Looking for fintech coup funds
The listed technology sector has been a major disaster this year – the Nasdaq 100 has lost 28 percent of its value. The de-rating not only reflects market and economic uncertainty which has led to higher risk aversion for investors, but also the upward shift in government interest rates which has dampened valuation multiples in what is a very interest rate sensitive sector.
Within large public market capitalization shifts, there has been a flight to quality as investors regroup around businesses that exhibit strong fundamentals and bypass those whose high-burn, growth-at-any-cost strategies are incompatible with today’s conditions, notes the CEO of Augmentum Fintech (AUGM:99p), the first listed fintech fund. The same patterns are reflected in private markets with high-quality companies continuing to attract capital, albeit at more palatable valuations.
Investment patterns have also changed, as more companies have raised capital with existing investors to expand their runways rather than embracing the challenges of the external market. There has also been a shift towards early-stage investment activity, reflecting the acceleration of innovation in times of uncertainty and the cooling of late-stage and pre-IPO valuation multiples. As a result, Levene notes that the future pipeline of compelling investment prospects in the fintech sector remains robust, which is positive for deal flow given that the fund has £57.1mn (30.3pa share) of available cash to invest.
Like other fintech funds, shares in Augmentum have suffered under the tech market, falling from 159.5p at the start of 2022 to 99p, in the process wiping out all the paper gains since I included the shares, at 102p, in my 2019 Bargain Stock Portfolio. In these circumstances, it may surprise many investors that the fund’s net asset value (NAV) per share remained stable at 155p in the latest interim results to 30 September 2022.
That’s not to say the portfolio has been immune to the change in the market environment as Augmentum posted a negative investment return of £7.5m on its 14 smallest investments, bringing their combined value down to £54.3m. Although the top 10 investments made a small positive return, valuing them at £179m, Augmentum wrote down the valuations of five holdings by £7m, the losses being offset by net gains of £7m on the other five holdings. That still meant a total negative investment return of £7.4m, but this was more than offset by almost £9m in currency gains on valuations as sterling depreciated, a reflection of the fact that 40 per cent of the portfolio by value is not denominated in sterling or these companies have operations abroad.
The key question for investors is whether the risk-reward is now skewed towards an improvement in Augmentum’s share price? I think it’s for a number of reasons, not the least of which is that when you remove cash of £57.1m (30.3p) from the company’s market value of £188m (99p), a portfolio with a book value of £234m (124p) is efficient in the price for £131mn (69.5p), or 44 per cent less than half of the last valuation. The shares are in deep basement territory with a huge ‘margin of safety’ built into the current price.
Moreover, the deep share price discount to the underlying valuation of Augmentum’s portfolio of investments does not reflect the investment manager’s impressive track record. The group has delivered an internal rate of return (IRR) of 19.3 per cent on invested capital since its IPO, and delivered some banging gains including the exit earlier this year from share trading service interactive investor, which was acquired by Abrdn (ABDN). The transaction returned £42.8m of cash to Augmentum in May 2022, hence the growing cash pile, and delivered an 85 per cent IRR and 11x gross cash-to-cash multiple.
It is worth noting that Augmentum’s valuations are based on sound principles. For example, the group’s top 10 holdings increased their earnings by 100 percent in the first nine months of 2022 and are cash generating or have an average of 22 months of cash runway, so they are well funded. They are valued at an average earnings multiple of 4.2 times earnings to enterprise valuation, significantly below the valuation multiples used by high-growth fintech companies. Importantly, key stocks are delivering strong growth and benefiting from structural drivers to maintain momentum.
For example, Rougher, the Berlin-headquartered technology rental platform, has expanded from its core home market and has been operating in the US for over a year with growth well above forecast. A pioneer in technology rental subscriptions in Europe, a region where the company has more than 1 million registered users, the company is taking advantage of the secular shift in the way consumers use and access technology. Griver has also strengthened its business-to-business offering (now accounting for 15 percent of the total business) and launched an online hardware management platform. Importantly, the company is well-funded, having completed a Series C funding round in April this year, raising $330m (£272m) in debt and equity, lifting its valuation to more than $1bn and valuing Augmentums 6.4 percent. stake of £43.7m, or 5.5 times the group’s total investment to date.
Tide, an emerging force in the banking sector challenging small and medium-sized enterprises (SMEs), is another prime example of how fintech platforms are disrupting inefficient incumbents held back by legacy IT, bloated cost bases and restrictive regulations. One in 12 UK businesses now bank with Tide, revenue from these 350,000 small business owners has driven Tide’s revenue up by 60 per cent year-on-year to the point that the business has now become profitable in the UK, excluding growth investment. Augmentum’s 5.4 per stake has been valued at £27.8m, or more than double its £13.2m investment to date.
Other notable winners in the portfolio include Intellis, a Swiss-based algorithmic quantitative hedge fund that operates in the foreign exchange market. Augmentum’s 23.8 per cent stake has been valued at £8.9m on an earnings multiple basis, or more than three times its £2.7m investment. The group’s share of ownership is 11.1 per cent BullionVaulta physical gold and silver online marketplace for retail investors that has 100,000 customers and $3.8 billion in assets under management looks modestly valued at £8.7m, suggesting an equity valuation of £78m, or just 10 times profit before tax reported for the financial year 2021.
Interestingly, Levene highlights consolidation as a key dynamic in the fintech market as valuations have corrected, adding that “notable momentum is building from strategic partners, particular incumbent banks.” The group’s portfolio companies look good to capitalize, thus offering potential liquidity events for Augmentum to make further realizations. Purchase.
Finally, I will now have annual leave until the New Year.
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