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Ozforex Disappoints But Outlook Still Appealing

Small Caps | Nov 16 2016

This story features OFX GROUP LIMITED. For more info SHARE ANALYSIS: OFX

Foreign exchange business Ozforex provided a disappointing first half result but brokers suspect the issues that plagued the company are short term.

-Depreciation in British pound after Brexit dented results severely in the first half
-Acceleration in active client numbers expected in the second half
-Macquarie believes stock should be appealing at current levels


By Eva Brocklehurst

Foreign exchange business Ozforex ((OFX)) disappointed brokers with its first half results. Management commentary suggests the benefits of an increase in transactions in the lead up to, and immediately after, Brexit were more than offset by lower high-value volumes from the UK following the rapid devaluation of the British pound.

Interim profit of $9.7m was down 21.1%, reflecting a combination of weaker average transaction values and the ramp-up in spending as part of the company's Accelerate strategy. Management is now guiding for earnings to be down on the prior year while profit should be slightly higher. This compares to previous guidance for growth in full year earnings.

The results were always going to be difficult, Shaw and Partners believes. Not only is the company coming back from a failed takeover bid by Western Union, but it is building a new executive team and juggling a new mix of marketing. There is also the matter of the severe depreciation in the British pound in an otherwise low-volatility currency period.

The broker concedes the market is right to be concerned about a lack of growth in active client numbers, despite the significant boost in marketing spending, and also takes this opportunity to factor in more modest growth in its forecasts for new dealing customers going forward. Nevertheless, marketing expenditure so far this year should start to produce an acceleration in active client numbers in the second half.

The broker notes the market appears to be adopting a worst-case scenario. Shaw and Partners considers the company's target of $200m in revenue in FY19 as reasonable. While the broker does not envisage revenue growing quite that fast, expecting $169m, it notes that the company is guiding to an acceleration in transactions in the second half. There is also "locked in" growth in active client numbers as the long tail of previously acquired customers continues to trade.

Even with lower growth in active client numbers, the company has concentrated on higher transaction clients which have provided 10% growth in trades. This has been an important shift in the revenue mix, with corporate clients now representing over 40% of revenue. The broker believes the market has given up on the company's three-year strategy to double revenues but Ozforex is one third of the way through an investment phase which should set it up to grow strongly.

Shaw and Partners, not one of the eight brokers monitored daily on the FNArena database, retains a Buy rating but lowers its target to $2.40 from $2.70. While Western Union walked away after a request for further due diligence was rejected, another takeover bid cannot be ruled out, the broker adds.

Earnings were 13% below Deutsche Bank's estimates. The result and guidance downgrade do not overly concern the broker, as sentiment is very weak and there is valuation support as well as easier comparable periods to be passed. The broker also believes the cyclical headwinds experienced in the first half, driven by the depreciation of the British pound, are short term.

One of the reasons the broker remains positive is because part of the weakness in the first half was attributable to a low-volatility FX environment for the company's key pair AUD/USD. Deutsche Bank does not believe this constitutes a structural problem and retains a Buy rating, reducing its target to $1.70 from $2.20.

Macquarie does not believe the company's business model is broken but expects a lot of work will need to be done to get it back on track. Execution and earnings risk are high, although the broker notes the current valuation since the sell-off already appears to be discounting the prospect of achieving anything like revised FY17 guidance.

This would then provide an improved run rate in the second half going into FY18. Moreover, the international payments market is still relatively immature and one where scale and synergy benefits can be realised as consolidation continues.

Macquarie will look for an acceleration in North America into FY18, given the step-up in marketing that is expected following the re-branding and changes to the customer pathway. The company will continue to roll out its brand in North America and the UK in the second half. Existing brand recognition in these markets is lower and new websites should benefit from the history already established in the Australian domain, the broker believes.

The broker believes the company's active and lapsed client base, technology, licences and banking relationships should make the stock appealing to trade and financial buyers well above current levels. Hence, Macquarie upgrades to Outperform from Neutral but lowers its target to $1.80 from $2.30.

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