Scotia Capital smitten with Thomson Reuters
With tons of integration work ahead of them at Thomson Reuters (TRI:TSX, NYSE), it was interesting to see how positive Scotia Capital Equity Research Analyst Paul Steep was on the recent Q2. The 3.1% divi may appeal, but the flat share price speaks to the natural market tendency to be “from Missouri” until the integration mayhem than usually accompanies mergers is behind the TRI folks. Here’s a summary from Paul’s note:
Thomson Reuters’ Q2 pro-forma revenues of $3,442M and EPS of $0.49 were ahead of our estimates of $3,226M and $0.37 (consensus $3,345M and $0.36).
What It Means
Solid results support thesis. Strong growth within the Markets division supports our thesis that the firm is in the process of a fundamental shift away from a dependency on terminals to a hybrid model derived from its new class of applications. Furthermore, solid performance from the Professional division represent a key contributor to overall profitability and demonstrate the strength of Thomson Reuters’ broad and diversified portfolio.
Catalysts setting up ahead of 2009. We believe that Thomson Reuters is well positioned to exceed expectations through a combination of synergies from the integrations of Reuters and the launch of major new products across both business divisions.
Bottom line. Given strong dividend yield and FCF this remains a core holding and we remain buyers as we head towards Q3.
Our view is that Q2 results demonstrate the strength of Thomson Reuters’ broad and diversified portfolio which provides the firm with flexibility in navigating economic weakness in various segments (see Exhibit 1). Furthermore, solid performance from the Professional division represents a key contributor to overall profitability which has been overlooked given recent economic headwinds in the markets division. The firm’s pro forma revenues grew 12% year over year driven by 7% organic growth, 1% from acquisitions and 3% foreign exchange. This was supported by 10% growth (6% organic) from the Professional division and 12% growth (7% organic) from the Markets division.
Integration progressing ahead of our estimates. In our opinion, Thomson Reuters is well positioned to exceed integration cost savings expectations driven by short term quick wins on rationalization of operations and longer term IT and infrastructure projects which are not yet fully understood by consensus. In the quarter, the firm reported $490 million in run rate savings, approximately $90 million ahead of our estimates while costs were in line with our expectations. The firm confirmed that it remains on schedule and on target to achieve its previously released integration and synergies programs aimed at realizing $1,210 million in run rate savings by the end of 2011.
Diversification of Markets division should provide support in challenging environment. We believe that Thomson’s market division is well positioned to address the on-going economic headwinds. Our view remains that the increasing diversification of the firm’s Market revenues between machine readable data (unrelated to employment levels), enterprise contracts and terminals provides the firm with greater resilience than prior downturn cycles.
Major new product cycle ahead. We believe the firm’s roll out of a common platform for the Thomson and Reuters applications and product sets provides a key step in the integration of its infrastructure and focus on capturing synergies. The firm anticipates launching a common platform by mid-2009 with major clients expected to transition in 2010 following the completion of successful application testing procedures. Our view is that the firm will use the common platform to strengthen their competitive situation in the terminals market through a number of factors including better user interface, improved search capabilities, and ease of use. In our opinion, expectations relating to the new release will likely only begin to build in early 2009 as details pertaining to the release dates become more apparent. We anticipate that this should provide a positive catalyst for Thomson Reuters over the forecast period as the next generation platform offers the potential for both revenue growth from up selling clients to new solution and margin improvements as the firm consolidates the backend, reducing duplicate infrastructure and development efforts.
Free cash flow remains healthy. Thomson delivered solid free cash flow (FCF) in Q2 enabling the firm to continue to invest in a variety of shareholder value initiatives, including share repurchases, debt repayment and the integration of Reuters. In the quarter, Thomson generated FCF of $636 million ($0.80 per share), up from $226 million ($0.35 per share) in the same period a year ago, supported by a $283 million contribution from non-cash working capital changes following the acquisition of Reuters. The firm ended Q2 with a net debt position of $7.6 billion, in line with our expectations reflecting a net debt/LTM EBITDA ratio of 3.5x, safely below its 4.5x covenant.
Thomson confident in 2008 guidance
Revised estimates reflect benefits of diverse revenue and earnings base. We have updated our financial model to reflect the Q2 results and further details from the company’s conference call. Adjustments to our estimates reflect a cautious outlook for 2H/08 as we anticipate slowing growth from the firm’s Markets division as economic headwinds persist. The increases in estimates are primarily reflective of the solid Q2 results.
In our minds, the Professional segment should continue to offer support in partially offsetting potential softness in the Markets division as their revenues are impacted by different economics factors than the Markets division.
Thomson reaffirmed its 2008 guidance with Q2 results reflecting confidence in the growth potential of both its Markets and Professional divisions. Our estimates reflect more cautious revenue expectations at the lower end of the guidance range with profit margins at the higher end of the range and we anticipate margin expansion, supported by the successful Reuters integration and associated synergies.”
Considering how conservative Paul can be, this report makes me want to add 60,000 TRI at $36.63 to the Decade of Daddy Mirror Fund.