This Former Spinoff is on the Verge of Unlocking Hidden Value
Many publicly-traded firms are in a steady state of flux, acquiring rivals and jettisoning businesses no longer deemed core to the parent company‘s mission. Both situations can be lucrative for astute investors — buyouts can deliver big premiums over current market values, and spinoffs can create an opportunity for new management teams to rejuvenate a former corporate step child and unlock hidden upside value for shareholders.
Once such firm was spun off from paycheck processing giant Automatic Data Processing (NYSE: ADP) to shareholders in March 2007. Ironically, its business is handling proxy materials for corporate actions like votes on board memberships, takeovers and, in this case, a spinoff. But luckily for value-minded investors, ADP’s trash could very well turn out to be a treasure find.
Broadridge (NYSE: BR) bills itself as a technology-based solutions provider to the financial services industry. Its flagship business consists of processing proxy materials related to equity security and mutual fund corporate actions. Best known for its www.proxyvote.com website, the unit accounts for 75% of total company revenues and also helps institutions track and maintain proxy votes and related corporate activities through a service called ProxyEdge.
Securities processing comprises the second unit and helps financial clients take care of their investment transactions. This includes desktop applications, performance reporting and related portfolio management functions to help keep records, settle trades and trade securities. All told, the company expects to handle more than two million trades a day and generate about $540 million in revenue, or 25% of sales.
A very positive recent development occurred when Broadridge announced it was selling its underperforming transaction clearing and settlement division to Penson Worldwide (Nasdaq: PNSN) for between $60 million and $70 million. The division had been experiencing modest revenue growth but was mired in the red for some time. The company expects the deal to close later this year. Also as part of the transaction, Broadridge will receive $65 million to $75 million in additional securities processing revenue as Penson signed a 10 year agreement to outsource processing and related back office functions to Broadridge. This is a win-win situation for Broadridge.
Its operating mix sounds pedestrian and mundane, but Broadridge garners fat profit margins. Its business generate lots of cash and the company doesn’t cost that much to run and maintain. Plus, clients have little choice but to go with Broadridge — last year it processed some 70% of all proxy services in the United States. This isn’t a bad thing either, as scalability and an installed base of users means the cost can be quite reasonable for customers.
The downside to this dominance is that Broadridge has most of the market wrapped up, which makes it tough to grow. Sales have grown only slightly during the past three years since the spinoff. However, growth trends should pick up.
For starters, the firm is still getting used to being independent and benefiting from not having a corporate parent siphon off capital for its own benefit. The benefit to shareholders is a rising dividend payment (the stock yields just under 3%) and share buybacks, both of which should continue to increase as Broadridge pays off the $690 million payment it made to ADP during the spinoff, while generating plenty of excess capital.
The elimination of the transaction clearing business will further boost profitability. Management has touted a steady slew of new business sales and impressive customer retention levels of about 98% in the core operating segments. The demise of major institutions including Stearns, Lehman Brothers and a host of banks across the country has eliminated existing and potential clients of Broadridge, but further upside exists once global financial markets settle down..
The current share price only discounts about +1% free cash flow growth during the next decade. If Broadridge can achieve +5% annual improvements in free cash, then the stock is undervalued by about -36%. And a double-digit growth rate means the stock could double from current levels.