Record — Positive outlook for FY24

We update our profile in numbers including assets under management equivalent (AUME), fee income, clients and asset class exposure (Exhibit 1). This includes our estimates of average fee rates by strategy and hedging fee exposure by underlying asset class. We highlight the following points:

As reported in the Q423 trading update, positive net inflows of $9.1bn were dampened by market moves and foreign exchange movements, resulting in an overall rise in AUME of $4.6bn to $87.7bn, up 5.5% and 19.6% in US dollar and sterling terms respectively.

Average AUME (which drives management fees) rose by a respectable 12% in sterling terms. In US dollar terms, average AUME fell by 1%. Record uses US dollars to report AUME figures, but it should be noted that only 24% of AUME is denoted in US dollars. Therefore, to avoid misrepresenting growth in AUME when the US dollar is strong against major currencies, it is more accurate to use the sterling figure to observe underlying growth.

In Exhibit 3, we outline the changes in AUME following the Q124 update. The update reported outflows of $2.5bn, primarily driven by $3bn in outflows related to passive hedging. However, these outflows were partially offset by FX and scaling mandates, resulting in a net negative change to $1.3bn, bringing AUME to a total of $86.4bn.

We observe a consistent trend of outflows in passive hedging since Q323. Importantly, we note that such outflows do not necessarily indicate that Record is losing business, but we can assume that some AUME is being reallocated into other products.

The net $2.5bn outflow is only 2.9% of opening AUME ($87.7bn). Considering that passive hedging fees are relatively small, outflows have a minimal impact on final revenue. As Exhibit 5 shows, our new revenue estimates are broadly flat compared with our previous assumptions.

Exhibit 4 shows the P&L account. We draw out key line items, with all comparisons made against FY22 unless stated otherwise:

Record has a three-pillar strategy: modernisation, diversification and succession. These pillars form the blueprint for its ambitious medium-term targets in FY25: £60m in revenue, operating margins of c 40% (subject to falling inflation and excluding performance fees) and an ordinary dividend payout ratio of 70–90% of basic EPS. We examine progress on the strategy below.

Record continues to allocate capital towards improving IT infrastructure, spending £3.6m in FY23 or 12% of total operating expenses (10% in FY22). The enhanced IT capability is enabling Record to extend its commercial capabilities, remain competitive and enhance productivity and efficiency within the company. Following the year-end, the group launched R-platform, a client and business-facing portal focused on the automation of FX trade execution. The group intends to use the technology to provide an automated passive hedging service. Ultimately, this should enhance the client reporting experience via better data visualisation, while simultaneously improving operational costs and efficiency associated with trading activities. By upgrading and implementing new software, Record aims to scale efficiently and improve client service in the process. As we highlighted in a previous note, the group has already employed several tools: Microsoft Azure, Microsoft Power BI and Xceptor. These platforms serve the business to enhance security and data visualisation and enable scale.

For 40 years Record served solely as a specialist currency overlay manager, which had become a profitable but low-growth business with ongoing fee compression. With the diversification strategy now being put into action, the group is expecting to generate significant business through its Record Asset Management (RAM) subsidiary, which is authorised and regulated in Germany by BaFin. The subsidiary is run by the CEO and group head of sales, Jan Witte, and focuses predominately on alternative assets. RAM has also opened its Luxembourg RAIF Fund Umbrella. Through the formation of partnerships with other asset managers, RAM is able to take on the role of structurer, distributor, portfolio manager and currency hedger at significantly enhanced revenue margins compared to traditional currency hedging businesses. Although there has recently been a delay in the launch of some of these new products, management has emphasised the very strong pipeline of opportunities in FY24. For instance, the group is close to launching an infrastructure fund, which is likely to be of significant size, where it will assume the role of asset manager. This is expected to become live during FY24. Record will further use its partnerships to enhance its offering, exampled by the Protected Equities product it created for a multi-family office (expected to be released in Q224).

Another subsidiary adding to both the diversification and modernisation pillars is Record Digital Asset Ventures (RDAV) run by CEO and group CTO Rebecca Venis. RDAV has ring-fenced c £2m in capital to invest in early-stage financial technology companies and digital assets. By the end of FY23, 75% in capital has been committed in the form of direct investments and investment funds investing in start-up and early-stage technology and digital asset companies. An example of the progress made is in the partnership with Fasanara Capital, a specialist in digital lending, where Record was able to win three mandates with its unique investment objectives. Although investments made through RDAV are immaterial to Record’s bottom line, the initiative reflects its intention to become more technologically sophisticated.

Record announced in March this year that founder Neil Record will step down from the role of chairman at the July AGM, to be replaced by David Morrison, current non-executive director. In addition to serving on the board, David has a strong background in venture and growth businesses. Neil Record will continue to be a significant shareholder.

Record’s operational structure also changed during FY23 to facilitate the three-pillar strategy. Under the parent company Record Financial Group, Record Currency Management (RCM), Record Group Services, RDAV and RAM operate as subsidiaries. Jan Witte, group global head of sales, has been promoted to CEO of RCM from 1 May 2023 and this has enabled group CEO Leslie Hill to put increased focus on delivering group targets.

Similarly, Rebecca Venis, group CTO and incumbent CEO of RDAV, is responsible for modernising the group’s IT infrastructure alongside leading Record’s digital venture business. The new business structure serves to provide autonomy to each division, while adhering to the group’s goals. Management continues to place emphasis on supporting the professional growth and well-being of its employees. Following the restructuring, staff retention has returned to 90% after sliding to 74% in FY22.

In this section we reflect on the FY23 results, adjust our FY24 estimates, introduce our FY25 estimates and construct a hypothetical scenario whereby Record achieves its FY25 targets.

Overall results for FY23 were close to our estimates, with the tax line explaining most of the difference. Revenues for FY23 were reported largely in line at £44.7m. PBT came in 1% lower than our estimate due to slightly higher ‘other expenses’ than originally forecast. The final tax rate was 22% versus our assumed 19%, meaning reported net income was 5% below our forecast at £11.3m. Consequently, diluted EPS was also 5% below our estimates. On the other hand, the ordinary dividend per share was 4.50p, 10% higher than our forecast of 4.10p.

Based on the outflows in passive hedging revealed in the Q124 trading update, we have lowered our FY24 AUME forecast from $92.6bn to $91.7bn. This is still a positive AUME movement, implying 4.6% growth from end-FY23 AUME of $87.7bn. This is based on forecast net inflows of $3.9bn. Within the $3.9bn net flow figure, we factor in $1.65bn of new flows from RAM based on the performance of the EMSF and comments on the potential near-term pipeline during the earnings call. We have maintained an annualised management fee of 6.1bp. We assume marginal increases to fee rates in currency for return and multi-product while passive hedging rates stay flat and dynamic hedging drops a touch versus FY23. Despite the outflow observed in Q124 in passive hedging, it has minimal impact on our forecasts due to the low management fees it generates. Subsequently, our revenue estimate, which includes performance fees, has increased marginally from £45.5m to £45.6m. As inflation appears to be quite sticky in the UK, we have increased our previous estimate of operating expenses by 2% to £31.4m. Thus, our PBT assumption has fallen marginally by 2% to £14.7m, compared to our previous estimates of £15m. On a diluted EPS estimate of 5.67p, we expect Record to declare an ordinary dividend of 4.40p, implying a dividend payout ratio of 76% on basic EPS of 5.76p.

We highlight that FY23 revenues were boosted by performance fees of £5.8m. In FY24 we factor in £1.5m in performance fees, which is more in line with historical averages supported by continuing interest differentials in the market. However, we note that performance fees of £0.5m in Q124 imply an annualised performance fee of £2m, above our current estimate. Our estimated operating margin for FY24 is consequently 31.1%, just over a percentage point lower than 32.4% in FY23. However, we expect the underlying operating margin excluding performance fees to be 29.9% in FY24, better than 27.4% in FY23 as a result of higher-margin new products and positive operating leverage.

Introducing our FY25 estimates, we assume a further 5.2% growth in AUME to $96.5bn driven by $4.8bn in net inflows. We estimate annualised management fees of 6.64bp, with fee rate increases mainly derived from currency for return and multi-product. Passive hedging remains flat with FY24, while dynamic hedging fees drop slightly to 12.2bp. In FY25, we have conservatively assumed no flows or additions to AUME in the Asset Management business as visibility on exact timings of new product launches is low. On this assumption, we calculate revenue of £52.0m, which includes £1m in performance fees and £0.6m in other investment income. We forecast administrative expenses growing by 10% from FY24 as the company continues its expansion and incurs costs in the form of IT and increased staff costs. We forecast operating income of £17.5m, representing a 33.6% operating margin (on an underlying revenue basis) and 33.0% margin excluding performance fees. In line with FY24, we maintain a tax rate of 25%.

Record maintains its FY25 target to achieve £60m in revenue, with an operating margin of c 40% (subject to inflation) and maintaining a dividend payout ratio of 70–90% by FY25. We regard this target as achievable but ambitious given the impact of inflation on costs and the uncertainty around the timing of new product launches, which will be lumpy. However, should additional product launches come to market more quickly, the FY25 targets become more easily achievable due to the pipeline effect on revenues. For example, the group is currently developing an infrastructure fund where it will assume the position of asset manager. We would expect the infrastructure fund to be relatively large (similar to the EMSF) and secure attractive long-term fee rates due to the nature of the underlying asset. We highlight that some of these new funds have been delayed and are now expected to be more material contributors to revenue later in FY24.

In our model, we have conservatively assumed zero inflows into the Asset Management segment in FY25 following $1.65bn of assumed inflows assumed for FY24. The FY24 inflows relate to the $1bn EMSF, which is performing very well with further inflows expected from the potential infrastructure mandate and other asset management initiatives.

As explained above, our FY25 forecasts for revenues and operating margin are below Record’s targets. In Exhibit 6 below we model a scenario for Record to achieve its targets.

According to our current revenue assumptions, we would need to see an increase in pre-performance fee revenues of £9m in order to achieve the target £60m. To bridge this gap, we focus on modifying our net inflow assumptions into the Asset Management business. As it stands, between Q224 and end FY25, we assume average AUME of $1.1bn in the RAM business. To meet the £60m target, average AUME would have to increase to $3.0bn during the period, all other things being equal.

Our implied operating margin, excluding performance fees, is 33%, falling short of the c 40% target. To reach the 40% margin, operating costs would have to be limited to £36m, or 5% above our current estimates, keeping our investment income assumptions constant. The cost increase is modest considering the extra AUME Record would have to facilitate to achieve the revenue target. In our opinion, it would be difficult to envision a scenario where Record onboarded a sizeable increase in AUME while only slightly increasing its costs.

We update our comparative valuation table in Exhibit 7. Year to date, Record shares are down by 6.8% compared to our chosen asset manager peer group, which is down an average of 10.2%. Although Record is not a traditional asset manager, its earnings growth relies on being able to grow AUME and, in contrast to the peer group which is suffering net outflows, Record has generated net inflows of 11% of opening AUME in FY23. Additionally, we expect AUME to reach $91.7bn in FY24, a 6% increase from the opening AUME of $86.4bn in Q124.The company is also on the verge of a step change in growth and profitability from its Asset Management initiatives. As a result, Record currently trades at a 18% premium to the average calendarized P/E and 66% premium to the peer group EV/EBITDA multiple. On our FY25 estimates, Record trades at a P/E ratio of 12.1x with a yield of 6.4% excluding special dividends. Including the special dividend, Record has a prospective yield of 7.6%.