Numis Corporation — Advancing on all fronts

In the year to end-September, Numis recorded good growth across its business with overall revenues up 16%. Revenues for both Equities and Corporate Broking and Advisory were at record levels. Pre-tax profits and earnings per share were 17% ahead. The corporate client list now stands at just over 200. Key points were as follows with comparisons against FY16:

Exhibit 3 shows the segmental composition of revenue for FY17. Compared with the average for the previous five years, there are two changes: the contribution from institutional commissions is 27% compared with 33%, while placing commissions have risen from 37% to 44%. The changes reflect the particularly strong performance in corporate finance activity as the Numis franchise has expanded over the six years concerned.

Franchise development is further illustrated in Exhibit 4, which shows the progression of total revenues for Numis and the aggregate market capital of its clients. The growth in aggregate market capital reflects both the growth in client numbers and an upward trend in the average market capital, which now stands at £726m, up 28% on the prior year. The development in corporate client base feeds into each of the business areas to a greater or lesser extent. Although the increased scale within the client base is valuable for revenue generation, Numis underlines its continuing commitment to the small cap area, which remains an area of strength for the business. This is reflected in the level of median market capital for its clients that, at £322m, is less than half the average figure.

Exhibit 5 shows the development of segmental revenues over the past five years. FY17 trading income showed further strong progress (+39% versus FY16) after a marked step-up in FY16. Numis indicates that the FY17 result was achieved with only a limited increase in capital usage. While institutional commission rates remained under pressure in the run up to MiFID, commission income was up 12%, which can be seen as a reflection of a relatively favourable market background in terms of market levels, a contribution from block trades (on the buyer side) and the strength of the Numis institutional franchise.

Corporate retainers, which we see as a relatively sticky source of income, grew by 20%, reflecting a 5% rise in the average corporate client count together with the benefit of progressive fee increases. The level of advisory fees was stable, but taking pure M&A advisory activity within this (excluding some fees related to capital raisings) the increase would have been 16%.

Numis has indicated an adjustment in its dividend and share buyback policy. Under this, the aim is to pay a stable ordinary dividend (unchanged at 12p for FY17) with consideration given to investing in the business platform, investing in selective growth opportunities and returning surplus cash to shareholders, subject to liquidity and capital requirements and market conditions. The group intends to buy back shares over the medium term to at least offset any prospective dilution from unvested share awards and potentially to reduce the share count further in order to enhance shareholder returns.

The UK equity market provided a relatively favourable background for equity issuance during Numis’s FY17, with indices following an upward trend for most of the period (Exhibit 6) while volatility was also comparatively low despite unsettling macro developments (Exhibit 7). Explanations put forward for this pattern include the resilience of the UK economy, sterling weakness and the continuation of historically low policy rates.

The result has been a strengthening in equity fund-raising (see below) with the value of issuance on the London Stock Exchange Main market up by 6% and AIM by 13% compared with the prior year period. New issuance for both markets was up 27%, while further issuance (over 70% of the total) was only marginally ahead (+2%).

While low volatility tends to moderate secondary trading activity, the average daily value of trading on the Main market increased by 6% and for the AIM market there was a substantial (88%) rise for FY17 versus FY16.

Numis reports that it has made a strong start to the current year. There have been 11 fund-raisings to date, including the IPOs of Sabre Insurance Group (£575m) and Ero Copper (C$110m), and placings for Hilton Food Group, IP Group, RWS Group, Keywords Studios and Clinigen Group (all to finance M&A). The run rate of revenues in the Equities business is reported as being ahead of the daily rate for FY17.

This is encouraging, but as usual the macro background has considerable uncertainty and a rise in volatility could have an impact on sentiment and the pace of corporate and institutional investor activity. Alternatively, continuation of economic resilience and better than feared progress in the second stage of Brexit negotiations could ease realisation of the promising pipeline of potential transactions that Numis reports.

With MiFID II coming into force in January 2018, the implications of research unbundling for institutional commissions remains a prominent potential sensitivity for Numis, as for other brokers. Numis remained in discussion with institutional clients at the time of the results release and indicated that institutional retention following the process was likely to be very high. The equities team includes 39 analysts covering 17 sectors and c 370 companies, while institutions are also served by 30 salespeople, 10 sales traders and 14 UK market makers. The research team is well-ranked in institutional surveys. Based on current trends, there seems likely to be a modest negative effect on sales and research-related revenues as a result of MiFID II implementation, with reductions in payments from some institutions mitigated to some extent by new payments from private client brokers and the potential for higher execution flow as broker lists are trimmed.

Numis continues to develop its ability to conduct private placements. The Venture Broking team focuses on advising fast-growing private companies and works with a growing pool of seed, venture capital and growth, listed and private equity investors. The team seek to identify promising companies that it can advise and help introduce to potential investors. This area should continue to increase its contribution to revenue over time while providing a source of potential IPO candidates and new corporate clients as its network expands.

A process of management transition is almost complete following the announcement in May 2016 that Oliver Hemsley would step down as CEO. Alex Ham and Ross Mitchinson took on the role of joint CEOs in September 2016. Oliver Hemsley stepped down from the board in May 2017, although he will remain as an adviser until at least May 2018. There has also been a handover of the non-executive chairman’s role, with Alan Carruthers replacing Gerald Corbett in March this year. Still to take place at the beginning of 2018 is the succession in the finance director role, with Andrew Holloway taking over from Simon Denyer. A summary of board changes is shown in Exhibit 9.

The co-CEOs and FD-designate have been at Numis for between eight and 12 years, while most other senior members of the executive team have similar tenure, pointing to continuity while introducing fresh leadership for the next stage in the development of Numis.

With the strong trading seen in H217 continuing at a similar rate at the beginning of the current year, we have materially increased our revenue and profit estimates for FY18. We have also introduced an estimate for FY19. In both cases, the normal caveats relating to the sensitivity to market conditions should be borne in mind. Changes in the key figures from our estimates are shown in Exhibit 10 and further details can be seen in the financial summary (Exhibit 13).

The continued progress in building the corporate client base and the early indication of only moderately negative effects from MiFID II on institutional commissions are encouraging signs for Numis’s longer-term growth through market cycles.

Operating cash flow benefited from increased profits and a net realisation of £4.5m from the investment portfolio but, when compared with last year, this was more than offset by broadly unchanged market-making positions in contrast to the significant inflow seen in FY16. As a result, net cash flow from operating activities was somewhat lower at £43.4m, compared with £48.7m for FY16, but this still left room for share repurchases of £22.9m, dividend payments of £13.5m and an increase in cash from £89.0m to £95.9m.

The investment portfolio of strategic investments stood at £28.1m at the year-end, including £14.1m of unquoted investments, £12.4m in the Numis mid-cap fund and £1.6m in listed equities. Net gains on these investments are shown under the other operating income line (£3.4m). The intention is to manage the unlisted investments more actively as Numis looks to provide initial capital and to act as an introducer to follow-on investors, rather than being a longer-term holder itself.

Numis indicates that its qualifying capital stands at £126.7m, while it has an estimated capital requirement including buffer of £60m, leaving a substantial regulatory capital surplus of £67m.

We have updated our comparative valuation table below. It includes UK brokers together with a selection of US and European investment banks and advisory firms. The businesses are significantly differentiated but provide a qualified peer group for comparison. In terms of P/Es, Numis is towards the lower end of the range, while both its return on equity and price to book are above average.

For our ROE/COE model, we have used assumptions of an ROE of 21% (equivalent to the 2014-18e average), a cost of equity of 10% and growth of 4%. Applying these to the FY17 NAV gives a central value of 354p (323p previously, with the increase reflecting a higher ROE and NAV base). The sensitivity of this valuation to changing growth and ROE assumptions is illustrated in Exhibit 12.