Element Financial Corp

Transcription

1 PREPARED FOR: YORK UNIVERSITY STUDENT INVESTMENT FUND Element Financial Corp EFN -TSX Karn, Waqar, GP, Jonathan Ficus Carica Feb 22, 2016 Current Price Target Price Annualized Return (x-yr) $14.56 $##.## ##.#% 1

2 YUSIF LEGAL DISCLAIMER The information contained herein is intended only for educational and non-commercial purposes only. The York University Student Investment Fund (YUSIF) disclaims the use of this information for any specific financial, legal, tax, or accounting advice, and assumes no responsibility or liability for the reproduction and consequences of any actions taken on the basis of the contained information. Any redistribution of this content without YUSIF s express written consent is prohibited. In preparation of these pages, every effort has been made to offer the most current, correct, and clearly expressed information possible. Nevertheless, YUSIF is not in the business of advising and various factors may affect the accuracy of information contained within our documents. 2

3 COMPANY OVERVIEW BUSINESS MODEL Element is an independent financial service company that manages asset-based financings and related service programs with operations in Canada, the U.S, Australia, New Zealand, and Mexico. It finances a broad range of equipment and capital assets by secured loans, financial leases, conditional sales contracts and operating leases. The company is organized in four parts: Fleet Management, Rail Finance, Commercial and Vendor Finance, and Aviation Finance. Revenue is generated by finance income earned and rental revenue earned on equipment under operating leases. MANAGEMENT CEO: Steven Hudson (more than 20 years of experience in capital markets and over 30 years of asset finance experience) CFO: Michel Beland (previously served as the CFO of a private equity-backed specialty finance firm, CFO of Rogers Wireless) COO: Bruce Smith (served as Managing Director and Senior VP at CIT Financial) SHARE PRICE PERFORMANCE FINANCIAL STATISTICS AND INVESTMENT OUTLOOK Current Share Price: $14.56 Market Cap: 5.62B 2014 EPS: $0.35 FY2015E P/E: 16.8x FY2015E EPS: $1.04 Target Forward P/E: ##.#x Price Implied from Multiple: $##.## Price Implied from DCF $##.## 52 - Week Range: $ $20.47 Price Target: $##.## Dividend Yield: 0.8% Annual Return: % OVERVIEW 3

4 REVENUE/GEOGRAPHICAL SEGMENTATION REVENUE BREAKDOWN BY REGION REVENUE GROWTH REVENUE BREAKDOWN BY SEGMENT REVENUE BY REGION ENDED SEPTEMBER 30, % 25% 74% Canada US Other REVENUE BY REGION ENDED SEPTEMBER 30, % 40% 59% Canada US Other OVERVIEW 4

5 RECENT DEVELOPMENTS YEAR TO YEAR GROWTH IN EARNING ASSETS MANAGEMENT ACTIVITIES Expanded to rail finance by completing portfolio acquisition of railcar leases Management constantly searched and completed various mergers and acquisitions Achieved record high Commercial and Vendor originations in the U.S Focus on organic growth, which is the growth of net earning assets STEADY GROWTH IN RAIL FINANCE Strong order flow from Trinity led to a 30% increase in origination Since the agreement in 2013, Element has acquired $1.9 billion worth of railcar leases Diversified revenue source rather than focusing on fleet management COMPLETION OF GE ACQUISITION Completed full acquisition of GE Fleet U.S on August 31, 2015 Added $7.8 billion of finance receivables and equipment Expanded its fleet management business to Mexico, Australia, and New Zealand 5-YEAR MANAGEMENT PLAN Continue to search and capitalize on new opportunities Grow its core business organically Penetrate in the Canadian market to take advantage of the increased capital expenditure of machinery and equipment Element s position in the leasing industry and aggressiveness for M&A provides opportunities for future growth prospects OVERVIEW 5

6 MANAGEMENT TEAM Steven Hudson CEO of Element Financial Corporation Founded Newcourt Credit Group, a leader in equipment and asset finance Served as director for numerous investment service companies BBA from York University Michel Beland Chief Financial Officer of Element Financial Corp since July 2011 Served as COO and CFO at a private equity-backed specialty firm Senior Vice President and CFO at Isacsoft and CFO at Rogers Wireless BBA from the Universite du Quebec Bruce Smith President and COO of Element Financial Corporation Served as the Managing Director and Senior Vice President of CIT Financial Held senior management positions at Newcourt Credit Group Bachelor of Commerce from McMaster and CPA Jim Haliday Excecutive VP at Element Financial Served as President and CEO of Element s fleet management business Served as President of PHH Canada Held operations and management positions with different financial enterprises MBA from Ivey School of Business Management has shown a proven track record of relevant industry experience OVERVIEW 6

7 INDUSTRY OVERVIEW FAVOURABLE INDUSTRY AND ECONOMIC OUTLOOK US EQUIPMENT INVESTMENT OUTLOOK The environment for equipment finance industry has been heavily impacted by the 2008 financial crisis. The reduced competitiveness provided the company an opportunity to expand its business in the four categories through strategic acquisitions and organic growth. The average equipment age began to increase since the crisis. With the restrain limit on capital expenditure and the propensity to use equipment financing, the demand for such firms grew. Steady economic outlook in the U.S: The strengthening of the labor market will be the driver of the U.S economy in the near future. Improved consumer spending and a modest housing rebound are tailwinds for GDP growth. Equipment and software investment are forecasted to grow 5.0% in Recovery in leasing market penetration rate and capital expenditure in Canada: Spending on new machinery and equipment in Canada are forecasted to rise 7% in 2015, exceeding the 20 CAGR of 3.6%. Leasing market penetration rate has also increased since the financial crisis. Low interest rate environment: The end of the zero interest rate policy will fuel investments by businesses before the hike cycles starts. Current economic volatility gives countries around the world (particularly Canada and the U.S) greater rooms to implement a loose interest rate policy to increase consumption and investments. Businesses which have been hesitant on spending may strike a deal now rather than later to take advantage of the still-low interest rate before a tight monetary policy kicks in. CANADIAN MACHINERY AND EQUIPMENT CAPEX OVERVIEW 7

8 INVESTMENT THESIS 1. Separation of business lines will provide flexibility to drive growth 2. Consolidation strategy supports margin expansion and diversification 3. Upswing in North American CAPEX adds to the top-line growth THESIS 8

9 Thompson Reuters, Bloomberg, EFN Investor Relations THESIS I: SEPERATION OF BUSINESS LINES FLEET MANAGEMENT Focus of Operations: With heavy concentration in commercial, transportation, and industrial sectors, over 60% of Element Financial s earning assets originate from the United States, leveraged primarily towards corporate America Reliability: Losses attributable to the fleet management business have accounted for a total of three basis points over the past 20 years, and 72% of clients are considered investment grade Rising Fee Income: Fleet Management generates a much higher level of fee income than Element s other business lines, growing from 25% to approximately 40% of the segments revenue growth over the past 2 years ELEMENT FINANCIAL SPLIT On February 16 th Element declared that it would separate its fleet management and commercial financing business, creating two publicly traded companies: Element Fleet Management ($19.5 Billion) and Element Commercial Asset Management ($7 Billion) Expected to be completed in Q3 2016, will be tax-free This was done in an effort to bring more focus to the company s main revenue source; the fleet management business Management believes that this will lead to a higher valuation for the two companies (Fleet Management: P/E 15x, Asset Management: P/E 16x) Fleet Management expected to experience a minimum of $95M in savings THESIS FEE REVENUE MIX 22% COMMERCIAL & VENDOR ORIGINATIONS (C$ MILLIONS) This separation will drive long term shareholder value. Fleet Management will continue to enjoy stable growth, high fee income and access to AAA funding. Whereas, Asset Management has a significant growth profile, and support from institutional investors. The split will also bring about improved leverage lower cost of capital for both entities. 40% 38% 36% 34% 32% 30% 28% 26% 24% Q Q Q Q Q3 9

10 Thompson Reuters, Bloomberg, EFN Investor Relations e Millions THESIS II: VALUE-ADDING GROWTH MACHINE GROWTH IN FLEET MANAGEMENT TARGETED INTEGRATION Fleet Management Consolidation Strategy: After a series of strategic acquisitions leading up to the $8.6 billion purchase of GE Capital Fleet Services, Element Financial has solidified its position as North America s largest fleet services operator. Nevertheless, management has repeatedly stated that Element will continue its strategy of consolidating the rest of the North American fleet services industry. Improved Cost of Capital: By choosing to bifurcate their core business into two independently focused arms, Element is able to improve their cost of capital and thus gain access to AAA investment-grade funding. Improved leverage combined with willing investors who seek to finance major acquisitions enable Element to focus on adding value through strategic M&A. Significant Cost Savings Through Integration: On Element s Q3/15 earnings call, Daniel Jauernig (COO) stated that the company is focused on improving integration efforts in an attempt to drive future business growth and efficiencies. IT consolidations are scheduled to be fully implemented by Q and Element has also initiated the re-negotiation of all supplier contracts to account for larger scale. With a clear pathway to execute on integration targets, Element is further enhancing their global fleet offerings and creating value for shareholders. GROWTH IN EARNING ASSETS $25,000 Total Earning Assets (As At) $20,000 $19,310 $15,000 $10,000 $8,301 Aviation Vendor & Commercial Rail Fleet Management $5,000 $0 30-Sep Sep-15 Element s long-term Fleet Management consolidation strategy combined with their targeted integration efforts will enable them to further increase shareholder value. The recent acquisition of GE Capital Fleet Services proved to be ~20% accretive to Element s share price and also paved the way for future M&A deals in the Fleet Management sub-sector. THESIS 10

11 Thompson Reuters, Bloomberg, EFN Investor Relations e THESIS III: TRENDS IN CAPEX NORTH AMERICAN CAPEX ON UPSWING The main driver of leasing industry volume growth is the level of spending on asset classes that tend to be leased such as transportation equipment, aircraft, industrial equipment, etc. spending has been on a cyclical upswing since correcting in Note that although aggregate spending levels are close to the peaks of the previous cycle, they have yet to show signs of deceleration five years into the current upcycle. The current upcycle in spending has benefited from a combination of deferred replacement activity and, more recently, from underlying increases in capacity requirements. Canadian capital spending declined in 2015 for the first time since the 2009 recession, led by a plunge in the oil and gas industry. Element s end market exposure to resource sector is capped at 9% and is currently driven by a single vendor relationship rather than by overall market trends. AGING EQUIPMENT The average age of US equipment began to expand in 2009 and has since remained at an elevated level, assisting the trends in Capex. Average equipment age, in aggregate, peaked four years ago in Given the cyclicality of this trend, the average age is declining towards normal levels at this point, rendering this a diminishing contributor to new equipment demand. As long as equipment age remains above-trend, which is still the case, replacement demand should remain a contributor to capex and, therefore, to leasing activity levels. Element s long-term Fleet Management consolidation strategy combined with their targeted integration efforts will enable them to further increase shareholder value. THESIS 11

12 VALUATION: COMPARABLE COMPANIES ANALYSIS Historical P/E PUBLIC COMPARABLES ANALYSIS Price / Earnings Price / Book Value Revenue Growth Market Cap Enterprise Value LTM 2016E 2017E LTM 2016E 2017E LTM 2016E Business Vertical Comparables GATX Corporation $1,812 $5, x 8.1x 8.6x 1.6x 1.2x 1.2x 9.8% (0.1%) Ryder System $3,090 $8, x 7.4x 8.9x 1.6x 1.2x 1.2x 3.4% (1.0%) FleetCor Technologies $11,741 $13, x 17.4x 16.9x 4.3x 3.1x 2.9x 34.0% 42.0% WEX Inc. $2,420 $3, x 14.6x 13.3x 3.2x 2.3x 1.8x 14.0% 4.5% Business Vertical Adj. Average 20.7x 11.9x 11.9x 2.7x 1.9x 1.8x 15% 11% Canadian Mid-cap Financial Comps Intact Financial $11,368 $12, x 12.4x 12.2x 2.2x 2.0x 2.0x 4.6% 8.0% CI Financial $8,313 $8, x 12.5x 12.9x 4.5x 4.1x 4.2x 16.4% 82.4% IGM Financial $8,519 $9, x 10.1x 10.7x 1.8x 1.8x 1.8x 3.0% 11.9% Industrial Alliance $3,887 $4, x 9.5x 8.3x 1.2x 1.1x 1.0x (0.3%) 8,88% Canadian Western Bank $1,785 $2, x 8.2x 7.9x 1.1x 1.0x 0.9x 7.9% 6.5% Home Capital Group $2,208 $3, x 5.7x 6.5x 1.2x 1.0x 1.2x 9.9% (4.6%) Mid-Cap Financials Adj. Avg 11.9x 9.7x 9.8x 2.0x 1.8x 1.8x 7% 21% Overall Adjusted Average 16.3x 10.8x 10.8x 2.3x 1.9x 1.8x 11% 16% Element Financial $5,589 $13, x 14.1x 8.9x 1.3x 1.2x 1.0x 189.1% 95.0% 120.0x 100.0x 80.0x 60.0x 40.0x 20.0x CIX 0.0x Peer Avg Element operates in four distinct markets in a combination unique among publicly-traded companies. For two of those verticals, C&V and Aviation Finance, there are no pure play public comps to even consider. Its other two verticals each have a few relevant publicly-traded peer to consider. However, none of these companies individually share Element s complete end market and operate under different business models. VALUATION EFN GMT R IFC 12

13 Company Reports, Bloomberg LLP VALUATION: INTRINSIC VALUATION DIVIDEND DISCOUNT ANALYSIS Forecast Period FY2010 FY2011 FY E 2014E 2015E 2016E 2017E EBIT Tax Rate 34.2% 36.1% 34.6% 36.0% 36.0% 35.0% 35.0% 35.0% NOPAT Add: D&A Less: Capex (87.0) (149.0) (212.0) (305.0) (224.2) (227.6) (220.3) (210.9) Less: ΔNWC (12.0) 2.0 (34.0) (78.5) (51.9) (33.9) (22.8) (22.5) Free Cash Flow Growth 32.4% 13.3% (30.3%) 104.3% 16.3% 10.4% 5.9% Discount Factor PVCF SENSITIVITY ANALYSIS Terminal Value Final FCF LT Grow th Rate 1.5% Discount Factor 11.8 Terminal Value 6,444.9 Discount Factor 0.6 PV Terminal Value 4,001.8 Enterprise Value 5,536.3 Equity Value Net Debt 624 Less: Retirement Liabilities (30.81) Shares Outstanding Intrinsic Value per Share Here you can outline the assumptions you ve made in your DCF, either in a table, or in graph format Bear-Base-Bull It would also be nice if you could squeeze in a Scenario Analysis for the B/B/B cases either on this slide or the next if you want, you could do a sensitivity analysis as well for the various WACCs and (Optional) Key Takeaways VALUATION 13

14 RISKS & CATALYSTS RISKS Interest rate- In the scenario that Element is unable to adequately mirror the timing and structure of interest earned on their assets, this would cause earnings to fluctuate in relation to changes in key interest rates Business Split Failure- There is a possibility that the two business lines operating under Element Financial are better off being kept as one entity. The Commercial Asset Management business is much smaller in relation to its counter part and may require more resources than management is anticipating Competition- The space which Element Financial operates within is extremely competitive; given EFN s wide range of of businesses they have a multitude of different competitors. These competitors range from banks to independent lease finance companies. Element Financial does not have the same access to capital as competitors (banks) would have, as such, this restricts their ability to maintain a competitive advantage CATALYSTS Fleet Management- Fleet lease market is projected to increase at a CAGR of just under 4% until 2020; Element s increasing focus on Fleet Management will bring an increase in ROE potential. There is also significant growth in originations; once synergies are fully realized with regards to GE s fleet, there will most likely be a significant increase in originations Further Acquisitions- Management indicated that they expect acquisitions to continue in the future with a deal size between $5B to $6B, contributing to synergies of $120M-$140M in the latter half of This will provide a greater amount of revenue streams to Element Financial, one of the targets being increasing fee revenue. Forex Hedging- Element Financial hedged U.S earnings at $1.24, have not yet locked in a hedge for However, tail winds are expected to be experienced with regard to 2016 EPS Despite the risks associated with Element Financial, there is tremendous growth potential yielding an attractive risk-reward profile. Based historical trading multiples, and the current growth outlook, EFN appears to be oversold presenting attractive upside potential. 14 RECOMMENDATION 14

15 Company Reports, Bloomberg LLP ANALYST OPINION & RECOMMENDATION FOOTBALL FIELD RECOMMENDATION So here is where you make your final call: What s your price target? If you get really ambitious, you could do a Chart with a Bear-Base-Bull Fan for one year out, Value-Line Style (If you don t know what I m talking about, check out Value Line in the reference section of the library) Be specific as to how your team arrived to your price target: 1) Comps 2) Intrinsic Valuation 3) A weighted average of either Current Share Price: Target Share Price: Implied Upside: % RECOMMENDATION 15

16 APPENDIX

17 INCOME STATEMENT ($ millions, except for per share amounts) 2014A 2015E 2016E 2017E 2018E 2019E 2020E Income Statement Financial Revenue Interest Revenues Net Rental Revenue Fee Income Provision on Credit Losses Amortization of Lease Origination Total Financial Revenue Financial Expenses Interest Expense Amortization of deferred financing costs Total Financial Expenses Financial Income Operating Expenses Salaries and Wages General and Administrative Share based Compensation Total Operating Expenses Operating Income before Taxes Business Acquisitions and Other non-operating costs Earnings before Taxes Income Taxes Net Income Preferred dividends Net Income to common shareholders and minority interests Minority interests Core-cash net income to common shareholders