Freedom Holding Corp. — Form 10-Q
Reporting period: Fiscal second quarter and first six months ended September 30, 2023; filed November 9, 2023. Amounts below are U.S. dollars. The company operates brokerage, banking, insurance and related digital businesses, primarily in Central Asia and Eastern Europe.
Financial performance
| Metric | Three months ended Sep. 30, 2023 | Prior-year quarter | Six months ended Sep. 30, 2023 | Prior-year six months |
|---|---|---|---|---|
| Net revenue | $435.6 million | $180.1 million | $751.8 million | $352.6 million |
| Expenses | $300.9 million | $118.3 million | $532.5 million | $238.8 million |
| Income before tax | $134.7 million | $61.9 million | $219.3 million | $113.9 million |
| Net income | $115.5 million | $27.2 million | $183.4 million | $86.3 million |
| Net income attributable to common shareholders | $115.8 million | $26.3 million | $183.9 million | $87.3 million |
| Diluted EPS | $1.95 | $0.44 | $3.09 | $1.46 |
Quarterly revenue more than doubled, led by interest income ($213.1 million, up 261%), trading-security gains ($50.8 million, versus $9.0 million) and insurance underwriting income ($58.0 million, up 121%). Fee and commission income was $111.7 million, up 34%; payment-processing and banking fees grew, while brokerage fees increased overall for the quarter. Six-month revenue rose 113%, although brokerage-service fees declined 12% as activity shifted away from the related-party omnibus channel.
Interest expense rose sharply, reaching $139.4 million for the quarter and $234.4 million for the six months, mainly because of greater use of repurchase-agreement financing and growth in customer deposits. Quarterly net interest income was $73.7 million versus $18.1 million; six-month net interest income was $128.0 million versus $26.6 million. Six-month derivative losses were $29.2 million, principally from currency swaps. The company recorded a $31.7 million foreign-currency translation loss for the six months, largely associated with tenge depreciation.
Financial position, liquidity and cash flow
- At September 30, total assets were $7.14 billion, up from $5.08 billion at March 31; total liabilities were $6.22 billion, up from $4.31 billion. Shareholders’ equity was $914.4 million.
- Cash and cash equivalents were $463.9 million and restricted cash was $386.9 million. Management reported net liquid assets of $2.34 billion, defined as cash, trading securities and margin/brokerage receivables less repo obligations.
- Trading securities totaled $3.60 billion. Securities repurchase obligations were $2.75 billion, versus $1.52 billion at March 31; management said the increased short-term financing primarily funded the investment portfolio. About 76% of proprietary trading securities were subject to repo obligations.
- Customer liabilities, primarily deposits and brokerage customer balances, were $2.44 billion, up from $1.93 billion. Debt securities issued totaled $66.0 million; the company-guaranteed bonds bear 5.5% interest and mature in October 2026.
- Loans issued were $1.18 billion, up from $826.3 million. Margin lending, brokerage and other receivables were $1.02 billion, up from $376.3 million. The allowance for loan losses was $45.0 million.
- Six-month operating cash flow was negative $1.35 billion, compared with negative $25.4 million a year earlier. The main reported drivers were increased trading securities and margin receivables. Investing cash outflow was $450.2 million, including $443.9 million of net customer loan issuance. Financing cash inflow was $1.68 billion, mainly repo financing and customer deposits. Cash, cash equivalents and restricted cash declined by $176.2 million to $850.7 million.
Material changes, outlook and risks
- Growth and acquisitions: The company acquired Aviata, Internet-Tourism, a controlling interest in Arbuz and 90% of ReKassa, expanding its digital-services and e-commerce businesses. Goodwill increased to $51.6 million from $14.2 million, primarily from acquisitions and foreign-currency translation.
- Maxim Group transaction: The planned approximately $400 million acquisition was terminated by mutual consent effective November 6, 2023, after the parties concluded closing conditions would not be met by year-end. They were discussing a possible alternative structure; no new agreement was assured.
- Related-party concentration: FST Belize, wholly owned by CEO, chairman and controlling shareholder Timur Turlov, is not consolidated. At September 30, approximately $396.5 million of margin lending receivables were due from FST Belize, fully collateralized according to the filing; $340.7 million was collateralized by FRHC securities. The company says it intends to reduce and ultimately eliminate the omnibus arrangement. It also reported $135.1 million of loans related to retail loans purchased from another entity controlled by Mr. Turlov.
- Market and geographic exposures: A large trading-security position was concentrated in two Kazakhstan issuers: approximately $2.31 billion in Kazakhstan Ministry of Finance securities and $612.4 million in Kazakhstan Sustainability Fund securities. The filing describes exposure to interest rates, foreign exchange, equity prices, margin lending, market liquidity, sanctions and geopolitical developments. A 100-basis-point parallel rise in rates was estimated to reduce portfolio fair value by $129.9 million; a 10% adverse currency move was estimated to reduce pretax income by $36.1 million.
- Sanctions and Ukraine: Freedom UA was deconsolidated from April 1, 2023, after the company determined it no longer had effective control; its license had been suspended and assets frozen by Ukrainian authorities. The filing also discusses November 2, 2023 OFAC sanctions on a brokerage firm whose subsidiary had accounts at Freedom entities; the company was identifying and blocking or freezing affected accounts as required and assessing consequences.
- Ratings and controls: S&P affirmed the holding company’s B- rating and core subsidiaries’ B/B ratings on October 31, 2023, but revised outlooks to negative. Management concluded disclosure controls were not effective at September 30 because of material weaknesses, including insufficient qualified U.S. GAAP accounting personnel and weaknesses in controls over complex transactions, cash-flow and income classifications, and note disclosures. Remediation includes training, hiring and external assistance.
- Commitments and other items: Lending-related commitments and guarantees totaled $105.2 million, up from $27.6 million. The company also disclosed a $7.5 million 2023 and $4.5 million 2024 construction commitment for a Cyprus office building, plus routine legal and regulatory matters. In a Utah estate dispute, it had deposited $8.4 million and the disputed shares with the court; it denied liability.
- Guidance: The filing provides no numerical earnings or revenue guidance. Management said current cash, expected operating cash generation, trading returns and potential capital raising were expected to meet anticipated financing needs, while noting growth may require additional financing that may not be available on acceptable terms.
Important facts for investors to verify
- Whether reported earnings growth is sustainable given its reliance on interest income, trading gains and rapid balance-sheet expansion.
- Repo funding terms, collateral values and liquidity under adverse market conditions; also the concentration and fair-value sensitivity of Kazakhstan securities.
- Credit quality and collateral coverage in the growing loan and margin-lending portfolios, particularly FST Belize exposure and related-party transactions.
- Progress in reducing the FST Belize omnibus relationship, and any financial or operational effects of the OFAC-related account actions and Ukraine restrictions.
- Integration, performance and purchase accounting for recent acquisitions, and whether any alternative Maxim Group transaction is pursued.
- Remediation of the disclosed internal-control material weaknesses and any subsequent corrections or reporting changes.