Overview:

Broadridge (ticker: BR) is the dominant player within the niche business of proxy distribution, which constitutes the majority of its profitability.  Given Broadridge's extremely high market share, the significant barriers to entry in the industry, and the recurring nature of the business, this represents a very attractive cash flow stream.  Broadridge currently trades at an undeservedly cheap valuation, with several catalysts that should help narrow the discount to fair value.

Business:

Mack885 did an excellent job writing up the business a few years ago, much of which still applies today.  I'll quickly run through the dynamics of the various segments, though feel free to reference the prior write-up for additional detail.

Broadridge began as a segment of ADP, building its dominant position within the proxy distribution industry in the 90's both organically and through acquisition.  Over the years, it also developed two smaller segments, trade processing and clearing.  In 2007, ADP spun the business out as an independent entity into its current form.  The CEO and COO have run the business since the late 80's/early 90's and stayed with the company post-spin.

Broadridge has two primary segments today:

Investor Communications (ICS):

This is Broadridge's largest segment, representing ~71% of revenue and ~65% of EBITDA.  ICS is by far the dominant player within the proxy distribution, having close to a monopoly position of the "street name" portion of the industry, which in turn represents 75-80% of US equity shares.

Given the somewhat obscure nature of the business, some quick background is helpful in understanding their very strong position within the industry.  In order to facilitate trade clearance and settlement, the Depository Trust Company serves as a central depository allowing ownership changes to take place without a physical exchange of documentation required.  Its related entity, the National Securities Clearing Corp allows multiple trades to be netted against each other, further facilitating trade settlement.  The DTC only tracks the economic ownership of the broker dealers with which it interacts, while the broker dealers maintain the records containing the beneficial ownership of these shares.  The majority of the US market operates under this system (~75-80% of shares).

Complexity arises from the SEC mandates requiring public issuers and mutual funds to provide shareholders with various pieces of information (proxy materials, annual/semi-annual reports, etc.).  For the significant number of shareholders whose accounts are held in "street name", the broker dealers are responsible for distributing proxy information and are compensated by the issuer on a per-unit basis for this service.  Given the economies of scale, Broadridge serves as the outsourced platform that broker dealers then hire to interface with issuers, maintain ownership data, and ultimately distribute the proxy information.  This results in an attractive dynamic where Broadridge is actually hired by the broker dealers, though their fees are ultimately paid for by the issuers.  The costs to issuers are insignificant for most companies, with pricing generally set by the NYSE in consultation with Broadridge.  As a result, Broadridge essentially has a monopoly business where their direct customers are not focused on pricing, and where the small scale of the fees merits little attention from the issuers who ultimately pay the fees.

There were initially some concerns about recent changes to the fee structure known as notice & access meant to increase shareholder participation and reduce costs through increased electronic distribution of proxy materials.  However, the changes implemented end up substituting a high revenue/low margin product (physical mailing of proxy materials), for low revenue/high margin products (compensation for suppression of multiple mailings and electronic delivery of materials) that ends up being neutral to beneficial to Broadridge.

The underlying growth driver of the business is stock record and mutual fund position growth, historically in the low-to-mid single digit range with some cyclicality introduced around event-driven business (i.e. proxy fights, merger votes, etc.).

Securities Processing (SPS):

Representing ~35% of EBITDA, SPS is Broadridge's other primary segment.  Through SPS, Broadridge is a provider of outsourced trading operations to many of the large US broker-dealers.  Revenue tends to be relatively recurring, with their broker relationships protected by long-term contracts, though a majority of revenue is derived from transaction-based sources.  The business is roughly 75/25 US/International, and largely equity based (though there is a small fixed income portion as well).

Within this business, Broadridge provides outsourced trade capture, execution, confirmation, settlement and execution, as well as individual productivity tools that interface with their solution.  Given the economies of scale, Broadridge seeks to provide cost savings to customers versus the use of in-house systems.

This segment has been less attractive than ICS historically, with the biggest issue being continued consolidation of their customer base.  That said, trading growth over the longer-term is very beneficial to margins, given the operating leverage inherent in the segment.

Another issue within the segment is that management believes a strong balance sheet is required in order to be a credible competitor within this segment, limiting the ability of the company to take on leverage.  This contrasts significantly with ICS, which given its recurring nature and low capital intensity should be able to support substantial leverage.  As there are limited obvious synergies between the segments, this certainly creates inefficiency within the overall company's capital structure.

Clearing and Outsourcing (COS):

This has been a very small loss-making portion of the company that was historically marketed as an adjunct to their Securities Processing products.  Broadridge recently exited the business, selling it to Penson.  BR still provides securities processing and back-office services, but the sale importantly has allowed them to release ~$240m of balance sheet cash as well as receiving cash proceeds for the sale itself.

Potential catalysts:

1) Share buybacks: Given the closing of the Penson acquisition and overly conversative balance sheet, continued share buybacks by management would be beneficial

2) Capital Structure:While management seems reluctant to separate the segments, A significantly more efficient capital structure could be achieved with a separated ICS business allowing it to take on the higher amounts of leverage it could support

3) LBO: Again, management has seemed resistant, but the ICS segment in particular would be an attractive target for private equity

Risks:

1) Continued customer consolidation

2) Regulatory change that significantly modifies the proxy distribution system

3) Exposure to trading volumes

Valuation: