REG - Lancaster Inv. Mgmt. Lancaster Inv. Mgmt. Hargreaves Lansdown - Letter to Chair of Hargreaves Lansdown PLC

Hargreaves LansdownAnnouncement

24/06/2024 16:45

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RNS Number : 6544T  Lancaster Investment Management LLP  24 June 2024

 

                                             24(th) June 2024

   Alison Platt

   Chair of Hargreaves Lansdown PLC

   One College Square South

   Anchor Road

   Bristol, BS1 5HL

 

 Alison Platt

 Chair of Hargreaves Lansdown PLC

 One College Square South

 Anchor Road

 Bristol, BS1 5HL

 

 

 

 

 

 

 

OPEN LETTER TO THE CHAIR OF HARGREAVES LANSDOWN PLC REGARDING LANCASTER
INVESTMENT MANAGEMENT'S CONCERNS OVER THE BOARD'S SUPPORT FOR THE CONSORTIUM
PRIVATE EQUITY OFFER

 

 

Dear Alison,

 

BACKGROUND AND SUMMARY

We appreciated our recent call to discuss the Board's support of the private
equity consortium ("consortium") offer ("offer") for Hargreaves Lansdown PLC
("HL") 1  (#_ftn1) .  However, we remain unconvinced that this offer is fair
for all HL shareholders.  We are writing this letter to set out our concerns;
we intend to publish it because we believe the matter is highly important for
HL shareholders.

In summary, Lancaster Investment Management's ("Lancaster's") Global Equity
Funds are investors in and supporters of HL, with our interest representing c.
1.9m shares.  We made an initial investment earlier this year and have been
building our position since then.  Regarding this offer, we question:
firstly, the valuation of the offer; secondly, the Board's assessment of HL's
weak historic operating performance against HL's potential for strong future
growth; and thirdly a risk of potential conflict of interest in the terms of
the current offer.  We question the fairness of a deal where we expect only a
small number of shareholders will be able to remain invested via a private
"rollover equity alternative" 2  (#_ftn2) , while we expect the majority of
shareholders, including Lancaster's Global Equity Funds, will not be able to
participate by going private.

Your main rationales for the Board supporting the offer were: the timeline you
expect, of two to three years, for HL to achieve full recovery of operating
performance; the non-linear path towards that goal; and the risks involved.
We argue that these should be manageable parameters for public shareholders,
and that the company should not be sold out cheaply in our opinion, ahead of a
potential recovery path to growth that has been confidently articulated by
management 3  (#_ftn3) .  Moreover, we see strong drivers underpinning HL's
recovery and growth potential: the considerable investment HL has already
made; its excellent executive team and strategy which the Board supports; and
the potential for political and regulatory support to drive client engagement
long-term.  It seems inequitable to HL's smaller shareholders to transfer
these potential gains to the private equity consortium at a low valuation in
our view, with, we expect, only a minority of existing
shareholders/stakeholders able to maintain potential upside through rolling
into a private vehicle.

Finally, we consider this offer the latest in a stream of de-equitisation
events in the UK market which cause us dismay.  We are not averse to private
equity offers where there is also a "win-win" along with public shareholders
and other stakeholders.  However, here we find it an unfortunate irony that
HL, as a champion of open access to financial services, may itself now be
close to exiting the public markets without full value offered to public
shareholders in our opinion.  We note that both the main UK political parties
are committed to stemming the de-equitisation of UK capital markets.
Labour's Plan for Financial Services points out: "the number of London listed
companies has dropped by 40% since 2008…more than 5,000 UK growth companies
have been acquired by overseas buyers in the last decade" 4  (#_ftn4) .  The
Conservative's March 2024 Budget and July 2023 Mansion House Speech made
similar findings 5  (#_ftn5) .  In our view, this situation is linked to what
we see as a troubled backdrop for national savings and investment, with a wide
financial "advice gap" and low engagement from retail investors and savers.
HL's own research highlights this backdrop in our view: "only 13% of UK
households are on track for a comfortable retirement and one third of people
(34%) have less than £1,000 in savings" 6  (#_ftn6) .  As the UK's leading
investment platform based on scale, longevity, brand recognition and
strength 7  (#_ftn7) , we believe HL has an important role to play in
addressing these long-term national-level issues.  We believe this further
underpins HL's future growth potential and intrinsic value.

Below we set out our concerns with the consortium's offer, and in conclusion,
we raise the following important questions for the Board:

·      What timeline do existing shareholders view as acceptable for
HL's recovery to growth as a listed company?

 

·      What proportion of existing shareholders would be able to take up
the private "rollover equity alternative" which we view as central to this
offer?

 

·      Does the cash offer reflect fair value given the points made
below on valuation and growth potential?

 

·      Will the Board support smaller shareholders by offering a
separate vote for those who are not able to take up the private "rollover
equity alternative"?

We also urge the board to give itself more time in its current form to assess
HL's strategic options and to assess shareholder support for different
outcomes.  If management can execute on the strategy as the Board and we
expect, then in our view there is plenty of growth and upside potential for
this private equity consortium or others to come back at a very different
price and valuation in the future.  We believe that path would create a far
better outcome for HL's public shareholders, HL's clients, and indeed British
savers.

 

OUR CONCERNS WITH THE OFFER AND THE BOARD'S SUPPORT FOR IT

 

1)   The offer valuation is depressed compared to listed peers and to HL's
own trading history.

 

1140p (including final dividend) represents a multiple of c.17x earnings per
share on our calculation, which is a c.-14% discount to AJ Bell's multiple, as
the closest listed peer, currently valued at c.20x earnings per share 8 
(#_ftn8) .  It is c.-40% below HL's own 10-year average PE multiple of 28x on
our calculation 9  (#_ftn9) .  HL has only sustained at a lower multiple than
that implied by the offer for a brief period during the "Global Financial
Crisis" 2008-09, and over the last c. two years, since early 2022 10 
(#_ftn10) , when we would argue HL's problems combined with global
geopolitical and macro-economic upheaval to affect the valuation multiple.

 

It is insufficient in our view to argue simply that HL's recent troubles make
valuation history and comparison less relevant to an offer today, meriting
crystallisation of lower multiple for shareholders today.  We agree with you
that there is good momentum in the operational turnaround of the business 11 
(#_ftn11) ; however we see the multiple as reflective of the past few years
not the future.

 

AJ Bell and other peers clearly have enjoyed higher growth than HL in recent
years 12  (#_ftn12) .  However, we would argue HL has strengths which should
be weighed against this when considering a valuation multiple.  For example,
HL is the largest UK platform by assets under administration (AUA); it has the
largest client base; it has the longest history and best-known and strongest
brand 13  (#_ftn13) .

 

In our view HL's problem areas are within the bounds of acceptable risk for an
industry-leading, listed business: technology, marketing, client experience in
particular.  We argue the Capital Markets Day Plan (CMD, 22(nd) February
2022) together with current management's strategy have already invested to
tackle these issues.  Indeed, against the CMD plan of £175m investment plus
£50m dual-running costs, a considerable proportion (£99.8m) had already been
executed by Interim Results announced February 2024 14  (#_ftn14) .  We have
not heard or seen any evidence to suggest the CMD plan does not remain on
track.  We cannot help but perceive that public shareholders have taken the
historic pain of this investment plan, reflected in our view by depressed
margins and valuation multiple relative to history, while the upside potential
to us looks set to be captured by the private equity consortium and
importantly, those who can continue to hold HL privately.

 

 

 

2)   Growth potential ignored

 

We are excited by HL's current strategy to recover growth and agree with the
Board that the management team is excellent and very well-placed to deliver
for shareholders.  Below we consider recent operating performance
demonstrating initial signs of business momentum returning.

 

We are also excited that the regulatory and political backdrop appear to us to
be becoming supportive of investment platform industry growth, with a focus on
increasing retail investor participation, institutional allocations, pension
saver returns and ultimately a robust capital market supporting national
growth.  We see this further underpinning future growth prospects at HL.

 

We are encouraged by the FCA's recent "Advice Guidance Boundary Review", with
the consultation closed 28(th) February 2024 and we believe further plans
could be announced in the coming months 15  (#_ftn15) .  In our view this
regulation has great potential to open financial understanding, financial
engagement, and financial security across the UK population.  We believe it
will address the "advice gap" and retail investor disengagement.  We view
this as a matter of national importance. HL's own research points to a
troubled backdrop for UK savings and investment as "only 13% of UK households
are on track for a comfortable retirement and one third of people (34%) have
less than £1,000 in savings" 16  (#_ftn16) .  As the UK's leading investment
platform on key measures, it seems very probable to us that HL will play a
leading role in implementing the new regulatory framework.

 

We also perceive a welcome consensus developing across the main UK political
parties to drive UK investment and growth, again likely benefitting HL in our
opinion.  Labour's Plan for Financial Services notes that as a result of UK
capital markets "de-equitisation", "investment in UK companies has suffered,
and UK pension savers are missing on higher long-term returns from growth
assets".  It continues that "participation by retail investors in UK public
equity markets remains well below comparable markets".  It concludes: "Labour
is committed to strengthening our capital markets", via increased retail
investment participation and pension reform among other initiatives 17 
(#_ftn17) .  The Conservative Government's Budget Speech March 2024 also
called for "a new generation of retail investors to engage with public
markets", it brought initiatives to encourage UK investment by pension funds,
and a British ISA to engage UK retail investors 18  (#_ftn18) .  These
positions were also seen in the Chancellor's Mansion House Speech July
2023 19  (#_ftn19) .  Both parties note the lower returns to UK pension
savers compared to other countries; and both note the alarming trends of
companies leaving UK listing and of institutions de-allocating from the UK.

 

We are very encouraged by these political and regulatory developments.  We
see them as very supportive of industry tailwinds for UK investment
platforms.  As the industry leader, we believe HL is well-placed to lead this
growth, partnering with regulators and politicians as they shape the best
outcome for UK savers and investors.  We see HL as a trophy asset in the UK
and the UK public market.  This unique position for HL should be reflected in
any valuation framework in our view.  We do not believe it is sufficiently
reflected in the consortium's offer.

 

3)   Timelines: acceptable horizon for recovery to growth; time taken for
the board to strategise

 

One of the Board's key arguments in favour of the consortium's offer, as we
understand it, is that the timeline to recovery is too long for listed
investors at two to three years, and the path non-linear, making private
equity a more suitable ownership model in this stage of HL's evolution.

 

As we state above, we are not averse to private equity offers where there is a
genuine "win-win" alongside public shareholders and other stakeholders.  We
are prepared to support offers whose valuations and terms are equitable to
existing shareholders.  Here however, we question whether the timeline for
recovery really is outside the scope of most HL shareholders.  We urge the
Board to address this question as a priority.

 

We believe a recovery period of two to three years should be acceptable to
most HL shareholders, especially at current valuation multiples.  We also
believe HL shareholders should be patient on the timing of HL's recovery,
given there is already evidence of momentum in HL's business today in our
view.  We note that HL's operating results to March 2024 saw improved net
flows and client additions, revenues exceeded market expectations, and
encouraging trends were reported as continuing into the new quarter 20 
(#_ftn20) .  We see this as a rare positive report for the company in recent
years and a possible early sign that HL's performance is improving.

 

Finally on timelines, we are also concerned that this offer process has
occurred early in the incumbency of the management team and the Board.  HL's
CEO has been in place for less than one year up to now.  HL's CFO has been in
place for less than two and a half years to now, during a period which we
assess as difficult for HL both for internal and external reasons.  As Chair,
you have been in place for less than six months 21  (#_ftn21) , and the first
private equity offer seems to us to have occurred within 100 days' tenure 22 
(#_ftn22) .  We have huge respect for HL's excellent management team,
strategy and Board, and we recognise that the timing of an offer is outside
the Board's control.  Even so, respectfully, we are concerned whether
sufficient time has passed since the Board took its current composition a few
months ago, to weigh such an important matter as the company's future
ownership.

 

 

4)   Risk of potential conflict of interest

 

We are concerned by the opportunity for up to 35% of shares to roll over into
a private vehicle without an attractive alternative for those who cannot
participate.  We suspect that only a minority of shareholders by number will
be able to take up the "rollover equity alternative", as many institutional
funds such as ours will have restrictions on private investments, as much as
we would like to remain invested in HL were this offer to proceed.  We cannot
help but perceive this as a two-tiered offer, and in our opinion, it does not
seem equitable to those shareholders unable to go private.

 

Further, we fear that the "rollover equity alternative" introduces a situation
where the Board may recommend the majority of shareholders to sell at a price
- even though other investors, with greater flexibility of ownership
structure, may be allowed to make an explicit statement that this price does
not represent full value to them, and would not be forced to sell at that
price.  This situation may risk a potential conflict in our view, which we
urge the Board to consider.

 

We also fear that a shareholder vote on this deal structure could be skewed,
as shareholders who can take private rollover equity would have an extra
incentive to vote in favour of the deal.  Further, assuming these
shareholders took up the 35% "rollover equity alternative" in full, we fear
this size of voting support, comprised of potentially a small number of
shareholders, could significantly advance the vote and risk marginalising the
voice of smaller shareholders.  Given the risk of potential conflict here, we
urge the Board to address this question as a priority: what proportion of
shareholders are able to accept the "rollover equity alternative"?  We would
like to see, and we urge the board to offer, a separate vote on the deal for
those shareholders who are not able to go private.

 

We also are concerned by risk of a potential for a conflict of interest
between shareholders and HL's executives on the Board.  We have the highest
respect for this excellent team, and we are excited by their professional
track records and the potential they bring to HL.  We understand the Board
does not yet know whether they would be involved with the company under
consortium ownership or not, however we note the Board's endorsement of them
in the Offer Update.  We would highlight our opinion that even with the best
of intentions, there could be a risk of potential conflict, should members of
a management team have the opportunity to benefit from future upside under
private equity ownership, when many shareholders may not.

 

 

OUR VIEW OF VALUATION AND STRATEGY

We are pleased to be shareholders of HL and not surprised that other parties
recognise its exciting value and growth opportunities too.  However, if the
company's internal recovery plan is on track, if the Board remains supportive
of this excellent management team's strategy and execution, and if the
question is simply one of timelines and certainty; then we struggle to agree
that this offer represents best value for shareholders.  It certainly does
not capture HL's significant recovery and growth potential as we see it.

We would be far happier to maintain our support of management in an
independent listed company, as they execute recovery to growth over the two to
three years you suggest.  We expect other shareholders may take a similar
view, especially if like us, they are not among the small number (we assume)
able to take the private "rollover equity alternative".

Part of the difference in our approach to valuation compared to the Board's,
we believe, is that in many cases, where the Board perceives threat, we
perceive opportunity.  HL has the largest client base of UK investment
platforms at 1.8m clients, however we see this as a small proportion of the UK
saving and investing population, which we believe is set to grow, and to grow
assets under administration (AUA) if political and regulatory tailwinds allow.
 HL has the highest AUA among UK platforms and we believe there is
"low-hanging fruit" to modernise and develop a best-in-class client experience
to improve client activity and recruitment.  HL offers a broad product set,
however in our view the opportunity of a more flexible regulatory regime
(advice/guidance) offers potential to empower and engage clients to a far
higher level.

In conclusion, we urge the Board to address the following important questions
we have raised above to ensure fairness on behalf of all shareholders before
it progresses support for this offer:

·      What timeline do existing shareholders view as acceptable for
HL's recovery to growth as a listed company?

 

·      What proportion of existing shareholders would be able to take up
the private "rollover equity alternative" which we view as central to this
offer?

 

·      Does the cash offer reflect fair value given the points made
above on valuation and growth potential?

 

·      Will the Board support smaller shareholders by offering a
separate vote for those who are not able to take up the private "rollover
equity alternative"?

We also urge the board to give itself more time in its current form to assess
HL's strategic options and to assess broad shareholder support for different
outcomes.  If management can execute on strategy as the Board and we expect,
then in our view there is plenty of growth and upside potential for this
private equity consortium or others to come back at a very different price and
valuation in the future.  We believe that path would create a far better
outcome for HL's public shareholders, HL's clients, and indeed British savers.

We do not take the decision to write this open letter lightly.  We very much
hope the Board will receive it as a constructive effort to voice the concerns
of a smaller shareholder, and that it will aid the Board's important
deliberations regarding HL's future.  We look forward to hearing back from
you.

 

 

 

Yours sincerely,

James Hanbury, Portfolio Manager

Lancaster Investment Management LLP, on behalf of Lancaster's Global Equity
Funds

 

James Spalton, Investment Analyst

Lancaster Investment Management LLP, on behalf of Lancaster's Global Equity
Funds

 1  (#_ftnref1) HL, "Offer Update", 18(th) June 2024: "The Board has confirmed
to the Consortium that the Revised Possible Cash Offer is at a value that the
Board would be willing to recommend unanimously to Hargreaves Lansdown
shareholders, should a firm intention to make an offer pursuant to Rule 2.7 of
the Code be announced on such financial terms and subject to agreement on
other key terms of the Consortium's proposal and definitive transaction
documentation".

 2  (#_ftnref2) HL, "Offer Update" 18(th) June 2024: "The rollover equity
alternative would provide participating Hargreaves Lansdown shareholders the
opportunity to re-invest their shareholding and co-invest in the Consortium's
unlisted acquisition vehicle on an economically pari passu basis, subject to
an overall maximum participation of 35 per cent of the equity in the unlisted
vehicle and limitations on transferability.

 3  (#_ftnref3) HL, Interim Results 2024, CEO comments, page 1, 22(nd)
February 2024: "As the largest wealth platform in the UK, looking ahead, ours
is a large and growing market with clear client needs. We have the scale
needed to succeed and we have the right strategy and ambition to accelerate
our growth".

 4  (#_ftnref4) Labour's Plan for Financial Services 2024

 5  (#_ftnref5) Chancellor Jeremy Hunt's Mansion House Speech, 10(th) July
2023; Budget Speech, 6(th) March 2024

 6  (#_ftnref6) HL, Interim Results 2024, February 22(nd) 2024, page 3

 7  (#_ftnref7) Company Data HL and peers, Jefferies Research, "Brand New Data
Part Deux", 2(nd) April 2024

 8  (#_ftnref8) Bloomberg data, Lancaster research, current calendar year
basis

 9  (#_ftnref9) Bloomberg data

 10  (#_ftnref10) Bloomberg data

 11  (#_ftnref11) HL, Trading Update, 30(th) April 2024: "We built good
momentum into tax year end…We are pleased to see momentum continue into
April".

 12  (#_ftnref12) Company data, Lancaster research

 13  (#_ftnref13) Company data from HL and peers; Jefferies Research "Brand
New Data Part Deux", 2(nd) April 2024

 14  (#_ftnref14) HL Capital Markets Day Presentation, 22(nd) February 2022,
pages 13, 56, 60; Interim Results Presentation, 22(nd) February 2024, page 12.

 15  (#_ftnref15) FCA website: DP23/5, "Feedback period ends 28/02/2024"

 16  (#_ftnref16) HL, Interim Results 2024, 22(nd) February 2024, page 3

 17  (#_ftnref17) Financing Growth: Labour's Plan for Financial Services,
pages 20-22

 18  (#_ftnref18) Spring Budget 2024 Speech

 19  (#_ftnref19) Chancellor Jeremy Hunt's Mansion House Speech, July 2023

 20  (#_ftnref20) HL Trading Update 30(th) April 2024

 21  (#_ftnref21) HL Interim Results 2024, page 6, 22(nd) February 2024

 22  (#_ftnref22) Consortium "Statement Regarding…HL", 22(nd) May 2024,
states the consortium "is considering a possible offer for HL, most recently
having approached the Board of HL at 985 pence per HL share on 26(th) April
2024".  HL Interim Results 2024, page 6, 22(nd) February 2024, state Chair
incumbency from 6(th) February 2024.  HL "Offer Rejection", 23(rd) May 2024,
states the Board "had previously received two approaches from the
consortium…most recently at a price of 985 pence".  Lancaster estimates the
consortium's first approach to HL's Board occurred before 26(th) April 2024,
less than 100 days from 6(th) February 2024.

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