SS&C TECHNOLOGIES HLDGS INC SSNC
March 22, 2016 - 7:48pm EST by
latticework
2016 2017
Price: 61.81 EPS 3.34 4.14
Shares Out. (in M): 102 P/E 18.5 14.9
Market Cap (in $M): 6,302 P/FCF 17 13.8
Net Debt (in $M): 2,645 EBIT 610 744
TEV (in $M): 8,946 TEV/EBIT 0 0

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  • Financial technology

Description

 

Investment Thesis:

  • SS&C Technologies is a very high quality business (41% LTM EBITDA margin, 28% FCF margin adj for deal costs, 16% ROE) delivering mission-critical software products and services to the financial services industry and it operates in a consolidating industry with high barriers to entry.

    • Software-based Fund Admin services is a stable, sticky business (90%+ recurring revenues, 90%+ client retention rate) with high earnings visibility.

    • SSNC has #2 market share in Fund Administration, where the top 4 players control ~60% market share and the top 10 control ~80% share.  This market is consolidating due to increasing regulatory oversight causing bank-owned admins to shed assets (benefiting SSNC’s M&A pipeline – see below).

    • SS&C’s portfolio accounting/mgmt software business has a 95%+ annual client retention rate. SSNC has spent billions acquiring and developing a suite of proprietary software which provides high barriers to entry as SSNC’s continuing investment keep its software up-to-date and generally superior to its peers.

  • EBITDA and EPS growth will accelerate in 2016 and should CAGR 25% and 22% through 2019 driven by recent acquisition cost synergies and my conservative forward M&A assumptions. I assume SSNC spends $400m/year in future M&A vs having spent $4.4b on acq’s over the last 5 years and that it de-levers from 5.6x net debt/LTM EBITDA at the end of 2015 to 3.2x by the end of CY19.

    • Organic growth should remain stable at ~4% the next 4 years (vs a 5.5% org growth CAGR the last 5 years) as SSNC’s growth continues to be driven by regulation, investor demands and superior technology vs its competitors, characterized by its ability for quick delivery and a high level of customization.

    • EPS compounds a few points slower than EBITDA as interest expense increases over time with an increase in gross debt from $2.8b at YE15 to $3.3b by YE19 and I assume LIBOR increases 250bps from now to the end of 2019, increasing SSNC’s cost of debt by ~200 bps (80% of SSNC’s debt is floating rate).

  • SSNC has a long track record of creating value through capital deployment.  The Company has done 44 acquisitions since 1995, driving 20%+ revenue and EPS CAGRs. The company is highly cash flow generative and should be able to de-lever quickly and continue doing accretive M&A.

    • SSNC has an experienced management team with a leading execution track record and history of creating shareholder value via M&A.

    • The Company has a clear owner/operator culture with founder & CEO Bill Stone currently holding ~17% of the Company’s outstanding shares.

    • M&A pipeline is rich: potential acquisitions could include divestitures from FIS-SunGard and JPMorgan’s fund administration business, among others.

  • Although its 2016 P/E multiple looks expensive, SSNC trades at 15x 2017 P/E and 14x 2017 P/FCF despite ~20% EPS & FCF/Share CAGRs from 2017-2019.

    • SSNC’s peers (Fidelity National (FIS), Fiserv (FISV), and Jack Henry (JKHY)) trade at an average 20x CY17 P/E; however, despite a similar MSD long-term organic growth profile, SSNC has superior EBITDA margins (~40% vs. peers at 30-35%) and higher FCF conversion allowing faster debt pay-down.

    • Further, SSNC has a large, accretive deal pipeline and proven M&A strategy led by a highly-invested CEO motivated to drive the stock price higher.

    • Assuming a 20x NTM P/E at YE 2016 on consensus #s (implies 19.1x P/E and 17.7x P/FCF on my #s), I think SSNC is worth $79 by YE 2016, or +28% one-year upside (including $0.50/sh dividend) with a ~2x up/down

      • SSNC traded as high as 23x as recently as Oct 2015, and I would argue its earnings/FCF outlook has been de-risked since then given it has closed the Citi deal and maintained positive org growth despite numerous marquee HF client closures (e.g. Bluecrest)

      • Bank software peers (FISV, JKHY, FIS) trade at an avg NTM P/E of ~20x

      • In a recession case this year, I think SSNC could trade down to 16x NTM P/E on consensus #s by YE 2016 (implies 13.4x 2017 P/E on consensus #s), or -15% downside

      • Given SSNC’s top-line visibility and ability to manage variable costs, plus likely outperformance on acq cost synergies, I have trouble seeing downside to consensus 2016 EPS of ~$3.25 even in a recession / equity mkt meltdown

    • Assuming an 18x exit P/E multiple at year-end 2018, I believe equity owners can generate a 20% 3-year IRR from the current $62/share level

 

Business Overview:

  • Company:

    • SSNC is a leading provider of mission critical cloud-based software and software-enabled services to the global investment management industry

      • SSNC’s 3rd party Fund Administration (FA) business (e.g. HFs, PEs and FoFs outsourcing much of their back office NAV calculation, fund accounting and financial statement preparation) will be an ~$875m business in 2016e or 52% of SSNC’s revenue. SSNC only plays in Alternatives Fund Admin and is #2 in this market with $1.1trln of Assets Under Administration (AUA) or 15% market share vs STT’s 25%. HFs are 70% of SSNC’s AUA and in HF Fund Admin SSNC is #2 with 15% mkt share behind STT’s 16% (Citco 13%, BNY Mellon 10%)

      • SSNC’s Financial Technology software business will be ~$800m of revenue in 2016e or 48% of total revenue. Portfolio management and accounting tools make up ~80% of this business. SSNC is #1 in mkt share for portfolio mgmt/accounting tools for the buy-side with 16% market share

      • SSNC is family-owned/operated (CEO owns ~17% of stock); intensely focused on efficiency & cost takeout

      • Founded in 1986; headquartered in Windsor, Connecticut; 5,600+ employees; 66 offices worldwide

      • Went public in 1996; taken private by Carlyle in Nov. 2005 for $1.05bn, then taken public again in March 2010 at $15/share or $1.1bn market cap

    • The Company operates as 3 divisions, spread across four reporting segments:

      • Alternative Assets (51% of rev) – hedge funds, private equity and fund of funds

      • Institutional and Investment Management/Advisory (41% of rev) – institutional asset management, insurance, REITs, wealth management, RIAs, and pension funds

      • Targeted Solutions (8% of rev) – property management, municipal finance, financial modeling, money market processing, and training

  • Market:

    • Alternatives is a $7.5tn market in terms of AUA and has grown at a 6% CAGR from 2008-2014 ($5trln AUA 2007, $7.5trln 2014) vs Traditional Investments growing at a 3% CAGR from $46trln in 2007 to $58trln in 2014. SSNC’s core HF mkt has grown more slowly at a 2% CAGR from $2.1trln AUM in 2007 to $2.5trln in 2014 but the % of HF AUM outsourced to 3rd party Fund Admins has grown from 55% penetration in 2007 to 82% in 2014. SSNC’s core HF FA market has thus grown at an 8% CAGR from $1.2trln AUA in 2007 to $2trln in 2014

    • Financial software for buy-side portfolio management/accounting is $4bn market and SSNC is the largest player with ~16% market share. This market has grown at a ~5% CAGR from 2007-2014

Thesis #1: High quality business run by great mgmt team

Overview: Fund Administration

  • Market/Product Overview

    • $8tn of assets across alternative asset classes that SSNC plays in

    • Back office activities include NAV calculation, fund accounting, investor processing services (e.g. financial statement prep), etc.

    • Middle office services include trade support, data/analytics, etc.

    • SSNC started its fund admin biz in 2002 and is now the largest public non-bank administrator in the world (15% AUA mkt share)

    • Top 10 fund administrators have ~80% of total AUA market share

  • Revenue Model

    • Revenue from bps fees on assets, often with minimum levels

    • SSNC earns an avg. 8-10bps on AUA but can range from 2-30bps depending on size of client and range/complexity of services

    • Generally 1-year renewable contracts; ~95% rev $ retention rate

    • Fund admin is ~52% of SSNC’s revenue (and ~70% of software-enabled services revenue; the other ~30% is SaaS)

  • Competition

    • State Street (#1 – 25% market share by AUA)

    • Citco (#3 – 11%)

    • Bank of NY Mellon (#4 – 10%)

    • Northern Trust (7%)

    • SEI (4%)

    • Morgan Stanley Fund Services (3%)

    • HedgeServ (3%)

  • Secular Trends

    • Due to rising costs and regulatory complexity, hedge funds have been increasingly shifting towards outsourcing their fund admin needs

      • 82% of HF AUM in 2014 was administrated by outsourced admin vs. 55% in 2006

    • PE funds, which don’t have the same back office demands as HFs, do use outsourcing less but are the largest source of opportunity for fund admins

      • 30% of PE fund admin in terms of AUM was outsourced in 2014 and many industry experts expect this to increase to 50% by 2018 as PE firms face increasingly regulatory requirements and cost pressures

    • Fund admin is becoming less strategic for big banks

      • After the global financial crisis, major investment banks reined in their prime brokerage ops in order to focus on their most profitable clients

      • Fund admin business which often went hand-in-hand with the prime broker business has also become de-prioritized and often deemed non-core

      • GS, CS, UBS and Citi have all sold their fund admin ops in recent years

    • Independent fund admin is becoming more preferred by buy-side firms

      • Buy-side firms have increasingly preferred a fund admin who can provide an independent validation of the info being calculated by their prime brokers

 

 

Overview: Financial Technology

  • Market/Product Overview

    • Primarily portfolio management and accounting tools (80% of rev)

    • Other software and services include trading/treasury operations, financial modeling, and loan management, among others

  • Revenue Model

    • Revenue comes from (1) on-premise perpetual or term software licenses, (2) perpetual licenses hosted at SSNC’s data centers (i.e. SaaS), and (3) Business Process Outsourcing (BPO)

    • Perpetual licenses also typically generate maintenance fee revenue under annually renewable contracts (1)

    • “Software-enabled services,” which include the Fund Admin and SaaS businesses, are typically 1-5 year subscription contracts

    • Software-enabled services and maintenance revenues are considered “contractually recurring” revenues (90%+ retention)

    • Financial technology is 48% of SSNC’s revenue (20-25% SaaS, 15-20% maintenance, 5-10% license)

  • Competition

    • SunGard- $2.6b rev

    • Fidessa- $410m rev

    • Simcorp- $280m rev

    • Linedata- $180m rev

    • Eagle Investment Systems (BNY Mellon)- $160m rev

    • Eze Castle- $80m rev

    • Princeton Financial Systems (State Street)- unknown rev

    • Charles River- unknown rev

  • SS&C History

    • From 1986 inception to 1995, SSNC primarily offered their software platforms on perpetual licenses which clients would run on in-house hardware managed by internal IT staff

    • In 1995, CEO Bill Stone realized the value of having a predictable, recurring revenue stream from software-enabled services (vs. lumpy software licenses), and the Company began offering outsourced data processing, multi-year subscription SaaS, and full BPO contracts

    • In 2005, SSNC’s purchase of Financial Models Company brought FMC’s suite of products which include Pacer (portfolio management), Pages (client reporting), Recon (transaction, position, and cash reconciliation), and Sylvan (performance measurement)

    • SSNC boosted its portfolio accounting software offering via its purchase of Thomson Reuters PORTIA in 2012 and DST Global Solutions in 2014

    • In 2015, SSNC purchased Advent, which included portfolio accounting software (Axys, APX, Geneva, Black Diamond), trade order management software (Moxy), and research management software (Tamale)

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Competitive Landscape

  • Fund Administr[ation

    • Custody banks tend to be the dominant administrators for traditional asset managers while on the alternatives side of things, SSNC’s largest competitors are State Street, Citco, BNY Mellon, Northern Trust, Hedgeserv, and SEI

    • Most fund admin/outsourcing competitors do not sell their own software – this is a competitive advantage for SSNC

      • BNY Mellon uses SunGard’s software for mutual fund admin and SSNC’s software for HF admin

      • State Street, Citco, Hedgeserv, and MS use proprietary software

    • At the end of 2014, SSNC had $627bn in AUA (8% market share)

    • PF for the recent Citi and Advent deals, SSNC is now the #2 player in Fund Admin with 15% market share

 

 

  • Financial Technology

    • SSNC’s main software license competitors do not provide fund admin/outsourcing services – a competitive advantage for SSNC

    • SunGard is SSNC’s largest software competitor

      • Founded in 1983 as a spin-off from Sunoco (the oil company)

      • In June 2015, SunGard filed an S-1 but ultimately agreed to be acquired by Fidelity National Info Services (FIS) for $9.1bn (SSNC had tried to buy SunGard but was outbid by FIS)

    • Simcorp is a strong competitor to SSNC overseas

      • Expects to expand into North America in late 2015 or 2016

      • SSNC management has mentioned Simcorp as a potential M&A target

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Why is this a Good Business?

  • Durable Competitive Advantage

    • In an industry dominated by custodian banks and capital mkts firms, SSNC differentiates itself as an independent technology company able to handle complex fund strategies without heavy regulation

    • SSNC utilizes its own software to provide fund administration and then licenses the same software; owning its source code enables SSNC to keep its technology state-of-the-art and highly customizable

    • By contrast, custodian banks do not sell their software externally

  • Defensive Business Model

    • Changing fund administrators is very complex and costly for SSNC’s clients given the highly configured nature of financial software solutions. LPs also don’t want to see the funds they’re invested in switching FAs b/c it raises potential governance/controls red flags

    • With 90%+ recurring revenue and retention rates, SSNC has high revenue visibility and client retention. In 2009, SSNC revenues were down only 6.5% org cc (down 4.5% excl a one-off I later explain) vs +11% in 2008. SSNC increased its EBITDA mgn YoY in 2008/2009 by 70bps each year via expense controls and taking price

  • Attractive Financial Profile

    • Structurally high operating margins (~40%) due to rigorous cost controls (minimal overhead and flexible direct labor costs)

    • Low capital intensity vs. peers (capex only 2-2.5% of revenues vs. peer average at ~7%) due to its lean R&D philosophy and its ability to use M&A to fund technological innovation

    • High free cash conversion (FCF has averaged 115% of PF net income from 2010-2015 and a 27% margin on revenue)

  • Pricing Power

    • SSNC’s pricing typically scales as a function of client’s assets under management, the complexity of asset classes managed, and volume of transactions

    • As SSNC continues to expand its integrated software/admin suite through M&A and internal R&D, it is able to win larger hedge funds with more AUM and more complex investment strategies which warrant higher prices (fees) for SSNC

    • Licensing and maintenance contracts include clauses which ensure price increases of CPI + 1-2% annually

  • Strong Owner-Manager Culture

    • Management compensation is aligned with shareholder interests

    • CEO owns ~17% of the Company’s stock, and performance of the share price is still the #1 driver of his compensation

    • He remains highly involved in important decisions within SSNC and continues to drive their M&A strategy

    • Long-term incentive options vest on a 4-year schedule, keeping management focused on long-term value creation

  • Secular Industry Tailwinds

    • Due to increasing costs and regulatory complexity tied to Dodd-Frank, hedge funds and other financial institutions are shifting towards outsourcing their back-office and middle-office functions to companies such as SSNC

    • Increasing regulatory oversight for bank-owned admins is causing firms to exit the fund admin space, benefiting SSNC’s M&A pipeline

    • Growing desire for combined software/outsourcing solutions to reduce complexity and total ownership costs is driving clients to SSNC

Thesis #2: EPS and FCF growth poised to accelerate from 2016 onward

  • Recent acquisitions not modeled properly by the Street

    • Only a few sell-side analysts explicitly model the revenue/EBITDA contribution from the 5 acq’s SSNC has closed / announced since Dec ‘14 (DST, Advent, Citi, Primatics, Vardent)

    • Not only does the Street not model each recent acquisition at a granular level, but they also do not model in any future M&A (which I do, as it is a stated component of mgmt’s core strategy over the next few years given the accretive strategic targets available)

    • As a result, I believe Street estimates for revenue/EBITDA/EPS growth are ultra-conservative and substantially lower than what SSNC will achieve even from just its announced (and ahead-of-plan) cost synergies

  • M&A will be much more accretive than the Street expects

    • Most Street analysts blindly modeled to hit mgmt’s conservative guided acquisition revenue & margin targets

    • Even the few analysts who explicit model recently announced M&A are well below my revenue and EBITDA growth estimates

    • SSNC management has proven its ability to achieve cost synergies in excess of guidance well ahead of its projected timelines

    • As I will explain in Thesis #3, SSNC has numerous cost-cutting opportunities at Advent and Citi which suggest it can achieve EBITDA growth well above what the Street conservatively models

    • Based on this track record, I model greater cost synergies / EBITDA growth hitting the P&L earlier than the Street expects

  • EPS and FCF growth poised to accelerate from 2016 onward

    • Based on higher- and earlier-than-expected cost synergies and EBITDA growth from the recently closed Advent, Primatics, and Citi acq’s which the Street has only recently begun to model, plus reasonable levels of future M&A ($400mm deal EV per year), I expect:

      • Revenue growth will accelerate from 39% in 2015 to 53%, 20% and 16% in 2016-2018 vs Street’s +43%, +10% and +4% in 2016-2018

      • EPS growth will accelerate from 13% in 2015 to 26%, 24% and 20% in 2016-2018 vs. Street’s 22%, 21% and 10% for 2016-2018

 

Thesis #3: Highly accretive M&A pipeline

  • Acquisition History

    • Since inception, SSNC has spent more than $4.7bn on 44 acquisitions

      • Some of these have been small “tuck-in” acquisitions, while others have been transformative “strategic” acquisitions

      • SSNC has four times acquired companies at least ½ as large as legacy SSNC by revenues (Advent, GlobeOp, FMC, Chalke)

    • While SSNC has completed more than 40 acquisitions since inception, many of these have been relatively small until recently

      • SSNC’s M&A spending tends to be lumpy in nature, although the firm will typically execute multiple smaller transactions in any given year

      • Since 2012, SSNC has begun to do larger and larger deals given it has de-levered post-Carlyle LBO and given its proliferating M&A pipeline (especially in the fund admin business where regulatory and other secular tailwinds are driving more frequent, larger divestitures of fund admin businesses from banks)

 

[Exhibit remove due to copyright]

 

[Exhibit remove due to copyright]

 

 

    • The Fund Administration business has seen an acceleration in consolidation over the past few years as banks have begun to divest their fund admin businesses post the 2008-09 recession

      • GS sold its fund admin biz to State Street in 2012

      • UBS sold its fund admin biz “Butterfield Fulcrum” to Mitsubishi UFJ in 2013

      • CS sold its fund admin biz to BNP Paribas in 2014

      • Citi sold its fund admin biz to SS&C in 2015

 

 

  • However, the Financial Technology/Software business remains fragmented even after SSNC’s recent acquisition of Advent Software

    • On February 2nd, 2015, SSNC announced that it would acquire Advent Software, maker of the ubiquitous portfolio accounting software Geneva, for a $2.3bn enterprise value in its largest acquisition in history

    • While Advent has a near-monopoly on the core portfolio accounting/management software used by hedge funds and other alternative asset managers, there are still dozens of smaller (<$100mm revenue) niche software companies as well as several $100-500mm revenue software companies that SSNC/Advent could still acquire and roll into its software product/service suite

  • SSNC’s acquisition strategy is methodical and focused on targets with significant cost synergy / margin expansion opportunities

    • Average spend is 4-7x NTM EV/EBITDA on tuck-in deals (usually <$100mm EV) and 9-12x EBITDA on bigger strategic acquisitions ($100mm+ EV), and management prices these deals on a pre-synergy basis

    • Every acquisition target must meet two strict criteria:

      • At least 80% recurring revenue (i.e. 80% of current quarter’s revenue was also generated in the previous quarter)

      • At least 40% cost reduction potential (usually from headcount / SG&A cuts first and foremost)

 

 

  • Management is committed to ongoing M&A

    • SSNC is both willing and able to continue pursuing M&A to grow its scale, extract cost synergies, and create shareholder value

“There will be a lot of Fund Admin units for sale in the next few years and we’d like to own these.  We wouldn’t let our leverage stand in the way.  We’d issue equity if necessary, given these deals are so accretive and strategic.” – Justine Stone, Head of SSNC IR (10/19/2015)

“We think that there’s a lot of room to run, and we think that our biggest competitors tend to be large financial institutions that the government is seeming to get even closer to and closer to all the time.  That always helps us, right?  Because they shed assets they don’t want, businesses they don’t want to be in, and that gives us opportunity.”  – CEO Bill Stone, Needham Growth Conference (1/15/2015)

“We think there will be more consolidation in fund administration space, we’ve probably bought four or five administrators…so we’ve done a number of these, we think there will be more.  As I said, Goldman got out and Credit Suisse got out.  They’re not usually last, they are usually first.  So there’s a good chance that JPMorgan or HSBC or Morgan Stanley or others also might get out of that business, it’s not core to them, it’s not a very big revenue stream compared to their revenue streams.  So we think that gives us a lot of opportunity for more M&A.” – CEO Bill Stone, NASDAQ OMX Investor Program (12/3/2014)

“I really think that if the large institutions don’t sell their fund administration business, that we will start picking off their largest clients.” – CEO Bill Stone, Needham Growth Conference (1/15/2015)

    • Management is thoughtful about meeting their ROI hurdles on M&A, and they consider themselves operators first and foremost


“I think that there are a lot of good assets out there…there has been a lot of stuff in the marketplace about what some of the deals that are out there going for.  You are starting to talk about 15 times EBITDA.  That’s a little rich for us…we like to have things where we get a chance to stumble a little bit and still have a chance to really make a great return on our investment.  And we also don’t want to have a bunch of things that five years from now, when interest rates go back to some semblance of normal, that we have this collection of technologies and services that we can’t leverage.”
- CEO Bill Stone, 3Q14 Earnings Call (10/29/2014)

“I think that we would be extremely friendly towards anything that we would – raise shareholder value…at the same time we are not money managers.  We are not running a portfolio.  We are operators.  We’re going to run a business.” - CEO Bill Stone, 3Q14 Earnings Call (10/29/2014)

 

  • Expert Commentary on M&A Strategy / Pipeline

“SS&C is incredibly disciplined and smart in their acquisition strategy, it’s very methodical.  There are two main priorities.  The #1 priority is ensuring the durability and sustainability of the product revenue.  He doesn’t buy for the technology primarily, he buys for the client base and the long revenue tail.  The #2 priority is, can you cut enough expenses, or “science projects” as Bill calls them, that are wasteful or simply unnecessary to maintain that sticky revenue stream?  So Bill always has huge financial downside protection first and foremost.”
– Former Senior VP and Managing Director at SS&C (2010-2012)

“SS&C so far has been really good at keeping acquisitions from being disruptive to the existing clients.  The company proved SS&C after each deal could continue to run those services as standalone businesses.  Rather than slam them all into an assembly-line approach to get economics of scale, the company continues to run these as separate businesses and be able to offer people a menu of services tailored to their needs, in contrast to competitors who were basically pitching a one-size-fits-most option.”
– Former Business Development Director at SS&C (2011-May 2015)

“Bill Stone’s goals are to grow market cap, revenue, profit, and cash flow…he has a large vision and non-stop competitiveness.  Doesn’t get emotionally attached to M&A in specific industries.  He’ll go anywhere it makes strategic sense and has proven he can create shareholder value across the entire spectrum of fund admin and software technology.  And I think there’s still a lot of market share opportunity remaining, especially internationally.

There’s plenty of M&A especially in the $100mm-1bn range that would sell and SSNC could buy.  All of Bill’s business unit heads are encouraged and actually required to look for M&A targets in their industries.  When I was at the company, I pitched Bill 8-10 M&A targets per year which was actually below average.  Bill sees 5-10 potential deals across his desk per week…he has bankers calling him all the time.”
– Former Senior VP and General Manager at SS&C (1992-2012)

“I’d bet that SS&C will continue to absorb the smaller fund admin businesses.  Deutsche Bank is already trying to outsource most of their fund admin business.  JP Morgan has more fish to fry, they’ll sell too.  And Morgan Stanley will follow the trend of GS and sell as well.  There used to be a strategic tie between these prime brokerage and fund admin units as a value-add package to hedge fund clients, but now banks see more regulatory risk than strategic value and they want to spin these units out.  SS&C will be a huge beneficiary of this.  I suppose PE firms could be bidders, but Bill Stone and SS&C will probably win out because they can afford to pay a higher multiple given all the costs they take out.”
– Former Executive VP of Investment Services at BNY Mellon (1990-2013)

 

  • M&A Pipeline: Fund Administration

    • Competition for M&A

      • Several fund administrators are looking at M&A along with SSNC

        • State Street

        • Bank of NY Mellon

        • SEI

    • Recent M&A in Fund Admin

      • SSNC acquisitions:

        • GlobeOp (May 2012)

        • Citi Fund Services (Aug. 2015) - $375-400bn alternatives AUA

        • Smaller boutique admins:

          • Prime Management (2013)

          • Gravity Financial (2012)

          • Cogent (2006)

          • Northport (2007)

          • GIPS (2010)

      • Citco Group

        • Acquired for $2bn by Stone Point / General Atlantic in June 2011 (#2 in alternatives AUA at $840bn)

    • Potential M&A Targets

      • The most likely fund admin acquisition targets are the fund servicing arms of other prime brokers as well as smaller, specialized boutiques

      • Several fund administration subsidiaries are potentially for sale:

        • JP Morgan ($500bn AUA)

        • Morgan Stanley ($238bn AUA)

        • Deutsche Bank ($132bn AUA)

        • Wells Fargo ($42b AUA)

      • The large custodians (i.e. State Street, BNY Mellon) and SEI (where its own fund admin is used internally in other divisions) would likely not sell themselves

      • The only very large (bigger than Citi) fund administrator left would be privately-held Citco Group ($840bn AUA)

        • SSNC management has hinted at Citco as a potential acquisition

 

  • M&A Opportunity Set: Fund Admin

    • Many banks are looking to sell their fund administration businesses over the next few years

    • SSNC has proven itself as one of the only bidders for these assets that can pay a high headline multiple due to the substantial synergies it can quickly extract given its lean, low overhead, high margin operating model

    • As a result, SSNC has a rich, actionable pipeline of deals which can nearly double its AUA over the next four years

    • Based on an average ~7bps revenue on total AUA, 15% EBITDA margin, and assumed 13x EBITDA purchase price (in line with recent strategic M&A at SSNC), SSNC has a pipeline of 10-15 potential fund admin targets at a likely average deal size of $260-400mm EV

 

Valuation:

 

 

 

 

 

Key Investor Concerns:

  • Customer consolidation, stagnation, or economic slowdown are the primary risks to an SSNC investment

    • When a large customer is acquired, there is risk to revenue depending on who acquires the customer

      • This happened in 2008 when a consortium including Royal Bank of Scotland acquired ABN Amro and moved TradeThru onto its in-house platform and off of SSNC

      • This customer loss was a 2-3% hit to organic growth, so excluding this loss, SSNC’s organic growth actually only declined 4-5%

      • Note that this MSD organic growth decline was in the context of the 2008-09 global financial crisis

    • In addition, if the market stalls, AUA and trading volumes can flatten, taking away drivers of top-line growth

    • If market performance were to slow (e.g. on the back of European/Chinese or other macro concerns), it could hurt share performance

  • Assets under management and/or trading volumes could diverge from expectations

    • Many of SSNC’s contracts are governed by thresholds on AUA and/or trading volume

    • Global HF net capital outflows were 8% in 2008 and 5% in 2009, which contributed to organic revenue declining 6.5% in FY09

    • Similarly, overall trading volume only grew 7% in FY09, compared with historical growth rates of 20-40% in the years prior

    • Declines in these two key metrics could negatively affect customer contracts and therefore SSNC’s revenue

  • Downside exposure in another recession is manageable

    • Only ~14% of SSNC’s business is exposed to equity market risk

      • While SSNC earns its fees based on AUA, those assets are not typically very highly correlated with the S&P 500 or other broad mkt indicators

      • Of its $1tn+ AUA (PF for recent Advent and Citi deals), only 35% of SSNC’s Alternative AUA has directional exposure via L/S equity managers

      • Within this 35%, clients have an avg 40% net long exposure, so 14% of SSNC’s total Fund Admin business has direct equity market exposure

      • The other 65% of SSNC’s HFs clients (e.g. distressed debt, merger arb) don’t have returns as highly correlated with equity market indices

    • Capital flows into funds administered by SSNC do tend to exhibit some market correlation (with a lag), but they tend to rebound quickly

      • In 2008, global mkt performance declined ~40% but HFs declined only ~18% and then rebounded sharply to +19% in 2009

      • Per HFRI data, hedge funds saw net capital outflows of 13% over the two-year period in 2008-2009, or roughly ~1/3 the size of the global mkt returns decline of ~40%, but most of these outflows were from FoFs that had invested significant funds right before the 2008 downturn

      • In a down-20% global equity market recession case, I would expect HF net capital outflows in the MSD range, likely over a two-year period

 

 

Recession Scenario:

  • In a recession scenario of -20% global equity mkt performance, I estimate that SSNC’s organic growth could decline to -200bps

    • With ~35% of its Alternatives AUA coming from L/S hedge fund clients and its L/S clients having an avg. 40% net long exposure, SSNC slightly under-indexes to L/S HFs compared to global HF AUM (which has been 35-40% L/S equity with 40%+ net exposure over time)

    • For the ~65% of its Alternatives AUA coming from non L/S HF clients, I expect SSNC would see much less correlation to global equity markets during a mkt downturn (for example, in 2008-09 non L/S HFs saw avg. performance declines of 8% vs. global equity mkts -40%)

 

 

Investment Risks:

  • M&A pipeline shrinks or slows down materially and/or interest rates dramatically increase

    • Potential deals in SSNC’s pipeline could end up being smaller or less accretive than I expect and/or interest rates could dramatically increase, making M&A less accretive/feasible than I’m currently assuming

    • Mitigant: I have cross-checked my M&A pipeline estimates and sizing with numerous formers, competitors, and SSNC management and I feel there’s still tons of opportunity in terms of future M&A and I’ve modeled conservatively forward M&A $ deployed. If interest rates shoot up and/or there’s no attractive M&A to do the CEO has clearly stated that he “never wants excess capital” on the balance sheet and that he’d aggressively buy back stock or ramp the dividend

  • Potential slowdown in capital flows to Alternative Assets managers or customers taking their fund admin in-house could impact top-line growth