I was taken aback this morning by the trading update from Aim-traded STM (STM:31.5p), a company that is expanding both its UK and international self-invested personal pensions (Sipps) operations. I interviewed the directors at length at the time of the interim results in mid-September when I rated the shares a buy at 42p (‘STM cashed up for acquisitions and organic expansion’, 10 September 2019).
Not only has the board’s revenue and profit guidance been downgraded for the 2019 financial year, but the house broker has made material downgrades to the 2020 forecasts, too. There are several reasons for doing so.
Firstly, the rebranding of this year’s acquisition of Carey, a UK Sipp business that has more than 4,000 members and assets under administration of £898m, has taken longer than expected, so causing delays in the relaunch of products. Also, the successful application to The Pensions Regulator for Master Trust status was more protracted than the directors had envisaged, thus delaying new business flows and resulting in higher one-off professional costs, too.
Unfortunately, these are not the only issues the company is facing as the directors revealed this morning that levels of new business applications within STM’s Pensions divisions are lower than budgeted for due to uncertainties and concerns in the general UK pension sector. Although new business applications have increased in the second half, they will not make up for the slower run rate earlier in the year. In addition, the pipeline of new business in STM’s UK flexible annuity product is materialising slower than originally expected following a relaunch in June.
The profit impact on the lower revenues earned has been compounded by a sharp increase in STM’s professional indemnity insurance costs (£500,000 higher per year), a direct result of the challenges faced in the SIPP market specifically, and which has been extrapolated to the QROPS market, the latter being an offshore pension scheme used by 12,229 expatriates and internationally mobile employees whose tax domicile can change as a consequence of employment.
House broker finnCap has taken note and reined back 2019 revenue estimates from £24.2m to £23m and lowered its full-year reported pre-tax profit estimates from £4.4m to £3.8m to produce earnings per share (EPS) of 4.9p. Please note that excluding the benefits of one-offs, 2019 adjusted pre-tax profits are expected to be around £2.5m.
The impact on 2020 profit estimates is even harsher, even though finnCap only edged down its revenue forecast by £400,000 from £25.1m to £24.7m. That’s because 2020 profits will be held back by the full impact of the professional indemnity increases, analysts have taken out the previously expected Carey cost stripping which was embedded into their 2020 forecasts (based on the assumption of the efficiencies from high volume business), and have increased one-off costs for IT. The bottom line is that finnCap’s 2020 pre-tax profit estimates have been slashed by a third from £4.7m to £3.1m to produce EPS of 4.1p. Two months ago when I covered the company’s interim results, analysts were forecasting 2020 EPS of 6.2p.
In the circumstances, it’s hardly surprising that STM’s share price was marked down this morning, falling from 43p to 31.5p, implying the shares are now rated on a forward price/earnings ratio of 8 for 2020 based on finnCap’s downgraded estimates. STM paid out a dividend of 2p in 2018, so the historical dividend yield is 6.3 per cent.
I first advised buying the shares at 35p (‘Tapping into a pensions payday’, 27 Apr 2015) and to date have banked dividends of 6.95p a share. The shares are being bid in the market at 31p, so after taking into account dividends the holding is still showing a modest profit on my entry point. True, the company’s operating businesses are now being attributed very little value given that STM’s market capitalisation of £18.7m is only slightly ahead of the end June 2019 closing net cash position of £17.3m (29p a share). But this low ball valuation is a reflection of the challenges the business is currently facing, and ones that warrant exiting the holding. Sell.
