Hargreaves Lansdown (LSE: HL) has been a stock market darling for some time now and – and for good reason. The UK’s largest independent financial advisor has an attractive and incredibly profitable business model. Its operating margins are the stuff of legend, clocking in at 56% last year.
This abnormal profitability is facilitated by the cost structure of the business. The company’s primary expenses are its staff and IT systems. Once these are in place, new business can be taken on with little extra cost, meaning profits should increase at a greater rate than revenue.
This is even more impressive considering the company’s competitive fees, with funds available for only 0.45% annual management charge, dropping to as little as 0.25% if you’re rolling in it
Combine that with an impressive track record of increasing assets under management (AUM) and it’s easy to see why Hargreaves Lansdown inspires savers.
The company’s shares have sky rocketed 170% in the last five years, but savvy investors will have realised the majority of this gain was made a few years ago. Indeed, the share price hasn’t made any headway since the start of 2014. This is largely due to a slowdown in revenue growth in recent years and fears surrounding the sustainability of those margins in an ever-more-competitive world.
| Hargreaves Lansdown (£m) | 2016 | 2015 | 2014 | 2013 | 2012 |
| Assets Under Management | 61,700 | 55,200 | 46,900 | 36,400 | 26,300 |
| Revenue | 388 | 395 | 358 | 292 | 238 |
| Operating Profit | 218 | 198 | 208 | 192 | 151 |
| Profit Before Tax | 219 | 199 | 209 | 195 | 152 |
| Net Interest | 0.63 | 0.99 | 1.77 | 2.88 | 2.23 |
Crimped growth?
The shares currently trade at 27 times 2016’s profit before tax, a valuation that clearly prices-in continued expansion. However, I’m not so sure that Hargreaves can return to the growth levels of the past, given its established market share and the increasingly varied and inexpensive options now available for investors.
Furthermore, I have concerns about its short-term performance. Yes, the Motley Fool is all about investing for years, rather than months or days, but it makes no sense to overpay now for a business regardless of your envisioned holding period.
Brexit currently casts doubts over stock markets, which could potentially be bad news for Hargreaves Lansdown. If stock markets were to fall, AUM would fall too, thus reducing the fees it earns.
Those seductive margins could be under threat too, given that online investment platforms have increased competition and brought rates across the industry down to all-time lows. In short, I believe there will likely be a more attractive price point to enter Hargreaves Lansdown.
Loyal customers
On the plus side, this risk is offset a little by an impressive 93.5% customer retention rate. These loyal customers, myself among them, are a recurring source of revenue to Hargreaves and represent defensible revenues. Even if AUM falls temporarily due to falling markets, chances are these customers will keep their accounts open and be a source of profitability again when markets recover.
In my opinion, Hargreaves Lansdown is more than strong enough to survive a recession and none of the above threats are likely to destroy a long-term investment thesis, but the current share price doesn’t adequately discount the risks facing the business and seems to price-in an uptick in growth, which I believe to be far from guaranteed in the short term. So, even though it’s a great business, I wouldn’t buy Hargreaves Lansdown at these prices.
