Arbuthnot Banking Group: Upside From STB Stake

Arbuthnot Banking Group (ARBB.L) is growing both organically and by acquisition, bringing diversification of credit risk, distribution and improved operational capabilities. Total loan growth in retail banking was 92% with customer numbers up to 232k from 145k. Organic growth at the private bank was 21% in loans, 18% in deposits and 20% in discretionary funds. Both banks continue to be strongly funded and capitalised, and well positioned to exploit opportunities as major banks continue to re-structure. ABG’s market capitalisation continues to be below the market value of its 70.7% stake in Secure Trust Bank (STB).


Core growth including pay-back on investments
The private bank delivered organic lending growth of 21% and deposit growth of 18% (year-end loans to deposit ratio 59%). Profits grew 5%, held back by investment in new staff (total £0.9m) and deposit margin pressure expected to ease in 2014. The structured-product unit Gillat Financial Services saw profits treble to £0.6m. In STB, organic growth in loan was 44% and deposits 47% (loan-to-deposit ratio 75%).

New investments
STB acquired Everyday Loans (EDL consideration £1 with a conditional performance payment of £1.7m, 8 June 2012, fair value gain £9.8m), V12 Group (consideration £3.5m, 3 January 2013, at NAV) and Debt Managers (consideration £0.8m, 15 January 2013, at NAV). These deals will in aggregate add c £100m to the loan book, bringing diversification of credit risk, distribution and improved operational capabilities. EDL added £1.8m to profit since acquisition.

Net-positive accounting distortions to 2012 results
The EDL acquisition introduced a number of items to the statutory accounts, with a net positive of £5.3m in 2012. 2013/14 profits will be depressed below what may be regarded as a normalised rate by the unwind of the loan fair value adjustment, intangible amortisation and fees on new business being spread over the life of the loan. Other acquisition costs were £0.5m and profits on disposals were £0.9m.

Valuation: Upside from STB stake
ABG trades well below the value of its 70.7% stake in STB (£210m) and below the rating of other high growth financials. Our sum-of-the-parts indicates upside to over £11.01. While our Gordon’s growth model indicates a fair value of c £7.94, our long term assumptions are well below the near term delivery by the company and give no credit for potential acquisitions.

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