A robust trading update from Arbuthnot Banking Group (ARBB:1,530p), a constituent of my 2015 Bargain Shares portfolio, has sent the shares up to my long-term target price of 1,533p, justifying my last buy advice at 1,280p (Bargain Shares: Beating the market, 12 March 2018). Longer-term holders are also doing well as Arbuthnot has paid out dividends per share of 416p in the past three years, reducing the break-even point to 1,043p. The ongoing re-rating is warranted.
Having increased its loan book by £300m to £1.05bn in 2017, of which half the growth came from a doubling of the commercial loan book to £300m, customer loans and deposits at the end of April have increased by 18 per cent and 37 per cent, respectively, year on year. Arbuthnot is well funded to continue to recycle low-cost capital into lending at a favourable net interest margin. The bank earned an average gross yield of 5.27 per cent on its loan portfolio last year, or 10 times its cost of funds. Customer deposits of £1.4bn at the start of 2018 covered the loan book 1.3 times over, and the bank boasts a core tier one capital ratio of 17.3 per cent.
Around 61 per cent of lending is on residential property (buy-to-let mortgages account for 30 per cent of the loan book, owner-occupiers 24 per cent and development loans 7 per cent), and a further 17 per cent is on commercial property. Its very secure as the average loan-to-value ratio is only 53 per cent and borrowers offer personal guarantees, so impairments are incredibly low; just £51,000 was impaired in the second half of 2017. Thats reassuring given that 48 per cent of the loan book is secured on London property, a market that has been under pressure.
Based on a £1.3bn year-end loan book, analyst Mark Thomas at equity research firm Hardman & Co believes that Arbuthnot should be able to increase pre-tax profits by 17 per cent to £8.9m this year and lift EPS at a similar rate to 56.3p. That looks achievable, as do expectations that pre-tax profits and EPS can ratchet up to £15.4m and 94p, respectively, in 2019 based on a closing £1.5bn loan book. A 18.6 per cent stake in challenger bank Secure Trust Bank (STB:2,000p) backs up £69m of Arbuthnots £228m market value too.
A return to the April 2017 share price high of 1,600p looks on the cards, and perhaps higher still. Run profits.
Let me first disclose that my wife and I have holdings in ARBB so I am probably biased.
ARBB has declared a 91% increase in underlying profit. It has a PEG of 0.2 for 2018 and 2019 and gives a reasonable Dividend. Moreover, it has no debt, has cash on the Balance sheet, and further asset backing with a 18% holding in Secure Trust Bank. In addition, being an AIM share, Investors are not liable for IHT.
Half of the shares are held by the CEO so there is skin in the game. So why are investors reluctant to take advantage of this growth story?
Arbuthnot Banking (ARBB:1,280p), a constituent of my 2015 Bargain Shares Portfolio, has confirmed trading has been bang in line with robust market forecasts that point towards pre-tax profit almost doubling from £4m to £7.7m in 2017 based on a 29 per cent rise in operating income to £53.6m, according to analyst Mark Thomas at equity research firm Hardman & Co.
I had expected as much given that the companys private banking arm, Arbuthnot Latham, increased its underlying pre-tax profit by three-quarters to £4.9m in the first half, with loans rising by a third to £879m, a positive trend that I had anticipated would be maintained for the rest of the year.
I am reassured that the bank refuses to chase volume at the expense of relaxing its lending criteria, a point highlighted by a low level of impairments and a comfortable loan-to-value ratio on its residential and commercial property loan book. Moreover, Arbuthnot is well funded as customer deposits exceed its loan book by around 40 per cent, thus providing ample low-cost capital to recycle into future lending at an economic net interest margin. I see no reason why this sensible approach to lending should not continue to be productive, and so to do analysts who predict another step-change in Arbuthnots pre-tax profit to £14.3m this year based on operating income of £67.5m. On that basis, expect adjusted EPS to almost treble to 48.8p in 2017, rising to 86.7p in 2018.
The loan book aside, Arbuthnot also offers solid asset backing in an 18.6 per cent stake in challenger bank Secure Trust Bank (STB:1,550p), which alone backs up £52m of Arbuthnots £280m market capitalisation, and a prime London office property thats worth £53m and contributed £1.8m rent.
Priced on a 17 per cent share price discount to book value of 1,533p, on a prospective PE ratio of 15 for 2018 and offering a 2.4 per cent dividend yield, I feel the rating does not reflect the stellar EPS growth thats forecast for this year and beyond, a point I made last autumn (A trio of small-cap buys, 31 Oct 2017). So, ahead of the full-year results on Wednesday 28 March, I rate Arbuthnots shares a buy.
Shares in Arbuthnot Banking Group (ARBB:1,315p) have edged up slightly since I rated them a buy at 1,252p during the summer, placing a target price of 1,533p on the equity at the time ('Value opportunities', 19 Jul 2017). The company paid an interim dividend of 14p a share at the end of last month to take the running total to 397p since I included the shares, at 1,459p, in my 2015 Bargain Shares portfolio. A third-quarter trading statement is certainly supportive of my 1,533p target price.
The companys private banking arm, Arbuthnot Latham, increased its underlying pre-tax profit by 75 per cent to £4.9m in the first half with loans rising by a third to £880m. In a third-quarter trading statement, the bank confirmed that the loan portfolio is maintaining that heady growth rate, and the lending pipeline remains robust. Reassuringly, the bank refuses to chase volume at the expense of relaxing its lending criteria, a point highlighted by a low level of impairments and a comfortable loan-to-value ratio on its residential and commercial property loan book.
Importantly, Arbuthnot is well funded with customer deposits covering the loan book almost 1.4 times over and providing ample funding for further lending. Also, net interest margins are benefiting from lower funding costs with the blended cost of funds falling by almost a third to 0.49 per cent on the same period in 2016, underlining the positive impact on profits of recycling customer deposits into lending at an economic net interest margin.
This helps explain why analysts at Hardman & Co expect Arbuthnot's pre-tax profits to more than double this year from £4m to £8.3m based on a 29 per cent rise in operating income to £53.6m, increasing to £14.3m and £67.5m, respectively, in 2018. On this basis, expect adjusted EPS to treble to 52.2p this year, rising sharply again to 86.7p in 2018. The point being that if Arbuthnot delivers anything like the growth predicted, and maintain credit quality, then a share price in-line with book value of 1,533p is in order.
There is rock solid asset backing as 30 per cent of Arbuthnots market value of £200m is backed up by a 18.6 per cent retained stake in challenger bank Secure Trust Bank (STB:1,895p); the company used £53m of the cash windfall from selling down that stake to acquire a prime property in London thats bringing in £1.8m rent; and purchased a private banking loan portfolio, worth £44.9m, from banking group Duncan Lawrie that is secured on property of £104m, and yields 5.2 per cent. Buy.
Topped up my holding with 400 shares which indicates as two sell trades today. Motivated by the Hardman report suggesting base case valuation is over £18- and by the comparative peer group ratings although I do accept it's hard to value banks. What clinched it for me is the forecast PEG=0.2 for 2018.
It was difficult not to be impressed by the first-half results from Arbuthnot Banking Group (ARBB:1,459p). The bank's net asset value per share rose by 23 per cent to 1,534p last year and that's after paying out special dividends of 325p in 2016. The bumper dividend was funded from some of the £148m proceeds from last summer's sell down of the bank's stake in challenger bank Secure Trust Bank (STB:2,149p). Arbuthnot still retains an 18.6 per cent shareholding worth £72.5m, a sum equating to a third of its own market capitalisation, and is using the remainder of the cash realised to bulk up its banking operations.
The 51 per cent increase in full-year profits to £9.1m from Arbuthnot Latham, its private banking arm, was eye-catching too, and that's before factoring in upside from a number of recent acquisitions. These include the purchase of a private banking loan portfolio worth £44.9m from banking group Duncan Lawrie. The loans are secured on property worth £104m, so have a low loan-to-value ratio, and offer an attractive yield of 5.2 per cent. Arbuthnot also managed to negotiate a £2.2m discount on the deal.
In the coming weeks, the company will complete the acquisition of Renaissance Asset Finance (RAF), a provider of finance for a range of specialist assets including vintage cars, which adds £55m of customer loans to the portfolio. Arbuthnot has also used £53m of its cash windfall to acquire a prime property in the West End of London, comprising 22,500 sq ft of office space and 7,000 sq ft of retail space. The property generates an annual rental income of around £1.8m and will be used by Arbuthnot Latham to develop a presence in the West End in the future.
Importantly, Arbuthnot is very well funded as £1bn of its customer deposits cover the loan book about 1.3 times over which is highly supportive of the ongoing growth in loan balances. Moreover, assuming Arbuthnot Latham continues to recycle customer deposits into lending at an economic net interest margin, it will be value accretive to shareholders which is why analysts at Hardman & Co expect Arbuthnot's adjusted EPS to more than double to 55.4p in 2017, rising again to 93p in 2018.
If these targets are hit then it should generate further upside on the shares which I included in my 2015 Bargain Shares portfolio at 1,459p, since when the board has paid out total dividends of 383p excluding the recently declared final dividend of 18p which goes ex-dividend on 13 April. So, having last advised running profits around the current price ('A quartet of small-cap value plays', 28 December 2016), I feel a price target closer to book value of 1,534p is in order. Run profits.
Last week, Arbuthnot Banking Group (ARBB:1,459p) acquired a private banking loan portfolio worth £44.9m from banking group Duncan Lawrie. The loans are secured on property worth £104.4m, so have a low loan-to-value ratio, but still offer a decent yield of 5.21 per cent and thats before taking into account the £2.2m discount Arbuthnot negotiated on the acquisition price.
The company also announced the acquisition of Renaissance Asset Finance (RAF), a provider of finance for a range of specialist assets including vintage and expensive cars and SME business assets. RAF has customer assets of £68m. Arbuthnot is funding both deals from its own cash resources which got a £148m boost earlier this year after it sold down its stake in Secure Trust Bank (STB:2,249p). Its remaining holding is still worth £77m, a significant sum in relation to its own market capitalisation of £220m. Arbuthnot used £53m of the cash windfall to acquire a prime property in the West End of London, comprising 22,500 sq ft of office space and 7,000 sq ft of retail space. The premises will in time enable its private banking arm Arbuthnot Latham to develop a presence in the West End, but in the meantime its generating annual rental income of over £1.8m.
The plan is to use the balance of the cash from the Secure Trust share sale to develop Arbuthnot Latham. The unit posted half year pre-tax profits of £4.5m on a 15 per cent hike in operating income to £19.4m. Its well funded as customer deposits cover loans and advances more than 1.4 times over and this significant liquidity and balance sheet strength supports the bank's ongoing growth in loan balances. Moreover, assuming Arbuthnot Latham can continue to recycle its £1bn of customer deposits into high quality lending - impairments represent a tiny 0.12 per cent of loans on an annualised basis - and at an economic net interest margin, then it will be value accretive to shareholders. This anticipated ramp up in lending explains why analysts at Hardman & Co expect Arbuthnots adjusted EPS to increase from 24.4p in 2016, to 55.4p in 2017, rising again to 93p in 2018.
Its proved a rewarding holding since I included the shares in my 2015 Bargain share portfolio at 1,459p as the company has so far paid out total dividends of 383p. So, having last advised running profits around the current price ('Riding small-cap bumper gains', 24 Oct 2016), I still feel that Arbuthnots shares should be trading closer to book value of 1,552p. Run profits.
Investors have been cottoning onto the value on offer in the shares of Arbuthnot Banking Group (ARBB:1,449p). Arbuthnot realised £148m of cash proceeds at the end of May by selling down its stake in Secure Trust Bank (STB:2,380p), but its remaining holding is still worth £82m, a significant amount in relation to its own market capitalisation of £220m.
Arbuthnot used £53m of the cash windfall to acquire a prime property in the West End of London, comprising 22,500 sq ft of office space and 7,000 sq ft of retail space. The premises will in time enable its private banking arm Arbuthnot Latham to develop a presence in the West End, occupying part of the property for client purposes, but in the meantime its generating a useful annual rental income of over £1.8m
Shareholders are seeing some of the cash too. Having paid out cumulative dividends of 83p since I included the shares in my 2015 Bargain share portfolio at 1,459p, the board have declared a special dividend of 300p a share, payable on 18 November and at a cost of £45m. Please note that the shares have gone ex-dividend which is why the price adjusted at the end of last week. The directors can afford to make the bumper payout without impacting the banks financial position given that Arbuthnot has a core Tier 1 ratio of 40.5 per cent and a modest equity to assets ratio of 22.4 per cent.
The plan is to use the balance of the cash raised from the Secure Trust share sale to develop its private and commercial banking business, Arbuthnot Latham. The unit posted half year pre-tax profits of £4.5m on a 15 per cent hike in operating income to £19.4m. Its well funded as customer deposits cover loans and advances to customers more than 1.4 times over and this liquid funding and balance sheet strength is highly supportive of the ongoing growth in loan balances. Deposits increased by 23 per cent in the 12 months to end June 2016 as the bank continues to attract new clients and at a lower deposit rate of 0.87 per cent.
As long as Arbuthnot Latham can recycle its £1bn of customer deposits into high quality lending and at an economic net interest margin, then it will be value accretive to shareholders. This ramp up in lending explains why analysts at Hardman & Co expect Arbuthnots adjusted EPS to increase from 24.4p in 2016, to 55.4p in 2017, rising again to 93p in 2018. Maintaining credit quality will be critical, so its reassuring that impairments represent a tiny 0.12 per cent of loans on an annualised basis, highlighting the quality of the book.
The bottom line is that if you followed my advice to buy in February 2015 you will have now banked 383p a share of dividends and still own shares worth around your buy in price of 1,459p. I still feel that Arbuthnots shares should be trading closer to book value of 1,552p. Run profits.
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