Sandstone Insights: Perpetual's weak result, increases risk of Scheme failure

ASX code: PPT

Suggestion: Sell

Need to know

• The result is plagued by significant one-off costs and uncertainties, including $75 million in stranded group costs and potential tax issues. Funds under management (FUM) outflows continue. Gearing remains elevated at 28%, up from 23% year-on-year
• The scheme vote has been delayed. In our view, the risks of a failed scheme vote are rising. We see clear downside share price risk under either a completed deal with KKR or if the deal fails
• Corporate Trust and Perpetual Private are being sold for $2.2 billion. Only $1.0 billion will be returned to shareholders, or approximately $9 per share
• Funds management EBIT of approximately $140 million on a 6x multiple implies roughly $5 per share. Total proceeds are estimated to be around $14, with significant execution risk. Retain the Sell rating.

Investment implications

Scheme of arrangement details below expectations: The deal details are disappointing, with significant one-off costs and uncertainties, including around $75 million in stranded group costs, of which $40-$50 million will impact the remaining company after 18 months.

Uncertain tax position and brand sale: There is $120 million uncertainty around the tax implications of the sale to KKR. Estimated proceeds are between $8.38 and $9.82 per share, the difference primarily being tax. Importantly, the sale of the Perpetual Funds Management brand is seen as a negative factor for shareholders.

Scheme vote delayed: The scheme vote has been delayed to early 2025. There is increasing doubt about its success, given that shareholders will be left with Funds Management worth perhaps half the current implied value at the current $19.90 share price.

Scheme cash proceeds to shareholders: Of the $2.175 billion sale price for Corporate Trust and Perpetual Private, only about $1.0 billion will be returned to shareholders, with the rest going towards debt, tax, and separation costs.

Remaining business valuation: The remaining funds management business is expected to have around $200 million EBIT, but after one-off costs and stranded group costs, this could drop to around $140 million EBIT, leading to an estimated UNPAT of $100 million.

Implied valuation: Applying a 6x multiple for Funds Management, this derives an implied valuation of approximately $5 per share. Combined with KKR proceeds, this equates to a total process of around $14 per share, more than 25% below the current share price.

Leadership rotation: Chairman Tony D’Aloisio AM will be replaced by Gregory Cooper, appointed Deputy Chairman in May 2024. Cooper will assume the role of current Chairman upon Tony D’Aloisio’s retirement, post-implementation of the Scheme of Arrangement.

The change in Chair follows the recent announcement that Bernard Reilly will succeed Rob Adams as CEO and Managing Director of Perpetual in September 2024. The key players who created the mess that Perpetual is today have either left or given their intent to depart.

Investment summary

We rarely see downside risks to the share price on either the scheme vote being approved or the vote failing. In our view, the proposed transaction does not create value for Perpetual shareholders. The flash point for the vote, and particularly for retail shareholders, is the loss of the Perpetual brand name to KKR.

We see a heightened risk that the scheme vote in early 2025 fails and we suggest retaining a Sell rating.

PPT FY24 results summary

Expected cash proceeds to PPT shareholders from the transaction with KKR

• _{The information provided by Sandstone Insights does not constitute investment advice and does not have regard to the specific needs of any person who may receive it. No warranty is given as to the accuracy or completeness of the information and any person acting on it does so entirely at their own risk.}