Description

NUAM Exchange is a recently formed Chilean holding company, resulting from a three-way merger of the companies that owned the Chilean, Colombian, and Peruvian stock exchanges and other financial market infrastructure businesses.

The merger was a several year process, requiring approval from shareholders and regulators in all three countries, and closed in October 2023. Shareholders of the previous Chilean exchange (BOLSASTG CI) received a 40% holding in NUAM, Colombians (BVC CB) also received 40%, and the Peruvians (GBVLAC PE) received 20%. While the shareholdings have been merged, the operational merger in terms of creating a single equity market, trading system, and having one team is underway and will be completed mostly by the end of 2025.

For a full description of NUAM’s business lines, which is not only trading but also custody, clearing, and other lines, we encourage you to review NUAM’s recent corporate presentations.

NUAM indicated in its 4Q23 earnings release, that its ‘pro forma’ 2023 numbers (the simple sum of the three predecessor company financials, as there were no intercompany transactions) show 129.9 million in revenues, 50.1 million in EBITDA, and 30.9 million in net profits. The results include 3.9 million USD of one-time integration expenses, or 2.6m post-tax. This means recurring 2023 profits were 33.5 million USD.

We believe that over the next few years, the merger will have a transformative, positive effect on NUAM’s profits, relative to this baseline. NUAM is currently trading at 11.5x trailing PE, before synergies take hold, and around 6x post synergies, with a 380 million USD market cap.

We believe we are uniquely aware of this situation, as we happened to have a small position in BVC CB (the Colombian predecessor) starting around 2017, and therefore have tracked the merger for years. However NUAM currently has zero analyst coverage.

Synergies

It is clear there will be substantial cost synergies going forward. The two main cost areas for an exchange are technology (including running the trading engine) and labor. Whereas the 3 predecessor companies were running 3 trading engines – one each – NUAM will only have to run one. In terms of labor, the previous companies had 3 CEOs, 3 CFOs, 3 CTOs, and so on – NUAM will only need one of each. On a recent earnings call, NUAM indicated it laid off 140 employees out of ~900 employees when the merger closed at the end of 2023, with more to come. All in, they indicated that they think they can achieve 17 million USD of cost savings via synergies going forward. Post an approximately 31% tax rate, this comes out to 11.7 million USD of incremental earnings from synergies. A study conducted by Bain Consulting for the 3 predecessor exchanges found that:

Using other exchange integrations as a reference point, expenditure on personnel, IT systems and third party services could be significantly reduced by ~USD 8-14M annually in the short term, and ~USD 16-19M in the medium term. If the Chilean Central Securities Depository were to be acquired in the future, additional estimated expenditure synergies of ~USD 6-7M could be achieved in the medium-term. Also projected are recurring IT investment (OPEX AND COPEX) optimizations of up to 50% (~USD 5M) in the medium term

These numbers can be quite significant relative to the current 33.5 million in run-rate earnings we saw earlier, with 11.7 million of post-tax cost savings representing a 35% increase, although some of it may be ‘given back’ to the market in the form of lower fees.

On the revenue side, the merger should also result in substantial synergies. The same Bain study found that:

Once integration has been achieved, annual income growth of ~USD 21-41m is estimated in the short term (year five), and ~USD 27-51m in the medium term (year eight), as a result of synergies between traditional lines of business and innovative developments (co-location services, regional index licensing). In addition, once the benefits begin to materialize, additional income could be captured by increasing the range of digital post-trade products. This long-term income has not been included in the totals, but could represent ~USD 20M in additional annual income.

Revenue synergies and increases carry almost no incremental costs and therefore drop to the bottom line. The aforementioned 27-51m in revenue synergies, plus 20m extra, are therefore highly significant relative to NUAM’s current run rate of 33.5m in profits, although some of it may be ‘given back’ to the market in the form of lower fees.

The main point of doing the merger was that the three predecessor exchanges were small and sleepy and it was difficult to build a financial markets ecosystem in each of them. With the three combined, more money can be invested by brokers and other market participants to build things like user-friendly stock trading apps for retail investors. NUAM’s markets have the ingredients for a much larger financial market. The Bain study noted that NUAM’s markets are “equivalent to 45% of Brazil’s free float capitalization and 85% of its market capitalization, but just 15% of its traded equity volume.” The Brazilian exchange operator, B3, has a 12 billion USD market cap and earns 800 million USD in net income, which is dramatically more than NUAM’s 380 million market cap and 33.5 million run-rate earnings. This shows the potential for financial markets to develop over time for NUAM.

As far as considering the overall increase in profits that will come from the merger due to scale, we think the following chart is helpful. For exchange operators globally, it shows average EBITDA margin over the past 5 years, compared with revenue:

One can see a generally positive relationship, with higher revenues implying higher EBITDA margin. We call particular attention to the fact that most exchanges with sub-100m USD revenues have sub-50% EBITDA margin, while most exchanges with above 100m USD revenues have above 50% EBITDA margin. The following histogram helps to visualize this:

This is due to the fact that regardless of revenue, an exchange needs one trading system, and one team of people to run that trading system. As revenues on the exchange grow, a lot of that incremental revenue drops to the bottom line without associated cost. So exchanges with high revenues can have higher EBITDA margin than exchanges with low revenues.

NUAM combined 3 exchanges with an average of 43 million of revenues, to create one with 130 million of revenues off the bat – and likely going higher due to revenue synergies and general development of the markets. It has moved across the important 100 million revenue threshold. NUAM’s 2023 pro forma EBITDA margin was 39%, but due to its new scale and the cost synergies, this should clearly increase. As revenue growth comes through, NUAM could have something like 180m revenues in 3 years versus 130m today, at which time it would be reasonable for NUAM to have an EBITDA margin in the high 50s, implying a substantial increase in net profits which we will quantify later.

Valuation

Using 2023 pro forma numbers, NUAM is currently trading at 11.5x trailing PE. This is before any of the merger synergies outlined above come through, which will substantially lower that multiple closer to 6x.

It compares favorably to the EM / FM median of 15.8x. Note that the median EM / FM risk free rate is 9.5% and average is 12.5%, whereas the median in NUAM’s markets is materially lower at 6.5% and average at 8.25%. As NUAM’s markets sport materially lower risk free rates, arguably NUAM deserves a few point PE premium to the EM / FM average.

The median DM risk free rate is 5.0% and average is 4.7%, and the median DM exchange PE multiple is correspondingly higher at 25.1x.

In terms of interest rates, NUAM is in between the EM / FM and DM, and arguably NUAM deserves a PE multiple in between the 15.8x EM average and the 25.1x DM average.

A specific analysis of the liquid LatAm comps is worthwhile. B3 is trading at 16.0x trailing, though Brazil has a 10.75% policy rate which is higher than that for NUAM’s markets. B3’s multiple has de-rated significantly compared with the last several and 15 years, when it traded as high as 35x trailing PE. This may be due to a few reasons, including the fact that B3’s TTM EPS of 0.70 is below its 2021 EPS of 0.78 and barely above 2020 EPS of 0.68. Also, while B3 has a monopoly in markets in Brazil at the moment, it appears that Mubadala will fund a competitor, second exchange in the near future, which creates some worries about B3’s future earnings.

Bolsa Mexicana trades at 12.5x trailing which is extremely low in the context of EM exchanges. Mexico has an 11% policy rate which is significantly higher than that in NUAM’s markets. Also, Bolsa Mexicana’s revenues and earnings are declining at 7 to 10% rate at the moment, with LTM EPS of 2.57 below 2021 EPS of 2.71 and 2022 EPS of 2.87:

Bolsa Mexicana had a monopoly in trading in Mexico for 43 years through 2017. However, in 2018 Bolsa Institutional de Valores (BIVA) was launched in the market by a local investment group. BIVA has been steadily taking share in trading and has climbed to 18% market share:

The impact on Bolsa Mexicana’s results from the launch of BIVA has not been extremely significant to date, as only the cash trading business is affected, while BIVA does not offer other lines like custody. BIVA is also losing money, raising some questions about the sustainability of its operations. However, the trading share losses for Bolsa Mexicana are a relevant concern which may contribute to its noticeably low PE multiple.

We think the risk of a competitor emerging for NUAM is near zero in the near term and lower than that of Brazil and Mexico in the medium to long run. The NUAM merger took place because the three predecessor markets were sub-scale, so it is nearly inconceivable for a competitor to emerge in just one of the markets. It would have to be a regional competitor mirroring NUAM’s geographic exposure. This makes it more difficult, as NUAM took years to get all the approvals necessary to operate in this way. We don’t think a number 2 position in NUAM’s markets would be interesting for a large international investor like Mubadala; it would likely have to be an entity small enough to care, but large enough to know how to operate in 3 countries. It seems reasonable to say that the risk of a second entrant is not higher for NUAM than for the EM comp group, and is probably lower. In any case, we believe a precondition for the entrant of a second participant would be for the NUAM merger to succeed in a very dramatic manner, with profits growing substantially, making the market more attractive for a new entrant than today.

In summary, we can say that if NUAM trades in between EM / FM multiples and DM multiples, mirroring the fact that interest rates in NUAM’s markets are in between EM / FM and DM levels, it would trade around 20x PE. The liquid LatAm comps are trading lower, but they are in markets with higher rates, have negative earnings growth, and are facing or about to face competition from second players. This would seem to justify NUAM trading at a higher multiple than these two LatAm peers.

We also would like to specifically comment about copper.

Copper

As you probably know, Stan Druckenmiller has one of the greatest investing records of all time, having returned 30% for 30 years while managing a hedge fund, with no down years. In the last year, Druckenmiller has said on numerous occasions that he is extremely bullish about the copper price outlook on a multi-year basis. For example, at a speech at USC Marshall in May 2023 he said

Copper is the wildest bullish supply demand situation ever seen. But if you get a hard landing, I’m not sure I want to own it. But I definitely want to own it long term because the inventories are crazy. And this whole EV thing is going to happen.

Just a few days ago on May 07 2024, Druckenmiller gave an interview on CNBC, where he mentioned a small number of investment ideas, including again copper:

Copper is a pretty simple story. Takes about 12 years, greenfield to produce copper, and you got EVs, the grid, data centers, and believe it or not munitions. These missiles all got enough copper in them and the world’s getting hot that we just think the supply-demand situation is incredible for the next five or six years.

This is all relevant to NUAM because fully 37% of global copper production comes from Chile and Peru. Chile is by far the number 1 global producer with 27% share, and Peru is number 2 with 10%.

A bull market in copper will improve the economy in NUAM’s regions and increase the value of many listed companies (not just the copper producers), leading to higher fees and profits for NUAM. Before the boom, this justifies a higher PE multiple for NUAM.

Acquisitions

There is a long tail of Latin American countries that are too small and sleepy to have a vibrant exchange. Moreover, due to low revenues, the exchange operator cannot achieve attractive margins and profits. It is noteworthy that the central securities depository of Peru currently owns 28% of the CSD of Bolivia. The Chilean exchange owns a little more than 6% of the exchange of Dominican Republic.

Once NUAM successfully integrates the 3 initial markets, it would make sense for some other countries to plug in to NUAM’s scale and efficiency. The CEO of NUAM indicated this was a possibility to consider starting in 3 years, once the first 3 markets are integrated.

Liquidity and Trading

NUAM is currently listed on the Chilean exchange as NUAM CI (average liquidity since listing 38,543 shares daily), in Colombia as NUAMCO CB (average liquidity 28,224), and in Peru as NUAM PE (no trades yet). The total average liquidity is therefore 66,767 shares, which at the most recent price comes out to 290,436 USD in daily liquidity.

This liquidity has been quite lumpy, with little trades some days, and sizeable block trades others.

In terms of projecting liquidity, we think the important thing to bear in mind is that substantial majority of the market cap of NUAM can be considered free float. There is a 10% individual ownership restriction. B3 (the Brazilian Exchange) owns approximately 8% of NUAM (an acquisition attempt down the road cannot be ruled out). Brokers are many of the historical shareholders, and they are required to hold only 1 share to be able to act as brokers going forward. Therefore, they are all free to sell. While it will take time, looking a few years out it seems likely that NUAM will have a relatively normal share turnover, and for a company currently worth ~380 million USD and likely worth more in years, this liquidity should be respectable. We believe initiation of coverage by brokers (there are 61 operating across the three countries) in the coming year will make an important contribution to liquidity (and the share price).

Return Projection

Below is a screenshot of a simple excel file projecting a 3 year IRR from investing in NUAM. Obviously one can debate individual assumptions. Our main takeaway is that it is difficult to come up with reasonable assumptions that do not lead to a highly attractive IRR.

Consider the following as a downside case, with lower EBITDA margins, revenue synergies, and a much lower exit multiple. It still yields a satisfactory IRR

Note that early signs are that NUAM should significantly surpass the revenue growth figures used in the two above charts. This is because markets in the Andrean region are currently booming, with the markets already up 33.6% (weighted average) versus 2023 levels:

A material portion of NUAM’s revenues (though certainly not all) is tied indirectly to market levels. With markets up 33.6%, it is reasonable to expect healthy revenue growth for NUAM versus 2023 levels, higher than what is in the two return calculations previously presented. Bear in mind that revenue increases carry almost no incremental cost, dropping to the bottom line.

The recent rally is a blip in the larger picture however. Markets in Colombia and Chile (80% of NUAM’s revenues) are significantly below their long term highs reached in 2011-2013. Here is Colombia:

And Chile:

Peru (19% of NUAM revenues) is about 65% above the local highs reached in 2010:

Catalyst

Release of financial results showing benefits of merger; intiation of coverage by brokers