Arbuthnot has now released its final results for the year ended 2015.
Revenues increased when compared to last year as net interest income grew by £45.1M, driven by an increase in loans to customers; and net fee and commission income declined modestly as a growth in “other” revenue, mainly relating to fee income from OneBill, insurance sales and commission earned on debt recovery activities, was offset by a decline in banking commissions and structured product commissions. Other costs also increased during the year and we see a £6.1M increase in the net impairment loss on loans to customers and a £13M growth in staff costs, partially offset by a £1.1M fall in operating lease rentals to give a pre-tax profit some £8.6M above that of 2014. After an increase in tax was more than offset by a £2.9M growth in the profit from the discontinued operation, the profit for the year attributable to equity holders came in at £12.7M, a growth of £4.1M year on year.
When compared to the end point of last year, total assets increased by £784.9M, driven by a £326.8M growth in commercial loans to customers, a £252.7M increase in cash balances held at central banks, a £118.5M growth in assets held for sale, a £103.7M increase in retail loans, a £69.6M growth in residential mortgages and a £27.8M increase in motor finance loans, partially offset by a £112.9M decline in personal lending. Total liabilities also increased during the year due to a £306.1M growth in term deposits from customers, a £284.5M increase in notice account deposits from customers, a £144.9M growth in current account deposits from customers and a £27.6M increase in deposits from banks. The end result is a net tangible asset level of £180.5M, an increase of £18.3M year on year.
An increase in interest received was offset by a growth in interest paid, a reduction in fees and commissions received, a growth in cash payments to suppliers and employees and an increase in tax paid to give a cash profit of £29.7M, a decline of £1.5M when compared to 2014. There was a big inflow through working capital due to an increase in amounts due to customers, however, which meant that the net cash from operations came in at £234.9M, a positive swing of £398.7M year on year. The group spent £3.5M on software and £3.4M on property, plant and equipment and also received a net £4M from the redemption of debt securities to give a cash flow of £232M before financing. They then increased borrowings by £27.7M and paid dividends of £10.2M to give a cash flow for the year of £249.4M and a cash level of £397.2M at the year-end.
The private bank, Arbuthnot Latham saw a pre-tax profit of £6M, an increase of 65% year on year. The bank originated £250M of new loans, an increase of 45% on the previous year and attracted an average 50 new clients per month. The bank continues to be funded by retail deposits with customer balances reaching £897M, an increase of 53% and investment assets under management grew by 11% to £739M. In the latter part of the year the bank started an initiative to build a wider commercial banking business, initially driven by client demand to provide banking services for the corporate structures of entrepreneurial clients in the media sector. The bank intends to broaden the initial focus and develop its services for clients in the commercial real estate and professional services sectors.
An increasing proportion of the bank’s business is being generated across the UK, particularly through the offices in Exeter and Manchester. In Exeter, the bank moved into new, larger, premises during the year which had a positive effect on the local profile. In Manchester, the office was strengthened by additional recruitment and a healthy momentum is being created in the local market. Overseas, the Dubai office is performing well and the local Gulf market offers significant opportunities for further growth in the years ahead.
The retail banking group, Secure Trust Bank, provided a pre-tax profit of £36.8M, including the results of the discontinued Everyday Loans compared to £26.3M last year, with £23M of that attributed to Arbuthnot. Excluding the contribution from ELL, the bank increased profit of 42%. The higher growth rate reflects the investment made in SME lending and at the end of the year, the combined lending balances of the SME divisions stood at £468M, a growth rate in excess of 200%.
The continuing businesses have been proactively managed to result in a good composition of portfolios, with a balance between consumer and SME lending assets, and this will be augmented in 2016 with a new mortgage offering that they believe will be well received by the market and still deliver the required return on equity. The new business lending volumes grew by 65% to reach £903M which resulted in an overall increase in customer lending assets of 73% with balances reaching £1.1BN.
Within the Consumer Finance division, the Retail Finance business led the way with balances increasing by 89% to £220M. This business has a very strong position within the music and cycle sectors but has been broadening its reach into the leisure and home furnishings sectors. The business has also seen an increase in the volume of interest bearing lending which has naturally resulted in higher levels of impairments which were anticipated in the pricing of the products.
The Motor Finance balances increased by 20% to £166M. This business, which focuses on the near prime market segment, continues to service the majority of the Top 100 UK car dealer groups and has strong relationships with a number of specialist motor intermediaries. During the year the business tested the prime lending market and the initial results were positive so it is expected that activities in this area will increase in 2016.
The group’s commercial lending operations have grown as planned. Real Estate Finance increased by 175% £368M. This lending is split roughly between residential development funding and residential investment finance. To date their experience in the residential development lending has been that properties being developed are selling faster and for higher prices than expected when the loans were started. The residential investment lending is not a regulated mortgage business and is not designed for amateur landlords. As such, it is difficult to predict how the recent fiscal changes will affect the market in the future but it is the group’s initial belief that it will have a neutral impact.
In its first full year, Secure Trust Commercial Services, the invoice finance division, funded in excess of £220M of customer’s invoices. Customer lending balances grew £24M to £29M but given the fact that the key customer proposition for this business is built on long term relationships, it will take a whole longer before the business reaches critical mass.
The Asset Finance partnership with Haydock Finance has proved successful with the business closing the year with balances of £71M compared to just £5M at the end of last year. The bank maintained its principle of funding its lending mainly from the retail deposit market, with balances increasing by 83% to close the year at £1.1BN. The bank attempted to minimise the interest rate risk by mainly offering fixed term deposits and bonds given the fact that interest rates are likely to remain low for some time to come.
The UK private bank opened a branch in Dubai in the year, which generated £1.85M fee income and had operating costs of £1.82M although the business generated a pre-tax loss of £1.8M compared to a loss of £1.4M in the prior year. On an operating level, the office hit break even in July.
Overall the book is well secured with an average LTV of 46%, an increase from 43% last year. The private bank had a total capital ratio of 10.4% and a core tier 1 ratio of 10.4% compared to 9.4% last year. Secure Trust Bank is well capitalised with a total capital ratio of 11.9% and a core tier 1 ratio of 12.2%, although down from the 16.6% recorded last year.
In December Secure Trust Bank agreed to the conditional sale of its non-standard consumer lending business, Everyday Loans, to Non Standard Finance for £107M in cash subject to a net asset adjustment and £20M in NSF shares. On completion, NSF will repay the current intercompany debt of £108M to STB. This business is therefore classed as discontinued and it contributed profits of £4.9M net to Arbuthnot this year. The disposal is progressing as planned and ownership is expected to transfer before the end of April. The board is proposing a special dividend of 25p which is contingent on the completion of the transaction which is expected to recognise a gain on disposal of £115M.
Having paid just £1 for ELL and refinancing its books to the tune of £64M, the board now recognised that under their ownership the business was not maximising its potential as they were careful to restrict the interest rate levels charged to customers but NSF are more experienced with this type of lending and better positioned to test other demographics of the market. Once the transaction is completed the gain will significantly increase the capital strength of the group which will allow their more mainstream banking activities to continue to grow.
At the end of 2014 the AL purchased a portfolio of residential mortgages from the administrator of the Dunfermline Building Society. This portfolio has been transferred to the ownership of the bank and a new servicer has been appointed and is operating well. Recently the portfolio was accepted into the Funding for Lending Scheme and the portfolio has performed in line with expectations. Given the success of this transaction, the group had made good progress in negotiating to acquire a larger mortgage book but this was brought to a halt following the December publication of the Basel Committee’s second proposal to revise the Standardised Capital Rules.
There were a number of “non-underlying” costs incurred during the year for AL. There was a £1.2M investment in operating systems, a £333K commercial banking investment and £418K in acquisition costs relating to the aborted acquisition of the mortgage portfolio. For Secure Trust Bank there was a £662K cost relating to share options and an £893K V12 fair value amortisation charge. In the prior year, for AL there was a £981K Dubai office investment and a £217K regional office investment and for Secure Trust Bank there was a £198K charge relating to acquisition costs, a £1.5M share option expense and an £893K V12 fair value amortisation charge. I have to say that these costs don’t look very “non-underlying” to me, particularly for Secure Trust Bank.
Impairment losses rose to £18M, an increase of £6.4M. There were a number of reasons for this. The prior year results were artificially lowered by £1M due to the provision releases that arose from a review of the carrying value of written off loans; the volume of the balance sheet was increased, which leads to higher levels of expected impairments, especially in the retail lending business; and the motor finance and retail lending divisions have been exploring higher yielding opportunities in their markets which leads to higher anticipated impairments.
The group has been relatively unscathed by the PPI selling scandal, although accruals did include a provision for outstanding potential PPI claims of £2.6M, an increase of £600K. This increase is as a result of new claims emerging following an extension of the deadline for making claims. During the year, £1.5M of PPI provisions were utilised. The FCA is currently consulting on a proposed deadline for making PPI claims and the ruling is expected to come into force in spring 2016 with a deadline of two years, which would give consumers until spring 2018 to make a claim.
In common with all regulated UK deposit takers, the group pays levies to the FSCS to enable them to meet claims against them. The FSCS levy consists of a management expenses levy and a more significant compensation levy. The management expenses levy covers the costs of running the scheme and the compensation levy covers the amount of compensation and associated interest the scheme pays. The group’s provision reflects market participation up to the end of the year and the accrual of £300K relates to the interest levy which is payable in September.
There were a couple of board changes in 2015 and during the year, Ian Dewar jointed in August and Robert Wickham retired in December after 22 years of service.
During the year the chancellor announced the introduction of a corporation tax surcharge applicable to banking companies with effect from the start of 2016. The surcharge will be levied at a rate of 8% on profits of banking companies after taking into account an annual allowance of £25M. This will increase the group’s future tax charge but I would be interested to know how profit is being defined in this case. With regards the UK EU referendum, it is anticipated that the financial impact to the group would be minimal assuming there were to be no significant macroeconomic shock to the UK.
After the year-end, the group signed a contract with Oracle to replace its current banking system with a committed cost of £2M.
Going forward, the global economic outlook has become increasingly uncertain. The collapse of the commodities market has had a knock on effect on the equity markets. The Federal Reserve Bank in the US has increased interest rates for the first time in ten years but other major economies look unlikely to follow suit at present. On top of this, the UK has the uncertainty of the outcome of the EU referendum but despite these headwinds, both of the banks are well capitalised and highly liquid and they remain well positioned to continue their good progress and the board are optimistic about their prospects.
At the current share price the shares trade on a PE ratio of 24.8 but this falls dramatically to 10.1 on next year’s consensus forecast. If we include the proposed special dividend, the shares are currently yielding 4.1% which falls back down to 2.3% on next year’s forecast.
Overall then this has been a good year for the group. Profits were up due to higher investment income from loans to customers; net assets increased; and the operating cash flow was up, generating plenty of free cash, although it should be noted that this was due to an increase in payables and cash profits actually fell. The profit at AL increased as loans were up considerably and Secure Trust Bank also did well with higher SME lending, particularly in Real Estate Finance, and more retail finance in consumer lending. The Dubai office seems to be promising and has apparently now broken even.
The Everyday Loans Sale looks a good bit of business and will further strengthen the balance sheet, even after the special dividend. Like all business, there are some potential risks, however. The impairment losses have increased, although this doesn’t look all that alarming, and the corporation tax surcharge dumped on banking companies by the government is unhelpful. Probably the biggest issues are macro-economic, however, with the Brexit vote likely to cause volatility and the global economic outlook seeming rather uncertain. With a forward PE of 10.1 and normal dividend yield of 10.1, however, the shares look decent value to me and I might look to re-enter here.
On the 21st March the group announced that director James Cobb purchased 5,000 shares at a value of just under £67K. This was his maiden purchase and should be taken in the context of the grant of 50,000 options with an exercise price of £9.30 but is still nice to see.
On the 21st March the group announced that director James Cobb purchased 5,000 shares at a value of just under £67K. This was his maiden purchase and should be taken in the context of the grant of 50,000 options with an exercise price of £9.30 but is still nice to see.
On the 14th April the group announced that Ian Henderson will take up the role of CEO at Arbuthnot Latham. At the same time, James Flemming is being appointed as Vice Chairman of Arbuthnot Latham after he stood down as a director of the group. Ian joins from Secure Trust Bank where he held the position of head of strategic business development and CEO of personal lending and mortgages. Prior to that he was CEO of Shawbrook Bank and held senior executive roles in Barclays and RBS.
On the 5th May the group announced that they had had a good start to the year with overall lending volumes higher than last year and at the end of Q1, customer loan balances had increased by more than 30% year on year. The completion of the sale of Everyday Loans in April has generated a substantial profit which has strengthened their capital and liquidity resources. The board remain confident of making good progress during the remainder of the year.
Secure Trust Bank has also made good progress during the period. Motor Finance and Retail Finance have delivered higher new business volumes compared to Q1 last year. In the SME lending market they continue to see strong demand for their products with the Commercial Finance and Asset Finance business performing in line with management expectations. As previously disclosed, the bank has taken a more cautious approach to lending to the residential development sector ahead of the Brexit vote, however.
This all seems fine to me, EU referendum not withstanding, so I am happy to hold.
On the 27th May the group announced its intention to sell 6M shares in Secure Trust, representing about 32% of its share capital, by way of a secondary placing to institutional investors. The sale is priced at £25 per share, representing a 10.7% discount to the Secure Trust closing price. This transaction will reduce Arbuthnot’s holding from 51.9% to 18.9% and will generate gross proceeds of £150M.
Secure Trust has announced its intention to seek a move to a Premium Listing on the main market of the LSE so an independent Chairman of Secure Trust is being sought. The special dividend of 165p per share (worth nearly £10M on the sale shares) will not be paid until after the sale has taken place so Arbuthnot is giving up this £10M.
The sale will represent a fundamental change of business for the group as it will now have a non-controlling interest in Secure Trust and they intend to use the proceeds generated from the sale to accelerate growth including the private and commercial banking business.
It is a shame the placing is having to be done at a discount and that the group will no longer receive much of a cash receipt from the special dividend but given Arbuthnot’s market cap is only about £220M, this represents a significant chunk of that.
On the 10th June the group announced that it had acquired 20 King Street/10 St James Street in the West End of London as an investment for Arbuthnot Latham. In due course these premises may also allow the business to develop its presence in the area, occupying part of the property for client purposes.
The property comprises 22,450 square feet of office space and 7,000 square feet of retail space. The purchase price is £50.2M with associated costs of around £3.2M and it has a current annual rent income of about £1.8M. The property is held as a leasehold from the Crown Estate with just over 119 years remaining.
On the same date the group announced that Sir Alan Yarrow has joined as a non-executive director. He has experience of over 37 years in the city including as Chairman of Kleinwort Banking and a member of the Takeover Panel. He has also been Lord Mayor of London.
On the 14th June the group granted phantom options over is shares under a new seven year incentive scheme. Mr. Salmon has been granted options relating to 200,000 shares with Mr. Cobb and Mr. Henderson being granted options over 100,000. The initial value of each shares for the purpose of the phantom options is £15.91 and an increase in the value of shares over this amount will give rise to an entitlement to a cash payment by the company on the exercise of the option, which is subject to the satisfaction of performance conditions.
This new scheme is intended to replace the other schemes.