Mercia Asset Management PLC (MERC.L) Earnings Call Transcript & Summary

Good afternoon, and welcome to the Mercia Asset Management plc interim results investor presentation. [Operator Instructions] The company may not be in a position to answer every question received during the meeting itself. However, the company will review all questions submitted today and publish responses where it's appropriate to do so. Before we begin, I'd like to set the following poll. I'd now like to hand you over to Mark Payton, CEO. Good afternoon, sir.

Good afternoon. And welcome, everybody, to Mercia's interim results for the period 30th of September 2023. I'm sure we presented to a number of you, for those that are new, again, welcome. One of the changes since our last presentation, our prelims is, I'm pleased to say that the executive team has been expanded to add Jo Bath, Chief Operating Officer to the executive team. Joe joins us from OXGENE where she previously was COO, a business that grew rapidly and the number you will recall we exited that business. It was a very strong return for our EIS funds as well as for the balance sheet, and we're pleased to welcome Jo on board. To my right, presenting later on is Martin Glanfield, Mercia's Chief Financial Officer.

Good afternoon, everyone. I joined Mercia as employee #7 in October 2014, just over 9 years ago now. Since the IPO, the business with Mark when we had GBP 22 million of funds under management. And my background is mainly as a CFO of publicly listed and privately backed technology-enabled businesses in the U.K. and the U.S.

Thank you, Martin. And to my left is Julian, Julian Viggars, Mercia's Chief Investment Officer.

Hi, good afternoon, everyone. So I came to Mercia via the 2016 acquisition of Enterprise Ventures. So all the way back to 2003. I've been working in Venture managing various different funds for Enterprise Ventures. And then lastly, Mercia and now sit as Chief Investment Officer across all of Mercia's equity investment offerings.

Thank you, Julian. And we're coming to you today from our main office in Henley-in-Arden and the schematic to the left, just demonstrates the offices we have across the country. We have been like 11 offices, delivering capital across the U.K. This slide nicely highlights why we believe this to be a very strong period for Mercia and its continued growth. We've seen assets under management grow to GBP 1.5 billion. That's up 1.7% compared to our last reporting period. Revenue is growing to GBP 15 million. That's up 23.5% and as compared to this time last year. EBITDA is growing to GBP 2.8 million, up 33.4% again compared to this time last year. Importantly, in the current environment, at this period end, GBP 36.5 million was what our cash on hand position was, following the recent successful sale of nDreams, a profitable sale of nDreams. That cash has now grown to GBP 60 million, GBP 60 million debt-free. I'm pleased to say that the progressive dividend policy continues to be delivered with the growth of the interim dividend by 6.1% to 0.35p per share. And as a number of you will have noted, we announced today a share buyback as well of up to GBP 5 million. This slide, it just demonstrates the growth and actually just choosing from the COVID period to now, shows the growth of assets under management. On the left side, the green being total AUM, the dark blue being third-party funds and the like blue piece being our proprietary position, our direct investments. And you see that steady growth over the 3-, 3.5-year period, predominantly driven by our growth in our third-party funds under management. And to the right side, you can see the associated growth in revenue, driven by those third-party funds under management and the commensurate EBITDA growth with the growth in the third-party funds under management. And the final position there is where we are at this half year period, and we would expect for the full year for that upward trajectory to continue. In respect of our proprietary position, our direct investments, again, drawing the analogy from the same period COVID through till now. So a period of first of April 2020 to September 2023. What this table on the right demonstrates is the net cash invested over that period of circa GBP 57.6 million and the returns in what being cash over the same period of GBP 86.8 million. In other words, the balance sheet portfolio is maturing. The cash that we're putting to work is returning cash to fund the growth of the business going forward, which is important as we contemplate growth within our own means. We have enough cash on hand to not need to go back to the city to raise money, and we said many years ago, we wouldn't need to and indeed not get the banks to raise debt to remain debt free. The rows below that just show the movements in terms of realized gains and losses and unrealized fair value movements. And it just really demonstrate the trajectory of what is a venture portfolio, but is fundamentally delivering cash. A little over 2.5 years ago, we set out on what we termed the Mercia 2020 vision, a 3-year strategy, where we sought to grow assets under management by 20% per annum over a 3-year period average, if you like, or another way of looking at that is assuming starting from just under GBP 1 billion AUM after the 3-year period to raise that by over GBP 600 million to GBP 1.6 billion. And then profit before tax, looking at GBP 20 million per annum over a 3-year period average or again, maybe looking at it as a 3-year cumulative position to GBP 60 million. In terms of AUM growth, we remain confident that the GBP 1.6 billion will be met, and we are -- we'll talk later on about the organic prospects for that. And in terms of profit before tax, although at GBP 31.2 million over 2.5 years, that is going to be very difficult in the current environment that we find ourselves to achieve the GBP 60 million. The progressive dividend that we talked about just a moment ago, that is demonstrated by the growth in the highly profitable third-party fund management operation that in large part supports that. And to that point, the profit before tax is in large part supported by our direct investment strategy. And at the moment, as I said, the majority of the portfolio is in Venture and Venture is in a challenging arena at the moment.

Thank you, Mark. As you can see, we achieved more solid growth in assets under management during the 6-month period, and there were once again no redemptions. From a starting position of GBP 1.4 billion, we added GBP 45 million of new inflows. We experienced a very small reduction in fair values across our asset classes, and we distributed GBP 17 million to our investors. And on the right-hand side of this chart, you can see where the GBP 45 million was raised from being EIS VCT and British Business Bank and North East Venture fund. And post period end so far, we've already raised an additional GBP 10 million from another EIS fundraise and for the British Business Bank. And currently, our VCTs have launched a GBP 60 million fundraise, which is going well. We're confident that there is far more organic growth to come in the foreseeable future. This slide provides more granularity on the makeup of our GBP 1.5 billion of assets under management by asset class, investor type and fund type. These varying fund types are typically either evergreen or long-dated and are generating a blended fee margin of circa 2%. 80% of our total revenue is contracted and recurring. And in the 6-month period, 97% revenues came from that profitable fund management operations. So as you can see, we are well diversified by asset class, and we can invest U.K.-wide. This is our P&L account for the first 6 months. And as you can see, the headline here is the revenue growth of 23.5%. But that obviously also includes the full 6-month period of the ownership of Frontier Development Capital. And although it's been a challenging period from an inflation perspective [ and ] our cost base where our underlying costs rose by 10%, I'm pleased to say that our underlying revenues increased by 11%. So we have been able to absorb the cost pressures, which have affected not just the U.K. financial services industry, but the whole of the U.K. during this period. I think the other interesting point worth noting on this slide is that a year ago, the bank interest that we earned in the first 6-month period on our cash balances was GBP 117,000, whereas in this 6-month period, we've earned GBP 778,000 from our cash balances. And of course, that period was prior to the receipt of GBP 26.4 million from the sale of nDreams. Thank you. Our balance sheet remains rock solid at just over GBP 200 million dominated by the GBP 142 million balance sheet portfolio, which has obviously reduced somewhat post period end from the sale of nDreams, but also the cash, of course, has gone up by the same amount following the exit from nDreams and it's a really rock-solid balance sheet. And our cash flow position is obviously now extremely strong at GBP 60 million. And what we have built is a very cash-generative business built around our profitable and growing fund management business coupled with periodic cash realizations from our ensuring direct investment portfolio. And finally for me, as you probably heard me say before, for an [ A-listed ] company, we are very appreciative of the significant blue-chip share register we have, which, of course, includes circa 10% individual investments.

Okay. Thanks, Martin. So the left-hand side of this chart does show our complete suite of investment products so we can invest and lend from GBP 200,000 upwards to GBP 10 million as the business scales and circumstances GBP 20 million through our FTC funds. So on the Venture side, that's split between our early-stage Venture activities and we can write GBP 0.5 million to GBP 5 million check sizes and then our VCT scale up capital really look [ at ] GBP 3 million to GBP 10 million of exposures. Regional debt teams did a smaller sub GBP 1 million debt [ lens ] leading FDC to do the larger, in some cases, property transactions. And again, for our private equity offering, the sweet spot really is GBP 4 million to GBP 5 million of replacement capital. On the right-hand side of this chart, again shows that the split of that GBP 1.5 million of AUM across those areas of activity, but it also shows our significant liquidity. And we are not suffering from any scarcity of capital across any part of our business at this point. And again, so without any new funds raised, and we are consistently raising new money, so without that, we have at least two years of investment runway, which is a great place for us to be. Thanks, Mark. So this slide shows the performance across our equity products, which, again, continues to be solid. So firstly, our proprietary capital balance sheet is running at an IRR of around 13%. And just as a reminder, over the last three years to March, we had equity realizations of GBP [ 340 million], add to that a further GBP 52 million to this period to September and then GBP 26 million from nDreams. So circa GBP 420 million now realized over the quarter of the last 3.5 years. So we operate close to 45 or so funds various different mandates, remits. There are different ages and geographical focus areas. So we use CPI as a performance measure. And we expect this to increase over time in Venture, not necessarily uniformly. We can see that across our legacy venture and current PE. Those numbers are ticking up over the last 6 months, and that's really a couple of recent exits in there. Our current venture activities are flat or slightly down, again, not unsurprising really in the current market. And then on to our VCTs, the best measure is the total return here, which includes dividends paid out. So that's between 2.5x, again, some solid performance there and again, pretty much flat over the course of the last 6 months. So I guess, in conclusion, I continue to be happy with our performance in what has become a much more challenging period for Venture and smaller private equity. Thanks, Mark. So this is our direct investment portfolio in numbers. So a little bit less complex than in July. But again, starting off on the left -- bottom left, GBP 137 million or so of brought forward value, to which we added GBP 7.5 million. Then we have a negative fair value movement of GBP 1.6 million to leave us with a GBP 142.5 million of balance sheet value. So within our fair value movements, again, a number of upward moves here. So nDreams, again, you can see that number there as we, of course, anticipated the November exit. Again, that transaction was in play at the [ 30th ] of September. Voxpopme, again, a new round which we put money into and also convert to some older loans with very favorable structuring and conversion. As was the case to some degree on Ton U.K., which is intelligent positioning and our two other software assets, Pimberly and Forensic, again, trading well and therefore, enterprise values ticking upwards. So four downward movements. Impression Tech, which is the largest movement. And again, we've impaired that value as we had an exit and fundraise process, and there was a lead buyer in that, which unfortunately fell away. So that process is going to have to be restarted. I guess, somewhat similarly, but similar [ Eyoto ], we had a setback in that -- as you'll recall, we were in correspondence with the FDA over potential approval for the company's slit lamp products. Ultimately, the FDA came back with a requirement for further trial data. And again, so we are funding a lot of time on those 2 assets really kind of reassessing commercial strategies and we'll monitor them quickly over the course of the next few months. There was a further small downward loom on Invincibles, and that's really only as the short-term debt in that business increased momentarily around the period end. And our only listed assets, MyHealthChecked continues to struggle as a small public company. Thanks, Mark. So our top 10, first 5 here, a little bit more detail. So on nDreams, as you may well have seen, we have sold that business now in mid-November for an enterprise value of GBP 91 million to our co-investors Aonic. And the great part of that deal also was that we were allowed to reinvest circa GBP 4 million back into Aonic, which we're excited about because it does give us a great opportunity to continue to benefit from the growth, not only just nDreams, but [indiscernible] few deals that are in the Aonic [ stable ] and potentially at a lower overall risk level to us. Voxpopme. Again, it's growing steadily, some $9 million of revenue now. We saw some churn in the early part of the year. That's been all replaced and is back growing, moving towards breakeven, and that's the focus. Some interesting partnerships, one with Microsoft and ChatGPT, that's really to help Voxpopme generate some better quicker survey questions for its own clients. And Netacea, again, also growing $6 million or so. Our biggest customer here has just renewed for three years, which is a great endorsement of the technology. And again, we've been working with the team, and there's a new Chairman in this business as well, which is is something we're excited about. VirtTrade is one of our two mobile games businesses. And again, Cards, The Universe and Everything, which is the first game is now at 250,000 regular monthly users. And the next question for the trade is considering whether or not they start to build a second game using its card play platform. Number 5 is Medherant, and we are in the clinic currently with Medherant on its testosterone patch and again, making progress with other third parties with their own developments as well. Okay? So on to Warwick Acoustics. So again, this summer we announced the first OEM nominations. So this is for the company's flat electrostatic figures. So this is a nomination onto one of the highest spec cars for a 2025 new launch. Actually just recently, we're optimistic of some wider adoption across the range with that OEM. And again, we expect revenues to come from mid-2024, we see some schedules of call-offs for those products. And again, what we are hoping for and optimistic over the second and third nominations with other OEMs coming across 2024. So going well is Warwick. As is Invincibles, which is a second mobile game, again, software manager 2024. The latest iteration of that game launched in September is tracking about 20% up on previous gains, which is great, and we look forward to two new games coming out across hopefully Q1 and Q3 of next year. Impression Tech, we've already talked about. Then intelligent positioning, again, we are making some improvements to the user interface to hopefully abate some of the churn, which, again, we've seen in the middle part of the year. We've recently won some new customers and pushing very hard, and I think we'll get there towards breakeven in the early part of 2024. And lastly, in the top 10, we've got LocateBio, which is orthobiologics. So bone growth area. We have undertaken a pretty comprehensive cheap trial with excellent results out of Australia and are in the process now of organizing first in man trials, which we have FDA pathway cleared and FX approval alongside a funding round, which is in progress. Next one.

Thank you, Julian. We're very fortunate at Mercia to benefit from diversification on a number of levels. One is that the sectors in which we invest against. So we're not overweight in any one area. One is, indeed, the strategic assets that we manage, which are debt, private equity and venture. And the final one is diversification across investor type. We manage retail capital, public sector capital and institutional capital, which is typically regional pension funds. And looking at retail, that's through enterprise investment scheme, venture capital trust -- funds. We manage approximately GBP 434 million to date, which is just under 5% of the opportunity that the market -- our market share is 5%, if you like. And looking to the next column, which is potential, our pipeline, our near-term pipeline, we're looking at a further GBP 90 million to secure into retail. The next area of public sector, we currently manage circa GBP 315 million of funds, regional debt and equity funds as an opportunity mix of over GBP 300 million, again coming in the near to medium term that we would hope to skew some element of. And then finally, across the institutional capital, there's about GBP 180 million across private equity and private debt and property, again, which we are looking to secure in the near to medium term. So that's over GBP 0.5 billion of third-party funds on an organic basis that we have [ site of ] going forward. And it is a key focus of the executive team at the moment. So why hold a share, why invest in Mercia? I think the first point here is just the strong liquidity, the strong cash on hand. Mercia has got GBP 60 million now cash on hand debt free, which is approximately half our market cap today in cash. And then outside of the balance sheet, looking to the third-party funds that Julian has just spoken to, approximately sort of GBP 346 million of unrestricted cash across all asset class in which we manage. The GBP 5 million share buyback or up GBP 5 million share buyback announced today, again, is a positive trend and a demonstration of Mercia strong trading performance and cash position. The progressive dividend, our interim dividend being up by 6%, again with a stated policy that we continue to deliver against. Of our assets under management, about -- over 85% of those are third-party funds are other people's money that we are carefully investing and returning cash back from. Importantly, of those third-party funds, 100% are closed end. And what we mean by closed end is permanent capital that we've got and we can depend on to support existing portfolio as well as in the current environment look for value as we make new investments. Those funds are not subject to redemption, and we can forward plan our strategic intent and use of funds. Those funds have a blended 2% fee margin across them, which is driving the performance of the profitability of the group. And in terms of our performance, our ability to allocate into the funds to distribute into good deals and then bring that capital back again is testament to the fact that we've had GBP 45 million inflows during this period into existing funds. And on that basis and on the previous slide that we just showed in terms of pipeline of opportunities in the near term by near term, I mean 6 to 12 months. We are well placed for third-party funds under management expansion on an organic basis, that's GBP 0.5 billion on an organic basis. However, with such a strong balance sheet with a direct investment that can turn into cash as is evident for nDreams, we are confident that we could fund accelerated growth through corporate expansion as well as we will evaluate opportunities over time. In addition to that, with the growth of the business, that's 140 of us now, as I've said, across 11 offices. We have internal capabilities and competencies where we have identified adjacent platforms for growth as well, but we could look to grow into areas where we can use our existing skill set to do so. And in respect to the business across the management team, employees and the Board, we collectively own 17% of Mercia, which shows good strong alignment to the other owners of Mercia. And the final point I wanted to say here is Mercia has never been in a stronger financial position than it finds itself in today. We have growth across the group. We have growth in all strategic asset classes we manage. We have site on strong organic growth in third-party funds under management, and we have a stabilized direct investment balance sheet that is delivering cash as is evident from the end groups. So thank you very much for your attention. And I look forward to answering some of the questions. In fact, we'll endeavor to answer all the questions that have come through.

Perfect. Mark, Martin and Julian, thank you very much for your presentation. [Operator Instructions] But just while the company take a few moments to read those questions have been submitted today, I'd like to remind you that recording of this presentation, along with a copy of the slides and the published Q&A can be accessed via your investor dashboard. As you can see, we received a number of questions throughout today's presentation. If I could just hand back to you just to read out the questions and provide responses to where it's appropriate to do so. I'll pick up for you at the end.

Absolutely. And what I've done is I've seen these because there are things that one would expect coming through, and we'll look to pass this to my colleagues at Martin and Julian where appropriate. So the first thing I'll pick up is to do actually with our investment activity. And I assume it's mainly equity, but Martin [indiscernible] across debt. So I'll also ask Martin in respect of debt, too. So in terms of equity, Julian, given the current economic climate, have you adapted investment strategies to continue sort of -- you pick wisely in your team, but continue to do that going forward?

Yes. I think we have to be alive to the current environment, clearly, and what we are doing, no surprises here is constant trading on our existing portfolios, first and foremost, and also concentrating on planning for and arranging the syndications that are required earlier because those are taking longer to put together. We are always looking forward and we're trying to fund our businesses into the future. And again, I think it's fair to say we're looking to extend those runways and that's either by adding more cash or encouraging the companies to be making slight changes to their investment models and strategy to enable themselves to be looking further into the future. So perhaps 24 months of runway is the ideal when we put money into a business. And then, of course, we're carefully looking at some of the sectors that you would expect to be effective, and that's anything that perhaps enrolls any consumer spending, but also kind of high capital requirements, et cetera, which, again, we know are going to take longer to raise. So I think those are the salient points there. They're [ marking ] in terms of our own strategies.

And Martin, across debt, are you seeing similar things and approaches within your -- the portfolio and the debt team?

Yes. So there's sort of three parts of the country really where our debt [ tender base ]. So Yorkshire and the Humber where we are managing British Business Bank funds. The level of inquiries there is holding out really well. Average investment size is about GBP 300,000. Things are -- businesses of all shapes and sizes. They've all got to be profitable because they all able to support the loan repayments and the service the interest. A lot of them will have taken out loans during the COVID period, which now need to be repaid, and so there's some refinances going on, but these are pretty solid, young, all mature businesses actually they just want to shore up their balance sheets. And in the Northwest, our team there are more focused on small buyouts, an area where the main banks have really have left the arena. So probably lending up to GBP 1 million for a small buyout or a small buy in and their work in progress is particularly strong. And then down in the Midlands, FTC, we're just about to celebrate the first anniversary of that acquisition. They've done brilliantly. We're really thrilled they're part of our group. The integration went really smoothly. There are a fantastic bunch of people. They're delivering the expected results for us. And also, they would be holding up quite well, in particular in the commercial property space is holding up well. And yes, and they are optimistic that they will be securing additional fund mandates in the coming 6 to 12 months.

Thank you, Martin. And Julian, just on the theme of investment trends, you're seeing AI featuring more in proposals and opportunities? And is that impacting and affecting your investment decisions?

I think I'll answer that the same way as perhaps we have done in the past in the -- at AI, perhaps used to be called machine learning, very similar sort of technology angle, big data, et cetera. But we're not looking specifically for opportunities that have AI, but we are certainly encouraging all of our portfolio companies to embrace it. And there's some examples I've already suggested there's Voxpopme has a specific partnership with Microsoft to use ChatGPT. Even on the Invincibles, so they are using AI and have done for an awful long time actually to try and predict the point at which a player of the game actually leaves the game. So that's the optimum time to send an offer or deal or a reminder. So we are certainly encouraging our portfolio to use it as I think we should.

And just keeping the pressure on you, Julian. So we sold nDreams within the balance sheet and we have often talked about sort of diversification across sectors on the balance sheet. So just the sale of nDreams influence our, I guess, our divestment strategy or our overall portfolio balance strategy in that regard.