Introduction to the thesis
ORIX Corporation (NYSE:IX), based in Japan, is a financial conglomerate with subsidiaries covering corporate finance, real estate, private equity, power generation, insurance, banking and credit, aircraft and ships , and asset management. Along with the diversity of offers, a third of the company’s offer the assets are international. This certainly helps generate more revenue, as exchange rates favor currencies such as the US dollar (USD) over the yen (JPY). The company’s primary investment thesis revolves around stability. Just like other larger Japanese conglomerates such as Sumitomo Mitsui (SMFG) or Mitsubishi UFJ (MUFG), companies are relatively indestructible, even if their home country, Japan, has had steady GDP growth for at least 30 years.
ORIX, however, has a strong performance model and currently looks poised to deliver returns above the rest of the market. The company is well-diversified, but a lower market capitalization than its peers allows for significant one-time events to drive performance in the small and mid-cap market. Here are some of the main catalysts:
First, the shift to renewables is generating revenue growth in an energy segment that is not in secular decline (yes, oil and gas).
Second, the rebound in their scrapped planes and ships segment should also be a catalyst for years to come as tourism returns around the world.
Third, the continued strong performance of their private equity investments should continue the earnings growth pattern, even if the market weakens. This is especially true for their international asset groups in the US and EU.
Finally, supportive shareholder practices, such as the current 4.0% dividend and the ability to buy back shares, enable returns regardless of how the share price moves in today’s era of market uncertainty. markets.
ORIX is perfect for investors looking for tangible inflation-fighting, risk-management and value-oriented investing assets. Just take a look at the two tables below. The first shows a breakdown of assets by segment, with data on returns for each. In addition, return on assets, based on after-tax profits, averages 2.7%. Although it may seem weak, the current weakness can be attributed to temporary problems. First, an investment in a Japanese pharmaceutical company which then has been suspended for almost four months and the assets sold at a loss. Second, the energy segment (now focused on renewables) faces losses as asset values fall and investments flow into increasing production for the future. Finally, the aircraft and ships segment continues to be penalized by the lack of travel, but is able to benefit from a comeback. In addition, the second chart below shows how, even though the return on assets is low, the overall profits earned are increasing year over year.
Zooming out on a longer term chart, we can see that ORIX has had fairly stable revenue growth momentum, but with some cyclicality. This is typical of asset managers, as projects mature at different times or are sold. However, I am confident that linear and steady growth will occur over the next few decades, especially as the company matures its portfolio. The strong performance through 2020 also highlights the power of diversification, even when some units have been beaten (like planes). I suspect that the quarterly revenue highs seen in 2017 will be reached within a few years. More on prospects later in the article.
With the next graph of EBITDA and net income, we can see that the underlying business performance is much stronger than the revenues would suggest. The EBITDA margin has been hovering around 22-24% for the past few years, while the net income margin is slowly improving to over 15%. It’s also great to see that the losses only occurred in one quarter at the height of the GFC and were fairly quick to recover thereafter. Strong earnings performance for more than 10 years is one of the main reasons to invest in the company, especially as revenue segments continue to maintain their performance or improve.
Another key area of ORIX to watch closely is the balance sheet. While at first glance investors may fear there is too much leverage and limited FCF, there is real strength lurking underneath. First, while debt far exceeds available cash, the company’s debt-to-equity ratio has declined significantly over the past decade. After GFC, ORIX had a leverage ratio close to 4.0x, and this has improved to 1.5x. Negative FCFs are also scary, but this can be attributed to several factors, including increasing asset base, share buybacks, dividends and other positive factors. This is also a common factor with other financial companies. With rating companies having favorable credit ratings and return on equity above 10% on average, I find ORIX to be in very good financial shape. Another area where the company shines as a safe investment.
While current and potential investors can bank on historical and current financial health as a future investment thesis, essentially a continuation of the norm, it is important to consider future catalysts. I’ll start by covering the insights provided by the company. ORIX management has a medium-term outlook of 440 billion yen in net income within three years. This represents net income growth of 12.1% per year. This is quite substantial given the weak yen, US recession fears and the post-pandemic ecosystem, but expectations remain cautious. Over the past 10 years, net income has increased by 14%, so there is room for continued surprise. For those looking for a dividend, ORIX also expects to increase or maintain their dividend, so the current yield of 4.2% is yours to lock in now.
2 large catalysts
Two areas of the business should provide outperformance over the medium and long term. The first concerns large investments in renewable energy projects, Elawan and Greenko. Both companies are established renewable EPCs, but are also increasing their capacity significantly. In fact, ORIX expects to have an ownership share of approximately 7 GWH of power generation within three years. This represents an increase of 28% per year and should be supportive of revenue and earnings to a similar extent (depends on continued investment as a percentage of revenue).
The second major factor is the return of profits in the three revenue segments affected by the pandemic: aircraft and ships, real estate operations and concessions. While racking up losses from lack of travel, lockdowns, shutdowns, and more, the company expects a return to around 80% of pre-pandemic profits within three years. I find this extremely conservative as Japan opens up to tourism, but I will be watching the travel numbers carefully. However, I find that these benefits should return sooner rather than later. Based on current quarterly earnings, a return to form can provide up to a 20-30% increase in total quarterly earnings and can be a hidden catalyst moving forward.
So, given the current financial health which has improved over the last 10 years or more, as well as the opportunity for upside from renewable energy projects and a recovery in the segment impacted by the pandemic , ORIX should be able to get a higher valuation. However, the valuation is currently falling towards a historically low valuation. While the price-to-sales ratio remains high thanks to increased profitability, the P/E and P/S are lower than in previous years, with the exception of the pandemic and the GFC era. As such, I find that the company is entering an extremely favorable period for investors to accumulate discounted shares. In particular, look for values reaching the chart lines below as particularly advantageous entry points, though I wonder if stocks will fall that far.
I find ORIX offers a solid investment for the coming years of potential recession, high inflation and general malaise. As usual, I will always recommend recurring investments as a way to combat volatility, but investors should feel fairly comfortable with the investment. Although the company may not offer the same growth potential as peers such as Apollo Global (APO) or Equitable Holdings (EQH), ORIX is much stronger in terms of low volatility, profitability and security. . The company is definitely my pick for the industry and one of my only financial recommendations. The business is certainly complicated on the surface, so I recommend you pursue your own path of due diligence.
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