Contents
Broadridge Financial Solutions, Inc. (BR) released Q4 and FY2019 results and FY2020 guidance on August 1, 2019.
In my opinion, the current market environment is one in which investors need to practice patience. This article includes words of wisdom from highly successful investors on the topic of patience.
Summary
- Broadridge’s core business is consistently profitable.
- BR has made 3 very recent tuck-in acquisitions. BR views growth by acquisition as an ongoing component of its growth and it has extensive experience at integrating newly acquired businesses.
- BR has consistently demonstrated a balanced and long-term approach to its capital stewardship.
- The recently announced ~11.34% increase in BR’s dividend marks the 8th consecutive double digit percentage increase and BR’s annual dividend has increased for the 13th consecutive year since becoming a public company in 2007.
Introduction
I readily admit that waiting for valuation levels to retrace to ranges I view as reasonable is like watching paint dry and is not enjoyable. Quite frankly, for the last several months I have been frustrated. I keep hoping for a return to more reasonable valuations but even with the recent broad market pullback I still find the valuation of many companies that appeal to me as being elevated.
This is when I turn to the teachings of successful and wise investors and pay heed to their messages about PATIENCE. I provide some of these messages below.
“If investing is entertaining, if you’re having fun, you’re probably not making any money. Good investing is boring” George Soros
“Price is what you pay. Value is what you get. Whether we are talking about socks or stocks I like buying when quality is marked down” Warren Buffett
“The single most important skill for being a good investor is to be very content with not doing anything for extended periods and that’s perfectly fine” Mohnish Pabrai
“The world is full of foolish gamblers and they will not do as well as the patient investors.” Charlie Munger
"Patience can produce uncommon profits." Philip L Carret
“Patience is essential.” Howard Marks
"It is possible to make money— and a great deal of money—in the stock market. But it can't be done overnight or by haphazard buying and selling. The big profits go to the intelligent, careful and patient investor, not to the reckless and overeager speculator." J Paul Getty
"I think the record shows the advantage of a peculiar mind-set - not seeking action for its own sake, but instead combining extreme patience with extreme decisiveness" Charlie Munger
“This company looks cheap, that company looks cheap, but the overall economy could completely screw it up. The key is to wait. Sometimes the hardest thing to do is to do nothing.” David Tepper
“Most people are too fretful, they worry too much. Success means being very patient, but aggressive when it’s time.” Charlie Munger
"I consider patience to be the most important ingredient for success in the market." Francois Rochon
“We don’t get paid for activity, just for being right. As to how long we’ll wait, we’ll wait indefinitely.” Warren Buffett
“People always want investments to go up like a line.…That’s just not reality. You make 80% of your money in 20% of the time in investing and you have to be patient.” Jeffery Gundlach
"[There] is the need for patience if big profits are to be made from investment. Put another way, it is often easier to tell what will happen to the price of a stock than how much time will elapse before it happens." Phil Fisher
“One of the best rules anybody can learn about investing is to do nothing, absolutely nothing, unless there is something to do” James Rogers
“Patience, patience and more patience. Ben Graham said it, but it is true of all investment disciplines, not only value investing, although it is indispensable to that.” Peter Cundill
“Inaction and patience are almost always the wisest options for investors in the stock market.” Guy Spier
“Often, there is no correlation between the success of a company's operations and the success of its stock over a few months or even a few years. But, in the long term, there is a 100 percent correlation between the success of the company and the success of its stock. This disparity is the key to making money: It pays to be patient and to own successful companies” - Peter Lynch
This brings me to the subject matter of Broadridge Financial Solutions, Inc., (BR), a company in which I have exposure within ‘Side Accounts’ in the FFJ Portfolio and in accounts for which I do not disclose details.
I have been a BR shareholder since the day this company was spun off from Automatic Data Processing, Inc. (ADP). I am of the opinion there are significant future growth opportunities for this company and intend to acquire additional shares…at the right valuation.
In my previous BR article I reviewed Q3 results and guidance. Subsequent to that article, BR’s share price rose to ~$135. With the recent broad market pullback, however, shares have retraced to $123.60.
Now that BR has released Q4 and FY2019 results and FY2020 guidance on August 6, 2019, I take this opportunity to determine whether BR’s valuation based on FY2020 guidance is sufficiently attractive to warrant the purchase of additional shares.
Q4 and FY2019 Results
BR’s Q4 and FY2019 Earnings Release can be accessed here and the Earnings Presentation can be accessed here.
In FY2019, BR’s recurring fee revenues rose 6% to $2.759B. This increase more than offset the decline in low to no margin distribution revenue and lower event-driven revenues.
On an annual basis, total revenue rose 1% to $4.362B. With strong margin expansion, adjusted operating income rose 8% and adjusted EPS rose 11%.
BR continues to fund investments in new products and technologies and in FY2019 it made tuck-in acquisitions that will strengthen and grow BR’s Wealth Management business; Press Releases announcing these tuck-in acquisitions can be found here, here, here, and here.
BR invested ~ $0.55B into the business with the biggest use of cash being for these acquisitions. It invested ~$0.4B to acquire RPM, Rockall and the TD Assets, with $0.35B of an aggregate purchase price coming from cash; another ~$0.043B will be paid in Q1 FY2020.
BR’s management expects modest EPS contribution in FY2020 from these recent acquisitions but anticipates attractive returns over time.
FY2020 Guidance
BR’s FY2020 guidance is reflected below.
Source: BR – Q4 and FY2019 Earnings Presentation – August 1, 2019
Management expects recurring fee revenue growth of 8% - 10%, which includes organic growth of 5% - 7% and ~ 3% coming from Q4 acquisitions (Rockall, RPM, and the acquisition of retirement plan custody and trust assets from TD Ameritrade Trust Company).
This growth will be driven mostly by acceleration of growth in BR’s Global Technology and Operations (GTO) segment. GTO's recurring revenue growth is expected to be in the mid-teens as a steady stream of new client onboardings should increase full year organic growth rate to mid- to high single-digits levels.
RPM, a $40 - $50 million revenue business and Rockall, a $10 - $15 million revenue business will contribute the balance of GTO’s growth.
The Investor Communication Solutions (ICS) segment of BR’s business is expected to experience mid-single-digit organic growth driven by continued growth in BR’s data and analytics product lines. This growth will be partially offset by relatively flat top line performance in customer communications.
Total revenue growth of 3% - 6% is projected as BR expects low-margin distribution revenues to be roughly flat, or to contract, thus weighing on total revenue growth. BR also expects a ~5% - ~15% decline in event-driven revenue and FX losses are expected to widen at a rate greater than recurring growth with the addition of more non-U.S. revenue.
Adjusted operating income margin of ~18%, up from 17% in FY2019, is projected. This is relatively in line with BR’s target of a 50+ bps per annum increase. The margin expansion is being driven by higher recurring revenues and modest expense growth, offset in part by lower event-driven revenues. This means BR is targeting high single digit or better growth in adjusted operating income.
Increased leverage is expected to result in higher interest expense.
The overall tax rate should be steady at 21% as BR’s core tax rate which excludes the excess tax benefit, remains unchanged at 24%; BR is projecting an excess tax benefit of $20 million which is relatively similar to $19.3 million reported in FY2019.
Adjusted EPS growth of 8% - 12% is projected with the repurchase of shares in Q4 generating a modest benefit to EPS.
On the August 6th earnings call, management reminded call participants that event fees were up 30% in Q1 2019 and represented the largest quarter for event-driven fees in FY2019. Management expects Q1 2020 event fees to contract by ~30% - ~35% to a more normalized level which will impact Q1 2020 EPS. With the normalization of event-driven revenues, management is of the opinion Q1 2020 EPS is likely to be consistent with the ~13% of FY2020 adjusted EPS.
Credit Ratings
There has been no change to BR’s credit ratings from Moody’s and S&P Global subsequent to my last article and the credit ratings are not under review.
Moody’s continues to rate BR’s long-term debt as Baa1 which is classified as lower medium grade. Standard & Poor’s continues to rate the debt BBB+ which is also lower medium grade.
These ratings are satisfactory for my purposes.
Free Cash Flow (FCF)
BR continues to generate strong Free Cash Flow ($0.4022B, $0.5957B, and $0.5444B in FY2017 – 2019).
FCF came in at ~$20 million below guidance as a result of higher working capital, a slightly lower access to tax benefit, and higher client onboarding investments which should serve to drive future growth. I do not view ~$20 million as a material shortfall given that this is a company which generates ~$4.362B in annual revenue.
In addition to the investment in tuck-in acquisitions mentioned earlier, BR also invested more than $0.07B in CapEx and software. BR is investing in client-driven work to build its Global Post Trade Management (GPTM) technology platform and its new wealth product. Linking these product development efforts to long-term client contracts should enable BR to accelerate its product development efforts. This is an area of BR’s business in which investment is expected to pick up further in FY2020 with the investment expected to exceed $0.1B; management views this spend as a positive sign of growth in future cash flows.
Given this increase in investment, FY2020 FCF is expected to be equivalent to that of FY2019.
Valuation
At the time of my August 7, 2018 article, I indicated investors could expect Diluted EPS (GAAP) of ~$3.99 - ~$4.13 and adjusted Diluted EPS (Non GAAP) of ~$4.57 - ~$4.73. Using the August 7th $129.17 closing stock price I arrived at a forward diluted PE range of ~30.8 – ~36.3 and a forward adjusted diluted PE of ~27.3 - ~28.3. I viewed these levels as lofty and indicated I would refrain from acquiring additional shares until such time as BR’s valuation retraced to the low – mid 20s (based on Diluted EPS (GAAP) results).
When I wrote my November 6, 2018 article, BR’s shares had retraced to ~$105. Using this share price and the reaffirmed guidance, BR’s forward PE was ~25.4 - ~26.3 while its forward adjusted PE was ~22.2 - ~22.98.
In my February 7, 2019 article, guidance had once again been reaffirmed. Using the then current ~$95.80 share price I arrived at a forward PE range of ~23.2 - ~24 and a forward adjusted PE range of ~20.3 - ~20.96; I recommended shares be purchased and disclosed that I had acquired additional shares.
On May 7, 2019, BR’s FY2019 guidance called for diluted EPS growth of 12% - 16% and adjusted diluted EPS growth of 9% - 13% was expected with ~11% being the expected level. FY2018 diluted EPS was $3.56 so one the basis of 12% - 16% growth I arrived at a FY2019 range of $3.99 - $4.13 and $4.06 based on 14%. FY2018 adjusted diluted EPS was $4.19 so on the basis of 11% growth I arrived at ~$4.65 for FY2019. Using these projected levels and with BR trading at $115.23, I arrived at a forward diluted PE of ~28.38 and a forward adjusted diluted PE of ~24.78.
We now know from BR’s August 1, 2019 earnings release that BR generated FY2019 diluted EPS of $4.06 and adjusted diluted EPS of $4.66. With BR currently trading at $123.60 we get a forward diluted PE of ~30.44 and a forward adjusted diluted PE of ~26.52.
BR is now projecting FY2020 diluted EPS growth of 5 - 9% thus giving us a projected range of ~$4.26 - ~$4.43. Using the current $123.60 share price we get a forward diluted PE of ~27.9 - ~29.
Using FY2020 adjusted EPS projections of 8 – 12% we get a range of ~$5.03 - ~$5.22 giving us a forward adjusted diluted PE range of ~23.68 - ~24.57.
As much as like BR as a long-term investment I will wait for BR’s valuation to become more attractive. I would like to see BR’s share price retrace to a level where the forward diluted PE range is ~26 or lower and the forward diluted adjusted PE range is ~22 or lower.
Using FY2020 diluted EPS guidance of ~$4.26 - ~$4.43, a forward PE of ~26 AND using FY2020 adjusted diluted EPS guidance of ~$5.03 - ~$5.22 and a forward adjusted PE of ~22, I would be looking to acquire shares at ~$115 or less.
NOTE: BR does not keep the dividend history segment of its website current.
In FY2019, BR returned $0.578B to shareholders (~$5/share) to shareholders. $0.211B was in the form of dividends and $0.367B was used to repurchase 3.2 million shares of which 2.3 million shares were repurchased in Q4.
On the basis of strong FY2019 results and management’s outlook for FY2020, BR announced on August 6th a ~11.34% increase in the annual dividend to $2.16 from the current $1.94 level; in my previous article I had projected a new dividend of $2.17.
This increase marks the 8th consecutive double digit percentage increase in BR’s dividend. With this recently announced increase, BR’s annual dividend has increased for the 13th consecutive year since becoming a public company in 2007.
On the basis of this dividend increase, BR anticipates that ~$0.24B of dividend payments will be disbursed in FY2020.
BR is unlikely to be an investment which would appeal to dividend yield seeking investors. With BR currently trading at ~$123.60 the new dividend yield is ~1.75%.
While the dividend yield is not necessarily appealing, I would much rather have a lower dividend yield than one in which I continually wonder whether it is sustainable.
The diluted weighted-average shares outstanding as at FYE 2014 - 2019 amounted to (in millions of shares) 124.1, 124, 121.6, 120.8, 120.4, and 118.8. While share count is reducing gradually, BR is a company in growth mode. I expect management’s priorities over the next few years to be growth of the business versus share repurchases.
Final Thoughts
I like BR’s long-term prospects and intend to increase my position but view its current valuation as somewhat elevated.
In the Valuation section of this article I indicated that I would be looking to increase my position if BR drops to the $115 (or lower). This is not a hard and fast number and it is entirely possible that I would acquire additional shares just a shade above this level; I will disclose any purchase I make.
I wish you much success on your journey to financial freedom.
Thanks for reading!
Note: I sincerely appreciate the time you took to read this article. Please send any feedback, corrections, or questions to [email protected].
Disclaimer: I have no knowledge of your individual circumstances and am not providing individualized advice or recommendations. I encourage you not to make any investment decision without conducting your own research and due diligence. You should also consult your financial advisor about your specific situation.
Disclosure: I am long BR.
I wrote this article myself and it expresses my own opinions. I am not receiving compensation for it and have no business relationship with any company whose stock is mentioned in this article.
