirement Savings Plan is converted to a Registered Retirement Income Fund. These withdrawals are taxable income.
Knowing that I will eventually be required to liquidate holdings within tax-efficient accounts, I am building positions in taxable accounts as evidenced by the change in the value of my FFJ Portfolio (see my FFJ Portfolio – January 2022 Report).
Unlike tax-efficient accounts, I am under no obligation to liquidate holdings in taxable accounts until I deem appropriate. Depending on my life expectancy, this can be well into the future.
I wish you much success on your journey to financial freedom!
Note: Please send any feedback, corrections, or questions to [email protected].
Disclosure: I am long BR, ADP, and CHD.
Disclaimer: I do not know your circumstances and do not provide individualized advice or recommendations. I encourage you to make investment decisions by conducting your research and due diligence. Consult your financial advisor about your specific situation.
I wrote this article myself and it expresses my own opinions. I do not receive compensation for it and have no business relationship with any company mentioned in this article.
