LSL Property Services Analyst Q&A: Group valuation multiples could potentially more than double (LON:LSL)


LSL Properties plc (LON:LSL) is the topic of conversation when Zeus Capital’s Research Analyst Robin Savage caught up with DirectorsTalk for an exclusive interview.

Q1: LSL Property Services, we spoke about them recently but they’ve just released a trading update. Robin, what are the key points and why has it made this unscheduled announcement?

A1: In short, they felt they ought to make a trading update because they have decided to postpone their 2020 results to April because then they will be able to reinstate guidance and provide a detailed strategic update including a comment about the significant opportunities in the financial services.

One of the parts to this was the forthcoming budget which is going to be on the 3rd of March which is likely to have a comment about the extension of the stamp duty and various other measures which should have a positive impact on the UK property market.

So, they’ve made a comment about trading in their three divisions which are all trading well, and I’ll talk about that in a second, and they’ve also made comments about renewing their bank facilities which has now been extended to May 2024.

In terms of the current trading, they made a trading update on the 15th of January when they talked about the trading in December 2020 and for the whole of 2020 so this trading update is really talking about what’s happened in January and February.

In the financial services side, they’ve benefitted from a rise in mortgage and protection completions from their PRIMIS network which follows the rise in the number of advisers . There was an 8% rise in 2020 and further 1% rise in January to 2,613 advisers on the platform and they also mentioned that the pipeline of new advisers seeking to join PRIMIS has also grown.

The surveying business has benefitted from higher income per job which is encouraging and also benefitted from the restructuring that took place this time last year.

In terms of their estate agency division, that benefitted from the prior year branch network reshaping, they’ve got record exchange pipeline at the end of January 2021 and the exchange pipeline was up 50% year-on-year. The market is better than it was a year ago and the LSL branches experienced an increase in local market shares.

They also made a comment about recent acquisitions that they made and announced earlier this month, they bought a 60% interest in a company called Direct Life and Pension Services and also the business Mortgage Gym. Both are integrating well with their technology-enhancing LSL distribution and productivity so that is encouraging.

In terms of the bank facilities, they’ve got a new £90 million bank facility which replaces a £100 million facility that is maturing next May, May 2020. The net cash debt at the end of December 2020 was only £1.6 million but it is very comforting to shareholders to see that there is a substantial revolving credit facility which enables the company to make investments that they feel fit. The banking syndicate that used to include Barclays and Santander has been joined by NatWest so now three banks who are also big partners for the rest of the business as well.

Lastly, in terms of the results, we are expecting to have results some time in April, they were going to come out in March but I think an extension to April is a sensible decision. They will obviously listen to budget and think about what the impact is and then they will look at the way in which the housing market trades over Easter which is a very important period for the UK residential housing market.

So, I would expect, after Easter, there to be a very interesting results presentation where they will provide a strategic update with a focus on the financial services division.

Q2: You touched on this earlier but what points might the company’s strategic update in April make?

A2: Well, I just don’t know what the company’s management will present in April but I can see messaging in recent trading updates and presentations and I would make three observations which you may think are relevant:

The first observation I would make is the financial services division has been brought forward ahead of the other two divisions, in this statement and in recent statements. So, I think that is an important point that financial services is seen internally as being important enough to be mentioned ahead of the other two divisions, surveying and estate agency.

The second point I would make is the management has recently highlighted the EBIT contribution from each division so what they show is the financial services division is structurally growing, reflecting corporate activity, the creation of the PRIMIS brand and the rising number of advisers. Remember, they were up 8% in 2020, 1% already year to date, probably up 8/10/12% this year, let’s see what they have to say about that. So, you’ve got structural growth in financial services, you’ve got remarkable stable EBIT from surveying, this is a market leading business in its B2B service sector and I think one can see that despite what is thrown at it, the surveying division delivers a remarkable stable EBIT. he third contributor to operating EBIT is the estate agency division and this is subject to cyclical forces, it’s enjoying a cyclical upturn in activity from cyclical lows and as you can read in today’s trading update, it is having a relatively good period at the moment. So, that’s the second point, really the different sorts of growth or movement that you can expect in the EBIT contribution.

The third point is that the financial services division is very significant within the UK financial services industry. They have a 9% market share of UK mortgage origination, they originated £32 billion of mortgages last year, that is a very significant market share. I think it is probably the second largest network out there. So, they’ve got over 2,600 adviser using the PRIMIS platform, that’s approximately 9% of the industry which is what you’d expect I guess if they’ve got 9% of the origination. Clearly, that is a very substantial network. It is recognised in the industry as being the leading mortgage network, it’s been winning awards in recent years since the company created PRIMIS network in 2018. The company owns various important fintech which helps advisers and end customers, the two examples are the recent acquisitions of Life Quote and Mortgage Gym but other examples would include something called Toolbox which is a technology that helps the PRIMIS advisers and if you want to know more, have a look on YouTube, you can see more about PRIMIS’ Toolbox.

In our view, the financial services division is worth more than the current value of the shares at the current share price so in other words, the other two divisions – surveying and estate agency – are in for free, they have no value associated by the market. If the market genuinely recognised the value of the financial services business, they wouldn’t need to ascribe any extra value to those other divisions.

Q3: Finally, how does the equity market value LSL Property Services and what’s your view on its value?

A3: If we look really at the big picture, what do you see is that the company currently trades on a Price Earnings multiple, a ratio of the price to the reported earnings, of under 10 times whilst Mortgage Advice Bureau which is also a mortgage provider/network trades on over 25 times.

So, if you think about the company having built its PRIMIS mortgage network through acquisition over many many years and then subsequently integrated those businesses and then built this new brand PRIMIS into one which is winning awards and attracting so many advisers in the industry to it, we see the intrinsic value of PRIMIS being in the range of £310 million to £620 million, or in pence per share, £3 to £6 per share. The company’s shares currently trade at around £2.50.

In a sum-of-the-parts valuation approach, we would attribute maybe £328 million of value to PRIMIS and see the group equity market value of being something like £550 million or just under £5.10 a share.

So, the company, in my view, should trade at a premium to its peers, not a discount. If you ask me why should it trade as a premium, I would say that the company has four key characteristics which are self-evidently good and should mean that they should trade at a premium to its smaller rival Mortgage Advice Bureau:

  1. Scale. It has got more scale than Mortgage Advice Bureau, it has got 50% more advisers than Mortgage Advice Bureau and it delivers more mortgages and protection products than Mortgage Advice Bureau. So, I think just in terms of what it does, it is a bigger business that should get the benefits of scale coming through.
  2. Spillovers. What is a spillover? A spillover is where you have more than one business unit which then supports the other business unit. So, for example, the company has a surveying business so that surveying business services for big banks, those big and small banks also happen to be the mortgage lenders who are also selling product through the financial services business. Now, clearly, the financial services business is giving advice to individuals based on the need of the individuals but there is definitely an ecosystem, a community of interests within the company whereby they’ve got a broad range of business units which are able to support each other and ensure that they give the end client the best possible result.
  3. Synergy. The company created value through the integration of businesses like Life Quote and Mortgage Gym by plugging these businesses into existing businesses which are already profitable and doing good things for customers. So, if we took Mortgage Gym, Mortgage Gym ran out of money, it had a really good technology platform, it’s got really good ability to provide value to the end customer but unfortunately what is couldn’t do was create a profitable unit in itself. What it can do is be plugged in to what LSL is doing so that they can properly use the technology that Mortgage Gym, Life Quote and other bits of technology can be used to help the company individuals, help third parties to help the end customer.
  4. Sunk costs. The company has got very significant sunk costs which have been sunk over many many many years so for example, £10 million of losses at Mortgage Gym represents significant invested capital and the company has been able to acquire that for just £2.5 million. So, it is able to acquire other people’s investment but it has also got its own sunk costs into various businesses over a long period of time, it’s got substantial investment in the financial services industry and that substantial investment is something which investors are able to get benefits from through investing through the company shares.

So, in my view, when the equity market fully appreciated the company’s business unit, their financial services division, the group valuation multiples have the potential to more than double, in other words, the share price more than double.

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