Description

Information Services Corporation (TSX:ISV) is a technology services provider in Canada, with a market capitalization of ~CAD 530m and founded in 2000 to manage the land, personal property and business registries in the province of Saskatchewan. The company was previously written up on VIC with good performance since, but we believe significant upside remains and that this write up will add relevant color on the quality of the business as well as on the health of the underlying market. The company just reported a Q2 that beat consensus by a wide margin, which the market has shrugged off, and management has an ambitious growth plan that is very far from being priced-in.

High quality “monopoly” business. ISC’s main business is managing the abovementioned registries in Saskatchewan (the “Registry Operations” segment, which accounts for ~70% of EBITDA) and commercializing software/services mainly related to the provision of regulatory/corporate information for banks and law firms (“Services” segment, accounting for ~30% of EBITDA), as well as providing consultancy related to the implementation of registry systems in other jurisdictions (the “Technology Solutions” segment, for now a residual value of EBITDA, since the recovery of this segment post-Covid is still underway).

Under its recently renewed license with the Province of Sasktachewan, ISV is able to operate Saskatchewan's registries without competition, benefiting from prices indexed to inflation (around 38% of this segment's revenue) or to the value of real estate transactions in the region (62%), in a business that benefits from EBITDA margins of ~55% and almost zero capex. “Real estate transactions” also includes non-residential transactions, such as offices, industrial properties, agricultures, and O&G/mining fields.

We expect the registry business to grow in line with the Province's nominal GDP, while the other segments should continue their historical organic growth trajectory closer to 8-10% p.a., resulting in an expected aggregate organic EBITDA growth of at least 6-8% p.a. over the next 5 years. At the current double digit free cash flow yield we believe the market is pricing much lower growth, which contrasts with management’s ambitious target to double revenue over 5 years largely through organic means (we are not as aggressive in our projections, but note that CEO Shawn Peters has reputation for “underpromising and overdelivering” per ex-colleagues we spoke with).

Although not a key pillar of our thesis, we also expect Saskatchewan's GDP to grow at a faster pace than the rest of Canada, as a result of the continued stronger population growth the region has experienced in recent years from migration and the region's high productive capacity in fertilisers, agricultural goods and mining. We believe the registry revenue’s exposure to real estate values in Saskatchewan is not a major risk, as the province’s house prices are significantly below other regions of Canada and there is an ongoing housing supply shortage. In fact, per the latest Saskatchewan economic data we are seeing investment across both residential (i.e. new build) and non-residential markets growing – a positive for future volume passing through the land registry.

Path to 20% IRR assuming constant multiple, with potential for re-rating providing further upside. Given this growth, as well as the resilience of the business (a large part of which is fully protected from competition until 2053) and cash generation (~80% of EBITDA converts into cash flow before interest and ~60-65% after interest payments), we believe that the multiple of 9x EBITDA 2024E at the time of writing of this report is very attractive – resulting in a free cash flow yield (after interest) of 12-14%. In fact, although there aren't many comparables, the most relevant is Teranet, which similarly operates registries in the province of Ontario, and which was taken private in 2008 by Canadian infrastructure fund OMERS at 12x LTM EBITDA, during a period of uncertainty for the global economy. Some regions in Australia have also tendered similar licences in recent years, with the winning consortia paying close to 30x EBITDA for these according to people familiar with these processes that we have interviewed. 

Taking all this into account, it is easy to see the path to a 18-22% IRR through a 12-14% levered FCF yield + 6-8% annual growth in EBITDA - assuming a constant multiple, whereas we believe there could be some room for multiple expansion.

We believe a higher multiple will be reasonable in five years’ time as the current uncertainty surrounding the company – mainly, we believe, centered around ISC’s exposure to real estate prices and relatively high leverage (when including future payments to Saskatchewan stemming from the license renewal) – diminishes, and the business demonstrates the ability to continue growing steadily while deleveraging. We believe a premium is warranted compared to the multiples at which the company has traded in the recent past since, following the renewal of the Saskatchewan licence, business risk has reduced considerably (ISC went from holding its registries licence for another 10-15 years in 2018-23 to 30 years today). 10x EBITDA would be close to the multiple the company traded at during 2013-2014 (post IPO), when the remaining duration of the existing license was similarly longer.

We believe this opportunity exists because the market is doubting the company’s growth potential and margin sustainability, as well as due to concerns over ISC’s exposure to real estate prices and leverage. However, as further described below, we think the registries business is actually quite resilient and not overly exposed to real estate prices, while real estate should nevertheless be well supported in Saskatchewan due to an ongoing housing shortage. Growth might fall short of management’s target but with a double digit FCF yield you do not need a lot of growth to do well and reach  a >20% IRR. Margins at the registry business are higher than the historical average but this is partially explained by high flowthrough from price increases done in the last two years and from strong inflation on real estate prices creating operating leverage. Senior former employees interviewed were comfortable with current margins and believed there is potential to increase them further through the automation and technological improvement plans that are being implemented as part of the license renewal with Saskatchewan.

Finally, regarding leverage, the company is hardly overlevered - we expect it to reach c. 3x ND/EBITDA at year end, including the NPV of remaining future payments to Saskatchewan due to the license renewal. Given the quality, cash flow generation, and competitive position of the business, we are very comfortable with this - Teranet, the OMERS-backed peer that operates the Ontario land registry, has historically supported >5x ND/EBITDA.

Resilience to economic cycles and good momentum in Saskatchewan’s data. We can look back to the period 2015-2018 to gain confidence in the registry's performance in difficult economic conditions – this period was characterised by a recession in Saskatchewan, as a result of a fall in commodity prices, but ISC’s Registry Operations EBITDA remained practically constant due to its anti-cyclical components (see table below, downturns in the Saskatchewan economy shaded grey). Events such as bankruptcies and mergers arising from industry consolidation also generate income for the registry, and as highlighted above exposure to real estate includes not only residential but also farmland and commercial real estate.

In this sense, leading KPIs are also positive and show an healthy underlying market. Saskatchewan's economy and property market have been showing good numbers, after an expected slight decline in the latter relative to a very strong period 2022. YTD to August the volume of home sales in the region is growing 7% YoY, with the average sales price growing 4% YoY. August showed -7% on volumes but still +4% prices. In general, we find that the situation in residential real estate is similar across most developed countries, with a marked lack of supply post-GFC supporting prices (e.g. house inventory -40% vs 10 year average in Saskatchewan as of August).

Strong feedback on management and aligned incentives. We also spoke to several people close to the business, obtaining positive feedback. In particular, we met several times with two former senior employees of the company who had a very good opinion of the current CEO and kept shares in the company due to their optimistic outlook on the business.

Our view of the current CEO, Shawn Peters, is positive, not only because of this feedback, but also as a result of the various interesting acquisitions he has executed, the willingness to leverage the company to a reasonable level given its resilience and cash generation (we find that sometimes very recurring and resilient businesses remain underlevered in public markets due to management’s desire for easy job stability at the expense of efficient shareholder returns), and the demonstrated ability to negotiate with the Saskatchewan government in order to renew the licence on attractive terms until 2053. In fact, the company agreed a payment equivalent to ~15m CAD per license year for this renewal, which corresponds to ~20% of the annual EBITDA generated by this business segment in 2022, but also managed to include a price increase in this renewal that corresponds to incremental EBITDA of 16m CAD per year, more than offsetting the annual cost of the renewal.

The CEO holds options on ~2% of the company's capital, which in our base scenario should be worth 4m CAD in 2028 (net of strike price), or ~10 times his base annual salary – so that he is incentivised and aligned with us. Most options are in the money, so that Shawn is also exposed to downside at the current share price, minimizing the incentive towards excessive volatility.

Catalyst

Continued cash generation and organic growth coming out above market expectation; rate cuts supporting real estate in Saskatchewan