Omni Bridgeway Limited (OBL) Earnings Call Transcript & Summary

Thank you for standing by, and welcome to the Omni Bridgeway Limited FY '21 Results Conference Call. [Operator Instructions] I would now like to hand the conference over to Mr. Andrew Saker, Managing Director, CEO and Chief Strategy Officer. Please go ahead.

Thanks, Jeanne. Good morning. My name's Andrew Saker. I'm the Managing Director and CEO of Omni Bridgeway. Welcome to our results call for the year ended 30 June 2021. Joining me today is Stuart Mitchell, our Group CFO; Jeremy Sambrook, our Group GC and Company Secretary; and Mel Buffier, our Head of Investor Relations. Turning to Slide 4, highlights. I'm pleased to present the full year results, which reflect the benefits of our diversification strategy. We've achieved a record income of $286 million derived from [ 44 ] full completion and 24 partial completions from a variety of pre- and post-judgment investments around the world. This reflects a significant second half skew due to strong case completions occurring in the third -- fourth quarter, which has derived approximately 75% of the recognized investment income in FY '21. A further $135 million to [ $270 million ] of income may be recognized in future periods and relates to substantially completed investments with conditional settlements or judgments on appeal. The result also reflects the $120 million impairment expense in the first half. But for the impairment, there are 2 material investments, Westgem on the balance sheet since 2011 and other -- and one other -- a Fund 4 investment where our direct exposure is somewhat mitigated. Our IFRS results would much more closely match our cash outcome. During the year, we received a record 1,727 funding applications, increased our funding commitments by 32% and grew our estimated portfolio value for EPV to $20.1 billion. The implied embedded value of that portfolio now stands at $2.8 billion of potential income that may be realized in future years. At the end of the financial year, we have a significant pool of liquid assets in the form of cash and receivables of almost $360 million available to meet our operational requirements, deployment into investment commitments and to support our corporate initiatives. The ongoing impact of COVID-19 pandemic on economic, business and social conditions have been particularly challenging. The demand of managing our business through the pandemic are significant, but despite these challenges, we've remained focused, adapted our approach on where necessary, and executed on strategic priorities. Whilst our diversified model provides some resilience to the impact of COVID-19, which created court delays in our U.S. market, we continue to closely monitor our operations and our teams. We are focused on the safety and well-being of our people alongside delivering upon our priorities for portfolio growth and investment management. I would like to take this opportunity to thank the team for delivering an outstanding result that will create future value to both our private equity partners and our public equity holders. Turning to Slide 5. Achievements in the period relate to material growth in all key metrics. The investment carrying value, EPV and annual commitments have each delivered a compound annual growth of more than 35% over the last 5 years. To grow our core of investments as we continue to pursue diversification of risk, additions to EPV in our funds exceeded deductions, completions and losses. Our EPV grew by 27% this financial year alone, with increased activity in the [ EMEA ] market, adding $1.1 billion of EPV to our pipeline. This financial year, we invested a record $413 million into investments as we pursue our diversification strategy funded from private equity funds and our co-invested contribution from our balance sheet resources. We will continue to focus in a disciplined way on executing our strategy to drive future income generation. Turning to Slide 6. In FY '16, we commenced a 5-year business plan, which set out our intentions for the future, pursuing a strategy to mitigate our risks through diversification. The nature of the underlying asset litigation risk exposes the balance sheet binary outcomes from individual investments. The appropriate response to binary risk is diversification achieved through portfolio approach to investment. It is the central thesis in many of your portfolios as it is in ours. We've achieved every target of this business plan, culminating in the merger with Omni Bridgeway in November 2019. We have expanded our jurisdictional footprint with new resources, most recently in Spain and New Zealand, and established a diversified portfolio of more than 300 investments. Our EPV growth has grown through increased annual commitments, hitting 95% of our target for FY '21. In FY '22, we had a commitment target of approximately $520 million with around $330 million in deployments, of which OBL's contribution is approximately $65 million. We've maintained a consistent team headcount in FY '21 whilst expanding our asset base and improving our operating efficiencies. Our funding strategy has evolved over time to diversify investment risk from initially investing on our own balance sheet to now bringing in third-party capital whilst maintaining a meaningful minority stake in each of our funds. We currently have $2.4 billion in funds under management and are on track to reach our $5 billion FUM target by FY '25. OBL has life-to-date invested capital of $1.2 billion across balance sheet and fund-level investments with most investments now sitting within our funds. we anticipate completing the harvest of our balance sheet investments by FY '24 and thereafter continue to invest only via fund vehicles both in existing and new structures. Turning to our financial results. Key financial outcome for FY '21 includes the earnings before provisions for impairments with $88.3 million (sic) [ $88.2 million ], which was a significant increase over the half year result of a loss of $37.3 million before provision for impairments. This reflected numerous second half completions that generated income of $228 million. This contrasts to the few number of completions in the first half that arose partially from the slowdown in U.S. court activity caused by COVID-19. The statutory loss for the period was $19 million, arising primarily from 2 noncash adjustments associated with the impairments from Westgem and the Fund 4 investment, FX movements, and 2 losses in our consolidated Funds 2, 3. Our operational cash expenses were relatively flat on a year-on-year basis as we had expected. Most significantly, we reached important milestones in relation to 2 material balance sheet investments that are over 8 years in duration, both appeals for which are anticipated to be finalized in FY '22. Wivenhoe is the most significant outcome in any case in our history, and whilst the duration of [ longer delays is ] initially contemplated the result today, plus what may be achieved in the future will potentially result in a significant MOIC of between 5x and 9x. An impairment was provided for Westgem together with an impairment for Fund 4, which, together with the provision for adverse costs, totaled approximately $120 million. Both matters are being prepared for appeal, which are expected to be heard in FY '22. Our legal advice on prospects on both appeals remain positive. Our European operations continue to make material contributions to our future income-generation capacity with new commitments exceeding budget by 80%, triggering the payment to the variable deferred equity consideration tranche. The thesis behind the merger of IMF Bentham and Omni Bridgeway that the whole is greater than the sum of the parts is borne out in a number of co-investments that have been generated between our various fund structures that would have otherwise been unlikely to proceed without the extension of our skills and experience. We have now committed to 8 co-funded investments with an aggregate EPV of $686 million. We continue to see changes or proposed changes to the regulatory landscape in our key markets, in particular, in Australia, the U.S. and Europe. The regulation introduced in Australia has created a hurdle for foreign funders, which has increased the opportunity for domestic funders including Omni Bridgeway. We now have 6 Australian class actions launched as managed investment schemes with another 6 in various stages of due diligence or approval. In Australia, we've now also seen amendments to continuous disclosure of misleading and deceptive conduct laws passed in the Senate. In our view, it will have no material effect on our business as the typical shareholder class action that we fund require more district liability and involve a fault element. Further information relating to regulatory reforms can be found in the annexure to this presentation. Turning to Slide 9 and our IFRS results for FY '21. As you will note, investment income generated during the year from funded matters and purchase claims was $272 million, reflecting the degree of consistency of income generated from our activities between FY '20 and FY '21, which is the goal we've been seizing through diversification. Other items of note relevant to the profit and loss statement include an increase in management, performance fee income from the prior year. The recurring income generated from management fees will continue to grow as deployments continue to increase. Impairment challenges, as we've previously discussed, these expenses are noncash items that may be reversed in subsequent periods if the relevant negative [ start ] associated with the investment reverses. And finally, fair value adjustments, which have reversed from the prior year as a function of the decrease in the share price. From a balance sheet perspective, items of note include a 7% increase in cash and receivables at 30 June on a year-on-year basis; and net assets, which remain constant at around $760 million, reflecting the growth in other assets offsetting the provision for impairment. If the impairments are reversed as a consequence of successful appeal, the net asset position will reflect the growth, $120 million, which would result in a pro forma of 15.6% increase year-on-year. Turning to Slide 10. As we've noted in previous year, the IFRS accounts do not reflect the true performance of the company. Whilst some of our peers may choose to account for assets on a fair value basis, we've avoided doing so unless required under the PPA standards. By adjusting our IFRS accounts for 2 key items, income that could not be brought to account for impairments that were required to be brought to account. Our results for this financial year would have shown a profit after tax of over $160 million. In FY '21, we achieved a normalized cash generation from operations of $193 million, which continues the trend from FY '20. The significant in this analysis is the increase in contributions in the Fund 6 investor for operating costs. As explained last year, this was a timing difference between periods. Management fee associated with Fund 6 is equal to the agreed budget for overheads for running the European operations and largely offset all operating costs. This year's receivables balance increased as a result of the recognition of the Wivenhoe settlement income, of which $30 million of the $95 million has already been received. Net operating cash expenditure, which I'll expand on further in this presentation, decreased 9.7% from 30 June 2020. Turning to Slide 11. Overall, the normalized operational cash expenditures have remained relatively flat from FY '20 to FY '21 despite a 27% growth in EPV. Employee costs increased by 14% but largely relate to noncash costs associated with the LTIP plan. The ability to engage and retain our most valuable asset, our human capital, is critical to our overall performance. We prudently manage our employee costs with a focus on ensuring that sufficient resources are in place to deliver growth and achieve our long-term objectives. We anticipate efficiency benefits as our income base increases relative to costs with gains achieved from greater leverage of our investment team. Our operational efficiencies continue to improve. Five years ago, net operational expenditure as a proportion of investments was 26% and has now improved to 12%. We are seeking to move to a more capital-light model and should be able to do so as our recurring management fee income increases to defray in part and eventually in whole our cash operating costs. Turning to Slide 12. We have a strong capital position of $360 million in cash and receivables, which support our corporate initiatives to finance our operating costs and to make anticipated contribution to funds to meet new and existing investment needs. Through prudent capital management, we also have the potential to repay debt, pay dividends and buy back shares, subject to prevailing market conditions and appropriate financial metrics. In FY '22, we will look to refinance our debt, for which there is a window from January to December 2022 to do so. In addition, we will look to establish a revolving credit facility to reduce our overall cost of capital. Turning to performance -- portfolio performance. Our portfolio EPV is balanced by region and diversified by investment type and funding source. A balanced geographic footprint enables us to respond to developments in external risks such as competition or adverse regulatory intervention. Whilst we continue to be an opportunistic investor, whereby we will invest in legal risks that are sourced from third parties or identified internally, we do so with a focus on diversifying our portfolio, both geographically and by investment type. 68% of our investments are now located in Northern Hemisphere. Given the size of the respective legal markets and our U.S. growth strategy, we anticipate this weighting will increase. Global class actions now represent only 25% of our book, including investments in Australian class action as well as multi-party matters in Canada and Europe, which is down from 40% at 30 June 2020. Over 1/3 of our investments are in single-party matters such as commercial arbitration and litigation. This has been the hallmark of our historical success. We intend to diversify this focus into other areas of legal risk, and we anticipate that enforcement investment will be a great area over the next several years. No new balance sheet investments have been made since the commencement of our finance management business in 2017. As such, currently, only 4% of EPV is from investments made on our own balance sheet outside of the fund structures. Turning to Slide 15. Our performance this year reflects solid growth and progress across the global portfolio despite the COVID-19-related delays primarily in the U.S. In Fund 1, several completions occurred in the last quarter that we had anticipated for FY '22, which enabled us to accelerate payment of the priority obligation to our investor. We are exploring other options to accelerate distributions, including secondary market trends and refinancing. Funds 2, 3 and 4 have had early wins in the portfolio, and as such, we do not expect the IRRs that have been achieved to date to be sustained. As the portfolio matures, we anticipate the returns will normalize and revert to the mean. Duration is one of the risks over which we have no control. Given the timing of conclusions, we -- given the timing of conclusions will be determined by the court and the desired defendant schedule. In Fund 5, our lower IRR reflects the matters that completed within a few months of investment, whilst generating a ROIC of 28%, it only had an IRR of 5%. In Fund 6, we've seen a reasonably consistent number of completions compared to last financial year with a stable IRR outcome. For Fund 7, our investments into this fund have been affected by COVID, which resulted in key investment opportunities presenting themselves for consideration. We do anticipate that the IFC relationship will generate some compelling short-term opportunities for consideration. In the last 12 months, on-balance sheet investments have decreased to 13 investments with an EPV of approximately $840 million at 30 June 2021. This reduction demonstrates the balance sheet runoff as we continue our transition to the fund management model, whereby investments are funded through dedicated investment vehicles with global co-investors and joint venture structures. Following the developments of key investments, Wivenhoe and Westgem, our balance sheet is now less exposed to concentration risk. Slides 16, 17 and 18 contain several analyses to assist with your understanding of the anticipated future returns from our funds. Our first-generation funds have considerable potential to return capital and distribute preferred returns to NCI investors, distribute capital and fees to OBL and provide material profit split to both OBL and NCI investors. For Fund 1, we anticipate a number of FY '22 completions, which should enable OBL to receive a distribution of capital and potential profit distribution in FY '23. Subject to underlying assumptions, OBL should commence receiving cash distributions for Funds 2, 3 in FY '22. Our second-generation funds have significant additional capacity available to meet new investments to generate substantial returns to both OBL and fund investors. Based on the example investment return, OBL contributes 20% of the invested capital and receives approximately 34% of the investment income, including a 2% management fee on the invested capital deployed. We advise that the return profile of Fund 6 is difficult to model given the varying multiple arrangements of the underlying investments. We can advise that, historically, around 25% of the proceeds from completed investments have been attributed to OBE. This is an overall average that does vary by investment type. Turning now to strategy on Slide 20. You have heard today about the measurable progress we have made in executing our strategy to leverage our diversified model, to improve our portfolio and to grow returns. Importantly, our transition to fund management model will support our progression to achieve a more balanced portfolio allocation over the next 5 years and to reach our aspirational goal to increase funds under management to $5 billion with $1 billion of new annual commitments by FY '25. We have achieved a number of key milestones in FY '21, including we now have on-the-ground resources in Madrid and Auckland and seek to establish offices in those markets. We've launched our LatAm strategy initially on a fly-in, fly-out basis, as we continue to explore opportunity -- and we continue to explore opportunities for further expansions in Canada and the U.S. We have expanded our product offering to include our claims monetization strategy. We now have 14 purchased claims in our portfolio. We're looking to secondary market transactions to improve our liquidity and funds and possible M&A opportunities. We've identified the following key goals for FY '22 to include the launch of our 8 fund in the amount of EUR 300 million focused on a global enforcement strategy; over $520 million for new commitments; refinancing of our debt reserves, which should provide us with greater flexibility for our fund management business; and to execute our U.S. strategic plan. Turning to Slide 21. The U.S. represents the largest legal market in the world and, as such, our greatest opportunity for further growth and penetration. This is the primary reason why we relocated in New York in April of this year. Despite the challenges presented by COVID-19, we achieved 60% of our commitment target for FY '21. We have doubled our FY '22 commitment target in the U.S. to AUD 225 million. We will achieve this through a revised strategy that includes expanding our headcount of investment managers and our suite of investment products to include law firm funding, monetization of claims and enforcement investments; expanding our geographic footprint in the market; continuing to improve our efficiency ratios, including days in due diligence and funds committed per investment manager. We'll employ risk management tools such as portfolio insurance products, and explore secondary market opportunities to improve the liquidity of our investments. These changes will occur over the next 24 months but will leave a longer imprint on our view of investing into legal risk in this region and potentially around the world. We're excited about what this market has to offer and how we can best leverage our extended range of opportunities and utilize our team of experts and specialists. We will continue to focus in a disciplined way on executing our strategy to underpin future growth, both in the U.S. and the rest of the globe. Fundamentally, what differentiates us is our experience, our track record of success and unmatched reach and origination framework. We see great opportunities ahead for the business. I would now like to open the call for questions. Thank you.

[Operator Instructions] Your first question comes from Michael Peet from Goldman Sachs.

Just first question just on funding agreements and the outlook. I'm just interested in sort of what you're seeing in terms of opportunities out there versus the competition that's out there. Are you seeing any change in any funding agreements, the quality of the cases and opportunities that you're looking at? Is it -- it sounds like it's diversifying a bit. But is there any sort of significant changes that you're noticing in the industry?

Nothing of great consequence, Michael, in that respect. We're certainly seeing a broader range of opportunities in different markets around the world, and because of that, we get to see obviously a variety of quality of those investments. Our selection standards haven't changed, and our conversion rate remains around that 2% level. And as a consequence, the quality of our portfolios is being maintained.

Could you just give us a bit of an update on by -- maybe by the larger jurisdictions in terms of what sort of pickup you're seeing, if any, in terms of -- as the economies are opening up in terms of the mediation process and court dates? Are you seeing you being able to see court dates still locked in? Or are they still sliding a bit in terms of the process that you're going through?

In the U.S., we are seeing court dates are being locked in for both this first half of this financial year as well as the second half of the financial year. As a consequence, we're now starting to receive phone calls about settlements and mediation processes, and that has accelerated our views about what might complete this year. That's largely as a consequence of the reopening of the jury system in the States, which has enabled the courts to set dates. There is still a backlog, so we're not going to see a mad rush. Criminal cases are being dealt with first here in the States, and then civil cases will be dealt with. But dates are starting to be locked in, and as a consequence, there has been a tangible shift in views about mediation and settlement. In Europe, things have continued pretty much as business as usual. We hadn't actually seen too much interruption as a consequence of COVID on court date. What we had seen is some reluctance for people to negotiate settlements and commence mediation processes. That seems to have slightly changed, and we are starting to see an uptick in opportunities to settle. Australia and Asia weren't greatly affected. The court system largely continued to operate in Australia unaffected by COVID. New process and procedures were put in place, but nothing really of great consequence. In Asia, we largely -- majority of our investments relate to arbitration investments, and arbitrations proceeded on a virtual platform unabated by interruptions from COVID.

And just a final one for me, the U.S. strategy there with the 20 to 50 people headcount increase, could you give us a sense of what the annualized cost of that might be? And obviously, that seems like it might annualize into 2023. And just also, if there was a loss of Westgem and the Fund 4 impairment cases that you're taking, what would be the cash outflow from those 2 if you actually lost those cases?

Sure. So there are 2 questions in there. The first was on [ overhead ] costs. We've estimated the additional costs for the new hires is going to be around $10 million. And what we have is reallocated resources from other regions, particularly from Australia, where we saved about $6 million or $7 million in expenses this year. So we're not going to see a material change in our overhead cost. The other thing I think is important to remember in relation to investment managers is, whilst there is a cost associated with them, their profit centers, the average investment manager, at a cost of a few hundred thousand dollars a year, should, within a year, become a profit center and generate investments that have the potential to return profits of about $8.4 million. So each investment in a human asset is actually creation of future revenue. In terms of the cash cost for Westgem and the Fund 4 investment, the Fund 4 investment, there's no additional cost. It's a U.S. matter, and therefore, there's no cash implication to investments being made. And so there's no additional outflow. With respect to Westgem, it has been fully provided for. There will be, obviously, a write-off for the investment, which is a noncash item. There will be an insured portion that's contributed for adverse costs. And there will be an uninsured portion, which will have a cash cost. I think the estimate currently is about $7.5 million to $9 million for that as a cash cost.

Your next question comes from Jason Palmer from Taylor Collison.

Yes. By the way, well done on the presentation. It's a real improvement, in particular the funds slides, which sort of go through the economic return. So that's really well done. Just had a question in respect of the cash on hand on the balance sheet and the receivables on hand on the balance sheet. I can see in the segment notes under corporate, there's about $100 million of cash and cash equivalents and there's receivables of about $110 million. And I presume within those receivables of $110 million, the lion's share of that is half of Wivenhoe. Are you able to sort of talk through what the expectations are around actual cash settlement of that half portion of Wivenhoe?

Yes. Sure. So Jason, we've already received $30 million of that receivable, and the other portion will flow once the distribution settlement -- settlement distributions gain has been executed for distributions to clients. And that largely depends on the assessment process for losses, and that can take anywhere from 6 months to 18 months, depending on how complex that is. There may be interim distributions and such, and we'll get interim distributions along those lines. But it's not going to be a short process.

Okay. Is it at all dependent on the remaining contested portion of Wivenhoe?

No.

Right. Right. So sometime over the next 6 to 18 months, that outstanding collection of somewhere between $80 million to $90 million will come through to the business. Plus whenever there's a result on the other portion, there will be somewhere between 6 and 18 months after for that other portion to come through the business.

Well, because the settlement distribution scheme and the assessment of damages will be done in the first process, I wouldn't expect that the second process will be as prolonged. But you only need to assess the damages once, and then the distributions will occur. It's just how much cash gets distributed. So if there was subsequent settlements or an award in relation to that other 50% in the second portion that won't have to go through the same type of prolonged assessment process. So that would be a much shorter period.

Okay. And in respect to the U.S., I can't help notice the underperformance of that region relative to the rest of the world. And I appreciate you've moved over there, and you're throwing more investment behind that. Could you maybe talk to [indiscernible] sort of how you believe you -- or what level of conviction you have around actually doubling the commitments in the next 12 months?

Well, very high conviction. That's for the purpose of ramping up the investment team in the region. The opportunities were constrained largely because of COVID. There was a lack of appetite for new litigation being commenced. People see that without court dates, what was the point in spending money on litigation at this stage. Legal cases don't go stale for a number of years due to litigations issues. So what we anticipate is that there's probably a backlog with the litigation claims that have been held over waiting for a little ray of sunshine to poke through with the reopening of the court system. So we've got very high -- very strong views about our ability to hit that target.

Your next question comes from Alex Zhao from Kabouter Management.

And good job on the new information provided on the fund. I have a question regarding Slide 10, the non-IFRS analysis. So my question is, number one, on the net cash generation slide on the right. Is the company's cash invested for cases included in the cash burn or somewhere in that line or not? Because the way I look at it is that although the reported earnings were negative in fiscal '21 but for fiscal '20 and '21, the company has had 2 years in a row of very strong positive net cash generation. So I wanted to make sure if the investments of new cases were included in the net cash generation number or not.

No. That's before the investment into cases for the year. So the $231 million and the $192 million is before investments have been made into the fund structures. Our average investment out of funds for this year, for example, is anticipated to be about $65 million. It was slightly lower last year as a consequence of the lower commitment level. But no, the calculation is before the cash invested into new matters.

Got it. So those numbers are before new case investments.

Correct.

And one last question, which is more a broader picture. So I understand the IFRS number may now do Omni Bridgeway justice because of, like you mentioned in the slides, the more -- the different requirements on recognizing income and also recognizing impairment. But I guess where should we draw the line in terms of assessing the real underlying cash earning power of Omni Bridgeway? It seems that if we're using the net cash generation number, that was before case invested. If we were using the reported earnings, I guess they were negative. So directionally, where should we draw the line to assess kind of the true cash earning power of Omni Bridgeway?

Sure. So the P&L doesn't include cash that's invested into new investments either because they're capitalized into the balance sheet, so they're not expensed through the P&L. So there is a degree of relativity between both the IFRS and the non-IFRS in this sense. But from a cash -- a pure cash generation perspective, you would look towards a non-IFRS number and deduct off the amount that we've invested into new cases. And given that, that's all on a consolidated basis, that would include all of those investments that we've made into the new matters dealt in the year.

I see. So for kind of cash basis valuation, I should look at kind of the $193 million and minus kind of the cash outlay that you will have every year for cases.