CMC Markets – The glass is only half-empty #CMCX

CMC Markets – The glass is only half-empty #CMCX

The latest trading update from CMC won’t have any shareholders (like me) jumping for joy. It’s another profit warning (latest share price 79.65p, market cap £230 million).

You might be forgiven for losing track of the profit warnings with this share.

Things were going well until mid-2018, just prior to the introduction of ESMA rules. Since then, we’ve had:

  • September 2018: “net operating income for 2019 is expected to be below previous guidance… CFD and spread bet revenue for the full year is now expected to see a c. 20% reduction year-on-year, below previous guidance for a 10% to 15% reduction year-on-year”.
  • February 2019: Depending on the trading conditions in the remainder of the quarter, CMC now expects CFD and spreadbet revenue to be between c. 25% and c. 35% lower year-on-year, compared to previous guidance for a c. 20% reduction year-on-year.
  • March 2019:  “CMC expects to report CFD and spread-bet revenue of c. £110 million for FY 2019, 37% lower than the prior year, and net operating income of c. £131 million.”

Analysis

Using the 25%-35% reduction in CFD/spread-bet revenue suggested by the company in February, the implied range for FY March 2019 was £114 – £131 million.

A fall to just £110 million of revenue from this source is indeed a blow.

But it’s not all bad. Total net operating income of £131 million indicates that there was good growth in the other revenue streams (stockbroking, interest income and “other”).

In FY 2018, only £12 million of revenue was generated from these revenue streams. In FY 2019, using today’s numbers, there was c. £21 million generated.

There is also a marginal reduction in operating expenses, which is better than previous guidance.

With £131 million in net operating income and operating expenses marginally reduced from last year’s £126 milllion, investors will be seeking a small profit in FY 2019, rather than merely breakeven or a small loss.

Outlook

The bull thesis here (with which I tentatively agree) rests on a couple of ideas.

  1. The balance sheet is worth c. 73p per share, offering downside protection. Excluding intangibles and PPE, it’s worth c. 64p (figures for September 2018).
  2. The company should be able to at least breakeven in the long run in CFDs/spread betting, reducing expenses if necessary to account for the smaller size of the CFD/spread betting market as a whole (for example, tweaking the marketing machine to account for lower profitability, and reducing the number of sales traders).
  3. The stockbroking revenue stream is complementary to CFDs and offers another growth opportunity.
  4. If we believe the company’s account of H2 2019, then future results will benefit from a reversion to normal market volatility levels and normalised client P&L.

I don’t have huge conviction in any single one of the above, but I do think that it all adds up to a reasonable argument. Revenue fluctuates to a much greater extent than expenses, so any increase in revenues in FY 2020 should mostly drop down to the bottom line.

The company’s outlook statement today says:

The impact of the new ESMA margin rules, which has resulted in retail clients trading less, utilising more of their cash to fund their margin requirements or needing to deposit more funds with CMC to trade at previous levels, is showing signs of stabilising. Since the introduction of the new rules, client money has remained strong, and active client and new client numbers have remained stable resulting in the Group having confidence in meeting the consensus FY 2020 outlook.

“Signs of stabilising” is far from having stabilised, so I definitely wouldn’t rule out continued deterioration or a failure to recover in line with the company’s expectations.

On a more positive note, if the major operational metrics mentioned above (client money, active clients and new clients) are all stable, this does position the company well for any potential upturn. And it suggests to me that the customer base is still very interested in CMC’s products.

The FY 2020 forecast is for pre-tax profits of £30 million: I would be surprised and delighted if the company somehow achieved this, as it says it will, but I could accept a much smaller number.

 

At the time of publication, the author has a long position in CMCX.

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