The stock market is perhaps the greatest widely available wealth-building tool in the history of mankind. Even individuals coming from the most modest of means have been turned into millionaires with some hard work, patience, and lucky stock-picking. However, the stock market (and investing world in general) is a complex universe with multiple classes of assets, a wide variance of risk, and layers of institutions - from banks, to brokers, to advisors. In such a complex space, opportunity exists for companies that can add value by innovating or simplifying what can be a complicated environment. Today's spotlight shines on SEI Investments Company (SEIC). A relatively new "Dividend Champion", SEI Investments has raised its dividend for the past 28 years. The company boasts high margins, solid growth, and a penchant for delivering cash to shareholders. When you consider the stock's attractive valuation, SEI Investments becomes an enticing option for investors to consider.
SEI Investments Company provides a host of services to the investing world. This includes asset management, wealth planning services, investment advisory services, outsourcing for investment processing, and custom managing services for ultra-high worth individuals.
(Source: SEI Investments Company)
The company operates as four primary business segments, based on the type of market it is catering to. These include Private Banks, Investment Advisors, Institutional Investors, and Investment Managers. It generates more than $1.6 billion in annual revenues.
Operating within the financial markets means that the company's operating results are tied to the ebb and flow of the market. When the recession hit a decade ago, SEI Investments saw revenues steeply decline along with the stock market. Since then, growth has been very solid. Over the past decade as a whole, revenues have grown at a CAGR of 2.67%, while EPS has grown at a 16.03% clip.
To flesh out the inner workings behind SEI Investments, we will look at a few metrics to get an idea of the strengths and weaknesses of the business.
We review operating margins to make sure the company is consistently profitable. We also want to invest in companies with strong cash flow streams, so we look at the conversion rate of revenue to free cash flow. Lastly, we want to see that management is effectively deploying the company's financial resources, so we review the cash rate of return on invested capital (CROCI). We will do all of these using three benchmarks:
- Operating Margin - Consistent/expanding margins over time
- FCF Conversion - Convert at least 10% of sales into FCF
- CROCI - Generate at least 11-12% rate of return on invested capital
We can see how much of an impact 2008-2009 had on SEI Investments. The company's operating margins took a large hit. The reduced profitability of the business was felt in the other metrics as well. Since then, performance has been very strong. The business converts a whopping 31.71% of its revenues into free cash flow. Additionally, SEI Investments' asset-light model and strong management allows for the company to realize 29.19% cash returns on invested capital. It is what we would call a "cash cow".
The last area of review before moving on is the balance sheet. A company that over-leverages itself can cripple itself both financially and operationally. This isn't an issue with SEI Investments. The company carries zero debt on its balance sheet and a cash hoard of $670 million.
Dividend and Buybacks
As we noted earlier, SEI Investments is a fairly new member of the "Dividend Champions" club. The company has boosted its payout for 28 consecutive years. The payout totals an annual sum to shareholders of $0.63 per share and is paid in two bi-quarterly installments. SEI Investments is not a huge income producer. Its current dividend yield of 1.19% falls well short of what 10-year US treasuries are offering (2.46%).
The dividend makes up some for its low yield with a solid growth rate. The dividend has grown at an average growth rate of 14.9% over the past decade, but that has slowed down some. Over the past few years, it has grown in the 7-10% range. The dividend is very well-covered at just 20% of cash flow. When you consider the debt-free balance sheet, large cash pile, and low payout ratio, this dividend is about as safe as it can get.
But why is the payout so conservative if management can afford to pay out more? As you can see in the chart above, the dividend takes a back seat spending-wise to share buybacks. Management is using the majority of the company's free cash flow for this purpose.
The share count has dropped from approximately 192 million to 152 million over the past decade. With shares consistently being taken off of the market, it helps boost earnings per share growth.
Growth Opportunities and Risks
SEI Investments has done a fantastic job sparking organic growth over the years, and this remains its best growth engine moving forward. The company has expanded in different directions. After initially dealing primarily with banks, the business innovated to expand services and offerings to the mix of financial institution/parties that it does today. Not only operationally, the company has expanded geographically as well. Today, SEI Investments is a global company.
(Source: SEI Investments Company)
International growth continues to be strong, with revenues growing at 15% over the past couple of years.
(Source: SEI Investments Company)
We also like the prospects of continued innovation at SEI Investments. The company spends nearly 10% of its sales on research & development. This allows it to bring new products and services to existing markets and increases exposure to new markets. This high of a percentage of revenues is competitive with that of some of the most innovative companies on earth.
The largest immediate risk to the business is simply the state of the markets. Similar to how an industrial stock would feel pain when the economy takes a downturn, the same effect occurs to SEI Investments when the markets crumble. A downturn in the stock market would negatively impact the business across the board. Since we are in an increasingly aging bull market, this is something to keep in mind when determining whether to buy shares or not.
While the market is currently near highs (until fears crept up surrounding US-Chinese relations this week), shares of SEI Investments are hovering in the middle of their 52-week range at just over $52 per share.
Analysts' projections peg full-year 2019 earnings per share at $3.17. The current share price places the stock at approximately 16.58X earnings. This is a sizeable discount of 21% to the stock's 10-year median PE ratio of 21.10X.
When we look at valuation from a standpoint of FCF, we get a similar conclusion. The stock's 5.63% yield on cash flow is off of its recent highs from this past January, but is still higher than at most points since 2013.
It seems that in today's market environment, most stocks we review are unattractively valued, making SEI Investments a standout in that regard. The stock is cheap from both an earnings and cash flow standpoint. We find that at 16X earnings, there is an adequate margin of safety present, even though a downturn in the market could apply downward pressure to shares.
When you tie everything together, investors stand to get a lot out of SEI Investments. The company boasts strong fundamentals that include high margins, strong cash streams, and a debt-free balance sheet. It grows by investing in itself organically. Lastly, management is kind to investors with strong buybacks and a dividend growth streak that now stands at 28 years. Consider that over the past two decades, the company has generated total returns of 16% annually had you reinvested dividends, making SEI Investments one of the stronger "under-the-radar" performers out there.
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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.