Should you buy, hold or sell Computershare stocks?
Australian investors often like to find good income stocks, that is, stocks that pay a good dividend, ideally fully franked.
For most of the last decade, investing in high-dividend shares was one of the few ways to derive an income stream from investing.
However, the past 12 months have brought 13 increases in the official cash rate from 0.1% to 4.35%.
Dividend versus growth stocks
This means there are many alternative ways to generate an income stream, often at lower risk than equities.
Equities are still a compelling alternative, as they offer the potential for capital gains as well as income.
But investors need to be discerning as to what stocks are likely to pay a good and growing dividend as well as offering upside on its capital.
Rather than looking straight to dividend yield, a better place to start is to look for high-quality companies that are able to compound its earnings. We call these quality compounders.
The history of Computershare
Computershare (ASX:CPU) is one of the highest quality stocks on the ASX with a Stockopedia Quality Score of 99 out of 100. It began life as a share registry business in Australia, but now derives most of its income from the USA.
It listed in 1994 with a market capitalisation of $36 million and over the past 30 years has grown to be the 31st largest stock on the market with a market capitalisation of $15.1 billion.
While still deriving a large portion of its revenue from share registries, it also offers employee equity plans, stakeholder communications, corporate governance, fund services and deposit protection.
How Computershare is performing
The high Quality Score is a result of high returns on capital and equity, high margins, and solid cash flow.
Financial year 2023 was a particularly strong year for CPU however it have been a consistently strong performer for a long period of time and have been able to compound returns as demonstrated by its growth.
Computershare's revenue is broken down into three broad categories:
- Core fee revenue: 53%
- Event and Transactional fee revenue: 23%
- Margin Income: 24%
Core fee revenue is the largest component, and as the name suggests, this revenue is fairly consistent. A lot of it comes from maintaining share registries.
Event and Transactional fees can vary in line with corporate activities. When companies undertake more corporate actions these fees will increase.
Margin income refers to interest income earned on client cash balances. It increased by 323% in FY23, due mainly to the rapid increase in interest rates.
Geographically, CPU's revenue is dominated by the USA at 62%, with only 7% now coming from Australia and New Zealand. Overall, revenue grew by 23% in 2023. Growth was driven by margin income and core fee revenue. Detracting was a decline in event and transaction-based revenue.
Last month, the company announced the sale of its US mortgage services business for total proceeds of $US720 million. This had been foreshadowed and is part of its simplification strategy which aims to drive an increase in the quality and consistency of earnings.
CEO Stuart Irving stated, "The divestment of US mortgage services allows us to focus our efforts on our core businesses which have high levels of recurring revenues, long-term growth runways, low capital intensity and attractive returns through the cycle."
The divestment should lead to a strong improvement in return on invested capital. This will add further support to the Quality score as will the improvement to free cash flow and earnings per share (EPS).
It also sold the Bankruptcy and Class Actions business on May 1, 2023. This contributed about $95 million in revenue.
Computershare revenue forecast
Market analysts are forecasting revenue to grow in 2024, but decline in 2025. This reflects the loss of revenue from the mortgage business from the final quarter of 2024. Margin income is expected to grow a further 8%.
Turning to the bottom line, EPS grew by 95% in FY23. Stripping out the non-recurring items, normalised EPS grew 76%. The operating margin was 32.1%. These are very strong numbers, driven by the strong revenue result. The impact of inflation did however weigh on the result somewhat.
The market is forecasting EPS to grow by 6.5% in 2024. This compares with a slightly more optimistic forecast from management of 7.5%. For 2025 analysts predict EPS to grow by a further 6% without the weight of the less profitable mortgage business.
CPU share buyback scheme
The strength of the balance sheet and cash flow has enabled CPU to implement a buyback.
Returning to the original question of income, the forecast dividend yield is 3.9%. Whilst there are companies that pay higher dividends not all of them share the same high quality and compounding returns of CPU.
Dividends have grown at 9.7% over the last five years and are forecast to increase strongly in the coming years. It is these qualities that provide higher confidence that the rate of dividend payments can be maintained and improved. Dividends are unfranked due to the fact that the majority of earnings are derived overseas.
Computershare is an Australian success story that is now growing on the world stage. It is a high quality business that has successfully pursued growth, and also pays growing dividends to shareholders.
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