Market IQ Understanding the Drivers of Shareholder Return. Cary Helenius, Kevin Gomes & Graham Taylor

Transcription

1 Market IQ Understanding the Drivers of Shareholder Return Cary Helenius, Kevin Gomes & Graham Taylor

2 Producing superior Total Shareholder Returns (TSR)* is a major motivation for ASX listed companies: It is the main objective in setting strategic plans It should be the main motivation for M&A activity It is typically integral in setting remuneration rewards for executives Limited practical and objective information about the drivers of TSR has been available for boards and management The objective of our research was to bridge that information gap * Total Shareholder Return = Share price change and dividend yields 2

3 TSR is affected by a number of factors ( Ps & Qs ): Total Shareholder Return* Q's P's Quantitative Financials under company influence Price (short term) Perception Prospects 3

4 Management can drive a company s TSR over future periods by appropriately managing company financials Total Shareholder Return Q's P's Quantitative Financials under company influence Price (short term) Perception Prospects 4

5 We have explored the relationship between a company s reported financials and Relative TSR* 225 companies analysed 6 monthly data points over past 10 years = 67,500 data points We have only included ratios which were clear and objective measures, derived from the publicly released results and found a strong relationship for certain ratios * Relative TSR = TSR relative to the market average 5

6 Relative TSR For example, ROE is a strong driver of Relative TSR 10% ROE + 5% % 0% -5% - % -10% ROE (increasing --->) 6

7 Relative TSR Change in ROE is also a strong driver of Relative TSR Change in ROE + % 0% - % ROE one year prior (increasing --->) 7

8 Relative TSR Pre-GFC, optimal gearing was rewarded NDE pre GFC Optimal area + % 0% - % Net debt to equity (increasing --->) 8

9 Relative TSR whilst Post-GFC, the debt relationship changed 15% 10% + % NDE post GFC 5% 0% 0% -5% - % -10% Net debt to equity (increasing --->) 9

10 Relative TSR Relative TSR Price related measures clearly impact Relative TSR on a one way basis 15% 10% 10% 8% 6% 5% 0% -5% 2% 3% 4% 5% 6% 8% 10% 12% 4% 2% 0% -2% -4% % Dividend yield -6% PE (trailing) 10

11 0% 13% 38% 50% 63% 75% 88% 100% 113% Dividend yield but 2 way combinations provide additional insight Low payout high dividend yield is associated with outperformance 12% 10% 8% 6% 5% 4% High payout low dividend yield is associated with underperformance High Relative TSR Low Relative TSR 3% 2% 0% Payout Ratio 11

12 ROE (increasing --->) 2 way analysis also provides additional insight into ROE ROE vs Change in ROE High ROE and high positive change is associated with outperformance Low ROE and reduction in ROE is associated with underperformance Change in ROE (increasing --->) 12

13 Year on year change net debt to equity (increasing --->) 2 way analysis of gearing levels is also insightful The 2 way combination demonstrates enhanced performance areas when considering level of debt and changes in debt levels NDE pre GFC Relative TSR outperformance 'sweet spot' - optimal change in debt from an optimal level of debt Net debt to equity one year prior (increasing --->) 13

14 Year on year change net debt to equity (increasing --->) however, monitoring the factors is critical to detect market changes NDE post GFC The level and change of debt profile changed significantly post the GFC There are some recent signs that the market is becoming more comfortable with prudent levels of debt Net debt to equity one year prior (increasing --->) 14

15 Taken in combination, the financial ratios were used to model the Relative TSR Company Predicted Relative TSR Rank Predicted Relative TSR Quartile 1. aaa 17 1st a 2. bbb 205 4th 3. ccc 115 3rd 225. xyz 81 2nd Companies in the top quartile represent those with optimal mix of financial parameters across P&L, Cashflow and Balance Sheet with companies ranked and grouped into quartiles according to their predicted Relative TSR level 15

16 For purposes of our model, price related ratios were excluded Financial Ratio P&L Cashflow Balance Sheet Share Price ROE Change in ROE ROFE NPAT growth ROFE growth Net debt to equity Change in net debt to equity Net debt to total funds employed Net interest cover Pay out ratio Net cash flow to NPAT EPS growth Revenue growth Dividend Yield P/E Price related ratios excluded from our analysis on the basis that share price is not within management control Share price is an output rather than an input of financial performance. 16

17 Relative TSR As a group, top quartile companies strongly outperformed Average Relative TSR* by predicted quartile Top quartile strongly outperformed (~+9% p.a.) 10% 8% 6% Bottom quartile strongly underperformed (~-7% p.a.) 4% 2% 61% of companies outperform over following 12 months 0% -2% -4% -6% 1st 2nd 3rd 4th 60% of companies underperform over following 12 months -8% while bottom quartile companies strongly underperformed *Refers to actual Relative TSR recorded over the 12 months following the balance date 17

18 In summary, our research has some important implications Company management can influence TSR outcomes through appropriate financial management The reported financials can impact on Relative TSR immediately and endure for the following 12 months A significant proportion of Relative TSR performance is attributable to factors independent of share price Whilst 1 way analysis of financial ratios provides useful guidance on Relative TSR, 2 way analysis provides significantly greater insights 18

19 with a range of potential applications An objective framework for assessing management performance and setting executive remuneration rewards - based on factors which are within management control and independent of share price Allows companies to identify their optimal financial settings (e.g. optimal levels of debt, dividend payout ratios etc.), with ability to factor in financial constraints Used to explore strategic financial objectives for their relevance as Relative TSR drivers and to to test various strategic alternatives for their impact on predicted Relative TSR ranking Identify gaps between predicted and actual Relative TSR performance, prompting further investigation of possible causes 19

20 Appendix Model overview GLM (normal error term) Explanatory variables: Financials Response: Relative change in share price plus dividends* eg Financials Relative change in TSR * Relative (share price t+1 + dividends t to t+1 ) / share price t

21 Appendix Model validation Top 25% of predicted observations Average Relative TSR Observation Actual Predicted % 10% Model accurately reflects actual experience over modelled period* 2 nd predicted quartile 3 rd predicted quartile 4 th predicted quartile % 1% -2% -3% -8% -8% 3600 * Modelled period - financials from Jun 2002 to Jun 2010 corresponding to relative TSR from Jun 2003 to Jun

22 Relative TSR Jun 2003 Dec 2003 Jun 2004 Dec 2004 Jun 2005 Dec 2005 Jun 2006 Dec 2006 Jun 2007 Dec 2007 Jun 2008 Dec 2008 Jun 2009 Dec 2009 Jun 2010 Dec 2010 Jun 2011 Dec 2011 Jun 2012 Dec 2012 Jun 2013 Appendix Model validation 3% Actual vs predicted relative TSR 2% Actual Predicted Holdout years 1% 0% -1% Model predicts relative TSR for year ending Jun 2013 based on financials ending Jun % Model is robust over time - including holdout years -3% 22

23 Relative TSR Jun 2004 Jun 2005 Jun 2006 Jun 2007 Jun 2008 Jun 2009 Jun 2010 Jun 2011 Jun 2012 Appendix Model validation 15% 10% Actual relative TSR by predicted quartile Top quartile companies consistently outperformed whilst bottom quartile companies consistently underperformed including holdout year 5% 1st quartile 2nd quartile 0% -5% -10% -15% 3rd quartile 4th quartile Over all years 1st quartile Over all years 2nd quartile Over all years 3rd quartile Holdout year 23