Current Price: A$4.91 (updated, see comment below)
Offer Price: A$5.40+ (updated, see comment below)
Expected Closing: TBD
- IMPORTANT – the case has been updated and brought back among the active ideas for a second time now – see this comment. The write-up below refers to an earlier arbitrage situation from 2020 that was closed with 15% gain in Dec’20. The idea was later reopened for the first time in Nov’21 and closed again with 21% gain in 2 months.
On the 12th of October, Australian superannuation fund administrator Link Administration received a preliminary non-binding takeover proposal from a consortium of PE firms PEP and Carlyle Group at A$5.20/share (valuing the company at $A2.8bn). PEP has a long history with Link – took it public at higher prices in 2015 after 10 years of ownership – and should be highly knowledgeable about the company and its business. This offer was quickly rejected and a few days later the consortium revised the proposal to A$5.40/share and included an alternative option of $3.80/share in cash + indirect ownership in one of the subsidiaries (PEXA). The board stated that the updated offer still did not represent compelling value ‘on a control basis’, but allowed the consortium to proceed with due diligence. 17% of shareholders already support the revised proposal, however, Yarra Capital (5.4% stake) is not satisfied with the offer price. Historical business valuation, comparison with other peers, and recent transactions indicate that Link is cheap and there’s plenty of headroom for an improved offer to convince the board and remaining shareholders.
So we have a relatively cheap valuation, credible buyers with intimate knowledge of the business, the board that in principle is willing to sell, support from 17% of shareholders, and a 10% spread to the latest offer which might still be revised upwards.
The downside to pre-announcement price is -19%. However, the company is cheap with a stable business (83% recurring revenues) and is only facing what seems to be temporary headwinds from COVID and regulators. As stated by Yarra Capital, most of these issues are “in the rear window” now, while strong foundations for recovery are present – certain segments of the business saw very favorable acceleration from the COVID. PE firms and the board also clearly value Link above A$5.40/share. Taking all these points into account, it seems that the real downside in case the transaction fails should be lower than 19%.
With this set-up, an 11% spread is hard to explain. One of the reasons is that the market is skeptical towards a non-binding offer as last year, several other large PE firms (including BGH Capital) showed interest in Link, but no proposals were made. However, this time it might be different due to the lower price + strong growth of Link subsidiary PEXA as well as buyers’ intimate knowledge of the business.
Worth noting that this is the largest PE transaction in Australia this year, so it is not an undiscovered situation and the spread might correctly reflect the outstanding risks.
Timeline of events
- 12th October. Link announces a non-binding offer from Pacific Equity Partners and Carlyle Group at A$5.20/share. The offer is conditioned on due diligence, securing debt financing, and regulatory approvals. Additionally, some kind of alternative offer including scrip (securities) was mentioned without unveiling further details. The largest shareholder Perpetual (9.65% stake) supports the offer, however, another major shareholder Yarra Capital opposes. Yarra states that the proposal “materially undervalues great assets” and that the company should wait for a better offer as current the headwinds causing depressed market price are “in the rear window”.
- 23rd October. Link board also decides that the offer materially undervalues the company citing several aspects – the value of PEXA and its accelerated take-up during COVID, early progress of the transformation plan, highly conditional nature of the proposal, etc. The company also notes that the consortium proposed a certain structure to allow Link shareholders to take a direct interest in PEXA, but no numbers were provided.
- 26th October. Consortium issues a revised offer to A$5.40/share. 6 weeks due diligence period is requested, while the deadline for the board is set for the 28th of October. The revised proposal includes an alternative option for a cash offer for Link (ex-PEXA) at A$3.80/share + ability to take a direct interest in PEXA. 14.6% of shareholders gave their support.
- 27th October. Another shareholder agrees to vote in favor of the proposal bringing the supporting stake to 16.94%.
- 28th October. Link board notes that the proposal is still undervaluing the company on a control basis, but allows due diligence to proceed “so that it can develop a proposal that may be capable of being recommended to shareholders”. Additional stand-still agreement is included for the consortium.
Link Group and PEXA
Link Administration Holdings provides administration services for major superannuation (i.e. retirement) funds. 83% of the company’s revenues are recurring.
PEP has acquired Link in 2005 at A$135m and 7.9x EBITDA multiple. After 10 years of growing the company, Link was very successfully IPO’ed at A$2.3bn market cap (A$6.37/share) and at 15.9x EBITDA forecast for 2016. PEP remained a major shareholder until 2018 when it exited the company completely at around A$8.40/share price levels and substantial profit for the PE firm (total return was 7.6x according to one of the firm’s investors).
Since the IPO the company has done two large investments:
1. 2017 Acquisition of Capital Asset Services for A$1.5bn at a valuation of 12.4xEBITDA. The merger increased Link’s revenues by 70% (to pro-forma A$1.3bn) and EBITDA by 55% (to pro-forma A$329). Operations were expanded to 17 other jurisdictions globally (mostly Europe). Pre-acquisition 93% of revenues were from Australia & NZ, while post-acquisition the figure was reduced to 55%.
2. Incremental investments in Property Exchange Australia (PEXA) increasing LNK stake from 11% to 44%. These incremental investments were carried out in two rounds one in 2017 and another one in 2019. The last transaction valued PEXA at A$1.6bn and Link’s stake in the company at A$710m. Worth noting that PEXA is carried on Links books as an equity investment meaning that the reported Link revenues and EBITDA exclude PEXA results. However, it is likely to be one of the key reasons for the interest from PE groups. As this article put it:
Carlyle Group and Pacific Equity Partners are circling Link Market Services. But their main target might just be its 44 per cent stake in the PEXA online property settlements exchange.
PEXA is the leading electronic processing platform for property transactions in Australia. It assists members – such as lawyers, conveyancers and financial institutions – to lodge documents with Land Registries and complete financial settlements electronically rather than by way of a paper based system. The company has shown remarkable growth over the last few years and reached EBITDA profitability.
Management recently indicated that if the transaction with the consortium does not materialize, PEXA might be spun-off (no details provided yet):
The Board continues to examine the structural alternatives as disclosed in Link Group’s annoucnement dated 23 October 2020, including a separation and demerger of PEXA.
Aside from the great performance of PEXA, the remaining Link operations have been impacted by aggressive competitor activity, negative business sentiment in the UK due to Brexit, certain regulatory headwinds in AU, and finally, the COVID outbreak. For example, the law changes in the Australian superannuation industry introduced last year meant that accounts of less than A$6k must be transferred from superannuation funds to the AU tax office (hitting AUM of Link’s customers and in turn Link’s revenues). In March’20, to tackle the pandemic, the Australian government allowed certain workers (whose jobs have been affected by COVID) early access to their pension funds. This program doubled the workload of the company – as of Aug’20, 83k accounts were closed and A$16bn early-access payments were made from Link’s administered funds. The exact impact on Link is not clear yet but the program is expected to continue until the end of this calendar year. As of June’20 fund segment’s AUM was A$102m (+6% YoY).
All these headwinds have negatively affected the financial performance. Recent FY2020 (June’20) results showed revenues falling by 12% (YoY), operating EBITDA by 26% and EPS at A$-0.22 vs A$0.60 in 2019 (PEXA results are not included from these figures).
Note: Operating EBITDA is slightly not the metric used in the next section, where we use EBITDA after significant items for better comparison with peers and more accurate valuation multiples.
The revised proposal values the core business (excluding PEXA stake) at A$3.80/share and then PEXA stake at A$1.60/share. I believe both figures are too low and have room for the improved offer.
Let’s start with the value of the core business.
Despite recent negative trends, the core business has grown significantly since the IPO. However, the offer price (A$3.8/share) values the business at almost the same enterprise value as the company had at the time of its IPO, with hardly any credit given to revenue and EBITDA growth.
- At the time of IPO. EV=A$2.6bn with forward revenues of A$776m and EBITDA of A$167m (actual FY 2016 results)
- At A$3.8/share offer price. EV=A$2.8bn with trailing revenues of A$1230m (up 60% since IPO) and EBITDA of $246m (up 47% since IPO).
Keep in mind that 2020 results were strongly impacted by the COVID and regulatory headwinds. However, as stated by Yarra Capital, most of these issues are “in the rear window”, while a strong business foundation exists for the recovery.
The valuation seems also low compared to currently ongoing Onevue Holdings acquisition. The initial offer for OVH.AX came at 14.9x EBITDA but then was increased to 16.1x. Other peers are trading at mid-teens EBITDA multiples as indicated in the table below (the last example in the table is Link acquisition of Capita Asset Services in 2017)
Note: PEXA financials are not included in the table above as it is recorded as equity investment on Link books.
Now on PEXA stake. The revised proposal values 44% PEXA stake A$1.60/share or A$850m. This compares to $710m valuation in 2019 transaction when Link increased its stake in PEXA from 20% to 44%. Thus the offer does not seem to reflect the impressive growth of PEXA since then. Between FY2018 and FY2020 PEXA revenues have increased 3x and EBITDA turned from negative -A$30m to profit of $A$60m. The amount of the transactions done on the platform also tripled to 2.4m from 0.8m. This take-up was substantially accelerated by COVID and currently, the number of transactions stands at 250k/month.
Thus, the numbers are very different from the time Link increased its stake in PEXA and it seems that the value of this subsidiary should be materially higher. PEXA’s value has also been the first point Link CEO used to explain why consortiums proposal is too low :
The significant value inherent in PEXA, which has delivered strong growth and established a leading market position in digital property settlements. PEXA demonstrated accelerated take-up during COVID-19 and is expected to deliver a material return of capital in the coming months
Overall, no matter how you look at it, the price of the proposal seems quite low and there is plenty of place for an improved offer.