DeA Capital — Expanding asset management platform

DeA Capital (DeA) is a leading participant in the fragmented Italian alternative asset management industry with total assets under management of €11.3bn including SPC at end FY16 and an historical focus on real estate and private equity, to which it has recently added non-performing loan management. The latter is currently small, but the sector has good potential for further development and management seeks to grow this activity into a third leg to the asset management platform. DeA was previously more of an investment company with a remaining investment portfolio of direct and fund investments valued at a little more than €280m.

De Agostini, a group with other investments in the media, gaming and services sectors, is the major shareholder with a 58.3% stake; De Agostini is in turn owned by the Boroli and Drago families.

The alternative asset management platform comprises 64.3%-owned IDeA FIMIT, which manages €8.7bn in real estate funds, fully owned IDeA Capital Funds, which manages €1.9bn of private equity funds and, since June 2016, a 71.5% (initially 66.3%) stake in SPC Credit Management, a restructurer and outsourced manager of non-performing loans (NPLs). The IRE business, formerly a subsidiary, is now 45% owned and provides property management and brokerage services.

DeA’s net asset value at 31 December 2016 was €529.2m, or €2.03 per share, comprising the net assets of the alternative asset management business (32%), investments in private equity and real estate funds (38%), direct investments (15%), and with a significant net financial position accounting for almost all of the balance (15%).

The consolidated financial statements and the draft financial statements for the year ending 31 December 2016 were approved by the board on 10 March 2017. On 20 April 2017 shareholders will meet to approve the annual report, which should be available later in March 2017. The year saw good growth in AUM, especially in IDeA FIMIT, a positive performance from the fund investments, sufficient to offset a decline in the value of DeA’s investment in the large Turkish food retailer Migros, and a robust holding company net financial position despite the payment of €31.6m in dividends (€0.12 per share) in May 2016, a level that DeA will maintain in respect of 2016 to be paid on 17 May 2017.

Within the alternative asset management activities, a feature of 2016 has been the return to growth in AUM, which began in Q216. As a result, average AUM rose in H216 and, combined with a stabilisation of fee margin at IDeA FIMIT and improvement at IDeA Capital Funds, fee revenue also began to increase in H2. Much of the H216 growth in IDeA FIMIT AUM came late in Q4 – too late to make any material contribution to fee revenue in the period – but it will contribute fully in FY17. In particular, we note c €0.5bn of new AUM added in late December on behalf of a new fund launched by the leading Italian bank, Intesa San Paolo, targeting the attractive yield available from investment in properties acquired from and then leased back to corporate owners.

Management expects the renewed growth in IDeA FIMIT AUM to be a sustainable recovery from the pressures experienced in FY14/15 including the liquidation of maturing fixed-term funds and a reduction in the property investment weighting of Italian pension funds. The fee margin (48bp of average AUM in Q4) was also negatively affected by market conditions, including increased competition and the introduction of fee caps on some funds to protect AUM, but this has recently shown signs of stabilisation and is expected to remain broadly around the end FY16 levels.

IDeA Capital Funds also increased AUM during FY16 by a net c €0.3bn, similar to the c €263m of gross assets added by the IDeA Corporate Credit Recovery Fund I that launched mid-year. The IDeA Taste of Italy fund also grew further to reach €218m (from €140m at the end of FY15), exceeding management’s target of €200m. Issue-related fees, triggered by the closing of the Taste of Italy fund, benefited FY16 and as these drop out in FY17 we expect the overall fee margin to fall back. We had not fully allowed for this impact previously and this has had a negative impact on our forecasts for FY17. More generally, IDeA Capital Funds looks to the tighter focus of recently launched funds compared to the historical Fund of Funds (FoF) to support and maintain underlying fee margin. These older FoF still represent more half of IDeA Capital Funds’ AUM, but are expected to mature and run off at an accelerating pace, with maturities of a potential c €200-300m over the next two to three years. Management will seek to offset these maturities with new fund launches and second credit recovery fund launch is currently being considered, possibly for later in FY17. We have not included this in our forecast at this stage, which is the reason for the FY17-18 decline in AUM.

Exhibit 4 shows a summary of the profit and loss account for the alternative asset management segment.

Full year average AUM and fee revenues remained below the FY15 level for FY16 as a whole and management fees declined. Average AUM should increase in FY17 and despite the non-repeat of issue related fees overall asset management fees should remain at a similar level before increasing in FY18. The significant decrease in other expenses between FY15 and FY16 mainly reflects the non-repeat of €62.4m in intangible amortisation and impairment charges in FY15. This resulted from a reassessment of the carrying value of these assets on its balance sheet in light of reduced revenue and profit expectations for these businesses. FY16 other expenses were reduced by the mid-year non-consolidation of IRE Advisory, which is now accounted for as an associate following the sale of 55% of the business, but also included €5.0m of additional intangible impairment that was substantially offset by minority interests. The forecast decline in other expenses in FY17 reflects the assumption of no further intangible impairments and allows for the H116 IRE pre-deconsolidation costs to drop out altogether. Management indicates that investment in the new credit platform and the IDeA Corporate Credit Recovery Fund I issue costs had a negative impact on FY16 costs of between €0.5m and €1.0m, but these are unlikely to fall away in the near term.

In Q316 DeA acquired a majority stake (initially 66.3% but since increased to 71.5%) in SPC Credit Management, which has operated for 15 years as a restructurer and outsourced manager of non-performing loans (NPLs). It focuses on banking, leasing, consumer and commercial loans, mainly secured ones, and has €0.7bn under management. The contribution to earnings and AUM is currently small, but management plans to further develop its activities in the broad NPL segment with a view to creating a third leg (in addition to real estate and private equity) to its integrated alternative asset management platform.

Income from services relates to IRE and the reductions in FY16 and FY17 reflect the deconsolidation. It is hoped that third-party sales at IRE will improve with its increased independence from DeA, reflected in the growing contribution from associates through FY17 (full year) and FY18.

An analysis of net asset value changes, adjusted for the 12c dividend paid in May 2016, is shown in Exhibit 5. Net assets increased by 2.7% during FY16 and NAV per share by 4.1%. The latter benefited from ongoing share repurchases at a discount to NAV. NAV per share was unchanged in Q416, with gains in the value of funds offsetting a lower value for the stake in Migros.

The adjusted holding company’s net financial position increased by €21.3m to €79.7m from €58.4m, indicating that dividends were two-thirds covered by the movement in the net financial position and well supported by this strong level of liquidity. Net investment in/reimbursement from funds in the private equity segment of the portfolio were €9.9m during the year, with €21.8m of gross investment and €31.7m in reimbursements. In Q416 €15.0m gross was invested, including €5.35m into the energy efficiency fund, IDeA EESS, compared with €13.9m in reimbursements.

Exhibit 6 summarises the FY16 results compared with our forecasts, updates our forecasts for the current year and introduces FY18 estimates for the first time.

FY16 AUM was higher than we had forecast but, as much of the new assets came too late in the period to contribute to earnings, this faster AUM growth benefits our FY17 forecast. As we note above, FY16 included non-recurring, issue-related fees in respect of the closing of the Taste of Italy fund. Our previous estimates had not adequately allowed for this, which explains the reduction in FY17 forecast asset management fees despite higher average AUM.

The end-FY16 NAV was slightly below our forecast and we will undertake a full reconciliation when the annual report is published. For now we can see that it results in part from an increase in alternative asset management costs, which management indicates is to some extent driven by investment in credit fund management infrastructure (within IDeA Cap Funds) and impairment of real estate assets held within IDeA FIMIT. With respect to investment values, we note that the Q4 decline in the value of the Migros investment was not contained in our previously published forecast.

As we have noted previously, the recurring earnings from the alternative asset management division are not on their own sufficient to cover the dividend, maintained at €0.12 per share in respect of FY16 with a cash cost of c €31m. In setting the dividend, management pays close attention to the holding company net financial balance (effectively the group net financial balance adjusted for balances held in consolidated funds). In addition to the alternative asset management earnings and cash flow contribution, a key driver to this is the net balance of fund reimbursement and other divestments over new investment. Our forecasts assume a similar positive inflow from net reimbursements in FY17 to FY16, with an acceleration of reimbursements from maturing funds in FY18. We have not assumed in our forecasts that DeA will exercise its option covering an effective c 25% of its interest in Migros, even though this seems likely as long as the share price remains significantly below the option price. As a reminder, 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. Migros has recently been trading at c TRY21. As we show in the valuation section, at the current TRY/EUR exchange rate, we estimate the current value of this option to DeA, and the potential additional cash inflow into the holding company net financial balance, to be c €22m. The remaining interest in Migros has a current value of c €50m and we believe there is a good possibility that DeA and its partners will seek to exit this stake over the next two to three years.

A summary of our forecasts and the historical consolidated results are shown in Exhibit 10 at the end of this note.

To capture both the net asset value of DeA’s investment portfolio and a fair trading value for the alternative asset management activities, we use a sum-of-the-parts (SOP) approach to value DeA. This is very similar to the company’s own NAV analysis shown in Exhibit 5, but also makes mark-to-market value adjustment to the investment in the quoted Migros as well as replacing the book value of the asset management activities with a P/E-derived valuation based on the AAM divisional earnings. Our SOP value is unchanged at €2.01 per share, very similar to the FY16 NAV per share of €2.03. The Migros share price has risen since end FY16 and so too the Turkish lira versus the euro; we have valued the Migros stake using a share price of TRY21.6 and an exchange rate of TRY/€0.25 (as at 14 March 2017).

Our valuation of the alternative asset management business is based on the application of what we believe to be a suitable earnings multiple to forecast net income after minority interests. To establish a suitable multiple, we consider the consensus P/E multiples for a number of private equity, specialist and conventional asset managers in Europe and North America. The range of consensus multiples for private equity managers continues to be very wide (5.8x to 27.7x for the current year), which most likely includes distortions from performance fees and one-off effects. The average multiples across all categories are 13.6x current year earnings and 13.0x next year earnings. When we last wrote in November 2016, the average multiple of “current year” FY16 earnings was 14.7x. We are now using a multiple of 14.3x current year earnings in our fair value, somewhere between the updated average peer multiple and the previously used 14.7x. We have arrived at this by adjusting the FY17/18 forecast attributable earnings by €0.5m in each year to allow for the investment cost described above. This results in a value of €140.1m (previously €160m), which we note is a little below the balance sheet net asset value of €159.4m. The balance sheet value is equivalent to 16.4x FY17 earnings (with no adjustment for investment cost), which would position DeA’s alternative asset management business a little above the average for private equity fund managers but well within the range of 5.8x to 27.7x.

DeA’s share price has risen by c 14% in the 12 months to 14 March 2017 (€1.18 to €1.35) during which time the company has also paid €0.12 per share in dividends, yet its discount to NAV of 33% continues to be above that of the broader private equity fund sector, as represented by the LPX50 index of 50 leading listed private equity funds (see Exhibit 9). Although DeA’s discount to NAV has narrowed slightly in recent months, it has shown a clear tendency to widen over the past two years, against the trend of the broader private equity fund sector, perhaps reflecting concerns over the Italian economy and difficulties in its banking sector.

We note DeA’s ongoing share repurchase programme aimed at managing this discount. It has increased its treasury shareholdings from 11.6% of the issued share capital at the end of FY14 to 15% today and will ask the AGM to renew authorisation to increase this to 20%.

More fundamentally, the renewed momentum and longer-term growth potential of the alternative asset management business, and the likely future net distributions from the relatively diverse and mature investments in private equity funds, are both supportive of continued value generation as well as distributions to shareholders.