DeA Capital — Update 18 November 2016

Within a fragmented market, DeA Capital is among the largest alternative asset management companies in Italy, with c €10.8bn of assets under management, and has a portfolio of direct and fund investments valued at nearly €280m at end Q3. The majority shareholder, with 58.3% of the shares, is the De Agostini Group, a family-owned group with other investments in the publishing, media, games and services sectors. DeA’s net asset value at 30 September was €530.8m, or €2.03 per share, comprising the net assets of the alternative asset management business (32%), investments in private equity and real estate funds (36%), direct investments (16%), with the net financial position accounting for almost all the balance (16%).

The asset management business comprises DeA’s subsidiaries IDeA FIMIT (real estate fund management, 64.3% owned), IDeA Capital Funds (private equity funds, 100% owned) and SPC (debt recovery, 66.32% owned). The IRE business, formerly a subsidiary, is now 45% owned and provides property management and brokerage services. Development of alternative asset management has been the company’s strategic focus in recent years, a shift from its previous profile as a more traditional investment company, with significant holdings in Turkish retailer Migros (now 6.9% owned) and the French healthcare company Générale de Santé (sold).

Exhibits 1 and 2 show the breakdown of DeA’s NAV at 30 September and the evolution of its assets under management since 2013. The AUM decline seen at IDeA FIMIT since H115 reversed in Q316, reflecting a stabilisation of investor interest in real estate, with continued growth at IDeA Capital Funds reflecting successful launches of new funds such as IDeA Corporate Credit Recovery I (CCR I) in the first half and the third closing of the IDeA Taste of Italy private equity fund in Q3. The effects on fee income are examined in the next section. To make the like-for-like trend clear, Exhibit 2 excludes the newly acquired stake in SPC Credit Management from the Q316 figure. SPC has €0.9bn under management, taking DeA’s total to €10.8bn, the highest level in its history.

Beginning with alternative asset management activities, we show the progression of fee income by half year in Exhibit 3 (the hatched area indicates potential Q4 fee income on a similar run rate to Q3) and a comparison of fee income in the first nine months of 2016 and 2015.

Fee income follows similar trends to assets under management and has contracted since 2013, although both Q2 and Q3 of 2016 have shown growth. Q3 was up 7.8% quarter-on-quarter to €15.9m (Q216: €14.8m), and up 9.0% on Q116 (€14.6m). As with AUM, this has been driven mainly by IDeA Capital Funds. Comparing the first nine months of 2016 to the same period in 2015, overall fee income is down 9% from €50m to €45.4m. However, while IDeA FIMIT fee income fell 19%, IDeA Capital Funds fee income rose 18% (Exhibit 4).

As can been seen in Exhibit 5, the differences in fee income trends between IDeA FIMIT and IDeA Capital Funds are due in part to fee margins as well as AUM trends. The recent margin strength at IDeA Capital Funds reflects the launches of new funds with a tighter focus that command higher fees.

At IDeA FIMIT the gentle downward trend in fee margin is a result of changes in mix and the introduction of fee caps on some funds because of the difficult market faced by real estate funds. At the half-year, management expected that IDeA FIMIT’s 30 June AUM would mark the low point and that €8bn would be reached by year-end. To have reached that level by the end of Q3 is positive and revenue from the growth in AUM will come through fully in 2017. Reflecting the trends in AUM and fee margins, IDeA Capital Funds’ share of fee income has grown from 21% to 38% since 2013.

Exhibit 7 is a summary of the profit and loss account for the alternative asset management segment. Income from services relates to IRE/IRE Advisory, which is now accounted for as an associate following the sale of 55% of the business in June. It is hoped that third-party sales at IRE will improve with its increased independence from DeA, and the strength of the Q3 performance is encouraging.

The decrease in other expenses on a nine-month or Q3 comparison is partly a result of the impairments in 2015 relating to accrued performance fees and the carrying values of IDeA FIMIT and IDeA Capital Funds. This limited the y-o-y reduction in pre-tax profit, while a lower tax charge and minority interests in 2016 meant that net income was up 53% in the nine months to end September 2016 versus the equivalent period in 2015, and almost doubled from Q315 to Q316.

An analysis of net asset value changes is shown in Exhibit 8. NAV has increased in the quarter and since the year end after adjusting for the 12c dividend paid in May. The holding company’s net financial position saw a marked increase, up 43% from €58m to €84m in nine months (adjusted for the €31.6m dividend paid in May). Contributing to this was the part-sale of IRE which, together with a pre-sale dividend, generated over €9m. The IRE sale also accounts for the reduction in other assets compared with the year end, partly offset in Q3 by the investment in SPC. Changes in the value of the stake in Migros since 30 June are due to a rise of 11.9% in its share price, combined with 4.7% decline in the value of the Turkish lira against the euro.

During the quarter DeA acquired a 66.3% stake in SPC Credit Management through its subsidiary DeA Capital Real Estate. SPC has operated for 15 years as a restructurer and outsourced manager of non-performing loans. It focuses on banking, leasing, consumer and commercial loans, mainly secured ones, and has €0.9bn under management. It contributed €0.2m to group net profit in the quarter.

Net distributions/calls from funds in the private equity segment of the portfolio were €11m for the first nine months of the year, €5.3m in Q3 and have generated further net reimbursements of €5.3m since the period end.

Since the end of Q3 DeA has invested further in IDeA Efficienza Energetica e Sviluppo Sostenibile (IDeA EESS), purchasing 15.1% of the fund for €5.35m, representing a c 20% discount to its NAV; other things being equal, this should give rise to a valuation uplift at the next reporting date. DeA now holds 30.4% of the EESS fund.

Exhibit 9 shows changes in our estimates since our last note published in October. We have assumed slightly higher average AUM following higher than expected growth in Q3. This could prove conservative depending on the balance of maturing funds and new fund launches, where DeA reports a healthy pipeline in development. Our assumption is for H116 fee margin levels to be maintained at both IDeA Capital Funds and IDeA FIMIT and this could also prove to be cautious as DeA is looking to achieve higher margins on new products. Combined with a good Q316 result, AUM growth feeds through to higher fee income and NAV. We have maintained our 2017 dividend forecast of 12c. A summary of our forecasts and the historical consolidated results are shown in Exhibit 14 at the end of this note.

As in previous notes, we use a sum-of-the-parts approach to value DeA, similar to the company’s NAV analysis shown in Exhibit 8. In Exhibit 10 we further analyse the two parts of the Migros stake: DeA owns c 17.11% of Kenan Investments, which in turn owns 40.25% of Migros (giving DeA an interest of c 6.9%). Of the 40.25%, 30.5% is a direct shareholding and 9.75% is under a put/call option agreed with a Turkish conglomerate, Anadolu Holdings. The option is at a strike price of TRY26.0 plus 7.5% pa from 30 April 2015 for each share in Migros and is exercisable for six months from April 2017. We have valued the Migros stake using a share price of TRY17.67 and an exchange rate of TRY/€0.283 (as at 14 November).

The other variable element of the valuation relates to the alternative asset management businesses. We value these using a multiple applied to net income after minority interests, taking consensus P/E multiples for a number of specialist and conventional asset managers in Europe and North America. Performance fees and one-off effects mean that the private equity managers have a wide range of FY16 multiples, from 6.2x to 26.1x. The average multiples across all categories are 14.7x 2016e earnings and 12.9x 2017e. Applied to our forecast earnings for those years, these give a range of €149m to €172m for DeA’s alternative asset management business. The average of these is €160m, modestly below the balance sheet value of €168m. The alternative asset management business is DeA’s strategic focus and accounts for around 30% of NAV, so it constitutes an important part of the valuation and the indicative peer multiple comparison is similar to the reported NAV figure.

The sum-of-the-parts valuation includes the holding company’s net financial position of €83.7m, which is derived from the group balance sheet as shown in Exhibit 12. The resulting sum-of-the parts value of €2.01 is similar to the stated NAV (€2.03) and above our previous valuation of €1.94.

DeA continues to trade at a wider discount to NAV than the private equity fund sector, as represented by the LPX50 index of 50 leading listed private equity funds (see Exhibit 13). While both saw a narrowing of their discounts following the financial crisis, DeA’s discount has widened again in the last two years, perhaps reflecting concerns over the Italian economy and difficulties in its banking sector. There are concerns relating to the outcome of the Italian referendum on 4 December 2016 and efforts to stabilise weaker banks, but the current discount of nearly 45% builds in a significant cushion should there be negative surprises. The growth potential of the alternative asset management business is encouraging for the long term, while the relatively diverse and mature investments in private equity funds are likely to generate additional net distributions, strengthening the net financial position and making funds available for distributions to shareholders.