Moelis Australia is the Australian offshoot of Moelis & Company, an American investment bank founded in 2007. Moelis and Company have made a name for themselves as one of the leading “Boutique investment banks,” smaller specialised investment banks that have become increasingly popular since the GFC largely thanks to their perceived ability to give more independent advice. In one of their most impressive wins to date, Moelis and Co was recently announced as the sole lead on what will probably be the biggest IPO in history, the giant Saudi state owned oil company Aramco.
In Australia, Moelis has been similarly successful, though not without controversy. While they have been involved in numerous successful IPO’s, they were also the lead manager for the botched Simonds Group IPO in late 2014, with shares now trading at less than a quarter of their floating price. More recently they have made the news for apparently buying up Slater and Gordon debt at significant discounts, supposedly for some debt for equity scheme they are planning.
After the IPO, Moelis & Co will retain a 40% stake in Moelis Australia and a partnership between the two entities will remain with Ken Moelis himself, the founder of Moelis and Co taking a seat on the board.
25 million of a total 125 million shares will be sold through the IPO at $2.35 per share, raising $53.8 Million once the costs of the offer have been taken into account. The Market capitalisation at listing price is $293.8 million, making it one of the biggest Australian IPO’s this year to date.
The CEO of Moelis Australia is Andrew Pridham, more famous for his role as Chairman of the Sydney Swans and his occasional spats with Eddie Mcguire than for his career as an investment banker. Pridham’s career has been impressive; he was appointed the Managing Director of Investment Banking Australasia for UBS at only 28 and has also held senior roles at JP Morgan before helping start Moelis Australia in 2009. He has been less successful in his ventures into the art collecting world though, making headlines a couple of years back when he purchased what turned out to be a forged painting for 2.5 million dollars. When Melbourne radio hosts started making fun of him about this, Pridham’s response somehow managed to go from victimhood to snobbery in one sentence.
“It’s extremely disappointing but notsurprising these radio jockeys find it appropriate to make fun of any victim ofcrime — me or anyone else. It is of some comfort to me that it is highlyimplausible anyone will ever have the opportunity to defraud any of them of$2.5 million.”
However, as long as Pridham doesn’t decide to turn Moelis Australia into an art gallery, his dubious taste in Australian art shouldn’t trouble potential investors, and overall he seems like a pretty capable and intelligent guy. Also, for the CEO of an investment bank worth nearly three hundred million dollars his salary is quite reasonable, at only $450,000 a year plus bonuses. That he is looking to make most of his money through performance bonuses and increases in the share price is a positive for investors, and something that other recent listings (Wattle Health anyone?) Could learn from.
One of the things that worries me about the Moelis Australia IPO is the 44.2 million of the total 58.8 million raised that will be set aside for the vague purpose of “growth capital.” This is expanded upon in another section of the Prospectus with the below statement:
"Moelis Australia is actively assessing a number of strategic asset and business acquisitions. None of these opportunities are certain of proceeding at the date of this Prospectus. Any one of, or a combination of, these acquisitions could result in Moelis Australia applying a substantial part of the Offer proceeds to fund the acquisitions of potential assets or businesses being assessed."
While some investors will see this as a growth opportunity, something about the combination of a CEO with no shortage of self-confidence, a professional services business and statements like this make me a little nervous. As any financial academic or Slate and Gordon stockholder will tell you, business acquisitions by listed companies have a tendency to destroy rather than create shareholder value, and I doubt Pridham is going to be able to sit on his hands for long with $54 million in his pocket. While it’s possible he might make the deal of the century, it’s also possible he might end up biting off more than he can chew.
Significant Investor Visa Funds Program
Another thing that concerns me with the Moelis IPO is its involvement in the Significant Investor Visa Funds Program. This is a program the federal government introduced a while back where Investors who invest over 5 million dollars in approved Australian investments are able to gain an Australian Visa.
These sorts of visa programs have come under a lot of criticism both in Australia and internationally, and in the USA in particular have become a target for fraudulent activities.
Canada cancelled their own program after finding it delivered little benefit and an Australian productivity commission report in 2015 advocated scrapping the program as well, arguing that it led to too many visas being granted to elderly people with limited English skills.
While the current Liberal government appears to be committed to the scheme, you would imagine that all it would take is a change of government or a few highly-publicised scandals for things to change. Moelis themselves appear to be well aware of the risks this would pose to their business, as evidenced by this detailed response of theirs to the 2015 productivity commissions report.
Moelis does not break down the revenue for each separate sector, though the prospectus does state that average assets under management grew from 161 million to 624 million in 2017 largely thanks to this program, so we can assume that if this program was to be cancelled it would have a significant impact on the business.
Looking around at most investment banks, they seem to cluster around a P/E of just under 15. Goldman Sachs is currently at 13.96, JP Morgan Chase is at 14.1, and Morgan Stanley is at 14.53. The big four Australian banks have similar P/E ratios. Moelis Australia are no doubt aware of this, and have presented an “adjusted” Price to Earnings ratio of 14.6 in the prospectus. On the surface this makes the valuation seem like a pretty good deal. As a relatively small player, their growth prospects are more significant than the larger banks, so to be priced at the same discount rate would represent a great opportunity. However, this is a good example of when it pays to do your own research before trusting adjusted ratios cooked up by investment bankers. When I divide Moelis Australia’s profit from the 2016 calendar year (9.8 million) by the post-listing market capitalisation of 293.8 million I get a price to earnings ratio of 29.97, more than double the ratio quoted in the prospectus. Although you might think this is because my calculator isn’t as fancy as the ones used at Moelis Australia’s head office, Moelis have actually made two rather questionable adjustments to get this lower ratio.
To start with, while P/E ratios are almost always calculated using previous earnings (trailing twelve months). in Moelis Australia’s adjusted P/E ratio, they have instead used their forecasted Pro Forma earnings for the 2017 calendar year of 16.8 million. While for a small growing company it may make sense to use forecasted earnings in a P/E ratio if the business is just starting, I fail to see how it is justified for an established investment bank with a proposed market capitalisation in the hundreds of millions. Moelis Australia are not planning to change their operations significantly in the next twelve months, so their reason to use forecasted earnings simply seems to be so they can get a more attractive P/E ratio.
The other adjustment they have made is to the price side of the P/E formula. Moelis Australia have taken the odd approach of subtracting the net offer proceeds of 57 million from the market capitalisation for the adjusted formula. This is supposedly justified because their acquisition plans are not included in their projected earnings, though as a potential shareholder, the actual market capitalisation is how the market will evaluate the stock, and the total shares outstanding will determine your share in any future earnings. While P/E ratios are based on earnings from the past and the market value today, by some odd form of wormhole accounting Moelis have ended up presenting a ratio based on future earnings and a market value from the past.
Of course, I’m sure Moelis Australia could wheel out to a batch of highly paid accountants who would explain why the adjustments they made are reasonable and their P/E ratio is accurate, but then again Goldman Sachs had maths PHDs that could explain how CDOs were a great idea in 2006 and we all know how that ended up. I would argue that any future investor would be much better served using the 29.97 figure I calculated when deciding if Moelis Australia is a good investment, as this is how P/E ratios for other companies are quoted.
When you use the actual P/E ratio of 29.97 to evaluate the deal, the Moelis Australia IPO looks reasonable, but hardly exciting. If you think that Moelis Australia is a great up and coming Corporate Investment Bank with a proven track record and that Pridham is a genius who will be given the new freedom of 50 odd million dollars in free cash to launch some amazing acquisition, then a P/E ratio double that of the larger investment banks is perhaps reasonable. From my perspective though, the Significant Investor Visa Program is not something I would want any investment of mine relying on long term, and with what I know about the track record of acquisitions, I would probably rather have the cash on the balance sheet invested in an index fund than whatever plan Pridham has cooking up.