Perpetual: Market Doubts on Flows and Margins Unfounded; Shares Cheap

We lower our fair value estimate for narrow-moat Perpetual PPT by 10% to AUD 27.50 per share, due to reduced projected base fee margins in the asset management business. Our prior forecast fee compression was too gradual and did not fully reflect competitive pressures from passive options and unlisted investments. However, despite our fair value cut, Perpetual remains substantially undervalued.

Shares trade about 25% below our fair value and 40% below its 10-year historical average P/E multiple of 16. We think the discount reflects market concerns on asset management outflows, and weakening wealth management and corporate trust inflows in fiscal 2023. We believe pessimism on Perpetual is overblown and odds of multiple expansions from current lows are not out of reach.

Fundamental improvements are underway. We forecast low-single-digit growth in underlying EPS over the next five years, as fund flows recover from currently depressed levels starting fiscal 2025, and targeted cost synergies are realized by then. This earnings growth should allow for debt reduction without compromising dividend growth, which we expect to be 2% per year to fiscal 2028. If our assumptions played out, Perpetual’s gross debt/EBITDA ratio should reduce to its target of 1.2 times by 2026, while dividends continue growing in line with earnings. Our valuation implies a fiscal 2028 P/E ratio of 14 and a dividend yield of 5%.

Flows are likely to improve, supported by strong investment performance and stabilizing interest rates. In asset management, which makes up 51% of our fair value, solid performance and a growing product breadth should help slow outflows, particularly as industry outflows moderate—likely around late fiscal 2024 and into fiscal 2025. Most Perpetual strategies are outperforming benchmarks, boosting the odds of new mandate wins. The expansion in product variety to 11 asset classes in June 2023, from five in June 2020, enhances its ability to cross-sell and improves client retention.