IPH Limited (ASX code: IPH) is a leading intellectual property services firm in Asia Pacific, assisting largely international clients with patent and trademark applications, as well as advising clients on their intellectual property rights and those of their competitors.
The stock price chart tells the history of currency movements and a regulatory change which pulled forward earnings into calendar 2015. Despite this volatility, IPH has maintained or grown market share and is a beneficiary of long-term growth in patent filings, which has averaged 4 per cent per annum.
IPH has minimal debt and generates strong free cash flow, with very little capital investment requirements outside of ongoing bolt-on acquisition activity. This allows the company to pay out a strong, fully franked dividend, forecast at 5.2 per cent over the next twelve months at a share price of $4.58.
The company is also a beneficiary of the recent weakness in the Australian dollar relative to the US dollar. This arises from a largely (63 per cent) US dollar-denominated revenue base and largely Australian dollar cost base. As the US dollar strengthens relative to the Australian dollar, revenues increase without a change in costs. The average AUD/USD exchange rate in the half year to December 2017 was $0.78. In the current half, the rate has averaged a similar $0.77. However, it is currently trading below $0.74. If the rate were to hold at this level, this would result in approximately a 7 per cent earnings benefit next financial year. This is based on the sensitivity provided by the company of $1.3m of revenue per 1c move in the AUD/USD. Naturally, if the Australian dollar should strengthen above $0.77, this would become a headwind to earnings.
In the most recent half-year result, IPH reported earnings per share down 13 per cent on the prior corresponding period. Partly this reflected weakness in industry patent filings, but primarily it was attributable to currency, with the Australian dollar having strengthened relative to the US dollar.
In terms of valuation, IPH traded down to a forward PE multiple below 12x in March 2018. It has since recovered to 16x, which is approximately in line with the broad market but a 13 per cent discount to the market excluding financials and resources. Further recovery in the PE rating is likely to require demonstration of a return to industry filings growth in Australia.
Clime Group owns shares in IPH