Broadridge Financial Solutions (BR)

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In FY 2008, Broadridge had net earnings of $192 million on $2.3 billion in sales.^[1] The company enters into long-term contracts with firms to provide outsourcing services. This strategy leads to significant customer concentration, as Broadridge’s top five clients accounted for 22% of FY 2008 revenue.^[2] Additional revenue comes from commissions stemming from the brokering of securities, which accounted for 23% of 2008 revenues.^[3]This segment experienced a decline in earnings of $11 million year-over-year.^[3]

The decline in trading volumes and the reduction in market liquidity associated with the current financial crisis threatens Broadridge’s earnings. Moreover, as the company serves eight of the top 10 broker-dealers, ^[2] further consolidation in financial services poses a significant risk by decreasing the number of company clients. However, Broadridge stands to benefit from increased compliance revenues (due to more required filings and disclosures) brought on by recent government intervention in the financial markets. ^[4]

[edit] Business Overview

Broadridge offers a complete portfolio of outsourcing services to the financial services industry, including investor communications such as proxy mailing and vote processing, automated security processing, and transaction services. The company’s clients include broker-dealers (companies that trade securities for clients and internal profit), mutual funds, institutional investors, trading companies, and annuity companies.^[2] During the fiscal year ending June 30, 2008, the company operated in more than 50 countries and distributed more than one billion investor communications. ^[2]

[edit] Spinoff

Previously, Broadridge formed the Brokerage Services division of ADP, a company that specializes in payroll processing. However, on March 29, 2007, Broadridge spun-off from ADP to form a new company. In the spinoff, ADP charged Broadridge with more than $600 million in debt. ^[5] To address this issue, management has focused on shareholder returns by decreasing the company’s debt and increasing the dividend ratio. Broadridge decreased long-term debt from $617 million to $447.9 million and short-term borrowing from $109.2 million in $0 from FY 2007 to FY 2008.^[5] In addition, dividends paid have increased by $33.4 million, or four cents a share, in the same period. ^[6]

[edit] Business and Financial Metrics

Source: Broadridge 2008 10-K ^[7]

Source: Broadridge 2008 10-K ^[7], 2007 Annual Report ^[8]

Broadridge grew revenues by 11% in FY 2007 and 3% in FY 2008.^[9] Yet, net income actually shrank nearly 2.5% in 2008, leading to a decline in diluted EPS of six cents, year-over-year.^[10] This decline stems from a one-time increase in the effective tax rate from 38.6% to 41.0% (from tax complications related to the spinoff) and a decrease in total margin from 15.0% to 14.8%. ^[11] The firm contracts on a yearly basis, leading to stable revenue growth. In particular, the investor communications segment has produced growth rates of 13% and 10% in FY 2008 and 2007 respectively.^[3] These consistent results have offset weakness in securities processing, the segment most exposed to trading volumes, and declines in “other” income.

In 2008, assets grew by 6%, from $2.7 billion to $2.8 billion.^[5] Over the same period, liabilities shrank 3% from $2.1 billion to $2.0 billion, decreasing the company's reliance upon debt. ^[5] Thus, shareholder’s equity, the assets that shareholder’s control, increased by $215 million dollars. ^[5] Similarly, the company’s cash balance grew $110 million.^[6]

Since Broadridge generates 12% of its revenues outside the United States, the company is exposed to currency fluctuations. In FY 2008, Broadridge earned $6.1 million in foreign exchange income after two years of $6 million losses ^[3] This fluctuation is tied to dollar's decline. Generally, multinational companies that report earnings in United States generate additional foreign exchange income when the dollar decreases in value. ^[12]

Despite this weakness, Broadridge’s growth in continuing operations (a company’s recurring stream of income) has been consistently positive. From 2003-2008, the company has a 7% CAGR (Compound Annual Growth Rate, the rate by which continuing operations has grown each year, on average) in this category.^[1]

[edit] Business Segments

[edit] Investor Communication Solutions - 71% of revenues ^[3]

The Investor Communications Segment processes and distributes proxy materials, documents mandated by the SEC to inform shareholders about important events, to equity owners and mutual funds. These materials are provided in both electronic and paper formats. In addition, Broadridge supplies other regulatory documents, including tax information and important event disclosure documents, as well as account statements and trade records.

Due to the legal necessity and consistent flow of these documents, this segment provides indispensable services. At all stages in the economic cycle, companies file reorganization documents, implement institutional changes, and deal with regulatory agencies. All of these factors positively impact the Investor Communications segment.

In FY 2008, Investor Communications had net earnings from continuing operations before taxes of $253.3 million on revenues of $1.58 billion.^[1] Thus, this segment had an operating margin of 16.1%.

[edit] Securities Processing Solutions – 23% of revenues ^[3]

The Securities Processing segment records, manages, and archives the trading of stocks, options, mutual funds, and fixed income securities. This segment saw a decrease in earnings from continuing operations before income taxes in FY 2008. Earnings totaled $137.5 million (compared to $148.4 last year) on revenues of $514.4 million.^[3] This led to an operating margin of 26.7%. Segment revenues and profits are highly correlated with market volume. ^[2] In recessionary environments, increased uncertainty leads to volume decreases. ^[13] Thus, the Securities Processing segment had lower earnings in FY 2008 than FY 2007. ^[7]

[edit] Clearing and Outsourcing Solutions – 4% of revenues ^[3]

The Clearing and Outsourcing segment organizes the purchasing of securities by arranging buyers and sellers, processing the transaction, and recording the results. These transactions are carried out on either a cash or a margin basis. In a simple cash transaction, Broadridge executes a trade between the buyer and seller of a security. In a margin transaction, the company offers credit to clients for a specified percentage of the purchase price, charging a rate of interest on the credit extended. Consequently, Broadridge assumes significantly more risk executing margin trades. While the borrowing firm must have sufficient collateral, or other securities that Broadridge will assume ownership of in case of default, the recent failure of lending institutions illustrates the real risk involved in these transactions.

In FY 2008, this segment lost $5.0 million on sales of $95.8 million.^[3] This loss compares favorably to a decline of $11.9 million a year ago. ^[3]

[edit] Key Trends & Forces

[edit] Further consolidation in the financial services industry threatens to diminish Broadridge's core customer base

In FY 2008, Broadridge earned 22% ^[2] of its revenues from five clients. The largest single account produced 5-6% ^[2] of total revenues. Moreover, the company services eight of the top 10 broker-dealers, the companies most affected by the current financial crisis. The failure of Lehman Brothers, a confirmed Broadridge client, ^[14] demonstrates the company’s exposure to client loss. Despite the risk of losing large accounts, Broadridge has the potential to benefit from consolidation. Through mergers and takeovers in financial services, ^[15] new clients can be brought into the folds of existing clients. Moreover, these large takeovers involve significant regulatory paperwork that generate additional revenue for Broadridge.

[edit] Broadridge stands to benefit from increased regulatory scrutiny in the era of government bailouts

As an outsourcing company for the financial services industry, Broadridge deals heavily with regulatory agencies. These agencies dictate the necessary documents, such as proxy materials and notifications of important events, that a publicly trade company must disclose. Since Broadridge handles these documents, the company’s revenues can be significantly altered by fluctuations in regulatory demands.

With the passage of a $700 billion bailout of financial services on October 3rd, 2008, the US government has assumed a new importance in the financial markets. ^[16] Moreover, European governments seem to be following suit, as the British passed a $850 billion bailout on October 8th, 2008. ^[17] In the past, increased government involvement has led to greater regulation. For example, after the accounting scandals in 2002 involving Enron and Tyco the government intervened by way of the Sarbanes-Oxley Act. The Act significantly increased regulatory disclosures and compliance costs for public companies. ^[18] Broadridge stands to gain from the additional documentation and regulatory demands implemented by government agencies.

[edit] Broadridge faces a decline in revenues due to decreases in trading volume and low market liquidty

All three of Broadridge’s segments generate transaction processing fees. In addition, interest earned from margin lending also generates substantial revenue. However, when trading volumes are down, share prices are low, and liquidity is non-existent, ^[19] Broadridge is impacted in the following ways:

• Reduced one-time revenues from mergers and acquisitions, investor communications, and mutual fund disclosures
• Less margin lending
• Lower trading activity and processing fees
• Increased litigation claims due to failure of buyers and sellers to fulfill contracts
• Fewer security purchases

[edit] Competition

Broadridge competes against firms' in-house capacities (firms deciding to hire personnel in-house rather than outsource financial record keeping) as well as other outsourcing firms. These firms provide sensitive information and services. Due to the importance of these products, outsourcing firms need a long record of trusted service. This leads to lengthy relationships between firms and clients. The following firms compete with Broadridge:

[edit] DST Systems

DST competes with Broadridge in information processing and computer software services. DST also provides statement and billing solutions, similar to Broadridge’s investor communications segment. In FY 2007, DST earned $1.7 billion in revenue and $874 million in net income. ^[20]

[edit] State Street

State Street offers investment operations outsourcing, recordkeeping, and transfer agency services that directly compete with Broadridge. In FY 2007, State Street earned $8.3 billion in revenue and $1.3 billion in net income. ^[21]

[edit] Fiserv

Fiserv also competes in the processing of financial transactions. In FY 2007, Fiserv earned $2.7 billion in revenue and $439 million in net income. ^[22]

[edit] Fidelity National Information Services

FIS and Broadridge compete in the financial institution processing and outsourcing market. In FY 2007, FIS earned $4.8 billion in revenue and $561 million in net income. ^[23]

[edit] References

1. ↑ ^{1.0 1.1 1.2} Broadridge 10-K, page 30
2. ↑ ^{2.0 2.1 2.2 2.3 2.4 2.5 2.6} Broadridge 10-K, page 7
3. ↑ ^{3.0 3.1 3.2 3.3 3.4 3.5 3.6 3.7 3.8 3.9} Broadridge 10-K, page 41
4. ↑ Bernanke's Comments on Government Intervention
5. ↑ ^{5.0 5.1 5.2 5.3 5.4} Broadridge 10-K, page 56
6. ↑ ^{6.0 6.1} Broadridge 10-K, page 57
7. ↑ ^{7.0 7.1 7.2 7.3 7.4 7.5} Broadridge 10-K, Item 8
8. ↑ ^{8.0 8.1} Broadridge 2007 Annual Report
9. ↑ Broadridge 10-K, page 39
10. ↑ Broadridge 10-K, page 37
11. ↑ Broadridge 10-K, page 38
12. ↑ Foreign Exchange Income
13. ↑ Trading Volumes
14. ↑ Barclays and Lehman client confirmation
15. ↑ Consolidation in Financial Services
16. ↑ Bailout Text
17. ↑ Britain Bailout
18. ↑ Company's Sarbox costs
19. ↑ Recession Characteristics
20. ↑ ^{20.0 20.1} DST 2007 10-K
21. ↑ ^{21.0 21.1} State Street 2007 10-K
22. ↑ ^{22.0 22.1} Fiserv 2007 10-K
23. ↑ ^{23.0 23.1} FIS 2007 10-K