Numis Corporation — Very strong result in exceptional circumstances

Exhibit 1 provides a summary of the figures including the revenue analysis with additional comments noted below. Figures are compared with FY19 unless stated.

Group revenue for FY20 increased by 39% or £43m compared with FY19. The largest increase was in capital markets (£29m in absolute terms). Numis reports that the increase in average deal fees rather than the number of the transactions was the driver of growth here. Growth was focused in the second half (capital markets revenues were down 8% in H120) when companies turned to the market to strengthen balance sheets in the face of COVID-19 and subsequently to finance growth opportunities. Private markets transactions also made a significant contribution to this segment, accounting for more than 20% of its revenue. As would be expected, corporate retainer fees were stable although the number of corporate clients at the year-end was lower at 188 versus 217 at end FY19. A large part of this reduction reflected the decision made in the second half to withdraw from the natural resources sector and in the process to resign from 18 clients (three further clients are expected to leave after the expiry of notice periods). The sector accounted for approximately £1.5m of retainer fee revenue. The context for this move is Numis’s intention to build its client base in particular segments with companies with scope for growth and where it believes it can add value through high service levels. While size is not a factor in targeting clients, the average market capital of the client base has increased to £1.1bn (£0.9bn), a helpful trend in terms of potential deal sizes. Advisory fees, down 11%, were affected initially by political uncertainty and then, following the general election, by COVID-19 disruption. Taking these activities together, investment banking revenues increased 37%.

Within the equities business, trading income was sharply higher than in FY19 when the result had been depressed by a £3m loss on the Kier rights issue. The FY20 result was also ahead of earlier years reflecting market volumes and control over exposure levels during periods of heightened volatility. Institutional income benefited from market share gains, a new electronic trading product and, again, market volumes while slightly lower research fees reflected tightened institutional budgets mitigated by high ratings accorded to the research and sales teams.

The other operating income line had shown a £1.9m loss on investment portfolio write-downs at the interim stage and also saw write-downs in FY19 (£2.2m), but swung to a £0.3m gain for the full year as market levels staged a substantial recovery and a gain on disposal was recorded. The portfolio, valued at £14.7m, now comprises only unquoted investments (60% operating companies and 40% diversified funds) with the intention being to liquidate remaining legacy investments and focus on investments that can benefit from Numis’s network and experience.

Administrative expenses increased by 21% driven by a 33% increase in total staff costs (or 42% excluding share-based payments) mainly reflecting higher variable remuneration given the jump in pre-bonus profitability. The compensation ratio at 56% is close to the centre of the target range of 50–60%.

This left operating profits (excluding other income) more than double the FY19 level and the operating margin at 23.6% versus 12.6%. Including other income, pre-tax profit almost trebled and EPS more than trebled.

The full year dividend was unchanged at 12p/share. The group aims to pay a stable dividend while remaining committed to returning excess cash to shareholders and mitigating the dilutive impact of share awards; during the year £9.8m (£12.0m) was spent on buying back shares.

The two charts below show the value of new and further issuance for the London Stock Exchange Main and AIM markets since 2010: the last columns are the 11 months to end November. For the Main Market the IPO count has continued the downward trend seen in 2019 as political and then COVID-19 uncertainties deferred plans for listing. In contrast total money raised for both markets is noticeably above the prior year with one month to go. This reflects in part the secondary equity raisings undertaken to strengthen balance sheets. To provide context, money raised in each market is still running well below the peaks seen during the financial crisis when large financial institutions on the Main Market required recapitalisation; in the Main Market money raised was £77bn in 2009 and for AIM £16bn in 2007 compared with £34bn and £5bn respectively year-to-date.

Exhibit 4 shows recent equity market performance with the severe initial impact of the onset of COVID-19 in March and subsequent recovery prominent features. The CBOE UK all-companies and UK small companies indices are down 14% and 6% respectively year-to-date, with the stronger recovery in the small companies index reflecting greater economic sensitivity and expectations of a vaccine-enabled recovery. Exhibit 5 shows recent levels of London Stock Exchange order book trading; the elevated trading levels associated with the pandemic are clear. Subsequently there was a return to more normal levels followed by another surge as positive news on vaccines emerged.

Looking ahead, the recent strength in market indices shown above suggests confidence in a progressive easing of the impact of the pandemic accompanied by economic improvement. However, the medium- and longer-term economic impact of the health crisis has yet to play out and could result in periods of weaker market sentiment and business confidence. At the time of writing the outcome of UK/EU trade negotiations remains in the balance with potentially significant economic effects depending on the outcome.

In its comments on trading since the year-end, Numis noted that revenues in the first two months of FY21 have been in line with the FY20 performance with strength in the equity market supporting buoyant execution commissions and trading gains. The flow of private market deals has continued and M&A activity has recovered including several M&A mandates from corporate clients, some which would require equity raising. Numis reports that its IPO pipeline is also looking healthier than it has for some time.

As indicated above, Numis has made a good start to the current financial year and there are grounds to feel confident that the pandemic will recede during calendar 2021. Nevertheless, there is still substantial macroeconomic and political uncertainty that could affect the trading background for Numis; our estimates should be viewed with this in mind and we have included an illustrative sensitivity analysis in this section.

Exhibit 6 shows the breakdown of our revenue estimate for FY21. We have assumed capital markets achieves a lower, but still high, level of revenue with IPOs, private transactions and growth funding replacing reduced balance-sheet strengthening transactions. We look for a significant pickup in advisory following the COVID-19 hiatus, while corporate retainers are expected to be lower reflecting the contraction in client numbers as signalled. Institutional income is assumed to be down slightly on some normalisation of volumes and lower research fees and, finally, we have allowed for a degree of normalisation for net trading gains.

Exhibit 7 shows the outcome for FY20 versus our estimate and key numbers from our FY21 estimate; further detail is given in the financial summary (Exhibit 11). The 4% decrease in assumed revenues for FY21 versus FY20 flows through to 22% and 26% decreases in pre-tax profit and earnings per share. In addition to normal operational gearing and the assumption of a 19% tax rate (15.4% FY20), this reflects additional costs related to the new London office of c £4m in total (see below for detail). FY22 should see approximately £1m of double rental and related costs and £1.3m of one-off expenses drop out of the cost base.

As reported previously, the timing of the move to the company’s new London office at 40 Gresham Street has been affected by COVID-19. The building is expected to be completed in early 2021 with the move taking place in the summer. The 50,000 square foot office will be c 60% larger than the existing one, providing capacity for growth over the term of the 15-year lease. Numis has recently reassessed its space requirements given likely changes in working practices and concluded that its current real estate strategy remains appropriate. Including the effect of implementation of IFRS 16, Numis expects this will increase ongoing costs from FY21 by £3m. In addition to this there will be fitout costs that we estimate could be in the region of £7–9m (based on a Cushman and Wakefield cost report). These costs will be amortised over the lease term and in cash terms would be broadly balanced by the benefit of a three-year rent-free period (we estimate c £9m in total). In addition, there are likely to be exceptional costs relating to moving out of the Paternoster Square office and Numis indicates that one-off expenses similar to the £1.3m in relocation expenses incurred in FY20 are likely.

Given the considerable uncertainty over revenue levels at this early stage in Numis’s financial year we have prepared an estimated sensitivity analysis to show some possible outcomes at different revenue levels. Note that for the other operating income line we have assumed a neutral position (no positive or negative impact from the investment portfolio). Non-staff costs are held flat across the scenarios and include the estimated one-off move-related costs mentioned above. These would drop out in FY22. Staff costs are flexed to reflect movements in pre-bonus profitability with fixed costs unchanged between the scenarios. As shown, net profit varies between £14.5m and £33.4m on our assumptions.

Numis remains financially strong with no debt drawn and end-September cash and cash equivalents of £125.2m compared with £84.2m at the end of FY20. The group has additional liquidity available in the form of a £35m rolling credit facility. Numis notes that it is normal for its business to see large swings in liquidity with variance in daily cash positions during FY20 being £78m. The group also continues to have significant excess capital for regulatory purposes, which it regards as providing long-term stability and strategic flexibility.

Looking at cash flow there was a net cash inflow from operations of £66m of which £25.6m was provided by working capital movements. Share repurchases and the dividend payment absorbed £22.4m and, with other smaller items accounting for another £2.6m, in total there was a net cash inflow of £41m. Prospectively, FY21 is set to see sharply higher level of capital spending with the fit out of the new London office and increased share purchases to balance a higher than usual volume of share awards vesting during the year.

Given the uncertainties surrounding estimates, we continue to concentrate on price to book value as a valuation measure. Exhibit 9 shows where this stands relative to the 10-year history with a current value of 2.2x compared with an average of c 2.0x.

Using an ROE/COE valuation model to infer the ROE assumption required to match the 336p share price at time of writing gives a value of 17.5% (based on the FY20 NAV of 150p and assuming a cost of equity of 10% and growth of 4%). This is above the 15% return implied by our estimate for FY21 but below the five-year historical average of 18.4%. The potential for further benefits to be realised from the investment in staff and systems made in recent years, the development of the private markets business and the quality of the corporate client base provide encouragement for the medium-term prospects of the business and hence the valuation.