Australian Finance Group Limited (AFG) Earnings Call Transcript & Summary

Thank you for standing by and welcome to the AFG FY '26 full year results presentation. [Operator Instructions] Finally, I would like to advise all participants that this call is being recorded. I would now like to welcome David Bailey, Chief Executive Officer, to begin the conference. David, over to you.

Good morning, and thank you for joining us to discuss AFG's FY '26 results. I am pleased to open by saying this has been an excellent year for AFG, one that reinforces the direction we set for this business some time ago. Broaden our earnings base, strengthen our lending platform, and keep delivering for the broker network that is central to everything we do. Our net profit after tax was $49 million, up 39% on the prior year. Importantly, this growth was not driven by any single part of the business. Both our distribution and manufacturing segments contributed, and today only around 10% of AFG earnings are directly exposed to short-term movements in residential lending volumes. The remaining 90% underpinned by our existing loan books, trail commissions, subscription income and diversified products which have an annuity type characteristic to them. This evidences a meaningful shift in the shape of this business, and one we have been building towards deliberately. Our broker network continues to grow and gain share. AFG now connects more than 4,300 brokers and over 600,000 customers with more than 80 lenders, and 1 in 9 Australian mortgages is written by an AFG broker. As banks close branches and the broker channel takes on a larger role in how Australians access finance, AFG's scale, technology and relationships put us in a strong position to keep benefiting from that ongoing structural shift. We have continued to build a larger, stronger returning lending business through AFG Securities, grown our recurring broker services income, and made further progress on our broker investments program, all while maintaining strong capital discipline, investing to strengthen the business, returning to capital to shareholders through dividends at our on-market buyback, and keeping a healthy, flexible balance sheet. This kind of resilience is not new to AFG. Over 32 years, we have navigated multiple housing cycles, and each time we demonstrate the durability of our business. This history matters because it is exactly why the broader earnings base we have built means short-term movements in lodgment activity now have a more limited direct impact on group earnings than they historically did. I will now dive deeper into the presentation before I hand over to Luca Pietropiccolo, our Chief Financial Officer, to take you through the numbers in more detail. On slide 2. Before we get into the numbers, it is worth reminding everyone of the platform we are working from. AFG connects more than 4,300 brokers and over 600,000 customers with more than 80 lenders and 1 in 9 mortgages is written by an AFG broker. We earn across 4 streams; commissions, our lending through AFG Securities, broker services subscriptions, and our broker investments program. That combination is what underpins everything else in this result. On slide 3, I want to talk about the capital light distribution model. This slide illustrates how I want to walk you through the result. First, the core of our business, then the growth platform we have built on top of it, and finally, how that is translating into returns. Gross profit per broker is up 12% to $43,000. Underlying return on equity is up 4 points to 23%. This is not just a bigger business, it is a better one. The business has grown whilst improving productivity and returns on shareholder capital. Moving to slide 4 is some of the highlights. As I mentioned before, profit of $49 million, up 39% on the prior year, and that growth has come across the business. Residential settlements, our AFG Securities book, cash flow, and broker subscriber numbers were all up strongly. We will come back to a few of these in more detail over the next slides. Slide 5. We set out our FY '25 aspirations around 18 months ago. I wanted to show you where we stand against them today. On some measures, like loan book size, net interest margin, and broker services, we are very happy with the progress being made. Broker investments will develop at a different pace. Our focus is on high-quality, scalable businesses that meet our return hurdles. We have always said that the pathway would not be linear, but our strategic direction and capital allocation discipline remains unchanged. I will now pass across to Luca for a deeper dive into the financial numbers.

Thanks, Dave. I will focus on the earnings drivers across distribution and manufacturing, the increasing resilience of the earnings base, the improvement in returns and operating leverage, and then finish on capital allocation and the earnings we carry into FY '27. Starting on slide 7, group EBITDA increased 32% to $74 million. Reported NPAT increased 39% to $49 million, and underlying EPS increased 33% to $0.20 per share. Underlying ROE increased by 4 percentage points to 23%. Gross profit increased 12% to $159 million, while our underlying CTI improved 4 percentage points to 55%. Distribution contributed $3 million of the incremental EBITDA while manufacturing contributed [ $17 million ]. The important point is that earnings growth has been accompanied by improving returns and operating efficiency. We have remained disciplined in where we allocate capital, directing investment towards AFG Securities, technology, and broker businesses where we see attractive economics and a clear pathway to earnings growth. On slide 8, at the heart of our strategy has been continuing to broaden the products and services we provide to brokers and their customers. Over time, that has materially changed the composition of AFG's earnings and reduced our direct exposure to new residential mortgage volumes. Today, around 78% of earnings come from diversified sources, while only 10% is directly exposed to new residential volumes. The earnings is supported by existing line books and diversified income streams, including trial commissions, recurring broker services income, and the diversification of products across white label and asset finance. That gives the group a more recurring earnings base and reduces our sensitivity to short-term movements in mortgage activity. We continue to benefit when system volumes grow, but growth in new residential volumes is now only one of several earnings drivers across the group. That broader and more resilient earnings base is important context for how we think about capital allocation and the earnings momentum we carry into FY '27. Turning to slide 9. Distribution remains the largest contributor to group earnings, generating $71 million of the EBITDA with an outstanding underlying return on equity of 40%. It remains a highly efficient capital allocation business and continues to benefit from the investments we are making in the network, technology, and services we provide to our brokers. Residential settlements increased 18% year-on-year to $75 billion. Subscription income increased by 13% to $24 million, the eighth consecutive year of growth in subscription income. Operating expenses in this segment increased primarily reflecting technology enhancements and broker engagement. We continue to see opportunities to invest in the distribution business, but when the business is already generating a 40% return on equity, the bar for incremental investment is high. Manufacturing delivered the largest step-up in earnings. The securities business benefited from the combination of a larger book, improved funding, and increasing operating leverage. The closing book increased 30% to a record $7.1 billion, while settlements increased 47% to $4 billion. Manufacturing GP increased 52%, operating expenses increased 12%, and EBITDA increased 107% to $33 million. That relationship between revenue growth and the cost base is the operating leverage we have been targeting and continues to validate the investment we continue to make in this part of the business. The increased scale in AFG Securities delivered $6 billion of operating leverage during FY '26. The return on the manufacturing business was 30%, and that excludes our Thinktank investment. We see further operating leverage available as technology, automation, and AI improve processing efficiency. We expect continued targeted investment in the securities platform to support that opportunity, reducing manual activity and improving processing efficiency as the business scales. The focus remains on translating that investment into sustainable efficiency and returns. Turning to NIM on slide 10. The securities NIM increased 9 basis points to 125. Excluding the cash to build spread, NIM improved by around 8 basis points with improved warehouse pricing, RMBS execution, and greater diversification of our funding sources supporting that improvement. During the year, we have completed $2.2 billion of term issuances and around 67% of the book was funded on improved terms by June. As we enter FY '27, about 2/3 of our warehouse facilities will be renewed in the second quarter and intend, assuming market conditions continue to be supportive, to complete our first FY '27 turnout later this quarter. Current indicative pricing is modestly wider than the particularly strong levels we achieved on the 2 most recent RMBS transactions, and capital market pricing continues to evolve. Our exit NIM was 128 basis points. From here, NIM will reflect both our funding outcomes and competitive pricing in the lending market. We will manage both dynamically, maintaining pricing discipline and targeting appropriate risk-adjusted returns rather than pursuing volume at the expense of margin. I will just highlight that the FY '26 NIM of 125 basis points is above our through the target aspiration of 120 basis points. Turning forward to capital allocation on slide 11. As Dave mentioned, our approach to capital allocation remains disciplined. We first protect the strength and flexibility of the balance sheet. We then allocate capital where we see attractive risk-adjusted returns and a clear pathway to EPS growth. Where we do not see a sufficiently attractive opportunity to deploy capital, we retain the flexibility to return it to shareholders. During FY '26, we invested [ $21 million ] across securities, technology, and broker investments. Those are deliberate areas of focus that we have spoken about before. Our lending business provides an opportunity to deploy capital behind a growing mortgage book and benefits from increasing scale. Technology investment supports the productivity and economics of our distribution business and provides the platform for further efficiency. Broker investments allow us to take minority equity positions in high-quality, scalable broker businesses where there is strong alignment between AFG and the broker. That gives us exposure to the growth of both businesses and to the broader consolidation occurring across the broker market while maintaining discipline on valuation and returns. At the same time, $30 million was allocated to shareholder returns through dividends and buyback. The buyback is another capital allocation option. At current valuation levels, we believe repurchasing AFG shares can provide compelling returns for shareholders relative to other uses of capital. Importantly, though, we retain significant financial flexibility and continue investing behind our strategic priorities and respond to attractive opportunities as they emerge. We finished the year with $63 million of unrestricted cash conversion of 94%, and an $84 million trail book net asset. So we retain meaningful financial capacity with our threshold for deploying that capital prudently set. Our capital allocation discipline is focused on converting retained capital into sustainable EPS growth and attractive returns on invested capital. Finally, slide 12. This brings together the earnings impact of the capital and investment already deployed. Group EBITDA increased from $23 million in the second half of FY '24 to $39 million in the second half of FY '26, representing a 29% compound growth rate. More importantly, we enter FY '27 with earnings already embedded from activities executed during FY '26. On the assumptions shown on the slide, the $7.1 billion closing AFG Securities loan book contributes $10 million of annualized EBITDA uplift. There is a further $2 million from technology investments and $1 million from broker investments undertaken to date. Together, that represents $13 million of annualized EBITDA uplift into FY '27. I do want to highlight that this is an annualized illustration. The securities calculation uses 120 basis point meaning assumption and does not assume further book growth or margin expansion. It demonstrates the contribution from scale and investment already in place as we enter FY '27. So we enter the year with a larger and more resilient earnings base, greater operating leverage in the securities business, and a higher opening earnings base from capital already deployed. With that, I will hand back to Dave.

Thanks, Luca. I will just spend a bit of time on the market and an operations update, so I will move straight to slide 14. The broker channel now, as we have mentioned, is 81% of the residential market. If you go back to FY '16, which is around about the time we listed, that is up 31 points since that time. And so that has been aided by, at the same time, around 1 in 3 bank branches have closed since FY '20. And within that channel, our larger brokers are growing 2.5x faster than the market. Scale continues to work in our favor here. As market conditions evolve, larger broker groups with more established customer retention, technology, and engagement capabilities are increasingly well-positioned to take share. Moving to slide 15, which talk about some near-term activity really since mid-May with the budget announcement. As already reported by all the major banks, AFG residential lodgement activity has also softened since those announcements as borrowers respond to changing tax settings, rate expectations, and cost pressures, sorry. That said, this is only about 2 months of trading data, and I would not read it as a full-year trend just yet. There remains good level of inquiry with brokers, and as banks position for more flow, we would expect refinance rates to lift above the current lows of 15%, especially as front book and back book pricing begins to widen. We are also seeing early signs of upgrader volume lifts. Moving to slide 16. Some in the market ask whether technology is a threat to the broker relationship. We see it as the opposite. It strengthens it. Our BrokerEngine Plus platform cuts time to a deal by around 30%, freeing brokers up to serve more customers without losing the personal relationship that customers value, a relationship that is reinforced by Best Interests Duty. We continue to invest in technology which enhances the customer experience when trusting a broker for their financial solutions. Jumping to slide 17. Our trail book has now grown for 22 consecutive years and sits at $232 billion. A genuinely durable, low volatility earnings base. Outside of housing, our asset finance settlements have grown around 18% a year since FY '22, and 59% of our brokers now write more than one product, which speaks to how embedded diversification has become across our network. Slide 18, to talk about, again, about the broker services subscription income, which Luca highlighted earlier. It's reached $24 million for this year and it's highly recurring subscription-style income stream. BrokerEngine Plus subscribers were up 19% to 4,400, 57% of our broker base. On top of that, we have over 700 brokers from outside the AFG business trusting BrokerEngine for their own needs. We're tracking well towards our FY '29 aspiration of broker services making up 30% of distribution revenue Slide 19. Time to focus a little bit on our manufacturing business, which is up 30% and demonstrates record market share across our panel. It's had an excellent year. As I mentioned, the loan book grew by that 30% to land at $7.1 billion for the end of the financial year. We reached a peak settled market share of 5.3% of our platform. Runoff on the book has moderated on the back of investment in the retention strategies we have adopted. On slide 20, a testament to our credit quality and the performance of our book. So alongside that terrific growth in our book, we've maintained sound credit quality. Arrears sit at 1.7%, only a modest increase from 1.6% a year ago, and lifetime losses remain below one basis point on everything we've ever settled. 90% of the book has no adverse credit, and all of our higher LVR lending is LMI covered. This is a predominantly fine, well-positioned book, even against a backdrop of mixed economic conditions. Just some interesting closing in terms of the outlook on slide 22. As borrowers weigh up changing tax settings, shifting interest rate expectations as costs are living pressures, and as predicated by the banks, residential lodgement activity has softened since the middle of May. That said, we're starting to see some early signs of the shifts we had anticipated. Whilst refinance activity remains below longer-term averages at around 15%, back book front book pricing is beginning to widen. So we would expect this to build back towards historic norms. What I find particularly interesting in our July and August month-to-date data is a spike in upgrade applied at 47%, which is helping support an average loan size of around $730,000. So in other words, we're seeing no real movement in that number. When all these factors are taken together, this looks more like a market that is adjusting than one that is on constant retreat. I want to be upfront, we are continuing to watch it closely. That said, I enter FY '27 confident about this business, and that confidence is grounded in the fundamentals, not simply sentiment. Only around $1.10 of our earnings now comes directly from short-term housing volumes, the lowest that figure has ever been, and it reflects 32 years of deliberately building a broader, more durable business through market cycles rather than around them. We also carry real earnings momentum into the new year. Our AFG Securities book is $1.6 billion higher, and the investments we've made in prior years and in FY '26 continue to lift these at DAR. Our funding position is stronger and more diverse, and our broker network keeps growing. Underlying housing demand remains intact, and Australia's structural housing under supply has not gone away. Both of which point to a durable long-term opportunity for brokers and for AFG. We have had more ways to grow than we have ever had, a stronger balance sheet to support that growth, and a network of brokers who trust AFG to help them build their businesses. What gives me confidence is that these opportunities are building on a much stronger base, a growing network, more recurring income, and technology that is helping brokers do more with their customers. With that, I will pause, and we will take some questions. Thank you.

[Operator Instructions] Your first question is from the line of Jeff Cai at Citi. Please go ahead.

First one on Thinktank. We can see profit had a bit of a decent step up in the second half. I understand there are some lumpy factors in there. Can you talk through those factors and then, more importantly, how do we think about the outlook of that business going into next year?

Luca here. Thanks for the question. Maybe I will start with the second part of the question first around how do we think about that business going into FY '27. I think it is very similar thematics that Dave and I have spoken about in relation to the manufacturing business. The book that they started the new lease is higher, the NIM is better. We anticipate that to continue into FY '27. In relation to the first half, second half split, similar to what we saw in FY '25, Thinktank is pursuing some whole loan book sales. You see some lumpiness in the second half of earnings. If we adjust that impact out, it is about $2.5 million in the second half in relation to that, and that is part of their ongoing strategy, to maintain their capital.

Got it. Okay. The second question, just interested in a bit more color in terms of how you are thinking about, I guess, the trade-off between margin and volume in the lending business. As you said earlier, the exit NIM is 8 bps higher, and the loan book is growing well on track towards FY '29 targets. Just interested in how you are thinking about that trade-off going forward.