Share — Evidence that investment is paying off

To provide a longer-term context for the 2018 results, we show assets under administration (AUA) and revenue since 2008 in Exhibits 1 and 2. AUA have grown at a compound rate of 18% over the period, outpacing the FTSE 100 price index, which had a CAGR of 4%. Share has augmented growth in AUA arising from asset appreciation and individual client additions by securing corporate partnerships such as those with Henderson and Barclays and by buying books of business (most recently from the administrator of Beaufort Securities, last year). AUA grew by 3% in 2018 to £4.9bn, despite a 13% decline in the UK equity market. At the end of February this year AUA stood at over £5bn. The fund-of-fund offering (providing an easy entry point for those new to investing) increased AUM from £101m to £110m. Revenues are not directly linked to AUA as flat administration fees are charged but growth in AUA is likely to generate greater volume of trading and hence dealing commission.

The analysis of revenues over this period shows how interest income declined as rates fell following the financial crisis. From 2013 to 2016 overall revenue trod water as the introduction of a flat administration fee structure and the ending of trail commissions following the Retail Distribution Review also took effect. The last two years have seen a return to growth helped in part by book acquisitions and partnerships.

The profit and loss figures for H218 and FY18 are compared with prior periods in Exhibit 3 and we highlight key points below, referencing the full-year comparison unless stated.

Exhibits 4 and 5 show revenue performance in 2018 compared with peers and revenue market share. The peer group data is collated by Compeer and comprises 15 other retail stockbroking companies including Hargreaves Lansdown.1 The revenue comparison shows Share ahead of the group on dealing commission but below on fees, with the peer fee performance probably reflecting adjustments to fee structure following the integration of Interactive Investor and TD Direct. The dramatic relative increase in Share’s interest income reflects recovery from a low level while some peers may have benefited previously from their position as subsidiaries of banks. Market share has been broadly stable during 2018 and, although marginally lower than in 2017, has shown progress over the period shown.

Share has continued to make progress against its strategic objectives: putting customers first; focus on the core business; and strategic partnerships and acquisitions.

Addressing the customer first and core focus objectives, Share has now largely completed its digital transformation plan initiated in 2016. The new website was launched in April 2018 and the functionality of the mobile app was also enhanced, increasing the usability and appeal of both methods of accessing The Share Centre’s services. The app now regularly accounts for 8% of trades. During 2018 the group also adapted its processes and systems to deal with regulatory changes including MiFID II, PRIIPs and GDPR. Earlier elements in the IT investment programme included renewing key elements of the group’s IT infrastructure, including migrating customers to a new database. More recent work has included the introduction of survey software to provide rapid feedback on customer contact centre performance, enhancement of back-office systems and new solutions to improve the efficiency of staff training. Following completion of the programme investment will continue but at a lower level. In addition to benefiting from the improved customer experience arising from investments in technology, it can be argued that Share now has a more sustainable (less risky) platform for development of the business.

On the acquisitions, Share announced at the first-half stage that it had reached three agreements for the acquisition of a combined c 39,000 customer accounts and over £1.5bn of assets under administration. One was the acquisition from the administrator of Beaufort Securities of c 17,500 clients with reported assets of c £570m and cash of £50m (Financial Times, 9 August). The consideration has not been disclosed but the apparent absence of substantial uptick within the investment items in cash flow for H218 suggests it was relatively small. Share reports that over 17,000 accounts have been transferred and that more than 78% of these have been retained: a higher than expected level given the poor experience of these investors at the previous firm.

The second transaction has involved the transfer of a small number of accounts and a position as preferred destination for Premier Asset Management clients. The third agreement has not been disclosed but a further transfer of c 22,000 accounts is expected in Q3 this year. Exhibit 6 puts this transfer in context. We have used an illustrative retention rate of 60% (higher than we previously assumed for all three acquisitions but below the rate for Beaufort Securities accounts to date). On this basis the transfer would add 5% to the number of accounts and would increase the average AUA.

UK equity market performance and volatility are illustrated in the next two charts, showing the Q418 market dip and spike in volatility followed by a recovery and reduced volatility in the current year, despite continuing macro uncertainties.

As a measure of retail investor confidence and appetite for investment, we show the level of UK retail equity fund sales, as reported by the Investment Association. The annual series shows that 2018 as a whole saw much reduced but still positive net flows, while the more volatile monthly series on the right shows a move into negative flows in the four months to end January this year.

On this front, Share has seen some recovery in its own volumes more recently, suggesting the recovery in equity market level has fed through to a greater willingness to invest and trade.

Prospectively, Share’s near-term revenue progression will be dependent on market trends and further evolution of investor confidence. Leaving these macro-influenced factors aside, the level of client retention on newly acquired accounts may be a material factor, while the investment in technology should be positive for both individual client retention and recruitment and securing partnership deals. Otherwise, interest income should continue to benefit from higher rates and customer balances through the current year with a smaller increase likely in the following year. (See estimate revisions set out in the next section and financial summary on page 8.)

The FCA published its final report on the investment platforms market study recently. This indicated it wishes to make switching between platforms simpler, including the ability to transfer in specie and flexibility in moving between fund unit classes to facilitate this, and it believes a ban on exit fees would be appropriate to reduce consumer harm. From Share’s perspective, this has a minimal impact given the relatively low exit charge of £25 per account levied by Share, while there could be a positive effect from easing the transfer process from other platforms. On this front the ongoing impact of MiFID II mandated disclosure of costs could encourage migration to Share’s flat fee structure.

The next section provides a summary of estimate changes and the financial position.

Changes in the key lines from our estimate for 2019 and new numbers for 2020 are shown below. The overall change in revenue assumption is small (+3%) but because the group was previously expected to record only a marginal operating profit (before investment income, which is expected to be relatively stable), the impact on pre-tax profit is significant (+19%). Further detail from our forecasts is included in Exhibit 14.

Share ended the year with cash of £9.0m and no debt. This compared with cash of £10.5m in 2017. The primary source of the outflow was investment of £1.4m in intangible and tangible assets (primarily related to IT expenditure but also including the purchase of the Beaufort Securities accounts). We expect such spending to be lower at between £0.6m and £0.7m for 2019 and 2020. From a regulatory capital perspective, the group’s capital requirement has been reduced from £5m for 2018 to £3.9m for 2019 (reflecting improved profitability). It holds 3.8x the required level of capital providing sufficient headroom to accommodate the opportunities in its acquisition/ partnership pipeline, for example.

We have updated a comparative table used in our previous notes comparing a number of measures for Share, Hargreaves Lansdown and now AJ Bell (replacing Alliance Trust Savings, which has been taken over by Interactive Investor). We have set the surplus capital adjustment to allow for 2x coverage (Share’s target level). This shows Share trading at an adjusted value of 1.4x revenue compared with 17.9x and 13.8x for Hargreaves Lansdown and AJ Bell, respectively. Similarly, for value as a percentage of AUA, Share is significantly lower at 0.6% versus 9.8% and 2.8%, respectively.

We have also updated our DCF valuation using assumptions that include intermediate growth (2021–23) of c 20% to capture operational gearing (lower than previously as profitability has already improved), long-term growth of 4%, a discount rate of 10% and a terminal multiple of 10x. Allowing for changes to our FY19 assumptions, our central value (see sensitivity in Exhibit 13) increases from 31p to 32p.