Doug Goodwille from Kayne Anderson speaks to Drew Meredith from The Inside Network on market thinkers.
While a surging gold price is on hold as the world adjusts to a Trump presidency, all the factors that saw its price rise more than 50 per during his first term in office – trade disputes, fiscal deficits and geopolitical tensions – are almost certainly guaranteed the second time around.
One ASX share every investor should add to their watchlist
PEXA Group Ltd (ASX: PXA) is a relatively new listing on the ASX but has quickly risen to fame as one of its highest quality companies. The business owns the PEXA Exchange, which brings the Reserve Bank of Australia, state revenue offices, land registries, banks, buyers, sellers and conveyancers onto one digital platform to lodge property settlements. Think of it like a digital highway, where PEXA takes a clip of each property transfer or refinance in Australia.
But it wasn’t always this way. Historically, the process was cumbersome, requiring couriering hard copies back and forth and several signatures. The process was prone to administrative errors, with over 25% of transactions lodged incorrectly. In 2012, the federal and state governments came together to build a centralised platform. It would later become enshrined in legislation, enforcing the digitisation of property settlements. Now more than 99.4% of transactions are lodged correctly.
PEXA currently accounts for 85% of all settlements, with this market share expected to increase to 90% as laggard states and territories adopt the technology. It has no direct competitors and is protected from inflation via CPI-adjusted price increases. It is a true monopoly business and breaking apart the spider web is now impossible. But the core Exchange is running out of fuel. The number of dwellings and hence transactions only increase marginally each year. Once PEXA converts all settlements from paper to digital, growth will stall.
To spur its next leg of growth, PEXA has been reinvesting all of its profits into adjacent growth opportunities rather than paying dividends. It has set its sights on replicating the success abroad in the United Kingdom which is a market three times the size and adopts a similar Torrens registry system. Like Australia, it needs to get every stakeholder on board which takes considerable time. It’s been conducting testing with the Bank of England, with the aim of launching a refinance product this year and transfer service in 2024/2025.
Other growth initiatives include Insights and Ventures. PEXA aims to use the treasure chest of data to sell augmented information to banks, developers and governments, with the goal of $50 million in revenue by 2025. The business is also actively looking for bolt-on acquisitions to strengthen its offering.
While the exchange is everything stakeholders hoped for, governments don’t like monopolies, even ones they create themselves. To encourage more competition governments have introduced draft interoperability legislation. Put simply, this would open up the PEXA Exchange to other settlement providers, possibly eroding its stranglehold on the entire process. However, it’s largely considered that PEXA will maintain the critical cog in the settlements pipeline in the medium term.
Other risks to the business include a slowing of the economy, which might reduce transaction volumes for housing. PEXA has also recently benefitted from a surge in refinancing as households lock in fixed rate mortgages. Furthermore, replicating its success in the UK will be no small endeavour, and will require investors to be patient and even accept it the UK bet could fail. PEXA doesn’t have a government coalition in its corner pushing its agenda. This time it’s on its own.
After accounting for capitalised software costs, the core PEXA platform will produce approximately $75 million in free cash flow for FY22. With a current enterprise value of $3 billion, this values the core Exchange business on a 2.5% cash yield. Even if we assume PEXA achieves 100% market share and some modest operating leverage, that yield only increases to about 3.5%. Most investors would consider this an insufficient return, and that’s before accounting for the risks of increased competition and the fact no all states are yet to adopt digital settlements.
PEXA is one of the few genuine monopoly companies on the ASX. It’s built an enviable network effect, shielding it from the competition and enabling it to forge ahead with its growth ambitions. The issue is that it’s priced liked one, meaning it must succeed outside of its core Exchange business to justify the current valuation. If the market sells off, or its growth seeds begin to sprout, it could be a high-quality company to add to your portfolio. Hence why PEXA is deserving of a spot on your watchlist.
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