No slowdown for Hargreaves Lansdown

Fair value for Hargreaves Lansdown (HL.) sits at 1,705p per share, according to a FactSet survey of analysts’ average 12-month target prices. Investor selling dragged Hargreaves’ market value back beneath this level on the publication of interim figures that beat consensus profit forecasts and detailed a stonking 40 per cent surge in net client flows to £3.24bn in the six months to December.

By the sound of it, the DIY investment platform provider has lost little of that momentum since the period end.

“Trading in January has been similar to other lockdown periods with strong dealing volumes, significant client engagement and robust net new business and net new client numbers,” said chief executive Chris Hill. After the necessary lip service to market uncertainty came assurances of his company’s “ability to continue to help more clients to save and invest”, including in the crucial run-up to the end of the UK tax year.

Of course, one-year target prices or the prospects for a bumper 2021 ISA season are insufficient indicators of long-term earnings growth, which as the FTSE 100 constituent points out is posited on the “structural growth opportunity” in UK savings and investments.

Still, several factors might explain the long face that greeted these numbers. While client retention levels – arguably the group’s greatest asset – remained encouragingly high at 92.9 per cent, marketing and distribution costs climbed 75 per cent to £10.5m, implying stiffer competition and higher client acquisition costs.

This was part of a 27 per cent rise in overheads across the group, though a profit margin in excess of 60 per cent isn’t going to cost shareholders much sleep. Neither is the dividend, so long as it is covered by operating cash flows almost three times over. The more that is held back now raises the chances of specials in the future.

Ad valorem fees remained high, even as the average client money in funds – the largest single segment by assets – dipped in the period to £54.2bn, compared with £54.6bn a year prior. Lower interest rates also meant income ‘earned’ on client cash fell 29 per cent to £32.8m. Revenue here is expected to retrace to between 34 and 40 basis points for the 12 months to June, down from 74 in the prior year. If not dead, then the golden goose is ailing.

However, the fact that the overall revenue to assets ratio tracked the FY2020 performance was down to a surge in the fees generated from surging customer appetite for stocks. Though average client holdings of equities on Hargreaves’ platform edged up by 14 per cent, dealing volumes more than doubled in the period and pushed revenue earned from shares to £113m.

It’s “difficult to say” how long elevated trading can last, according to management. For now, at least, shares are suddenly the most important asset class to sales. Investors can now put volatility alongside stodgy fund commissions as a major driver of earnings.

FactSet-compiled consensus forecasts are for adjusted earnings of 57p per share for the year to June, and 54p in FY2022 – a plateauing that stems partly from fears of frothy asset valuations. This suggests upgrades are most likely to come from better-than-expected client inflows, which remain hard to predict.

However, Hargreaves’ business model has held up admirably during its most testing period yet. The shares, which are much cheaper than smaller rival AJ Bell (AJB) will likely face pressure this year, but should be on every UK investor’s long-term watch list. Hold.

Last IC View: Hold, 1,360p, 28 Oct 2020