Link Group has been listed for less than two years, but it is a business we have watched closely and have used a recent period of weakness to build a significant stake. It's also not well covered by brokers, with Factset showing 5 covering Link against 16 covering the similar size IOOF.
Link's main business is Australian Administration Services (AAS), which has a leading market share of around ⅓ of the Australian superannuation administration market. It also has a small share registry business where it competes with the likes of Computershare and Boardroom. Link has seen significant revenue growth in 2015 and 2016, as the business doubled in size following the acquisition of the unprofitable SuperPartners business. Over the next few years, Link will deliver significant synergies, having now transitioned all the SuperPartners clients onto their own system, but revenue growth will be limited as price discounts associated with the deal wash through. Regulatory pressures and the need for scale in superannuation are expected to see further consolidation amongst AAS's fund admin client base, where Link's low-cost offering is likely to be an advantage. Although some investors would not like the business due to its limited revenue growth, we find many aspects of the Funds Administration business, in particular, attractive. In particular its high ROE, strong cash flow and a significant opportunity to improve margins, increase the dividend, do a share buy-back or more likely an acquisition to drive further growth.
The company is aiming to return EBITDA margins to 2014 pre-SuperPartners levels (33.5%). We believe that given the scale benefits from SuperPartners and that 2014 margins were already impacted by previous acquisitions, the company should be targeting reaching at least the 36.3% margin achieved in 2012 when the business was less than half the current size.
Certainly the 33% margin implied by consensus forecasts seems too low for a business that should continue to benefit from considerable economies of scale. With each 1% margin improvement adding around $6m to earnings and 3% to EPS, we see a path to Link producing double-digit earnings growth with at least 20% upside to our valuation, scope for growth through super fund consolidation wand acquisition driven growth or capital management.
Written by Steve Coffey, Investment Analyst at UBS Australia.