GPN - Fidelity National Information Services: Worldpay Spin-Off To Create Significant Shareholder Value

2023-08-03 18:17:26 ET

Summary

• Fidelity National Information Services announced a partial spin-off of Worldpay after a very painful 4 years.
• The proceeds from the sale will be used to reduce debt rapidly and buy back shares as the management sees significant value for shareholders.
• The current valuation is very attractive and we see a huge upside in the stock.
• They also reported Q2 financial results, beating estimates across the board and raising full year guidance.

Investment Thesis

In 2019, Fidelity National Information Services(NYSE: FIS ) paid $43 billion for Worldpay, a giant in e-commerce payments and financial services technologies. Since then, the stock has struggled to go up as Worldpay growth slowed down, costs increased across the board and leverage skyrocketed. As a result of this underperformance, FIS has decided to do a partial-spin-off of Worldpay. We believe this transaction will unlock significant value for FIS shareholders once it is completed, and given its current valuation we think it represents an attractive entry point for long-term investors.

Worldpay Partial Spin-Off Rationale

FIS was initially going to do a full spin-off of Wordplay, but since they announced it in February several parties express interest in buying it. At the end, FIS decided to sell a 55% stake in Worldpay to GTCR , a private equity firm, at a $17.5 billion valuation(including debt), or about 9.8x EBITDA. FIS will retain a 45% stake in the new company and receive around $11.7 billion. The proceeds will be used to reduce net debt to around 2.5x EBITDA and return capital to shareholders primarily through buybacks. The transaction is expected to close in Q1 2024.

This move allows FIS to lock-in the losses and move on from what has been a terrible acquisition. Was this option better than a full spin-off? It's hard to say. Although we would have preferred a full spin-off, this way FIS retains a stake in Worldpay and we expect that when the company IPOs again the equity will be worth much more than 9.8x EV/EBITDA.

Q2 2023 Financial Results

FIS reported Q2 financial results on August 2, beating estimates and raising guidance. Revenue grew 1% from $3.71 billion to $3.75 billion in Q2, surprising the consensus by 1%. The Banking Solutions and Market Solutions revenue rose 1% and 6% YoY to $1.7 billion and $672 million, while Merchant Solutions revenue increased 1% to $1.31 billion.

On the other hand, Adjusted EBITDA was $1.55 billion, a 3% decrease YoY and a 41.4% margin. The only sector that saw its EBITDA margin decrease was banking solutions, where the margin contracted by 200 basis points as compared to the prior-year period to 42.5% primarily driven by revenue mix.

The company posted a loss of $6.59 billion which is entirely related to the fact that they recorded a non-cash goodwill impairment charge of $6.8 billion related to the Merchant Solutions reporting unit in the quarter. Excluding that, adjusted net income was $921 million, or $1.55 per share, beating the $1.48 consensus but falling from $1.73 in Q2 2022.

In this new chapter FIS is laser-focused on improving profitability, reducing costs and returning capital to shareholders. The company achieved annualized run-rate future forward cash savings of over $315 million exiting the quarter, and expects to increase these cash saving to $1.00 billion during the following quarters. During Q2 they also returned $309 million to shareholders through dividends. The dividend yield currently sits at an attractive 3.71%.

FIS also raised FY 2023 guidance. They now expect revenue to be in the range of $14.5-14.63 billion versus prior guidance of $14.28-$14.53 billion and consensus of $14.5 billion. The only sector that is expected to post a decline in YoY revenue growth is Merchant Solutions.

What's not so good news is that Adjusted EBITDA margin will come between 60-100 basis points lower than in 2022. Nonetheless, we think this is just a minor setback that once the spin-off is completed and the cash-savings efforts make effect, Adjusted EBITDA margin should sit in the 44-45% level again.

Valuation

FIS fell 2.5% after they posted earnings, which gives them an EV of $52.85 billion. But after the spin-off is completed, the EV will fall significantly. How much? FIS will receive $11.7 billion from the sale of 55% of Worldpay to GTCR and the remaining equity in Wordplay should be valued at $4 billion(according to the Q2 Investors Presentation ).

So after deducting these two items, it turns out the market is valuing the company at $37.15 billion. Using the 2022 Adjusted EBITDA figures from the banking, capital markets, and corporate segments, FIS is trading at 9.4x EV/EBITDA. For comparison, Global Payments(NYSE: GPN ) and Fiserv(NYSE: FI ) are trading at 11x and 12.5x EV/Forward EBITDA. We see no reason why FIS should trade at such a discount.

Moreover, if we do a simple DCF model we also find that the equity is undervalued. We assumed that EBITDA and taxes will grow 2% per year for five years while capex will maintain constant. We also assumed WACC of 8% and a TGR of 2%.

With these assumptions, we arrived at the conclusion that the fair value of FIS is almost $85 per share, which implies an upside of 42% from current prices.

Even if this is not enough to convince you that FIS is undervalued, a very simple discount dividend model also implies a much higher value per share. If we take the current dividend($2.04) and divide it by the opportunity costs(5%) minus the expected growth rate of the dividend(3%), it results that the stock should be trading at $102, a 71% gain from current levels.

The Most Bullish Sign

Not only do we believe that the stock is undervalued, but so does the management. In the Investors Q&A about the spin-off , they mention that they will use $2.5 billion of the proceeds from the sale to buyback stock "as the Company sees significant value in the current stock price".

But actions speak louder than words, and the SEC filings show that executives and directors have been buying stock aggressively this year. The green dots show insiders buying stock while the red dots show when they are selling. As you can see, there hasn't been this level of insider buying in a long time.

Most notably Stephanie Ferris, the CEO, bought $150k in February at an average price of $66. The CFO, Hoag Erik, is the only one who sold shares this year, but still holds more than at the beginning of the year due to options exercised.

Insiders might sell the stock for a million different reasons, but there is only one reason why they buy.

Risks

The most obvious risk that we see is that the deal could fall apart and FIS would be stuck with the same problems that it has right now. However, if this were to happen, we think FIS will pursue a full spin-off rather than partial spin-off. We don't see Worldpay staying in as part of FIS.

FIS also needs to manage its cost very carefully and improve its bottom line for investors to re-rated the stock. If it were to miss earnings estimates or post lower margins, we hardly see the stock rising. Moreover, the stock has been performing very poorly and it's currently trading near its 52-week low, so buying right now may be like trying to catch a falling knife.

Takeaway

To sum up, FIS had an ok Q2, but given the low valuation the market is assigning it we think that the current price point is very attractive for long-term investors. Even the management thinks so, stating that they see significant value for shareholders and buying stock themselves. We believe that as we move closer to the spin-off dat, the market will realize this and the stock will outperform dramatically.

For further details see: