Freedom Holding Corp. — Form 10-Q Summary
Reporting period: Fiscal first quarter ended June 30, 2021; financial statements are unaudited. Comparisons are with the three months ended June 30, 2020, unless stated otherwise. Freedom Holding provides brokerage, banking, investment and related financial services across Eurasia.
Financial results
| Metric | Q1 FY2022 | Prior-year quarter | Change |
|---|---|---|---|
| Net revenue | $124.1 million | $56.4 million | +120% |
| Fee and commission income | $97.4 million | $43.3 million | +125% |
| Interest income | $18.1 million | $4.2 million | +325% |
| Net gain on trading securities | $9.9 million | $9.1 million | +9% |
| Total expenses | $66.8 million | $27.5 million | +142% |
| Income before tax | $57.4 million | $28.9 million | +99% |
| Net income | $51.7 million | $24.3 million | +113% |
| Net income attributable to common shareholders | $51.8 million | $23.9 million | +117% |
| Basic and diluted EPS | $0.87 | $0.42 | — |
Net income was approximately 41.7% of net revenue, versus 43.0% a year earlier; income before tax was 46.2% of net revenue, versus 51.2%. The effective tax rate declined to 9.88% from 15.94%. Fee and commission growth was principally attributed to brokerage and related banking activity, a larger customer base, and increased customer activity. Interest income rose with a larger trading portfolio, more bond investments, and greater reverse-repurchase activity. Trading gains included $5.3 million realized and $4.6 million unrealized, compared with $11.3 million realized and a $2.2 million unrealized loss in the prior-year quarter.
Cash flow, balance sheet and funding
- Operating cash flow was a use of $70.9 million, compared with a source of $690.7 million a year earlier. The current-quarter outflow reflected working-capital movements, including a $122.3 million decrease in customer liabilities and increased trading securities and receivables; the prior period included a substantial increase in customer liabilities.
- Investing cash flow was a $2.6 million use; financing cash flow was a $6.7 million source. Foreign-exchange effects added $23.2 million to cash and restricted cash. Cash, cash equivalents and restricted cash decreased $43.7 million to $1.093 billion.
- At June 30, 2021, cash and cash equivalents were $674.1 million, restricted cash $419.0 million, and trading securities $825.4 million. Total assets were $2.127 billion, total liabilities $1.795 billion, and shareholders’ equity $332.8 million.
- Management-defined net liquid assets were $1.640 billion, up from $1.520 billion at March 31, 2021. This measure comprises cash and cash equivalents, trading securities, brokerage and other receivables, and other assets; it is not equivalent to unrestricted cash.
- Customer liabilities were $1.068 billion. Securities repurchase obligations were $442.5 million, up from $426.7 million at March 31. Debt securities issued were $58.1 million, down from $68.4 million; loans received were $3.4 million. The company retired Freedom KZ U.S.-dollar bonds with a carrying value of $10.5 million during the quarter. Most repurchase agreements mature within 30 days and are collateralized by trading securities.
- Restricted cash includes $409.3 million of brokerage customer cash and $8.5 million reserved for an unpaid distribution. The latter is subject to a Utah court dispute over the rightful recipient.
Material changes, outlook and risks
- Operating expenses rose 110% to $30.3 million, including increases in payroll and bonuses, advertising, professional services and stock compensation. Interest expense rose 281% to $14.3 million, mainly from increased repo financing and customer deposits.
- Customer liabilities fell $95.8 million from March 31, while trade payables rose to $150.7 million from $22.3 million, mainly due to margin-lending payables. A single related party represented 65% of trade payables at quarter-end. Related-party commission income was $66.0 million, about 53% of total net revenue, and related-party margin lending receivables were $26.5 million.
- The company reported more than 330,000 client accounts and approximately 100,000 active accounts during the quarter. Management said pandemic-driven market conditions had supported customer growth, trading activity and investment gains, but the pandemic’s future effects remain uncertain.
- Management anticipated continuing fiscal 2022 expansion efforts on a scale similar to fiscal 2021. It noted that growth may increase expenses and capital needs, and additional expansion could require external equity or debt financing. Management believed current cash, expected operating cash generation, trading returns and access to capital would meet anticipated needs; no specific earnings or revenue guidance was provided.
- All regulated subsidiaries exceeded minimum net capital requirements at June 30; aggregate requirements were approximately $30.1 million. Cash transfers between jurisdictions may be restricted or have adverse tax consequences.
- Interest-rate, foreign-exchange, equity-price, credit, liquidity, technology/cybersecurity and multi-jurisdiction regulatory risks are highlighted. A hypothetical 100-basis-point rise in interest rates would have reduced the investment portfolio’s fair value by $45.3 million at June 30; a 10% adverse U.S.-dollar move against other currencies was estimated to reduce pre-tax income by $2.3 million. Margin lending receivables were $113.0 million, with potential exposure dependent on market moves and collateral liquidity.
- In July 2021, regulatory restrictions in Ukraine led the company to transfer a further 23.88% of Freedom Finance Ukraine to its president, reducing direct ownership to 9%. The company continues to consolidate the entity as a variable interest entity under its contractual arrangements, which include funding and guarantee obligations.
- The company awarded 1,031,500 restricted shares in May; unrecognized compensation cost was $38.0 million, expected to be recognized over a weighted-average 4.84 years. S&P raised the long-term ratings of Freedom KZ and Freedom RU to B from B-, with stable outlooks.
Important facts for investors to verify
- Whether the unusually strong commission and interest-income growth is sustainable as market conditions and customer trading activity change.
- The composition, liquidity, valuation and issuer concentration of the $825.4 million trading portfolio; two Kazakhstan-related issuers each exceeded 10% of that portfolio.
- How customer-fund movements, margin receivables, related-party balances and elevated trade payables affect operating cash flow and liquidity.
- The company’s collateral, rollover and market-loss exposure from $442.5 million of repurchase obligations and other pledged securities.
- The consequences of Ukraine’s ownership restrictions for Freedom UA, including the continuing consolidation, guarantees, funding obligations and profit-sharing arrangements.
- The resolution of the $8.5 million distribution dispute, and the potential effect of the large restricted-stock award on future compensation expense and share dilution.