S&U — Elevated regulatory impact

S&U (LSE: SUS)

Last close As at 19/07/2024

GBP19.00

−10.00 (−0.52%)

Market capitalisation

GBP231m

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Research: Financials

S&U — Elevated regulatory impact

S&U’s Q125 trading update disclosed increased pressure as the company steers cautiously through the changing regulatory landscape. The payment rate in the Advantage motor finance business fell to 87.7% from an average 92.1% in FY24, which led to group PBT falling by 34% to £6.9m (Q124: £10.5m) from higher impairments. The negative effects will likely have an impact on future quarters as management expects discussions with the Financial Conduct Authority (FCA) to conclude only in H2 CY24 and lending criteria were tightened at the end of Q1. On the positive side, demand remains strong, with applications at a record high. Moreover, the Aspen bridging business continues to grow rapidly, with Q1 PBT up by 36% y-o-y to a record £1.45m. We have cut our estimates for FY25 EPS by 22% to 179p and FY26 EPS by 15% to 223p for a return on equity (RoE) of 11%.

Written by

Robert Murphy

Managing Director, Financials and Investment Trusts

Financials

S&U

Elevated regulatory impact

Q125 trading update

Financial services

11 June 2024

Price

£19.20

Market cap

£233m

Net debt (£m) at end January 2024

225

Shares in issue

12.2m

Free float

25%

Code

SUS

Primary exchange

LSE

Secondary exchange

N/A

Share price performance

%

1m

3m

12m

Abs

(5.4)

4.9

(20.7)

Rel (local)

(3.3)

(1.9)

(26.9)

52-week high/low

£24.80

£18.00

Business description

S&U’s Advantage motor finance business lends to lower- and middle-income groups that may have impaired credit records. The Aspen property bridging business supports UK residential property development and has been growing successfully since launch in 2017.

Next events

Interim results

8 October 2024

Analyst

Rob Murphy

+44 7900 484 805

S&U is a research client of Edison Investment Research Limited

S&U’s Q125 trading update disclosed increased pressure as the company steers cautiously through the changing regulatory landscape. The payment rate in the Advantage motor finance business fell to 87.7% from an average 92.1% in FY24, which led to group PBT falling by 34% to £6.9m (Q124: £10.5m) from higher impairments. The negative effects will likely have an impact on future quarters as management expects discussions with the Financial Conduct Authority (FCA) to conclude only in H2 CY24 and lending criteria were tightened at the end of Q1. On the positive side, demand remains strong, with applications at a record high. Moreover, the Aspen bridging business continues to grow rapidly, with Q1 PBT up by 36% yoy to a record £1.45m. We have cut our estimates for FY25 EPS by 22% to 179p and FY26 EPS by 15% to 223p for a return on equity (RoE) of 11%.

Year end

Revenue (£m)

PBT*
(£m)

EPS*
(p)

DPS
(p)

P/E
(x)

Yield
(%)

01/23

102.7

41.4

278

133

6.9

6.9

01/24

115.4

33.6

209

120

9.2

6.3

01/25e

123.3

29.0

179

120

10.7

6.3

01/26e

130.3

36.2

223

125

8.6

6.5

Note: *PBT and EPS are normalised, excluding amortisation of acquired intangibles, exceptional items and share-based payments.

Impairment cost peak in Q225

S&U does not report full quarterly figures, but we expect the peak impairment charge to occur in Q225 (reported within H2 figures in October when the regulatory position should be clearer), including potential remediation costs. We would expect payment rates to improve in FY26, which should bring impairments down. We have lowered our pre-impairment profit estimates for both FY25 and FY26 as tighter lending affects motor transactions and we adopt a more cautious risk-adjusted margin outlook. The ultimate profitability of the motor business under a new regulatory regime and perhaps a tilt to the more competitive nearer prime segment is difficult to predict at this stage. We project an 11% RoE for the group, which is conservative relative to the 10-year average of c 15% and this does not allow for any benefit of potential base rate cuts in financing costs.

Aspen continues to perform strongly

Amid an improving UK property market, Aspen recorded new advances in Q125 of £44.4m, more than double the previous year, leading to net receivables growing 30% to £141.3m. Loan yield improved ahead of company expectations and profit grew by 36% to £1.45m. Aspen’s business can be lumpy, but our unchanged PBT estimate of £6.0m (21% of group PBT) for the year looks comfortably achievable.

Valuation: 19% implied 12-month total return

S&U trades on P/E multiples of 10.7x and 8.6x in FY25e and FY26e, respectively. We forecast an RoE of 11.0% in FY26. Using a cost of equity (CoE) of 10% and a 2% growth rate in our RoE versus CoE model implies a valuation of 2,169p (2,432p previously). Including expected dividends of 120p, we derive a 19% implied total return over 12 months.

Investment summary

Financials: EPS and DPS reductions

Regulatory discussions on affordability and forbearance have had a larger impact than expected since the full-year earnings were announced, reflected in a further drop in the payment rate from an average 92.1% in FY24 to 87.7% at the end of April. S&U is exercising caution in its handling of customers at this stage and until the conclusion of discussions with the regulator, which management expects will be in H2CY24.

Following the Q1 trading update, we have made sizeable reductions to our estimates, particularly in FY25, as the ongoing industry regulatory changes affect payment rates and hence impairments, volumes and margins (as management takes a cautious view on originations). Some of the impact in FY25e will be temporary, particularly potential remediation costs (in impairments), and we expect payment rates to improve in FY26e, which should lead to lower impairment rates and a rebound in earnings in FY26e. However, the ultimate balance between margin and risk is difficult to ascertain at this stage, so we have taken what we believe to be a conservative approach in our estimates.

We have lowered our group revenue forecasts by 7% and 11% in FY25 and FY26, respectively, as motor transactions have slowed and are likely to slow further into the summer of 2024 following loan re-pricing actions at the end of Q125. FY26e revenues are affected by a lower level of average balances in FY25e and somewhat more conservative margin assumptions. Over time, we would expect the industry to adapt in terms of risk-adjusted pricing, but there may ultimately be a higher proportion of nearer prime customers at S&U following the regulatory changes.

We have reduced our FY25 and FY26 EPS estimates by 22% and 15%, respectively, and have trimmed our DPS estimates by 4% in each year to smooth the payout profile. EPS in FY26e represents growth of just under 7% compared to FY24.

We have not modelled in any benefit for base rate reductions; thus, we believe we are conservative in our estimated 11% RoE for the group in FY26.

Our estimates are summarised in Exhibit 1 below.

Exhibit 1: Estimate revisions

FY25e

FY26e

Old

New

Change

Old

New

Change

Revenue (£m)

133.2

123.3

(7%)

145.7

130.3

(11%)

EBITDA (£m)

57.8

48.5

(16%)

65.7

57.5

(12%)

PBT (£m)

37.3

29.0

(22%)

42.6

36.2

(15%)

EPS (p)

230.0

179.3

(22%)

263.0

223.4

(15%)

DPS(p)

125.0

120.0

(4%)

130.0

125.0

(4%)

Source: Edison Investment Research

Advantage estimate reductions affect group forecasts

Our revisions to group PBT forecasts are entirely due to reductions in our estimates for Advantage based on the impact of regulations flagged in the Q1 statement. S&U disclosed Q1 group PBT of £6.9m (Q124: £10.5m), explained by higher impairment in Advantage. However, we also note this implies a flattish performance in profit before impairments.

Exhibit 2 summarises the contribution of Advantage and Aspen to group PBT. We now expect PBT at Advantage to fall to £23.0m in FY25e from £28.8m in FY24 before recovering in FY26e to a level slightly above that of FY24. We have maintained our Aspen forecast of double-digit growth in both FY25 and FY26.

Exhibit 2: Divisional contribution, £000s

FY24

FY25e

FY26e

Advantage

28,810

23,042

29,212

Aspen

4,803

6,002

6,987

Central items

(29)

0

0

Group PBT

33,584

29,044

36,199

In %

Advantage

85.8%

79.3%

80.7%

Aspen

14.3%

20.7%

19.3%

Central items

(0.1)%

0.0%

0.0%

Group PBT

100.0%

100.0%

100.0%

Source: S&U, Edison Investment Research

Cautious view on transactions

Exhibit 3 below presents our detailed estimate revisions for Advantage. There are two major factors that drive forecasts: the number of transactions and impairments.

We have sharply reduced the number of transactions in both FY25e and FY26e. FY25e represents a slightly bigger revision (-15%) and reflects an expected slowdown, especially over the summer of 2024, as loan pricing has been adjusted at the end of Q125. We have also carried forward a 13% lower level of transactions in FY26e as there is uncertainty as to the composition of the addressable market for S&U and there may be a continued adjustment period post closure of discussions with the FCA this year. The lower level of transactions results in a lower level of receivables and hence revenue. We have also slightly reduced margins in anticipation of a greater proportion of nearer prime and lower-risk customers in the overall mix. We have thus reduced our revenue estimates for Advantage by 9% in FY25 and 13% in FY26.

We have modelled a 14% increase to our impairment forecast in FY25 as a result of the continuing decline in the payment rate, as well as to take into account any potential remediation costs, which should prove temporary. Payment rates are expected to improve once the regulatory discussions are concluded and there is clarity on the relative profitability of different customer segments. Hence our impairment cost normalises in FY26e against a lower receivables base. Our forecast changes for sales and other costs partially offset the revenue revisions in light of lower transactions and reduced volumes and financing requirements.

Our overall PBT forecast for Advantage falls 26% to £23m in FY25 and 18% to £29m in FY26. Our FY26 estimate assumes a PBT margin recovering to our previous assumption for FY25 at just under 29%.

Exhibit 3: Advantage estimate revisions

£m

FY25e

FY26e

Old

New

Change

Old

New

Change

Transactions (amount)

23,000

19,500

(15%)

23,000

20,000

(13%)

Net receivables

362.1

332.6

(8%)

382.4

345.2

(10%)

Revenue

109.6

99.7

(9%)

117.4

101.9

(13%)

Impairment

(26.6)

(30.2)

14%

(28.2)

(25.5)

(10%)

Sales cost

(22.1)

(18.7)

(15%)

(22.1)

(19.2)

(13%)

Other cost

(29.6)

(27.7)

(6%)

(31.5)

(28.0)

(11%)

PBT

31.3

23.0

(26%)

35.6

29.2

(18%)

Margin (%)

28.5

23.1

30.3

28.7

Source: Edison Investment Research

Aspen estimates unchanged

Aspen is benefiting from continuing investment by S&U, along with becoming an increasingly wellrecognised brand in the market and improving housing market data (see economic indicators below). Aspen is not subject to consumer regulation and is, therefore, unaffected by the FCA initiatives.

We continue to expect net receivables to reach £158m (+22%) in FY25e and £183m (+16%) in FY26e. This results in revenue growth of 37% and 20% in FY25e and FY26e, respectively. PBT remains at £6m for FY25e and £7m for FY26e. Thus, Aspen should become a more significant contributor to PBT, averaging around 20% over the forecast horizon and providing a useful diversification of earnings in a period of adjustment for Advantage.

Valuation: RoE vs CoE implies a 19% 12-month return

We base our valuation on an RoE versus CoE model, which is very common in the financial sector. The sector is highly regulated and competitive, thus sustainable growth depends on the ability to generate capital. We assume a CoE of 10% and a long-term earnings growth rate of 2% and, based on our assumed 11% RoE in FY26e, the implied valuation is 1.13x book value, or 2,169p per share. Adding in the expected dividend of 120p implies a total return of 19%.

On traditional measures, S&U trades on 10.7x FY25e EPS (which we regard as depressed by temporarily elevated impairment charges) and 8.6x FY26e EPS. The shares also provide a wellcovered dividend yield of over 6% in FY25e and FY26e.

Macroeconomic background

In this section we update our compilation of UK economic indicators relevant to consumer credit markets and the motor and housing markets, in particular.

In summary, although the UK is experiencing sluggish growth, there is a stable-to-improving trend in both economic indicators and those for the motor and housing markets. The economic environment for S&U’s business looks to be a little more certain than 12 months ago.

Key economic indicators

The recent release of estimated UK GDP growth in Q124 surprised positively at 0.6%. This has been reflected in consensus estimates for GDP growth for the full 2024 rising to 0.6% from 0.4% previously (Exhibit 4). Inflation expectations (CPI) and unemployment both deteriorated very slightly and remain pretty much in line with previous estimates.

Independent forecasts are very slightly weaker for 2025, with GDP expected to be 1.2% (previously 1.3%), the unemployment rate 4.4% (4.4%) and CPI 2.2% (2.1%), as shown in Exhibit 5.

Exhibit 4: Evolution of independent UK economic forecasts for 2024

Exhibit 5: Independent forecasts for 2024 and 2025

%

Average

GDP growth

 

2024

0.6

2025

1.2

Labour Force Survey unemployment rate Q4

2024

4.4

2025

4.4

Inflation Q4 (CPI)

 

2024

2.1

2025

2.2

Source: Collected by HM Treasury (as at May 2024)

Source: Collected by HM Treasury (as at May 2024)

Exhibit 4: Evolution of independent UK economic forecasts for 2024

Source: Collected by HM Treasury (as at May 2024)

Exhibit 5: Independent forecasts for 2024 and 2025

%

Average

GDP growth

 

2024

0.6

2025

1.2

Labour Force Survey unemployment rate Q4

2024

4.4

2025

4.4

Inflation Q4 (CPI)

 

2024

2.1

2025

2.2

Source: Collected by HM Treasury (as at May 2024)

Consumer confidence (Exhibit 6) witnessed another jump in May 2024, rising a further 2pp monthon-month to an index level of negative 17. The relatively stable labour market data (Exhibit 7) would have helped, along with recovering incomes from April increases in the Living Wage (+9.7%) and state pensions (+8.5%), a 2pp cut in National Insurance and declining energy bills (12% average price cap).

Improving consumer confidence should have a knock-on positive effect on demand for S&U’s finance products in both Advantage and Aspen.

Exhibit 6: GfK UK consumer confidence indicator

Exhibit 7: UK redundancies and unemployment

Source: LSEG. Note: As at May 2024.

Source: Office for National Statistics. Note: As at May 2024.

Exhibit 6: GfK UK consumer confidence indicator

Source: LSEG. Note: As at May 2024.

Exhibit 7: UK redundancies and unemployment

Source: Office for National Statistics. Note: As at May 2024.

Indicators for Advantage motor finance

The overall picture in the used car market is one of the beginnings of a recovery. The thick grey line in Exhibit 8 shows that 2024 has started well, with transactions in Q124 7% above those in the previous year, as well as in 2022 and 2021. March transactions were above every year since 2020. This trend is also confirmed in Exhibit 9, using rolling 12-month totals from the Finance and Leasing Association. Both loan values and transactions appear to have bottomed over the 12 months to December 2023. Values have lagged loans as the high inflation witnessed post COVID-19 has worked its way through the figures. On a single month basis, used car finance transactions were up 11% y-o-y in April 2024 and loan value was up 6% y-o-y.

Exhibit 8: Monthly used car transactions, 202024

Exhibit 9: Used car finance through dealerships (rolling 12-month totals)

Source: The Society of Motor Manufacturers and Traders. Note: As at March 2024.

Source: Finance and Leasing Association. Note: As at April 2024.

Exhibit 8: Monthly used car transactions, 202024

Source: The Society of Motor Manufacturers and Traders. Note: As at March 2024.

Exhibit 9: Used car finance through dealerships (rolling 12-month totals)

Source: Finance and Leasing Association. Note: As at April 2024.

Exhibits 10 and 11 below illustrate a stabilisation in used car prices since falling from a peak in December 2021. In April 2024, prices were down 10% y-o-y but up by 0.5% m-o-m. From the historical series the year-on-year comparatives should improve more markedly from October 2024.

Overall, the data concur with S&U management’s commentary of record applications in Q125 and leave the potential for earnings recovery following the negative regulatory impact on collections.

Exhibit 10: Used car prices index

Exhibit 11: Monthly change in used car prices

Source: Office for National Statistics. Note: As at April 2024.

Source: Office for National Statistics. Note: As at April 2024.

Exhibit 10: Used car prices index

Source: Office for National Statistics. Note: As at April 2024.

Exhibit 11: Monthly change in used car prices

Source: Office for National Statistics. Note: As at April 2024.

Indicators for Aspen property bridging

Aspen benefits indirectly from the UK housing and mortgage markets as its borrowers depend on transaction activity to complete projects and recycle capital.

UK residential housing data continue to recover from depressed levels. Residential property transactions rose further in April 2024, by 10% y-o-y and 5% m-o-m (Exhibit 12). Mortgage approvals for individuals for house purchases (Exhibit 13) increased 40% y-o-y and 8% m-o-m in February 2024 as mortgage rates moderated (Exhibit 14). The improving environment should be supportive for volume growth and credit risk at Aspen, as reflected in our double-digit profit growth assumptions.

Exhibit 12: UK property transactions

Exhibit 13: Mortgage approvals for house purchase

Source: HM Revenue & Customs. Note: Seasonally adjusted to April 2024.

Source: Bank of England. Note: Seasonally adjusted to February 2024.

Exhibit 12: UK property transactions

Source: HM Revenue & Customs. Note: Seasonally adjusted to April 2024.

Exhibit 13: Mortgage approvals for house purchase

Source: Bank of England. Note: Seasonally adjusted to February 2024.

Exhibit 14: Average two-year fixed-rate mortgage at 75% LTV

Source: Bank of England. Note: As at January 2024.


Exhibit 15: Financial summary

£'000s

2019

2020

2021

2022

2023

2024

2025e

2026e

Year end 31 January

PROFIT & LOSS

Revenue

 

82,970

89,939

83,761

87,889

102,714

115,437

123,336

130,257

Impairments

(16,941)

(17,220)

(36,705)

(4,120)

(13,877)

(24,203)

(31,505)

(27,040)

Other cost of sales

(15,751)

(19,872)

(14,264)

(18,771)

(23,676)

(22,821)

(21,796)

(22,923)

Administration expenses

(10,763)

(12,413)

(10,576)

(13,679)

(15,731)

(19,257)

(21,584)

(22,795)

EBITDA

 

39,515

40,434

22,216

51,319

49,430

49,156

48,450

57,499

Depreciation

 

(414)

(450)

(520)

(529)

(525)

(510)

(456)

(434)

Op. profit (incl. share-based payouts pre-except.)

 

39,101

39,984

21,696

50,790

48,905

48,646

47,995

57,065

Investment revenues/finance expense

(4,541)

(4,850)

(3,568)

(3,772)

(7,495)

(15,062)

(18,950)

(20,866)

Profit before tax

 

34,560

35,134

18,128

47,018

41,410

33,584

29,044

36,199

Tax

(6,571)

(6,252)

(3,482)

(9,036)

(7,692)

(8,147)

(7,261)

(9,050)

Profit after tax

 

27,989

28,882

14,646

37,982

33,718

25,437

21,783

27,149

Average Number of Shares Outstanding (m)

12.1

12.1

12.1

12.1

12.1

12.2

12.2

12.2

Diluted EPS (p)

 

232.0

239.4

120.7

312.7

277.5

209.3

179.3

223.4

EPS - basic (p)

 

233.2

239.6

120.7

312.8

277.5

209.3

179.3

223.4

Dividend per share (p)

118.0

120.0

90.0

126.0

133.0

120.0

120.0

125.0

EBITDA margin (%)

47.6%

45.0%

26.5%

58.4%

48.1%

42.6%

39.3%

44.1%

Operating margin (before GW and except.) (%)

47.1%

44.5%

25.9%

57.8%

47.6%

42.1%

38.9%

43.8%

Return on equity

17.6%

16.8%

8.1%

19.6%

15.6%

11.1%

9.2%

11.0%

BALANCE SHEET

Non-current assets

 

185,383

197,806

173,413

184,189

222,031

244,450

259,067

278,547

Current assets

 

95,430

108,275

111,426

143,040

206,143

222,396

235,960

254,587

Total assets

 

280,813

306,081

284,839

327,229

428,174

466,846

495,027

533,135

Current liabilities

 

(6,722)

(7,424)

(5,309)

(8,789)

(6,918)

(8,483)

(8,662)

(9,001)

Non-current liabilities inc pref

(108,724)

(119,183)

(98,501)

(111,693)

(196,371)

(224,201)

(245,001)

(270,201)

Net assets

 

165,367

179,474

181,029

206,747

224,885

234,162

241,364

253,932

NAV per share (p)

1,375

1,493

1,490

1,702

1,852

1,928

1,987

2,091

CASH FLOW

Operating cash flow

 

10,530

4,946

32,940

(2,094)

(62,760)

(15,508)

(5,820)

(9,624)

Net cash from investing activities

(785)

(265)

(1,112)

(284)

(660)

(189)

(340)

(340)

Dividends paid

(13,080)

(14,461)

(13,098)

(12,263)

(15,546)

(16,154)

(14,581)

(14,581)

Other financing (excluding change in borrowing)

14

14

2

1

1

0

0

0

Net cash flow

 

(3,321)

(9,766)

18,732

(14,640)

(78,965)

(31,851)

(20,741)

(24,545)

Opening net (debt)/cash

 

(104,990)

(108,311)

(118,077)

(99,345)

(113,985)

(192,950)

(224,801)

(245,542)

Closing net (debt)/cash

 

(108,311)

(118,077)

(99,345)

(113,985)

(192,950)

(224,801)

(245,542)

(270,088)

Source: S&U, Edison Investment Research

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United Kingdom

This document is prepared and provided by Edison for information purposes only and should not be construed as an offer or solicitation for investment in any securities mentioned or in the topic of this document. A marketing communication under FCA Rules, this document has not been prepared in accordance with the legal requirements designed to promote the independence of investment research and is not subject to any prohibition on dealing ahead of the dissemination of investment research.

This Communication is being distributed in the United Kingdom and is directed only at (i) persons having professional experience in matters relating to investments, i.e. investment professionals within the meaning of Article 19(5) of the Financial Services and Markets Act 2000 (Financial Promotion) Order 2005, as amended (the "FPO") (ii) high net-worth companies, unincorporated associations or other bodies within the meaning of Article 49 of the FPO and (iii) persons to whom it is otherwise lawful to distribute it. The investment or investment activity to which this document relates is available only to such persons. It is not intended that this document be distributed or passed on, directly or indirectly, to any other class of persons and in any event and under no circumstances should persons of any other description rely on or act upon the contents of this document.

This Communication is being supplied to you solely for your information and may not be reproduced by, further distributed to or published in whole or in part by, any other person.

United States

Edison relies upon the "publishers' exclusion" from the definition of investment adviser under Section 202(a)(11) of the Investment Advisers Act of 1940 and corresponding state securities laws. This report is a bona fide publication of general and regular circulation offering impersonal investment-related advice, not tailored to a specific investment portfolio or the needs of current and/or prospective subscribers. As such, Edison does not offer or provide personal advice and the research provided is for informational purposes only. No mention of a particular security in this report constitutes a recommendation to buy, sell or hold that or any security, or that any particular security, portfolio of securities, transaction or investment strategy is suitable for any specific person.

London │ New York │ Frankfurt

20 Red Lion Street

London, WC1R 4PS

United Kingdom

London │ New York │ Frankfurt

20 Red Lion Street

London, WC1R 4PS

United Kingdom

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