Plus500 looks to hedges, the US and M&A

Since it first listed shares in 2013, many investors have concluded that Plus500 (PLUS) does not past the smell test. Neither the constant dance with regulators, nor violent shifts in profit guidance, nor a drafting error in the 2017 accounts has helped.

Yet, at first glance, it seems hard to square the contracts-for-difference (CFD) provider’s reputation with a share price that sits below five times’ trailing earnings since last August’s blockbuster interim results.

Put simply, the market views 2020 as a flash-in-the-pan. It was, nevertheless, quite a flash: after deducting taxes and adding back interest, surging client trading meant operating cash flows more than quadrupled to $529m (£381m), of which $231m was returned to investors via dividends and share buybacks, and $296m was added to the company bank account.

Notably absent from these figures were signs of tangible reinvestment in the business, bar $0.3m-worth of property, plant and equipment purchases. This is in keeping with the way spending has historically been capitalised – or rather, has not been capitalised – on the balance sheet.

In fact, strip out cash and Plus is an asset-free business, despite its obvious brand power and an expertise in artificial intelligence that chief executive David Zruia said had won it preferred provider status from the Israeli state. It is therefore unclear how much of a new $50m, three-year investment in research and development will add to shareholder equity.

Funding this requires a rebalancing of the dividend largesse that has helped the shares to return an average of 52 per cent a year since IPO, once stock repurchases and reinvested distributions are included. Shareholders can now expect to receive “at least 50 per cent of net profits” through a mix of buybacks and cash returns.

Against an adjusted pre-tax profit forecast of $310m for 2021, this means Canaccord analysts now expect a dividend yield of 6.9 per cent this year. That includes specials but excludes the effect of the $25m buyback announced with these numbers. Still, the broker’s $192m profit estimate for 2022 seems a little uncharitable after customer churn dropped to just 16.7 per cent in the three months to December, down from 28.1 per cent the prior year.

The strategy revamp will also include separate pushes into share-dealing and the North American and Asian retail trading markets, in a tacit acknowledgement of the need to diversify beyond Europe. Likely mindful of rival IG Group’s (IGG) recent $1bn acquisition of US online brokerage tastytrade, management is weighing up the benefits of acquisitions.

Who knows? It could mean auditors at PwC may soon have to add an assessment of goodwill to the challenges of requesting Plus’ bank statement once a year. What's more, having already received both doses of the Covid-19 vaccine, members of the Haifa-based executive team might also feel less concerned about meeting potential targets in person.

Yet if investor faith in the group’s multi-asset fintech aspirations is to finally crystallise – an odd turn of phrase for a stock that has returned 38.3 per cent a year on public markets, before shareholder returns are factored in – then the benefits and pitfalls of volatility need to be replaced with product diversification and greater controls.

News that exposure to client positions is starting to be hedged – on a limited basis, but in keeping with IG and CMC Markets (CMCX) – is therefore positive. Efforts to improve the boardroom’s gender diversity, while welcome, are unlikely to see Plus fly onto ESG screens so long as the world of retail derivatives looks like a leveraged form of sports betting.

The added concern this brings – at least compared with more stable investment platforms – is that a CFD focus breeds a flighty or unpredictable customer base. Though the year finished with active users up 117 per cent, wild market swings wiped off more than half of customer income in the fourth quarter, pushing revenues down to $91.9m. Ergo, hedge.

Then again, nothing is clear cut when investing and trading habits are changing in real-time.

“There’s a wider theme in markets at present, which may be the seismic, structural shift from institutional driven flows and trading, to retail,” said finnCap financial services analyst Nik Lysiuk, who suggested the recent GameStop-Reddit episode could herald a prolonged increase in activity on Plus’ platform.

The shares look tempting, and are a less risky bet than options trading, but that does not mean the risks are not high. Hold.

Last IC View: Hold, 1,351p, 11 Aug 2020