Australian Ethical Investment Limited (AEF) Earnings Call Transcript & Summary

Thank you for standing by, and welcome to the Australian Ethical FY 2024 Half Year Results Briefing. [Operator Instructions] I would now like to hand the conference over to Ms. Melanie Hill, Head of Investor Relations. Please go ahead.

Thank you. Good morning, everyone. Thank you for joining us. My name is Melanie Hill and I'm Head of Investor Relations at Australian Ethical. I would like to begin by acknowledging the traditional owners of the country on which we work, the Gadigal people, one of the 29 tribes of the Eora Nation and recognize their continuing connection to the land, waters and culture. We pay our respects to their elders past and present. Please note that today's presentation is being recorded, and a recording will be made available on the Australian Ethical website. The slides used in the presentation are also available on our website. There will be an opportunity for Q&A at the end. Questions can be submitted at any time during the presentation via the webcast using the Ask a Question box. We may also have media in attendance this morning. I'm joined this morning by Dr. John McMurdo, our Group CEO and Managing Director of Australian Ethical; and Mark Simons, our CFO. John will take us through the highlights. Mark will cover off the financials, and then John will give an update on business strategy. Over to you, John.

Thanks, Mel. Good morning, everyone. It's great to be with you. Mark and I are also joined this morning by John Woods, our Deputy Chief Investment Officer; and Alison George, our Head of Impact and Ethics, who are also available to answer questions in their area of expertise. Before Mark and I get into the highlights of which there are many, I wanted to provide you with some important context for understanding our results today. Particularly for newer investors. We're now 2.5 years into a strategy that has already transformed Australian Ethical into a bigger, more influential business. We are demonstrating clear results that our strategy is working, and we'll share these key indicators with you again this morning. As part of this context, it's important to understand that Australian Ethical is not your standard listed financial services company. In addition to the value we create for shareholders, we deliver investor returns through ethical investing focused on positively influencing outcomes for people, planet and animals. This dual purpose is in our constitution and the fabric of our organization. It's why people choose to invest with us and why people want to work for us because of our true authenticity. Importantly, the drivers for and the demand for this style of investing are as strong as ever and only like to accelerate as both the existential threat to the planet and the urgency of humans to address these problems grows. Our growth strategy remains consistent and disciplined. We are already an acknowledged global role model for responsible and principal investing. We believe the shift to responsible investing will accelerate over the next decade, substantially growing our addressable market. And so we continue to invest in a strategic manner to remain at the forefront and be well positioned to take advantage of this opportunity for our stakeholders. Through our advocacy work, we aim to use our collective voice to advocate for a better world. And of course, we are building the capability of the business and investing in an array of growth options to further scale our business and enhance the impact of our portfolios in response to the increase in investor demand. It's been a remarkable 6 months, indeed 12 months for us as we have continued to execute our strategic plan with focus and discipline. We unquestionably now have a stronger, more diversified, more capable business. Over the last year, I've been clear that off the back of our recent organic growth and the successful integration of Christian Super that we would deliver higher revenues, improved profit and enhanced ongoing operating leverage in the form of an improved underlying cost-to-income ratio. And so we're delighted this morning to again show significant improvements in all metrics, not only against the prior corresponding period, which was the first half of FY '23. But notably, even against the second half of financial year '23, which did include the full effect of Christian Super. First half revenue was up 33% on the prior corresponding period, and 9% up even on the most recent half to $48.5 million. Underlying profit was up 71% on the prior corresponding period and a full 24% versus the most recent half as our operating leverage continues to emerge. Even more pleasing for us as a Board and management than our recent financial results is the increased strength of our business platform. We're now at a size that is enabling us to continue to invest in the quality of our business and deliver increased profitability and operating leverage, having reached a record high of $9.67 billion of funds under management. We have achieved that through consistent growth in customer numbers to over 130,000 customers, continued positive net flows even as a number of competitors were recording outflows in the difficult environment of 2023 and through continued positive investment returns. Our staff engagement remained at high levels. We continue to provide grants for meaningful philanthropic initiatives and supporting the important work being done by many not-for-profits by the Australian Ethical Foundation given our ongoing profitability. We continue to receive multiple investments and other awards. Our brand familiarity continues to lift, having recently been ranked in the top 3 most trusted superannuation brands in the country. Importantly, many of the awards we receive are for the quality of our investment and ethics capability, our products and our investment performance. Our long-term investment track record ranks very strongly against competitors and respective benchmarks and is a vital proof point as we continue to demonstrate to Australians that their money can do well and do good. And it isn't just investment awards. There isn't time to share them all but consider the breadth as you think about the quality of the business we now have. Late last year, we were recognized at the Australian Growth Company Awards AGCO, as the financial services category winner for growth companies in Australia. We're now winning multiple awards for customer service and experience. This month, Morningstar again endorsed us as 1 of the 8 global leaders for ESG commitments and the only Australian-owned company to make that top echelon. This on top of product, investment performance and other awards. We were recently awarded the highest ever B Corp rating in Australia and New Zealand for any business in any sector, given the quality of our business and our ability to acknowledge and deliver for multiple stakeholders, the highest-ever score. So we have recognition of our growth, our customer delivery. Recognition of the quality of our sustainably built and oriented company and recognition for our investment in ethical craft on not just on local stage but internationally. It's a deep pedigree deeply embedded in all aspects of our business, where we use that pedigree and trusted voice to help deliver on our purpose, in boardrooms with CEOs, at AGMs, by the media through sponsoring research and through submission to industry bodies and governments. And we do that not only with businesses and assets we direct capital to but also in sectors where we don't. These are often multiyear engagements and very often behind the scenes as well as sometimes very clearly and intentionally in the public domain. And to cap that off, we put our mouth where our money is and our money where our mouth is via the Australian Ethical Foundation to fund and advocate for a better world. And it's all delivered by the most amazing team I've had the privilege to lead in more than 30 years of financial services leadership. I contend you could not find a more authentic, motivated and action-oriented responsible investor anywhere. And I do believe that's why we are rated in regard by Morningstar and others as one of the very small number of true global leaders in our domain. Mark, can I ask you to walk us through the financial results, please?

Thank you, John. It certainly has been a strong first half. We've continued to build a bigger, more impactful business, which continues to be recognized for its responsible investing leadership. I'll now walk through the financial highlights of this reporting period. Seeing our FUM climb by 15% to a new record of $9.67 billion is very pleasing. Since 2019, we have added $5 billion FUM at a compound growth rate of 26%, which is amazing. The SFT with Christian Super alongside continuing organic growth has contributed to this uplift. Average FUM has increased 37% versus the prior comparative period, which is the main driver behind our revenue growth. Our customer numbers have also grown at a 26% compound rate over the past 4 years. During the first half of FY '24, customer numbers grew 13% and now exceed 130,000. Super members underpinned this growth with an uplift of 16% as more Australians are actively choosing to invest their retirement savings with Australian Ethical. Our managed fund investment numbers are slightly down as a result of redemptions driven by short-term discretionary nature of managed fund investment. However, it is good to see our managed fund FUM has increased over the period. During the period, the markets experienced extreme volatility in September and October with potential investors taking watch-and-see approach. At the same time, cost of living inflationary pressures continued. An attractive alternative low-risk investment option such as term deposits are available. Despite these ongoing challenging market conditions, we are pleased to continue to see positive overall net flows. Net flows for the half year were $259 million, driven by super net flows of $269 million. A key component of these flows is the Super Guarantee contributions, which are up 57% on the prior period. Managed fund net flows were negative $10 million, reflecting cautious investor sentiment. It is key to note that super net flows are more resilient in volatile markets, demonstrating the benefit of our diversified business. Since the SFT, super outflows have increased as expected reflecting historical outflow rates relating to the ex Christian Super member base. However, due to investment performance, this fund is greater than the SFT take on balance. Our fee strategy is a key component of our growth strategy to ensure our products are competitive for current and future customers, while at the same time driving profitable growth for shareholders. Our revenue margin at 31 December is 1.02%, slightly above the 1% at 30 June '23, following a lower risk reserve rate being applied. Our fees, including external specialist asset managers are benchmarked annually or at the time of scale changes such as the SFT. Our revenue has grown strongly during the period, up 33% to $48.5 million, underpinned by average FUM and customer growth. The Super product revenue has increased strongly as a result of both organic and the inorganic growth in line with our strategy. Despite the muted managed fund net flows, our revenue from this product set has still increased following the positive performance of our various funds. We head into the second half with an annualized revenue run rate of $98 million. With our next revenue milestone to break through the $100 million mark. Operating expenses rose 23% compared to the prior period. When compared to the second half of FY '23, operating expenses were up only 4%. As part of the strategy, we continue to invest in building out our people capability. We were fortunate to be able to retain key Christian Super talent as part of the SFT and the employment expenses reflect the full run rate these staff retained at the end of November 22. In addition, we've built our capability in the investment team, ethical research team, customer service team and data and technology teams. As a result, employee costs have risen over the period by 18% and which relates to the new hires, the full year run rate of FY '23 hires and annual remuneration increases. Other key expense items include higher customer numbers and FUM has driven increased variable fund-related expenses, which represents approximately 50% of the increase in -- overall increase in the operating expenses. Time of brand campaigns has resulted in lower marketing costs during the period. A new brand campaign has recently been launched, which will result in higher marketing expenses in the second half. Higher IT expenses reflect increased investment in IT controls, cybersecurity testing and the business continuity planning environment alongside higher license costs following business expansion and new system implementation. Following the SFT, further synergies are expected in the medium term as third-party providers are integrated and planned operating efficiencies are implemented. We are well progressed on our transition to our new Super Administrator growth which is expected to deliver modern technology, improved member interactions and cost savings commencing in FY '25. Further, the transition to a new custody provider in FY '25 is also expected to deliver an uplift in the investment platform and cost efficiencies. Let me provide a snapshot of the half year results. Underlying profit after tax increased strong 71% compared to prior first half. You'll note that we have adjusted underlying profit to exclude integration and transformation costs and due diligence and transaction costs on our active M&A pipeline. First half underlying profit was up 24% when compared to the second half of FY '23, which is a like-for-like comparison of the business growth post the SFT. As previously highlighted, our key focus is on delivering operating leverage with underlying cost-to-income ratio improving to 75% for the first half, and this compares to 79% for the full FY '23. An interim dividend of $0.03 has been declared, which is up 50% compared to the prior first half. We continue to retain a strong balance sheet with excellent cash conversion, no debt and surplus regulatory capital of $12.8 million. The next two slides clearly demonstrate the excellent growth we've experienced in the period with strong upward trend across the metrics, including growth in earnings per share. And we are excited to enter the second half of FY '24 with the strong momentum across all parts of our business.

Thanks Mark. In terms of business update, everyone, we are making very meaningful progress in every element of our strategic execution. We have an expanded investments in ethics capability and team, positioning the business in new asset classes, products and opportunities, thereby, further diversifying and strengthening our business. Our advocacy is most importantly, making a positive difference in the world but also building our brands and reputation. The experience we are delivering for clients continues to strengthen from an already strong base. And clearly, having grown our funds under management from circa $4 billion, only 3.5 years ago to approaching $10 billion today, we are a larger, stronger and more impactful business. And yet, for all the success we've enjoyed in the last 2 to 3 years, we still feel there is much more to come. We expect the megatrend to responsible investment to continue among an increasingly informed investor base across Australia. And so with our 37-year history and track record of investing ethically, we have many immediate and medium-term opportunities in front of us to grow scale, to embed efficiency and to create new options for the future. We'll continue to do that in a disciplined, focused manner with an expectation of continuing to build our business strength at the same time as delivering improved shareholder and stakeholder outcomes. Our confidence comes from being able to do that with great people capability, a robust business platform, quality reputation and brand resonance and a strong ungeared balance sheet. Thanks very much for joining us this morning, and we do look forward to answering any questions you might have.

Thanks, John. As a reminder, [Operator Instructions]. Thank you. I've had a question in. You've clearly had strong growth over the last 4 years, John, how does the Board feel about how the strategy is progressing?

Thanks for the question. Look, the Board and I are very pleased. Literally, nearly 4 years ago to the day, if I think about it, COVID hit us. Markets, as we all know, were very challenged. And I'm looking at our CFO, Mark, we were circa $3.3 billion of funds under management at that point. And today, we're here with you having extensively tripled the funds under management and size of the business in 4 years. But it's not just that. We've also built a much stronger business platform for future growth, both organically and inorganically. And I've also been clear that this was never about growth for growth's sake. We are now seeing, as we anticipated, the clear benefits for shareholders in terms of higher revenues, higher profitability and earnings per share and the true emergence of operating leverage in the form of a much improved cost-to-income ratio.

Great. Thank you, John. Another question is coming to do -- regarding our inorganic growth strategy. The Christian Super SFT was obviously incredibly successful for you. Would you consider more M&A transactions?

You're right, Christian Super has been incredibly successful. And look, we do expect we will do more over time. In executing on Christian Super, we've clearly built a muscle not only in sourcing and transacting attractive M&A, but even more importantly, in integration and value extraction. So it does make sense for us to use that muscle to deliver further value for shareholders over time. But let me also be clear that this will be about considered and disciplined M&A where it provides clear benefit to capability and to scale. We do not wish and we certainly do not need to do that for the sake of growth per se.

Great. Thank you, John. There's a question about the new product launches that we've had during the year that there were quite a few in the product development space. Could you talk a little bit more about those new products that you've delivered during the period?

Look, I might ask John who's our Deputy CIO to do that. We have launched new products, both in our multi-asset funds. And John, you might want to touch on what we've done with infrastructure debt as well.

Yes. Thanks, John. The last 6 months have been quite busy in terms of delivering new products to market. We've completed our offering in the multi-asset space, launching the conservative and moderate funds. And excitingly, we've launched our first private asset investment strategy focused on investing in infrastructure debt, taking advantage of the high cash rates and the returns that offers investors at the moment. And pleasingly, the types of investments it backs supporting Australia's transition in backing solar assets, wind assets as well as social infrastructure.

Thank you, John. Another question has come in. You say you are progressing well against the strategy. What exactly does that strategy involve? And what are the key metrics you measure it by?

Yes, thanks for the question. The strategy slide was outlined in the pack earlier. But if I put that in the context of growth and what we're looking to do, it's essentially in 3 or 4 domains. We've been building brand familiarity and resonance to be known by a greater proportion of Australians is clearly driving familiarity with our brand and consideration for who we are. So that that's been an underpinning focus and outcome for us. Channel strength and diversification. We are a very much direct-to-consumer brand, which is an absolute strength of ours, and we continue to succeed very well in terms of new flows directly. We've built in the last 3, 4 years, a very meaningful advised opportunity and channel as well with a very strong team nationally. So that's in excess now of $1.5 billion of our funds under management. We've built an early but emerging opportunity with employment platforms and increasingly we're finding success with what we refer to as values-based organizations. Organizations such as charities, universities, et cetera, who want to have their capital managed well and effectively, but also in line with values of their organizations. So it's been about brand strength. It's been about channel strength and diversification. And as John Woods just alluded to, it's been about asset class strengthening and product development as well. So a multifaceted approach to growth. And our key measurements around that have been revenue growth clearly. But as I alluded to, that's always been with profit growth, earnings per share growth and underlying cost-to-income improvement [indiscernible]. These are fabulous businesses with natural operating leverage opportunity. And now we're starting to hit those scale increments. We feel very positively about being able to continue to scale the business and deliver great outcomes for shareholders.

Excellent Thank you, John. There's a clarifying question about the M&A that you were speaking about, John. Just to clarify, did you mean other Super funds or other types of businesses if you could clarify that.

Look, it can include both. Certainly, we're interested where it makes sense for us, having done -- having taken on a quality super fund in Christian Super. That's clearly something we feel we're well placed and able to do again if and when the right opportunity presents, but also potentially for capability. I've spoken briefly to -- our desire to build out asset class and product strength. And so where we find aligned capability in those domains, we have an interest to build that clearly organically, but also potentially inorganically where that makes sense.

Great. Thank you. More of a general question now around the outlook over the rest of the year. What challenges do you foresee and how would you plan to go about tackling them?

Look, the key challenges we see the markets are at an interesting place, and we still have an economic backdrop with high inflation and some challenges around discretionary investment, which always for an investment manager puts a small amount of headwind against growth aspirations. That said, I think one of the key strengths and one of the key drivers of resilience in this business is the contribution from superannuation with clear systems growth. We are positioned very well there with a unique and differentiated proposition. And that's been a huge underpin and will continue to buffer us against those markets. I think it's been really interesting for us to note recently we're now through 40, I think, it is now consecutive quarters of growth of new flows. And so that just demonstrably indicates to us and our shareholders that we have an incredibly robust and resilient business through all sorts of market cycles.

Excellent. Thank you, John. A question has come in regarding our fees. Since 2015, the fees have roughly halved and FUM has also grown rapidly during that same period. Do we feel the business is now at an inflection point given now more competitive fees that we have in the recent build-out of the investment team. Mark, over to you.

Thank you for the question. You're correct. As presented, Australian Ethical has continued to reduce its fees over that period of time since 2015 to ensure that we are competitive for both our current and future acquisitions. And that has been -- had a lot of elasticity and there has been rapid FUM growth. Fees are continued to be reviewed on an annual basis. We have a board strategy where we actually review our fees in regards to -- or benchmark our fees in regards to competitors, and we do that on an annual basis. For example, in the prior year, we reviewed our fees back in September '22, and we also reviewed them on SFT. So looking forward, we continue to ensure that we are competitive. We need to have the right offering to ensure that we continue to have FUM growth.

Thank you, Mark. It looks like those are all the questions. Thank you very much, once again, everyone, for attending our webcast and wishing you a good day. Thanks, everyone.