“The Group provides retail execution-only stockbroking, ISA and SIPP investment wrappers, savings schemes and financial administration and settlement services in all these areas to other stockbrokers and investment firms as well as individuals.
Trade volumes clearly have a significant impact on the fortunes of stockbroking businesses but with a wider spread of activities and a different charging model to our competitors we believe that our income is less volatile and of a higher quality than other pure execution-only brokers.”
Revenue is generated from two sources, commissions (65%) and interest received on stockbroking accounts (35%). No customers account for more than 10% of the groups revenue.
The primary focus of the board is efficiency, their KPIs are operating margin, revenue per employee, cash under administration and client numbers.It aims to pay out roughly 2/3 of its after tax profit as dividends and is focussed on organic growth through advertising. I’m impressed with their language and focus on the businesses profitability.
Share options are awarded and have a dilutive effect of around 1% per year.
It is a good sign that the group has remained profitable during this difficult period. Over the last 10 years they have consistently grown revenue and profit margins have improved. Revenue has grown at 11% compounded since 2004 although in the last couple of years growth has been 5-7%. Their client balances are still far lower than before the crisis but it would be unwise to assume a return to pre crisis levels any time soon, the financial services industry is still struggling.
There is nothing overly concerning on the balance sheet. There are occasional share repurchases when attractive but these seem to balance out the options. Overall all the free cash is given to shareholders in the form of dividends, the rest reinvested in the company for growth. Hence for valuation I will use only dividends as owners income but assume growth going forward from reinvested earnings.
To be conservative I am going to assume profit margins will decline to around 25% from their current high level, which is still quite an optimistic assumption some may say. That would reduce the dividend to 10p. Now for growth I will assume a modest 7% growth for 5 years, 3% for 5 more years then flat earnings thereafter. Using my PE ratio tool this gives a PE ratio of 14.5 using a 10% discount or 18.4 using an 8% discount. A more aggressive 10% growth for 5 years then 5% growth for another 5 years gives a PE ratio of 17 at a 10% discount rate, or 22 at 8% discount rate.
I usually do not use an 8% discount, however given we are talking dividends here, which are a lot more stable over time than earnings this may be appropriate.
Overall I would give this a value of PE 18-22, which using a 10p conservative dividend is a value of 180p-220p.
With a 25% Margin of Safety this would be a target price of 135p. Far below todays price of 206p but one that I will watch in future as this company appears to have a sound management and could be a good long term investment. LSE:JIM has been added to watchlist.
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