Computershare Limited (CPU) Earnings Call Transcript & Summary

Good morning, everyone, and welcome to Computershare's FY '23 Results Conference Call. As usual, I have Nick Oldfield, our CFO; and Michael Brown from our IR team with me. Now we have released a presentation pack that we will talk to, and I'll take you through the highlights, and then Nick will take you through the financials in a little bit more detail. And following the presentation, we'll open the line for Q&A. And finally, just to remind you, we will be talking in constant currency and U.S. dollars unless we state otherwise. Right. So let's make a start on Page 2, where you can see some of the pertinent numbers. For FY '23, management EPS was up 89%, and that does include an extra 4 months benefits from our Corporate Trust acquisition, CCT. Management revenue increased by 27% to over $3.3 billion. And with higher yields, we achieved a new level of margin income for the group at $792 million. EBIT ex MI is also recovering too with 2H up 70% on the first half. ROIC was up by over 1,000 basis points to 22.5% and free cash flow was over $500 million. With these earnings, our balance sheet continues to strengthen. Debt leverage now stands at less than 1x, which we're comfortable with as we pursue attractive acquisitions. And we're also pleased to share these strong earnings with shareholders. Now we've declared a final dividend of $0.40 per share, which is also a new record for Computershare, as well as announcing a AUD 750 million share buyback program to be completed over the next 12 months. And that buyback will be funded by a combination of cash and debt. And we have had a history of doing buybacks, but this is our largest to date. Now moving to Slide 3. Now we have shown this slide before, but there is an important point I'd like you to take away. And that's really about our unique integrated model that is designed to deliver high returns through the cycle. So what is the financial strategy that drives our results and deliver these returns? Now our financial strategy starts with consistently growing core revenues at GDP plus. Now these revenues were up 14% in the year. And these high-quality recurring revenues account for over half of the group's total. And that's why we've been building our scale and exposure to underlying growth trends such as equity-based remuneration, rising governance trends, and the growth in demand for Corporate Trust Services. And there are long growth runways here. We then have the more cyclical trading and event-based revenues: corporate actions, employee share trading, proxy campaigns, for example. Now they are market-facing, so they can be impacted by wider economic conditions. But they do enhance our margins. Now we know that they were down this year due to the impact of rapidly rising rates and weaker market conditions, primarily in the first half, but positively, a number of these transactions and events are now recovering. And finally, we purposely seek to collect client cash balances. Without the underlying business lines, we would have very little margin income. Balances are an embedded feature of our model, an important part of our pricing strategy, which then leads to our goal to deliver 15% plus per annum post-tax ROIC on average through the cycle. So let's move to Slide 4 for a summary of the year. Now with a lot of moving parts, let me try to be as succinct as possible. In FY '23, higher interest rates drove record levels of margin income. However, the velocity and the frequency of the rate rises throughout the year also impacted on these market-facing revenues and costs, especially in the first half. Now we are pleased to see a stronger second half EBIT ex MI performance. And as I said earlier on, it was up 70% versus the first half. And it's pleasing to see in the second half, margin income and EBIT ex MI both grew. Now that's about as succinct as I can get for a year at CPU, but let's unpack it a little bit more. So let's start off with the margin income. Now our job is to manage the margin income that balances generate conservatively to deliver good consistent returns for shareholders. We earned a total net yield of 2.3% for the year, which is over 4x the yield in FY '22. And in the year, most importantly, we successfully renegotiated capture rates -- recapture rates with many of our banking partners, which is part of why we're able to upgrade guidance last November at the AGM. And also, we have a policy to conservatively lock in or hedge as we call it, up to 50% of the total exposed balances. Now we have hedged around $9 billion of balances so far. Now these hedges give us fixed yields and certainty of income for the life of the contract. And we're reducing the amount of exposed balances at risk to changes in short-term rates. Now Page 10 in the deck shows our plan in more detail. But in summary, we're really working through a program to secure about $1.5 billion of margin income, the large majority of which will be received over the next 5 years. And we've been able to lock in $1.2 billion of that so far and expect to put the rest of the hedges in place this financial year. Now it will be a rolling program with the goal of improving the ongoing consistency of our earnings, and of course, protect us should rates begin to fall. And we also know that the rate environment has an impact on these market-facing revenues. We've seen less IPOs, less M&A and less bond issuance. And that does also have a knock-on impact on balances. However, we are seeing early signs of stability and indeed improvement. You'll see in the deck, we had average balances of $34 billion last year, but we closed the year with an exit rate of closer to $30 billion. So what really happened and caused this decline in Q4? The changes were really down to 3 main factors. One, we sold our bankruptcy and claims business. Two, the reduction of SPAC balances. And three, some cyclicality in CCT. Now to be clear, we haven't lost balances to anyone else. There's no structural or significant competitive intensity issues here. Our legacy balances were reasonably stable, excluding the SPACs that we don't earn much on anyway. And in CCT, bond issuance, which generates some of the new balances to replace runoff has been well down in the market. Our FY '24 guidance to balances is always based on the current balances at the time we give the guidance. And that's why FY '24 forecast has come down in line with FY '23 actual. Encouragingly, balances have been stable over the past few months. And over time, we expect issuance levels to grow and balances to recover. It's just part of the cycle and I know that Nick will talk to balances a little bit later. Of course, our main focus was on our core business lines, driving core fee revenues. Core fee revenue grew across all our major business lines. In Issuer Services, Governance Services continues to grow. Registry grew modestly due to a lack of IPOs, which caused a follow-on shortfall in registry work for newly listed companies. Transaction revenues and employee share plans recovered in the second half after the normal period in the first half, and we continued to roll out the EquatePlus product, and data shows that we're able to gain market share where that system is deployed. U.S. Mortgage Services returned to profit in the second half as we worked hard to reduce the cost base and benefited from lower amort. And we also had a full year contribution from CCT, our U.S. Corporate Trust business, which we're integrating to plan and delivering the expected synergies. And we're also simplifying Computershare so that we can intensify our focus on growing our core businesses and deploy our capital in high-quality businesses with higher returns and more recurring revenues. As I said, we sold the Bankruptcy and Class Actions business in May this year, and we're also working on options available to us in our mortgage businesses. So all up, Computershare navigated these volatile market conditions well, effectively doubling management EBIT. Now these results reflect Computershare's ongoing commitment to build and invest in strong businesses with high-quality recurring fee revenues with the optionality to higher rates and improved market conditions. Now before I hand over to Nick, just some commentary on costs. Now importantly to note, all the cost of operating the business are recognized in EBIT ex MI. Now we manage costs carefully at Computershare. Now we've always done that. As we say in Scotland, a penny saved is a penny earned, and that's really our mantra. The cost discipline drives operating leverage and are part of today's results. Now our operating costs rose last year, up over 5%. However, there are early but encouraging signs that inflationary pressures are now moderating slightly. And of course, we're evaluating further efficiency opportunities across the group. And we're anticipating BAU OpEx costs to be up around 3% in FY '24. Now with very low maintenance CapEx requirements and emphasis on capital-light subservicing and U.S. mortgages, our free cash flows are typically very strong and should improve further now that most of the CCT standup costs will be behind us. We will continue to maintain a conservative balance sheet with acquisition firepower and deploy these cash flows to strengthen our businesses, make attractive acquisitions in our core, drive technology innovation, and importantly, reward shareholders. Now let me move to outlook, and we show that detail on Page 7. And I'll talk to guidance for FY '24. This year, management EPS is expected to increase by around 7.5% in FY '24. Now let's just unpack that a little. We do expect EBIT ex MI to grow around 10%, with the strongest contributions coming from Issuer Services, Employee Share Plans and Mortgage Services. Margin income is expected to be higher in FY '24 at around $840 million, as higher net yields offset cyclically lower balances. Now our interest expense is also set to increase by around about $30 million, reflecting higher borrowing costs. And as I said earlier, BAU costs will be up round about 3%. But we had strong momentum in the second half, and the team are energized about the year ahead and the task at hand. Of course, this is opening guidance with a full 12 months to go before you see the scorecard. And guidance this year is a little bit more sensitive to client balances simply because headline rates are higher, and therefore, changes are more meaningful. But we have locked in a good portion of the margin income to derisk future earnings and we'll continue to optimize our balances as much as possible to enhance returns. I'll now hand over to Nick to take you through the financials.

Thank you, Stuart. I'll start with our financial results on Slide 5. Total revenue for the group increased 27% over the PCP. Excluding margin income, it was up 4%. Encouragingly, recurring revenues improved to 84%, helped by CCT. MI increased 323%, reflecting the rises we've seen in global interest rates. Total operating expenses were up 10%. This includes a full year of CCT. Adjusting for this annualization effect, underlying BAU OpEx was up 5.6% net of the benefits of our cost-out programs. You can see this more clearly in our OpEx bridge on Slide 16 where we also show the benefits of our ongoing cost-out programs. These were $37.9 million in FY '23 with more expected in FY '24. Details of future cost-out benefits are included on Slide 48. Otherwise, cost inflation has started to moderate in the second half, and we anticipate overall OpEx inflation closer to 3% in FY '24. EBIT doubled to just over $1 billion, and the EBIT margin improved over 1,000 basis points to 31.8%, both largely attributable to the higher MI. Excluding MI, EBIT was down 25%. Transactional and event revenues tend to be higher margin than our ongoing core client fees, whilst EBIT ex MI also bears the full weight of the inflationary impacts on our cost base. We do not attribute any costs to our MI revenue line despite the integrated nature of our model. As you heard earlier, EBIT ex MI recovered in the second half, up 70% versus the first half. And we expect this trend to continue further into FY '24, to be up around 10%. Note that we do expect a similar split between the first half and the second half for EBIT ex MI in FY '24, with EBIT more evenly split across the halves. This difference is largely the MI contribution. Interest expense doubled to $138.7 million, with the average cost of debt in the second half 6.94%. Notwithstanding our lower overall net debt position, interest expense will be higher still in FY '24 given a full year of higher rates. All our debt is at floating rates to act as a natural hedge to MI and the event rates do fall. As you'd expect, income tax expense was also higher, doubling to $249.4 million, whilst the ETR increased to 27.4%. This was largely due to Canadian cash repatriation driving withholding tax. Management NPAT was up 89% to $662.4 million, and similarly, management EPS was up 89% to $1.097 per share. Statutory results are on slides 49 and 50. Statutory NPAT was up 95% to $444.7 million, with the difference largely attributable to the amortization of non-MSR acquired intangible assets of $70.7 million, acquisition-related expenses of $85.6 million, $29.3 million associated with our cost-out programs, and $22.5 million related to the impairment of U.K. Mortgage Services and Voucher Services businesses. I'd now like to move on and talk about margin income, starting on Slide 8. Starting with the FY '23 result, we delivered $775 million in MI at actual rates. At FY '22 FX rates, all constant currency, the result was $792 million, an overall yield of 2.28% and in line with disclosures in May, albeit the mix is somewhat different. I'll now turn to our guidance for FY '24. We're now expecting $840 million in MI for the year. To be clear, this aligns entirely with the outlook we provided in May. There we said we expected $860 million in MI for the year. The difference between the 2 is, again, simply FX. Now I'm sure a number of you are thinking, shouldn't MI for FY '24 be higher, after all global interest rates have risen since May? And the answer to that is, well, yes, rates are higher than back in May, but the rate rise has been offset by lower-than-expected balances. We now expect average balances of $29.8 billion for FY '24. This compares to the expectation of $31.7 billion that we had in May and the actual average balances of $34 billion that we had during FY '23. So why have our expectations changed so much? The chart on the bottom right of this slide attempts to explain this. Perhaps the first point to make is that our average balances of $34 billion of themselves is a reflection of a mixed year. In the first half, average balances were actually around $37 billion due to higher activity levels in Corporate Actions and Corporate Trust. In contrast, average balances for the second half were a fair bit lower, around $31 billion. Let me bridge this in parts. Firstly, between 1H and the average for the year, we were down $3 billion. This was largely made up of $1.5 billion in Corporate Trust balances across both the U.S. and Canada as a result of lower issuance, $0.5 billion in Issuer Services due to lower corporate actions, and $1 billion in runoff SPAC balances. And then from the average for the year of $34 billion to our disclosure in May. At this point, we anticipated average balances for FY '24 to be around $31.7 billion. This reflected the sale of KCC, which was around $1 billion, a further $1 billion dropoff in CCT issuance, and a little bit more of a slowdown in corporate actions. And this was really where we were at the end of March, which formed the basis of our disclosure at that Macquarie Conference. However, as we entered the fourth quarter, we saw some further deterioration. Firstly, CCT issuance slowed again in April, whilst the residual SPAC balances also moved away. Note that we didn't really earn any MI on these SPAC balances anyway. Now the positive news is that, since April, balances have been broadly stable. We closed the year with exit balances of $29.8 billion, and this forms the basis of our FY '24 guidance. This is consistent with our balances in May and June, whilst July was marginally higher, giving us confidence in the guidance we've provided. So to be clear, our guidance for FY '24 is based on actuals at the end of FY '23. We simply project forward from the exit rate. We're assuming balances to be broadly flat through the year. So we expect exit balances at the end of FY '24 to be at levels similar to those of today. This approach to MI guidance is our standard methodology and so in part also explains why things have changed since our last disclosure. However, as Stuart indicated earlier, guidance this year is far more sensitive to rates and to changes in balances. We set this out in a bit more detail on Slide 9. As you can see, a $1 billion movement in balances could have a $50 million impact on PBT. That's simply taken our average cash rate for the year and applying it to the $1 billion of exposed balances, quite a contrast to a few years ago when $1 billion movement in balances might have only had a $250,000 impact. And in terms of rate sensitivity, a 25 basis point movement will have an impact to earnings of around $22 million. On this slide, we also set out our rate assumptions for the year. These are all sourced from Bloomberg as of the 10th of August. What is encouraging is that we now expect an improved recapture rate across the board in the high 90s as a percentage of cash rates, reflecting bank appetite for deposits in the current environment. I'll complete the MI story with Slide 10 and talk about our hedging strategy. Now the total hedge book at the start of FY '24 is $8.9 billion. This portfolio will deliver $250 million of MI in FY '24 as part of a total MI value of $1.2 billion over the life of the hedges. Most of the $1.2 billion will be received over the next 5 years. Now $8.9 billion represents around 36% of our exposed portfolio and our intent is to try and take this to around 50% to really protect and stabilize MI earnings over the medium term. We want consistency versus the sugar hit and subsequent decline. We take a laddered approach to hedging such that we look to trade through the interest rate cycle. And so we expect to add around $300 million of incremental hedge balances per quarter over the course of FY '24, with each investment adding around $75 million in total MI lifetime value. Rolling this forward then, by this time next year, we'd expect our portfolio to represent around 50% of our exposed portfolio with a total MI value of $1.5 billion, with the majority of this $1.5 billion flowing through to revenue over the next 5 years. I'd like to finish with some comments on our balance sheet and cash flow on Slide 17. In the period, we generated $623.6 million of net operating cash flow, representing an EBITDA to cash conversion rate of around 51% at actual rates for the full year, 56% in the second half. Free cash flow for the year was $511.1 million. This is after the integration and transition expenses incurred for CCT of around $80 million. Net spend on MSRs was $70.6 million. This compares to amortization expense of just over $100 million, which is helping us reduce the level of invested capital in the business to around $685 million, down around $110 million on the half. Net debt excluding nonrecourse SLS advanced debt is just over $1 billion at year-end, some $230 million lower than at December, obviously driven by the strong earnings result. This underpins our improved leverage ratio of 0.85x and is facilitating the AUD 750 million buyback we have announced today. With our positive earnings outlook and strong cash generation, we anticipate being able to fund the buyback whilst also being in a position to invest in accretive M&A should we choose to do so. I'll now hand back to Stuart.

Thank you, Nick. So close to wrapping up now, but Page 18 really shows a high-level sort of '24 priorities. We're very close to completing the systems integration out of Wells Fargo and CCT. And this has been a huge technology and business change undertaken and one that's gone pretty well today and should be completed on time. I was someone who grew up doing system migrations at CPU, I'm particularly proud of the team's performance to date on this task. And as we mentioned before, we are focused on U.S. Mortgage Services. Pleasing to see it return to profit, more work to be done there and we should have more news on the strategy there by AGM time. And we continue to assess new M&A opportunities to strengthen the core business lines and of course the recurring revenues. It's pleasing to see the value of our Equatex acquisition coming through in very strong second half results, and we'll continue to deploy that technology in other markets. Again, another large tech project that we're reaping the benefits from. So as you can see, Computershare is performing strongly and the model is working well. We're pleased to deliver record results with more to come. Margin income gains are very welcome, of course, and we will use that cash flow wisely, but we'll also be focused on building more recurring revenue across the group, strengthening our moats, using technology to become more efficient, adding more value to clients, and simplifying the portfolio. Thanks very much for dialing in, and we're now going to open the line for questions.

[Operator Instructions] Your first question comes from Kieren Chidgey from Jarden.

A couple of questions. Maybe just starting on some of your commentary around margin income balances. Stuart, you said in your commentary early signs of stability and improvement. Can you just sort of unpack in a little bit more detail on a month-by-month basis what you saw through the June quarter and what you're seeing so far through July? And also just comment around sort of the SPAC and CCT losses over that quarter. I presume the SPAC numbers unlikely to come back if that's regulatory change based. But just on CCT, whether or not you sort of see those lower balances being driven by lower market issuance or whether or not there's sort of any concerns around market share within that business.

Yes, sure. So look, I think that the balance story was really sort of March and April. So coincided around with the sort of many U.S. banking crisis, a little bit of a flight to safety, et cetera, et cetera. And so that's where we sort of saw the CCT balances sort of shift perhaps out of interest bearing and into MMF, a little bit of a flight to safety there. When I sort of analyze the balances within that business, they were very steady through May and June with no changes. And in July, we've actually seen them creep up again. So that's really what we're sort of seeing. Now I mean, the balances there, just to your point about what's happening in the market. I mean, as you would know, a bond issuance is a fair way down and you've got a little bit of a runoff there. Look, I don't think it's a competitive pressure. It's just sort of the nature of the market, sort of cyclical. So we're hoping that, that market settles down. I've always said that it's actually the uncertainty of the rate environment that sort of causes of the bond issuers to be a little bit hesitant in terms of issuing new, and even though rates are high, interest rates are high, we're not seeing that sort of real rate uncertainty that we did throughout this period. The SPAC stuff, to your point, there was some sort of regulatory changes on that. SPAC balances moved out. It was -- we didn't earn a lot of income on that. We did see improvement and some balances come through in Issuer Services and Corporate Actions, they actually had quite a strong June, had been sort of weak throughout the year. But that was positive as well. So it's always a little bit difficult to predict balances, but we've got a sort of -- relatively sort of positive outlook on how the markets are generally settling down at the moment. So hopefully, we'll see the increases that we've seen in July continue throughout the rest of the year.

And just a second question on EBIT ex margin income, sort of working through the math, your guidance seems to imply around 10% growth in that one year-on-year in '24. Just wondering if you can unpack a couple of the key drivers in your mind around that, and just particularly interested how much you're assuming in terms of any rebound in transactional revenue activity or, in the case of the employee share plans, further increases in some of the trading activity we saw through the second half?

So I think that when we're looking at sort of EBIT ex MI, you're right, we are expecting it up sort of 10% in FY '24. Now of course, some of that's going -- at this early stage, has to be assumption led. We think the main drivers of that will really be our Issuer Services business, our plans business, also our mortgage business just from an EBIT ex MI perspective. We're not factoring in any sort of changes to the corporate action environment. I think it will be a little bit stronger than we saw through FY '23. We expect sort of that modestly up. But most of the growth that we're looking for in Issuer Services is going to be coming through continued good performance in entity management, Governance Services, as well as a little bit of full year benefit that we've had from some fee increases that we've planned to do. Our plans and Employee Share Plans & Vouchers, we think that -- we talked a lot about latent earnings power in that business. And as we could -- when there was a sort of great attrition going on, a lot of our clients were issuing stock wider across their organization, deeper into the organization. And they tend to have a 12, 24, 36 months sort of vesting period. And I think what we're seeing is we're now getting it -- the value of what our clients issued for the company, and we sort of saw that come through in the second half, albeit helped with the sort of fairly buoyant equity market. So we think that will continue. And our teams have worked incredibly hard in U.S. Mortgage Services on cost-out, we'll continue to get the benefit of that. So in Mortgage Services as well, we should see an improvement at an EBIT ex MI level as well. A bit of amort in there as well, of course. So they're really the sort of the core areas where we're expecting to see increases across the business lines.

Your next question comes from Ed Henning from CLSA.

Just following on from Kieren. Can you just talk about how much growth you're anticipating in FY '24 related to the U.S. Mortgage Servicing business? And if you strip that out, how much lower your guidance would be? That's the first question.

It's a good question. So look, I think that in terms of just at an EBIT level, we are expecting probably around about -- roughly around about $30 million growth in that particular business through FY '24. In terms of stripping out, even if we were able to strategically move that business from us, with the time it would take for regulatory approvals, it would be unlikely that it would go in FY '24.

Okay. No, that's helpful. And then just a second one. You talked about increasing some fees. Can you just touch a little bit more on that, around what divisions you have been able to increase fees, where you potentially do see some pricing power? Can this offset inflation? And are these lagging a little bit, so you'll still see some benefits flow through this year and potentially in the future?

Yes. Look, fees are clearly -- part of the nature of that is underlying contracts with our clients. Some of them allow sort of CPI, some of them are capped at certain levels, some of them are 24-, 36-month reviews, et cetera. So there's lots and lots of ways. I mean, obviously, it's been quite a focus. We've seen, like most businesses, our costs go up, and our way to recover that is some fees. There is some lag on that. Fee increases that have been put in place throughout the second half of the year, we'll get the full year benefit of that sort of coming through, especially in areas of Issuer Services, et cetera. But there's also certain types of fees that are a little bit easier to put up pricing. They're not contractually based. Some of the fees paid by shareholders and our employees, et cetera, we've got a little bit more flexibility in terms of what we can do from a pricing perspective. Look, I think from a competition perspective, as there's little pockets of aggressive pricing from some smaller players in some of our businesses around there, but generally speaking, the competitive landscape is fairly positive. But it's always a work in progress. We're always got to push harder and harder on this type of stuff.

I think also the other point to add on, on fees, Ed, is that we have increased a range of fees on our range price and on our transaction fees. But because the revenue -- because the volumes have been lower just generally because of the market activity, you've not seen that come through the P&L. But it's just another example of the lag effect that when volumes come back in transactions, we should see the revenue come back a little bit stronger.

Your next question comes from Andrew Buncombe from Macquarie.

Just the first one from me is in relation to capital management. You've announced the $750 million of the buyback. How should we be interpreting that in the context of your M&A pipeline?

Yes. So look, when we look at sort of capital management and how we feel about that, we look at it across M&A pipeline, we look at it at reducing our debt, and then we consider sort of buyback and dividend sort of holistically as far as returns are for shareholders. I don't think you should be reading any sort of signaling as far as M&A pipelines are dry, therefore, we're giving back to shareholders. This is really about balance. I think in discussions with our Board, it's about finding the balance. We've got strong cash flows. I mentioned earlier on, these cash flows are -- the free cash flow number should improve now that we've got a fair amount of the CCT expense down. We're still anticipating sort of growth next year and that free cash flow coming in. So the balance sheet supports a balanced view. So we will have the ability to execute some of our M&A pipeline that will add value to the group. We'll have capacity to pay down debt. We reduced debt between 12% and 13% in FY '23, and we have got a transfer of USPP debt in March that we'll probably pay down. That still gives us plenty of headroom to support the increased dividend and also the buyback. So it's much more about finding that balanced approach rather than sort of trying to signal anything to the market about whether it's lack of M&A opportunities or other things. It's just -- we talked about the balance sheet improving as a result of higher margin income, and I think it's the right thing to be able to give back to shareholders.

That's fair enough. And then my second question is interrelated to that related to the leverage ratios. Historically, you provided guidance, from what I can see, you have in FY '24, but those leverage numbers are going to be considerably below previous targets in FY '24 anyway. I'm just interested to hear how you're thinking about those leverage ratios over the medium term, or given the current interest rate environment, would it be fair to assume that we're going to be well below those old numbers for some time?

Yes. So for a number of years, we talked about the neutral zone at Computershare being 1.75 to 2.25 net debt to EBITDA, the ratio. That was how it is. I mean, clearly, we're in a very different place now. The world is a bit of a different place. So we have been rethinking that strategy. But we want to take our time. We want to get it right. We wanted to have it be considered. And as I said, balanced. So that old 1.75 to 2.25, we put that on the shelf. It's not going to be our target. And I think in a little bit of an uncertain world, I think it's good to be where we are from a balance sheet perspective. So we're comfortable being well below that target. But we will continue to consider it at the group and at the appropriate time sort of publish a perspective on it.

Your next question comes from Simon Fitzgerald from Jefferies.

The first one just relates to the amortization charge. If you could give us a bit of help in terms of how to think about that for FY '24. I can see that there's been a change back to the 9 years in terms of the MSRs, which should obviously help you a little bit in terms of reaching the EBIT ex MI target as well. But maybe if you could just give us a handle in terms of what to expect for FY '24?

Yes, sure Simon. So we changed the policy at the half. So effective 1st of January, the amortization on our performing mortgage servicing rights change from 8 years to 9 years, really reflecting the underlying useful life of those assets is actually above 9 years. And as you can imagine, this has slowed considerably in the last year or so.

That was 9 years [indiscernible] day. And then as we saw lots of refi coming through in the marketplace, therefore, reducing that useful life, we prudently reduced it, which resulted in the increased amort charge. And then now as a result of higher interest rates, which means higher mortgage rates, the runoff is practically nonexistent and people are not refying at the moment. Therefore, useful life has really extended out. So we just actually reverted back to the initial policy of 9 years.

So what I'll say, Simon, is so, as Stuart says, we reverted back to our traditional policy of 9 years. We also saw some capital recycling transactions in the second half. We sold some MSRs, which further helped the amortization expense in the second half. And you saw that those sales come through in the cash flow statement. And so really, the way to think about amortization going forward is that the second half expense is really a proxy for amortization going forward. So I think in FY '24, amortization will be in the region of $80 million, something like that.

That's helpful. And then, Stuart, just on the Mortgage Services business, obviously, it's been pretty tough again, 6 halves in a row, I think, of EBIT ex MI losses. But in terms of selling the business, if you can't find a clean exit, can you sort of talk to us about other sort of strategies, perhaps selling MSR portfolios or -- and how much is the actual platform worth within that capital that's there of $680 million?

Yes. So if we think about the business and its component parts, you've got the MSR portfolio and then you've got the servicing business, which think of it as a platform business. Then you've got this sort of the CMC co-issue ability to actually acquire MSRs in the market, sort of chunk of the business. And then you've got some of the ancillary revenues which is sitting at the side. Think about it in these 4 elements. As we sort of go through that process, I mean, clearly, there is a preference where you'd be able to have someone who was interested in taking all of it, it'd just be the cleanest exit. However, we have worked a sort of dual strategy. There's a lot of interest in the MSR book. It's one of the biggest MSR books in the U.S. that would become available, and because origination is fairly low at the moment because of rates, that's seen as a valuable component. There's also groups out there that are looking for a platform and want to do the servicing component and also the CMC co-issue part as soon as valuable. So when we do that strategy, it's not just a search for someone that would take it all. You've always got to have the other alternatives, sum of the parts might actually be a little bit more valuable, but what's the execution risk, et cetera. So we factor that all in as we sort of go through that process. But I think on the flip side, I think that the business has done a great job in taking costs out. We did return it to profitability in the second half. We've got more costs out coming back. To the question earlier on, we do expect Mortgage Services to give quite a decent sort of increased contribution through FY '24. So look, I think we've got a fair amount of optionality in terms of the business, but we'll see how that plays out in the coming months.

Excellent. And then just a final question, I know we've explored this a little bit today, but just on the CCT business. Perhaps sort of the outlook for fees just given lower levels of bond issuance. But also whether they have a good level of visibility in terms of what's coming up, particularly in the ABS and RMBS issuance space?

Look, if you look at RMBS, the overall market is probably down around about 45% at the moment in terms of deals, et cetera, just at a market level. I think what is interesting for me though, and if you remember, when we bought this business, we said that one of the things that we want to do is what we did up in Canada, which was really about looking at the average per deal sort of revenues. Forget the margin income side, right, the average per deal and trying to grow that over time. And then I've kind of been comparing sort of 1H '22 versus our 1H '23 numbers and the number of deals that are actually out there. And the deals are down a little bit, there's no doubt about it. But what's interesting for me is we've moved in over -- since we've acquired that business from maybe around about an average of $10,000 a deal to almost close to $18,000 a deal, right, and just in terms of what we've actually been doing. And that's a really, really positive message. So volume of deals are down around about 19% across the whole of group. But our deal base revenue was actually almost 30% sort of first half of -- we can make this up, calendar year '23 as in calendar year '22. So I think that's been part of our strategy in terms of trying to sort of drive the value up in that particular business. But yes, I mean, you are right, the market is down at this time. We'll work to regain some of the market -- some market share in some of these areas. But I think it will come back, no doubt about that. It's just -- as I said before, it's not so much that interest rates are high. It was just the real uncertainty on rates. And we're going through a period with now where like no one's expecting 75 bp increased rates coming down, or multiple ones of them. So things are settling. And the balances are telling us very stable over sort of May and June and increasing into July, there may be some green shoots there. I'm not calling that out yet, but I think it's a little bit more stable.

Your next question comes from Andrei Stadnik from MS.

Can I ask this question around what are your M&A target areas? And what do you think in terms of time and of potential deals?

So we're pretty clear that the M&A that we want to do are in our existing core businesses, and we defined that earlier on in the year. So we are looking at opportunities within Issuer Services. We're also looking at opportunities with Employee Share Plans. There's a range of sizes of these opportunities. And you'll start seeing some of these flow through over the next 3 to 6 months as we sort of work on these, or certainly trying to get them to do that. So the point is M&A will be focused on existing verticals, Issuer, Employee Share Plans and Corporate Trust.

Can I ask then around the -- just the SPAC balances? Can you just remind us why SPAC activity impacts your margin income balances? And through which the division does that comes through? .

Well, we've just always included them in our balances, Andrei, simply because they were cash balances. Historically, they haven't earned much in the way of margin income, if anything, simply because of the agreements that we had with those clients. But as we've said, most of those balances have now moved away as that sort of SPAC boom, if you like, has come to an end.

My final question, if I can ask this to Stuart. Maybe a little bit my personal bit. You had long successful tenure as a CEO. What else would you like to achieve for CPU?

Look, it's -- there's an awful lot still to achieve in CPU. It's really about the people that we work with, the teams that we create, the culture that we create, what we can deliver for customers. And I'm super energized with all the work that we've got on. There's always more things to do. If we exit businesses, we have stranded costs that we want to get into their ability to look at new technologies and deploy them to make the business even better. There's a lot to do. And we're also sort of building, over multiple years, a great team, and it's a great culture. So it's a real privilege for me to continue to be able to be part of this organization and continue to drive it forward.

Your next question comes from Nigel Pittaway from Citi.

I wondered if I could, first of all, return to the margin balances. And as you say, the process for the guidance is relatively mechanical and that you just take the balance at 30th of June. But you have also talked about green shoots in CCT. So I know it's difficult, there's a number of moving parts. But where you sit now, do you think guidance for balances being flat on 30th of June is more likely to prove optimistic or conservative?

Look, it really depends on where you think the cycle is. As I said, the CCT sort of bond issue and stuff, it's really about that sort of uncertainty in the rate environment. That seems to be sort of calming down a bit. I think that there is opportunities for balances to grow in corporate actions. They weren't that flash throughout the year. But we call it how we see it as it is. And I think there is opportunity that balances will be higher throughout the year. If that's the case, obviously, we'll inform the market at the appropriate time. But that's really how I see it. There's definitely opportunities for improved balances throughout the year.

And then just maybe sort of on U.S. Mortgage Servicing. I mean, obviously, you've mentioned that, that should be a pretty strong contributor to EBIT ex margin income growth in '24, but it does sound as if that's pretty much all cost driven. So question was really just on the revenue outlook. I mean, obviously, I understand why things such as other service revenue are pretty subdued at the moment, but do you see any sort of green shoots, I guess, in respect to the revenue side on mortgage servicing? .

Yes, Nigel, I think the first thing to say in U.S. Mortgage Servicing is that we've seen really good growth in the servicing portfolio over the last 12 months. So as Stuart said, the management team there have done a good job, not only in terms of managing cost, but actually getting out into the market and winning some new business. We've got some really good marquee clients and we're proud of what we've been able to do there. So we do see ongoing portfolio growth over the next 12 months. But obviously, from a revenue perspective, we're continuing to transition more to subservicing versus owned MSR. And of course, as you do that, it kind of dilutes the revenue growth simply because the revenue from a subservicing perspective is lower than it would be if you owned the MSR. So we'll see ongoing improvement in the servicing portfolio. We're pretty confident about that. And obviously, also runoff is slowing. But the revenue growth might not be in line simply because of that change in mix. But it will come through also in the amortization line.

Okay. And then just in terms of those sort of recycling MSR trades that you've done in second half. Are they done with a number of partners? Are they done with a single partner? How have you sort of approach that this time around?

Typically, we've got 2 or 3 key partners that we work with. Typically, what we'll do is we'll identify a pool of MSRs that we think is appropriate to sell. And we'll go out to a selection of capital partners, and we'll get prices. We'll get bids on those calls. And we'll -- typically, we'll take the best deal that we can negotiate. Different partners will have different needs or different interests in terms of the type of MSR that they might be wanting to buy at certain times. They also have different levels of funding capacity at certain times. So it's always, to get best execution, we'll typically go out to 2 or 3 people.

And maybe just finally, so I mean just on the answer on the sort of revenue question, it sort of sounds like you're not expecting any sort of major change in terms of level of foreclosures or things such as that, fulfillment, volumes, et cetera?

We think that the market -- we're assuming that the market conditions in U.S. Mortgage Servicing are pretty consistent with where they are today through FY '24. We're not anticipating a major change.

Your next question comes from Scott Russell from UBS.

A question on the balance sheet capacity, please. The slide -- I'm on Slide 17, the USD 2.5 billion by the end of FY '24. The similar calculation, in May, I think you produced a slide saying maximum capacity was $3 billion. I don't think the dividend or the buyback is a factor there, but I do hear on your comments around reconsidering the leverage ratio. So perhaps on Slide 17, can you just explain how the columns there are calculated, the M&A firepower?

Yes. So what we've assumed, Scott, is that the maximum leverage that we could take on is 2.5x. We've assumed EBITDA is about 5% higher. And so the maximum leverage range gets us to very simple 2.5x our EBITDA. We've also refined our cash flow forecast for FY '24. So in our previous disclosure, we've really looked at a very simplified cut back assumption or estimate around cash flow that basically said, if we could spend the maximum possible amount on M&A, what would that be? And so what we've now done is we've gone through our more detailed guidance for FY '24. We refined that cash flow estimate. We've updated our CapEx. We've updated our dividend assumptions for FY '24, which weren't reflected previously, to get to that what we think is a maximum M&A firepower of $2.5 billion. But as you said, whilst we're comfortably below the EBITDA leverage range of -- that we've had historically, it's still there. And so we wouldn't be comfortable going much more than 2.5x leverage for a big acquisition. And so that's the underlying assumption there.

Okay. And could you maybe pro forma this a little bit. So the $2.5 billion before the USD 0.5 billion buyback, there's another $150 million odd of dividend that you've just declared. So that brings us down under $2 billion. And then within that, are you allowing for the EBIT that you would acquire?

I suggest that we take this offline, Scott, in the interest of time.

Okay, sure. Just one other bigger picture question then. There was a reference to ESPs as being a focus area for M&A. I know you're deploying a great plus in the North America at the moment. Would the M&A that you think about in ESPs be more focused around the U.S. or Europe, noting that ESP is a pretty competitive area amongst the wealth giants these days?

It wouldn't be in North America. Look, we are pretty strong there at contributory type plans. They're the small scale sort of retail shop workers saving $20 a pay packet or whatever. And as you point out, there is intense competition at -- within the wealth management providers in the U.S., difficult market for us to play and has been for a long time, unless we can resolve a wealth management solution. So M&A activity will probably be guided outside of the U.S.

Your next question comes from Siddharth Parameswaran from JPMorgan.

Just a couple of questions, if I can. Firstly, just on Slide 8. Just the FY '24 expectations on yields, on hedged exposed balances. They haven't risen very much, the 2.83% versus the 2.69% hasn't increased very much, and it's materially lower than the -- than what seems to be out there in the current interest rate environment, particularly versus 5.13% that you're flagging on the exposed non-hedged. I was just wondering, should we expect that to continue to increase as some of the hedges from the past roll off? And so just on your margin income, I mean, as we look forward into '24, '25, I mean, that number is definitely lagging the current yield environment. I'm just wondering if there's anything else which we should think of as to why that number might continue to lag or if it should actually go up?

Yes. Sid, it is lagging, and it will lag, simply because the book is -- that yield is a representation of the book today that's been built up over time. And so a fair amount of that book, probably 50% or so, was put in place more than 12 months ago. And so, rates were materially lower then than they are now. And that's really what explains why that yield on the current hedge book is in the sort of 2.75%-ish range. You're absolutely correct that the current swap rates are higher than that. And so as the book churns and we add more hedging over time, I expect to see that yield go up. And so I think when we sat here 12 months from now, that yield will be much closer to 3%. And I think over the next few years, my expectation is that the steady state yield on that hedge book will be over 3%, and that would be far more aligned with where those sort of medium-term swap rates are. It will just take us a little bit of time to get there simply because we've got to allow that book to churn.

And just a second question just on hedging. Just are there any restrictions on how much of your portfolio you actually can hedge? I mean, just bearing in mind that effectively you're doing it for P&L purposes, but there's a functional mismatch versus the client balances. I'm just wondering if there's any rules around it, any regulatory requirements or -- and are you comfortable getting up towards that 50% hedged versus the exposed nonhedged?

So in terms of regulatory restrictions, there are no regulatory restrictions. In terms of the nature of the hedging that we might do, some of our client contracts would allow for fixed rate deposits and some would allow for term, for example, if it's escrow money. And so there we have flexibility to use fixed rate term deposits. But otherwise, we're using broadly interest rate swaps, which are swaps that we are taking on. And there are no restrictions in any of our contracts or of our operational frameworks to prevent us from doing those swaps. And that's really why, as a policy, we put some certain parameters around the levels that we're prepared to go to, to manage our liquidity risk and to manage the propensity that we might -- that we could see significant liquidity cause, which would cause us a challenge. And that's why we're only really -- now at FY '23, we were at 50 -- sorry, we were at 36% or so. We think that will go to 50% in the next 12 months. In the current environment, 50% is broadly about where we are comfortable going. Now clearly, within that 50%, the book will churn. If balances start to come back and we see the book going back to previous levels, then we may want to add a little bit more. But I think in terms of the near term, we're not thinking that we're going to go much over 50%.

And just one final question. Just on the below-the-line costs. They're quite substantial. I think there was $89-odd million of acquisition-related integration expenses. I was just wondering just your guidance, I mean, that number came in quite a bit higher than I was expecting. Just your guidance for FY '24, should we expect that number to drop materially?

It will drop a little bit in '24. Remember when we did the CCT acquisition, we called out that there would be significant standup costs attached to that acquisition that would be going below the line, and the large part of that $89 million is the CCT standup costs. Obviously, we get through the TSA at the end of October and November. And so you'll see, once we've actually got that business on our environment, that those costs should start to drop away. So I expect it to be a bit -- a fair bit lower in FY '24.

There are no further questions at this time. I will now hand back to Mr. Irving for closing remarks.

Well, firstly, thank you very much for joining us, as ever lots of data that we've put out today, enjoyed the questions. Look forward to seeing many of you over the coming days. Thanks again.