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COVID-19 Initial Impact Report​

Power Corporation of Canada

TSE: POW

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Analyst Note
Updated Sep 08, 2020

COVID-19 Net Benefit Score: -12

Financial Stress Test Ratings:

Free Cash Flow: A+

Interest Coverage: A

Summary

POW is an international management and holding company that focuses on financial services in North America, Europe and Asia. Its core holdings are insurance, retirement, wealth management and investment businesses, including a portfolio of alternative asset investment platforms. Through its subsidiary Power Financial, POW majority owns Great-West Lifeco (which provides life insurance, health insurance, retirement and investment services, asset management and reinsurance services through Canada Life), Irish Life, Putnam Investments, Empower Retirement and PanAgora Asset Management. Power Financial’s subsidiary IGM Financial holds asset management and financial advisory companies, namely IG Wealth Management, Mackenzie Investments and Investment Planning Counsel.

Market Data

Financial Data Stated in Millions

Share
Price

26.15

Market
Capitalization

10,448

Net

Debt

3,133

Total

Debt

9,938

Cash &

Equivalents

6,805

Enterprise

Value

36,952

Basic Shares

O/S

438

Stock Chart

powercorp-chart-20200908

Power Corporation Can Power Through the Pandemic

Power Corporation of Canada (“POW” or “the Company”) operates within financial services, which is a sector that has experienced economic downturn as a result of the Covid-19 pandemic. Where the likes of banks have been particularly pressured when droves of customers have, at once, been unable to make good on their loan agreements, for example, forcing them to carry the debt burden further such as by cutting credit card rates and deferring payments, POW has the relative advantage of being able to broaden its customer base by operating in specialized fields that include insurance, retirement, and wealth management via several subsidiaries.

In other words, it’s through the power of diversification, as well as being a respected leader in its field, that POW can look to emerge throughout the turmoil in solid financial shape.

➤ Key Factors: The pandemic has affected all businesses that operate in the physical world, and the financial services industry is no exception, though companies like POW have at least benefited from being able to serve many of its customers digitally, which directly helps in limiting the pandemic spread, in conjunction with adhering strongly to numerous advisable relief measures applicable to employees who still need to be present in person to serve the customer.

➤ Financial Stress Test: POW has great financials, to the extent that the Company can be viewed as being particularly low risk / high reward in conjunction with a reasonably attractive share value.

Power Corporation of Canada Pandemic Impact Factors Review

NXTanalytic considers 7 factors and 30 specific indications that we believe will impact companies during and after the Covid-19 pandemic. These factors include: Online Business Profiles; Dealing with Consumers In Person; Effect of Increased Health Regulations; Supply Chain Risks; Changes and Disruption in Tourism, Travel and Hospitality; Increased Demand for Health Care and Health Safety; WFH and SAH.

COVID-19 Factor Analysis

Net

Benefit

NEGATIVE

Total Regression

Score

-12.0

Covid-19

Risk Rate

-12.0

Covid-19

Benefit Rate

0.0

Pandemic Impact Factor Analysis

POW is in an industry that, while becoming increasingly digitally-focused, is also people-intensive, with a workforce that includes teams in offices as well as those at the front line, and these people will have ongoing concerns about Covid-19 exposure and transmission regardless of how vigorous and strict the Company’s safety practices are. Thus, the ability to work remotely is win-win, and through a number of recent initiatives POW has been actively participating in the fintech industry in terms of changing the business models in financial services, making financial advice, insurance, and investment services more accessible and available to consumers.

 

Protecting the integrity of I.T. supply chains then becomes a rising issue, where losing information, knowledge, and experience to turnover and attrition is a key risk of human capital. Risks associated with human capital can be mitigated with data and analysis tools, including emerging automated technologies that collect and organize vital information. Outsourcing provides an option to keep an information supply chain running around the clock. While these solutions will help mitigate risks, of paramount importance are adequate internal financial control and information integration to assure any given financial services company runs as it should.

Relevant Factors

➤ In Person (Businesses, Crowds & Groups): POW states it is focused on managing the safety and well-being of its people and maintaining operational effectiveness to ensure it can serve its customers. By focusing more and more digitally, the Company has been able to limit the pandemic effects and so drive that ‘serving customers better’ message. POW’s ownership stakes in various fintech companies include two notable ones, namely WealthSimple and Personal Capital (both leaders in their respective niches).

 

➤ Increased Health Regulations: With major changes happening and continuing to happen in the financial services sector in order to protect the well-being of all affected people, the costs involved will have to be carried by the likes of POW which will undoubtedly disrupt its cash flows by way of suppressing them. Also, until a vaccine is broadly distributed and global restrictions are greatly eased, the industry as a whole will not be able to return to full normal, and that particular time frame is going to be counted in terms of years, not months.

Pandemic Factor Screening and Scoring

NXTanalytic research is based on the thesis that consumer and business behaviour and practices will be changed significantly as a result of the pandemic and its aftermath. We have developed a group of seven major factors that we believe indicate whether a company has an increased risk or reward profile.

 

We approach our analysis in the context of three time periods:

 

1. Near term effect of the pandemic

2. A Resulting Recession/Bear Market

3. Longer Term Psychological Effects: Changes in consumer and business behavior and practices as a result of the pandemic.

Scoring and Rating for Factor Exposure

We objectively score businesses based on positive and negative factors and how significantly they may be affected by each applicable factor. Our model generates a total regression score by generating a coefficient of the risk and reward scores given to the company by an experienced analyst.

 

We generate a Total Regression Score, a Covid-19 Risk Rate and a Covid-19 Benefit Rate.

➤ Online Businesses: Due to social distancing and lockdowns and Work From Home, businesses that operate online, or produce the tools for companies to adapt to more demand for online services should experience a surge in demand due to the coronavirus, Covid-19 outbreak. Consumers will more rapidly move online across many categories. Trends already in place will accelerate. Companies whose businesses are online or are rapidly moving online are better prepared to serve the market while those based on bricks and mortar are more likely to be challenged. 

➤ Dealing with Consumers In Person: Businesses that deal with large numbers of people in close proximity to each other will be negatively affected long term. Regardless of how long the pandemic will continue, its psychological, economic and financial effects, have inevitably altered the perception of risk from exposure to large group settings. Consumers are going to avoid gathering in large groups – particularly individuals over 60. We believe consumers will be fearful of the virus and we are assuming that even when the rate of infection has slowed through social distancing and other “curve flattening” efforts, the virus will be a threat for more than a year or until widespread vaccination has taken place. Even after vaccination efforts minimize the immediate threat consumer behavior will be changed long term and concern over future pandemics will be heightened for many years.

➤ Increased Health Regulations and Restrictions: Restrictions on travel and trade as a result of the pandemic are likely to remain in place for months or years and public health regulations will become stricter and more widespread. It’s highly probable that enhanced screening, permit and visa requirements, reductions in ease of travel and transport of goods will be impacted or implemented. Governments, in an effort to restore consumer confidence, will enforce new regulations designed to protect consumers from the current pandemic and future pandemics will overshoot and result in impairing businesses who rely on international supply chains, movement of large numbers of people, or are otherwise perceived as presenting a high risk of infection to consumers.

➤ Supply Chain and Cross Border Risks: The fact the virus can remain alive for many days on inanimate objects and surfaces is a good example of a pending supply chain issue. Perishable product supply chains designed to move items from producer to consumer in days could be significantly impacted. Overall we believe that businesses that ship goods internationally or rely on global supply chains are at risk of business interruption as the pandemic circulates globally. Further, companies with long international supply chains in countries with poor healthcare systems will likely be pressured to replace suppliers and build new supply chains closer to home markets in order to avoid new border restrictions and the potential of localized lockdowns put in place to handle future outbreaks.

➤ Travel, Tourism, Hospitality and Entertainment: The most obviously impacted sectors are businesses on the front line of day to day consumer interaction. Restaurants, coffee shops, event venues, bars, pubs, hotels, resorts, etc could experience a prolonged or permanent change in consumer demand or be required to spend significantly on technologies and services designed to mitigate consumer concerns over health risks. Consumers will likely continue to avoid contact with crowds or reduce visits to brick and mortar hospitality and entertainment focused businesses. Companies in these sectors will need to change business practices and deploy technologies and systems designed to protect customers – many of these do not exist yet or are expensive.

➤ Work From Home and Stay At Home: The most obvious winners are companies who enable consumer cocooning or Work From Home (WFH) and Stay at Home (SAH) behaviour. As these social and business trends become entrenched, demand for a range of new solutions for managing a distributed workforce will provide existing platform companies and new entrants with opportunities to grow market share and fill demand. Companies not offering WFH opportunities will suffer, compromising their ability to attract the best employees. The delivery economy, pioneered by the likes of Amazon.com and any company that focuses on in home exercise, consumer electronics, home entertainment and ecommerce are well positioned to profit from a long term trend towards SAH behaviour. The trend towards non-brick and mortar retail, will accelerate.

➤ Health, Medicine & Safety: Companies focused on the health and safety of consumers and crowds will be positioned to assist businesses who will require new and robust health security solutions in order to attract customers. Heightened focus on health and virus risks will likely spur expenditures on antiviral medications and treatments, vaccines, screening systems and devices, rapid testing, containment and quarantine solutions and services, and telemedicine. Demand for antimicrobial or antiviral materials or other “bio tech materials” and products is likely to be strong in a post pandemic world.

Financial Stress Test

FINANCIAL RATIOS RATINGS
letter_grade_1

Excellent
Strong
Satisfactory
Poor
Low Quality
High Risk

Free Cash Flow: A+

FINANCIAL RATIOS RATINGS
letter_grade_2

Excellent
Strong
Satisfactory
Poor
Low Quality
High Risk

Interest Coverage: A

Financial Ratios

FYE –

Dec. 31st

2019 A

Financial

Leverage

13.05 X

Debt-to-

Capital

0.21 X

Debt-to-

Assets

0.02 X

Debt-to-

Equity

0.27 X

EBIT/
Interest

7.22 X

EV/
FCF

6.42 X

NXTanalytic reviews a series of financial measures designed to provide a snapshot of the company’s financial health and ability to deal with the challenges or opportunities created by the pandemic, the recession and post pandemic economic environment.

EV/FCF Ratio (when CFFO is 90% of actual): A
EV/FCF Ratio (when CFFO is 80% of actual): A
EV/FCF Ratio (when CFFO is 70% of actual): A

NXTanalytic completes a simple cash flow stress test by reducing Cash Flow From Operations by three levels: a 10%, 20% and 30% reduction. We then rate the EV/FCF ratio. We use the EV/FCF ratio to assess the total valuation of the company in relation to its ability to generate cash flows as a measure of a company’s ability to service its debts from cash flow.

Our opinion

POW’s mission statement is to enhance shareholder value by actively managing operating businesses and investments which can generate long-term, sustainable growth in earnings and dividends. That being said, in the first quarter of 2020 net earnings attributable to participating shareholders were $200 million (or $0.36 per share) compared with $292 million (or $0.63 per share) in 2019, and by the second quarter this figure rose to $666 million (or $0.99 per share) compared with $278 million (or $0.64 per share) in 2019. Similarly, adjusted net earnings attributable to participating shareholders were $345 million (or $0.62 per share) compared with $251 million (or $0.54 per share) in 2019 in the first quarter, increasing to $533 million (or $0.79 per share) compared with $359 million (or $0.83 per share) in 2019. Of the contributions to POW’s net earnings per share and adjusted net earnings per share, the most pronounced came from Great-West Lifeco, whose consolidated assets under administration were $1.7 trillion at June 30, 2020 (which was a 9.1% increase from March 31, 2020), caused primarily by the market recovering.

 

In also having very impressive financials across the board, POW is worthy of investment interest in spite of all the general financial setbacks witnessed as a result of the pandemic, with a stock price that can be said to be at fair value (or even better) at this present time after having fallen more than 25% amid the pandemic (so offering discounted valuation, plus, an attractive current dividend yield at around 7% to make it a good bet for passive income-seeking investors). The Company’s sizeable presence in the industry means it will remain particularly sheltered and resilient, and, along with its dividends, its stock offers attractive total return potential if it manages to reach its pre-pandemic levels (and with the market already rebounding, chances are that this will be achievable sooner rather than later).

Stress Test Highlights

➤ Debt-to-Assets: POW has a tremendous debt-to-assets ratio at 0.02 X to imply it has a very strong balance sheet along with the rest of its debt ratios which are all at low values.

 

➤ Interest Coverage: An interest coverage ratio at 7.22 X translates to the Company having stable revenues from which it can easily continue to pay its interest expenses on outstanding debt.

 

➤ EV/FCF: POW’s Enterprise Value-to-Free Cash Flow ratio at 6.42 X is indicative of a company that is not particularly overvalued (i.e. Investors should feel there is value in purchasing its stock). Also, a theoretical decrease in the Company’s Cash Flow From Operations (CFFO), from actual down to 70% of actual, shows a grading change from A+ down to just A, which suggests POW is more than able to operate solidly even in the face of cash flows suppression.

Financial Stress Test Analysis

NXTanalytic completes a financial analysis of each company using data taken from the most recently audited financial statements. Our goal is to provide a snapshot of a company’s financial condition and ability to survive a prolonged period of reduced growth, and/or finance growth or restructuring to take advantage of new opportunities.

Cash Flows as a Focus of Screening

Debt Servicing

➤ Interest Coverage Ratio = EBIT / Interest Expense: A powerful measurement of the ‘survivability’ of a corporation. It reflects the ability of a company to pay interest on the outstanding debt and is thus an important assessment of short-term solvency. If the ratio is underneath 1.0 X, this means that the company cannot currently cover interest charges on its debt from current operational income. This could mean that the company is funding itself through the sale of assets or further financing; which are unsustainable. The higher the ratio, the higher probability to survive in the future financial hardship.

Free Cash Flow Valuation

➤ Interest Coverage Ratio = EBIT / Interest Expense: A powerful measurement of the ‘survivability’ of a corporation. It reflects the ability of a company to pay interest on its outstanding debt and is thus an important assessment of short-term solvency. If the ratio is underneath 1.0 X, it indicates the company cannot currently cover interest charges on its debt from operational income. This could mean that the company is funding itself through the sale of assets or further financing; which are unsustainable measures. The higher the ratio, the higher the company’s ability to survive financial hardship.

➤ EV/FCF Ratio = Enterprise Value / Free Cash Flow: Based on our debt servicing thesis we primarily value companies based on their cash flows. We rely on the EV/FCF ratio to assess the total valuation of the company in relation to its ability to generate cash flows. Enterprise Value is the value of the entire company, both its debt and traded equity. When this is divided by its Free Cash Flow we see how much we are paying to buy that cash flow. The lower the ratio the cheaper it is to “buy” the cash flows of the company.

Leverage Ratios

Debt ratios are classic balance sheet health measuring tools used to indicate potential risks to future financing ability (ie. violating debt covenants) or as a barometer of the defensive position of the company if cash flows are ever an issue. They are long-term solvency metrics and reflect the degree to which the company is financing its operation through debt versus equity. If a company has poor leverage ratios (too much debt), it might need to aggressively finance its growth through debt and as a result require more and more cash flow from operations to adequately service its debt. Our view is that companies with less debt are more likely to be able to withstand challenges or fund opportunities created by the pandemic.

➤ Financial Leverage Ratio = Total Debt / Total Equity: The Financial Leverage Ratio is a measure of the degree to which a company is financing its operations through debt. More specifically, it reflects the ability of shareholder equity to cover all outstanding debts in the event of a business downturn.

➤ Debt-to-Capital Ratio = Total Debt / (Total Debt + Total Shareholder’s Equity): The Debt-to-Capital ratio measures the amount of financial leverage in a company. This tells us whether a company is prone to using debt financing or equity financing. A company with a high Debt-to-Capital ratio, compared to a general or industry average, may be impared due to the cost of servicing debt and therefore increasing its default risk.

➤ Debt-to-Equity Ratio = Total Debt / Total Shareholder’s Equity: A high Debt-to-Equity ratio generally indicates that a company has been aggressive in financing its growth with debt. This can result in volatile earnings as a result of additional interest expense. If the company’s interest expense grows too high, it may increase the company’s chances of a default or bankruptcy.

➤ Debt-to-Assets Ratio = Total Debt / Total Assets: The Debt-to-Assets ratio shows the degree to which a company has used debt to finance its assets. This ratio can be used to evaluate whether a company has enough assets to meet its debt obligations. A ratio greater than 1 indicates that the entire company’s assets are worth less than its debt.

CONFLICT OWNERSHIP RELATED DISCLOSURES

Does the Analyst or any member of the Analyst’s household have a financial interest in the securities of the subject issuer?

No

Does the Analyst or household member serve as a Director or Officer or Advisory Board Member of the issuer?

No

Does NXTanalytic or the Analyst have any actual material conflicts of interest with the issuer?

No

Does NXTanalytic and/or one or more entities affiliated with NXTanalytic beneficially own common shares (or any other class of common equity securities) of this issuer which constitutes more than 1% of the presently issued and outstanding shares of the issuer?

No

Has the Analyst had an onsite visit with the Issuer within the last 12 months?

No

Has the Analyst been compensated for travel expenses incurred as a result of an onsite visit with the Issuer within the last 12 months?

No

Has the Analyst received any compensation from the subject company in the past 12 months?

No

U.K. DISCLOSURES

This research report was prepared by NXTanalytic Inc., which is not a member of the Investment Industry Regulatory Organization of Canada and the Canadian Investor Protection Fund. NXTANALYTIC IS NOT SUBJECT TO U.K. RULES WITH REGARD TO THE PREPARATION OF RESEARCH REPORTS AND THE INDEPENDENCE OF ANALYSTS. The contents hereof are intended solely for the use of, and may only be issued or passed onto persons with which NXTanalytic has given consent. This report does not constitute advice, an offer to sell or the solicitation of an offer to buy any of the securities discussed herein.

CANADIAN & U.S. DISCLOSURES

This research report was prepared by NXTanalytic, which is not a registrant nor is it a member of the Investment Industry Regulatory Organization of Canada. This report does not constitute advice, an offer to sell or the solicitation of an offer to buy any of the securities discussed herein. NXTanalytic is not a registered broker-dealer in the United States or any country. The firm that prepared this report may not be subject to U.S. rules regarding the preparation of research reports and the independence of research analysts.

INFORMATION & INTELLECTUAL PROPERTY

All information used in the publication of this report has been compiled from publicly available sources that NXTanalytic believes to be reliable. The opinions, estimates, and projections contained in this report are those of NXTanalytic Inc. (“NXT”) as of the date hereof and are subject to change without notice. NXT makes every effort to ensure that the contents have been compiled or derived from sources believed to be reliable and that contain information and opinions that are accurate and complete; however, NXT makes no representation or warranty, express or implied, in respect thereof, takes no responsibility for any errors and omissions which may be contained herein and accepts no liability whatsoever for any loss arising from any use of or reliance on this report or its contents. Information may be available to NXT that is not herein. This report is provided, for informational purposes only and does not constitute advice, an offer or solicitation to buy or sell any securities discussed herein in any jurisdiction. Its research is not an offer to sell or solicitation to buy any securities at any time now, or in the future. Neither NXT nor any person employed by NXTanalytic accepts any liability whatsoever for any direct or indirect loss resulting from any use of its research or information it contains. This report may not be reproduced, distributed, or published without any the written expressed permission of NXTanalytic Inc. and/or its principals.

 

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