Weekly Market Commentary | 26/09/23 | HL., CODE, 4BB | Not just the UK housing market

Bruce suggests that government bonds and mortgages have been beneficiaries of Basel banking regulations over the last few decades. The effects of rising interest rates won’t be limited to the UK housing market. Companies covered HL., CODE and 4BB.

The FTSE 100 was down -0.3% to 7,630 over the last five trading days. The Nasdaq 100 was down -3.3% and the S&P500 was down -2.93%. The Bank of England left interest rates on hold at 5.25% in a split decision. There was however, a unanimous decision to raise the pace of Quantitative Tightening, in other words reducing the Central Bank’s holdings of government bonds (by £80bn last 12 months to £100bn coming 12 months). The US 10Y bond yield rose to 4.45% (USTSY10) and in the UK the bond 10Y bond yield (UKTSY10) is 4.25%. The latter is down from a peak of 4.65% in August.

House prices in Germany are currently falling 10% year on year, as the chart from Longview Economics below shows.

There’s likely to be lots of doom and gloom on the UK housing market in the next 6-12 months, but it is worth bearing in mind that this isn’t just a UK phenomenon. Over the last couple of decades, we have seen housing booms around the world (USA, Canada, Australia, Germany and Eastern Europe). Aside from falling long bond yields, the one thing that these countries share is the Basel banking regulations, which has incentivised mortgage lending and banks holding government bonds ever since the middle of the 1980s. That suggests to me as bond yields rise around the world, problems won’t be isolated in the UK housing market. On the positive side, hopefully, this will spark a renewed interest in investing in equity markets, rather than borrowing money to buy houses or government bonds as an investment class.

This week I look at Hargreaves Lansdown’s FY Jun results, Northcoders profit warning and 4basebio, the best-performing 2021 vintage IPO.

Hargreaves Lansdown FY June 2023

The investor platform released FY Jun results with revenues +26% to £735m and PBT +50% to £403m. In HL.’s July trading statement, the previous Chief Exec had already given Assets under Administration (AuA) of £134bn and disclosed the trend of greater revenue from cash balances in a rising interest rate environment, offset by weak equity trading volumes.

Since that mid-July RNS the shares had been volatile (range 934p to 730p) presumably as investors wondered whether the new Chief Exec, Dan Olley would use the opportunity of his first set of results last week to reset Jun 2024F expectations lower. Instead, he refused to comment in detail on the outlook but let his CFO Amy Stirling, give a detailed range of guidance (columns on the right of the table below).

Initially, the shares responded strongly from the previous closing price, due to the lack of an explicit profit warning. Then sold off rapidly, as investors worried that guidance at bottom end of the range, was in fact a tacit profit warning, before then rising +10% from 755p to above 830p following the analyst call.

The new Chief Executive seems to have communicated the genuine uncertainty well. HL. revenue is a function of inflows from clients, and also the margin they charge on different asset classes. Ironically, they make more money from cash (guidance 180bp-200bp), when clients are nervous and sit on their hands, rather than funds and share dealing (below 40bp). In the longer term, that margin from cash is likely not sustainable – Metro Bank has a Net Interest Margin of around 200bp, and they have a branch network and are lending money to people. In the short-term, it does protect HL. from the downside of weak equity markets.

Comparison with M&G:

As it happens the fund manager MNG released H1 Jun results last week. As the company is trading on a dividend yield of 10%, I downloaded the 103-page interim results and analyst pack. However, I found the investment case far too complicated. I think that the basic story for fund managers like MNG and ABDN is that they are threatened by BlackRock and the rise of ETFs and passive money. That is also a trend that affects HL., however I think the traditional active fund managers like Aberdeen, LionTrust and M&G are in direct competition with this trend, whereas HL. is a platform, and is able to generate a margin on both active and passive funds.

Valuation: HL. are currently trading on a consensus PER of 12.9x FY Jun 2025F. However, I’ve played around with the extremes of the guidance range, and think that there could be up to 30% range with the EPS forecasts. HL.’s EBIT margin is 55%, but down from over 60% a couple of years ago as the previous Chief Exec invested heavily in data and technology. Aside from the profitability measures like RoCE and EBIT margin, HL.’s 5.8% dividend yield is eye-catching too.

Opinion: I own this, and increased my position size as the shares sold off on the results day. I think HL. is an example of why forecasts and earnings multiples can be the wrong way to value companies. HL. has over 40% market share of the investor platform market, the FY dividend at 41.5p is sustainable in my view and in 3-5 years time AuA is likely to be much larger. There could be near-term disappointment, but I think with the new Chief Exec the company is now back on the right path.

4basebio H1 June 2023

This loss-making synthetic DNA / gene therapy company has been the best performing 2021 vintage IPO +360% since listing on AIM in February 2021 at 118p. They are still loss-making, with revenues of £238K, and a LBT of £3.8m. I would normally steer clear of a loss-making biotech which uses the word “platform” in their description, however, it was mentioned by Leon Boros (who enjoyed a lot of success with BioVentix) a couple of years ago, so I think it could be worthy of further investigation.

My Sharepad filter of 2021 AIM IPOs reveals that of the 68 companies that listed on AIM, more than half (40) have fallen by more than -50%. Just 6 companies (9%) are trading above their float price. So that’s another reason to at least understand what 4basebio does.

The company’s non-viral DNA delivery system is called Hermes nanoparticles. They say that their Hermes delivery system is superior to delivering DNA in the form of a virus, which limits the size and complexity of the “payload” that can be delivered. So they have developed and trademarked Hermes, a non-viral delivery system, that doesn’t suffer from these drawbacks. There’s plenty more explanation in the company’s Admission Document.

History: The company originally had a Frankfurt listing, but just before the pandemic in January 2020 sold off its proteomic and immunology business to AIM-listed AbCam for €120m. Following the disposal management retained the genomics business which makes high-purity, synthetic DNA for therapeutic and pharmaceutical use. On Admission in February 2021, the business had a £14m market cap and £14m of cash reserves. They’ve burnt through that cash now with a net debt of £2.7m, forecast to grow to £15m Dec 2024F by their broker, Cavendish. 4BB have a €23m loan facility from a 29.8% shareholder 2Invest AG. 2Invest is listed in Frankfurt and has a market cap of €40m.

Broker forecasts: Cavendish (i.e. the broker formerly known as FinnCap) are forecasting revenues of £2m FY Dec 2024F and an LBT of £8.2m the same year. Cavendish says that the 2Invest AG shareholder loan provides a cash runway through to 2025F, and the near-term milestones are not financial forecasts but commercialisation opportunities. For instance: supplying GMP grade DNA to partners. The company put up a slide below with some billion-dollar market-size opportunities.

Opinion: This is beyond my expertise, but flag it as something that readers may want to investigate further, perhaps even comparing it to US-listed Ginkgo Bio works (ticker DNA) which has a market cap of $3.8bn. They have done some presentations on InvestorMeetCompany, so I would suggest that and the Admission Document would be the next steps for anyone wanting to do further research.

Northcoders H1 June 2023

This 2021 vintage IPO teaches people how to code in 13 weeks. I was curious because several of my former bar staff have decided that they no longer wanted to work until the early hours of the morning serving customers pints of craft beer, and have done “data science” courses. I’m rather sceptical of this, having taught myself some of the statistical language “R”, I think the way to learn to program, is from books, YouTube, blogs, and GitHub, then learn by doing. The courses I tried didn’t really teach the problem-solving skills, but I haven’t tried Northcoders specifically. Many of CODE’s courses are government-sponsored (i.e. the government pays, free for the pupil) if you fit the course criteria. Some of the courses are paid for by corporations, which is causing some problems (see my section on the outlook below).

The second reason I’m curious is that Wey Education, the online education business, was a multi-bagger for me, so if CODE has operational gearing, it could turn out to be an attractive investment case.

The business is small but management are growing the top line very strongly. H1 June revenue was up +46% to £3.5m. The gross profit margin was 63%, but that is down from 71% in the previous H1 Jun 2022. The business currently made a small loss of £200K in the 6 months to June. At first glance, I assumed that they could fund losses with the £2m of cash on their balance sheet. However, I double-checked the cashflow statement and Cash from Investing Activities was negative £538K versus Cash from Operating Activities was £182K. In total, there was a £732K reduction in cash over the first six months of this year.

History: Northcoders was co-founded by Chris Hill, the current Chief Exec, in December 2015. He had previously worked for Sky and experienced first-hand how difficult it was to hire competent, work-ready software engineers and programmers. His background is software development. Prior to Covid-19, the teaching was in person at regional hubs across the North of England, first Manchester, then Leeds. Teaching then moved online during the pandemic. The shares came to market raising £3.5m at 180p, giving a market cap on admission of £12.5m, in September 2021.

Outlook: H1 results were in line with expectations. However, budget constraints, workforce reductions and recruitment freezes have meant that corporate clients are deferring spending. They have one large corporate client who was expected to spend three-quarters of a million pounds, but this amount is now uncertain. CODE management now expects FY Dec 2023 revenue and profits to be significantly below market expectations. The shares were down -33% on the day of last week’s RNS.

Broker forecasts: WH Ireland has cut FY Dec 2023F revenue by -25% (from £9.5m to £7.1m) and PBT from £1.2m to a £0.3m loss. Worryingly they also cut FY Dec 2024F revenue by a third to £8.5m, though they do forecast the company to be profitable in FY Dec 2024F forecasting 6p of EPS (previous forecast 25p). They expect £1.9m of net cash FY Dec 2024F.

Valuation: The shares are currently trading on 22x PER FY Dec 2024F and a price to sales of 1.2x the same year. That could represent good value if they can hit those forecasts, though I think the company needs to demonstrate that it can win business from significant corporate contracts, rather than just government-sponsored training.

Opinion: I will follow this with interest. I think there’s a risk of further disappointment, but could present an interesting investment case at some point. It’s sad to see yet another 2021 vintage IPO disappoint. I will avoid but revisit in 2024.


Bruce owns shares in Hargreaves Lansdown

He co-hosts the Investors’ Roundtable Podcast with Roland Head, Mark Simpson and Maynard Paton. To listen you can sign up here: privateinvestors.supercast.com

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This article is for educational purposes only. It is not a recommendation to buy or sell shares or other investments. Do your own research before buying or selling any investment or seek professional financial advice.