ANALYSIS: Futu Holdings To Raise $152.5 Million In Revised IPO

Futu Holdings has revised its U.S. IPO by reducing the ADSs sold to public investors and selling shares to private equity firm General Atlantic Singapore FT.

Donovan Jones
    Mar 08, 2019 10:26 AM  PT
ANALYSIS: Futu Holdings To Raise $152.5 Million In Revised IPO
author: Donovan Jones   

Quick Take

Futu Holdings (FHL) intends to raise approximately $152.5 million in an IPO of ADSs representing underlying Class A shares and concurrent private placement, per an amended registration statement.

The company provides an online securities trading system for Chinese investors interested in overseas stocks.

FHL is growing topline revenue sharply due to its relationship with Tencent, though some valuation metrics could be under pressure given decelerating growth in topline revenue and gross profit.

Company & Technology

Hong Kong-based Futu Holdings was founded in 2011 to develop the Futu NiuNiu brokerage platform which represents a user-oriented and cloud-based software system with a securities brokerage license in Hong Kong.

Management is headed by Founder, CEO and Director Leaf Hua Li, who was previously the head of Tencent's multi-media business and its innovation center.

The company has developed a digital trading platform that focuses on user experience while integrating clear and relevant market data, social collaboration, and trade execution.

As of Sept. 30, 2018, Futu had a user base of 5.3 million, over 457,000 users who have opened trading accounts, and over 124,000 registered clients who have assets in their accounts.

Futu Holdings has brokered HK$678 billion (USD$86.6 billion) in user trades for the nine months ended Sept. 30, 2018.

The company's main sources of revenue are its trade execution and margin financing services.

Investors in Futu Holdings include Sequoia Capital China, Matrix Partners China, and Tencent Holdings. They have invested at least $215.5 million in the firm to-date.

Customer Acquisition

Futu is focused on serving the "emerging affluent" Chinese citizen who seeks greater knowledge and access to financial products and services, particularly overseas investment opportunities.

The firm sources new customers primarily through the online platform of investor and partner Tencent.

Management has also integrated social sharing tools throughout the system to create a financial "social network" of sorts.

Sales and marketing expenses as a percentage of revenue have dropped considerably as the firm has scaled its operations, per the table below:

Selling & Marketing

Expenses vs. Revenue

Period

Percentage

2018

9.1%

2017

13.3%

2016

68.0%

(Sources: Company registration statement, IPO Edge)

Average Revenue per paying client has increased sharply but at a slightly decelerating rate, per the table below:

Average Revenue Per

Paying Client


Period

ARPC

Variance

2018

$780.10

56.8%

2017

$497.45

58.5%

2016

$313.83


(Sources: Company registration statement, IPO Edge)

Market & Competition

According to the F-1 statement, Hong Kong is the world's fourth-largest securities market, whose annual trading volume has grown from $404.5 billion in 2012 to $1.6 trillion in 2017.

This represents a CAGR of 31.3% between 2012 and 2017 compared to 23.1% global average.

The HK securities market is projected to reach $3.1 trillion in 2022, growing at a CAGR of 14.1% between 2018 and 2022.

The main factors driving market growth are a growing number of online brokers (from 126 in 2007 to 274 in 2016), innovative technologies, and increasingly active local and overseas investors.

Major competitors that provide online brokerage services in Hong Kong include:

      HSBC

      Haitong International Securities

      Bank of China (Hong Kong)

      Interactive Brokers

      Bright Smart Securities

      Huatai Financial Holdings

Financial Performance

FHL's recent financial results can be summarized as follows:

      Strong percentage growth in topline revenue, although decelerating in 2018 vs. 2017

      Growing gross profit

      High and increasing gross margin

      Swing to positive EBITDA

      Increase in cash flow from operations as a result of increases in ‘accounts payable to clients and brokers'

Relevant financial metrics derived from the firm's registration statement:

Total Revenue



Period

Total Revenue

% Variance vs. Prior

2018

$ 103,614,000

160.2%

2017

$ 39,824,000

257.9%

2016

$ 11,127,238





Gross Profit (Loss)



Period

Gross Profit (Loss)

% Variance vs. Prior

2018

$ 71,739,000

177.2%

2017

$ 25,883,000

382.5%

2016

$ 5,363,939





Gross Margin



Period

Gross Margin


2018

69.2%


2017

65.0%


2016

48.2%





EBITDA



Period

EBITDA

EBITDA Margin

2018

$ 25,644,000

24.7%

2017

$ 432,000

1.1%

2016

$ (14,289,898)

-128.4%




Cash Flow From Operations



Period

Cash Flow From Operations


2018

$ 570,866,000


2017

$ 237,075,000


2016

$ 178,732,992


(Sources: Company registration statement, IPO Edge)

As of Dec. 31, 2018, the company had $27.5 million in cash and $1.9 billion in total liabilities. (Unaudited, interim)

Free cash flow during the 12 months ended Dec. 31, 2018, was $568.5 million, but was primarily due to an increase of $632.8 million in "accounts payable to clients and brokers."

IPO Details

FHL intends to sell 7.5 million ADSs representing 60 million Class A underlying shares at a midpoint price of $11.00 per ADS for gross proceeds of approximately $82.5 million, not including the sale of customary underwriter options.

The amount sought is considerably less than the original filing estimate of $300 million, perhaps indicating a more challenging raising environment.

Certain affiliates of existing shareholder Tencent (TCEHY) have indicated an interest to purchase ADSs of up to $30.0 million in the aggregate at the IPO price. This is a positive signal for prospective IPO investors and is somewhat unusual for a non-life sciences company.

Additionally, Futu will now conduct a concurrent private placement with private equity firm General Atlantic Singapore FT in the amount of 6.36 million ADSs at $11.00 per ADS, generating additional gross proceeds of $70 million.

The founder and CEO will hold Class B shares and will be entitled to 20 votes per share vs. one vote per share for Class A shareholders. This is a way for management to retain voting control of the company even after losing economic control. The S&P 500 Index no longer admits firms with multiple classes of stock into its index.

Assuming a successful IPO at the midpoint of the proposed price range, the company's enterprise value at IPO would approximate $1.37 billion.

Excluding effects of underwriter options and private placement shares or restricted stock, if any, the float to outstanding shares ratio will be approximately 10%.

Per the firm's most recent regulatory filing, it plans to use the net proceeds as follows:

"The primary purposes of this offering are to create a public market for our shares in the form of ADSs for the benefit of all shareholders, retain talented employees by providing them with equity incentives and obtain additional capital. We plan to use the net proceeds of this offering for general corporate purposes, including research and development, working capital needs, and increased regulatory capital requirements of the HK SFC and regulatory authorities in other jurisdictions as a result of our business expansion."

Listed underwriters of the IPO are Goldman Sachs [Asia], UBS Investment Bank, and Credit Suisse, HSBC, and BOCI.

Valuation Metrics

Below is a table of relevant capitalization and valuation metrics:

Measure [TTM]

Amount

Market Capitalization at IPO

$1,194,711,504

Enterprise Value

$1,368,471,504

Price/Sales

8.33

EV / Revenue

9.54

EV / EBITDA

52.48

Earnings Per Share

$0.16

Total Debt To Equity

13.60

Float To Outstanding Shares Ratio

10.04%

Proposed IPO Midpoint Price per Share

$11.00

(Sources: Company Prospectus, IPO Edge)

As a reference, Futu's clearest comparable would be Interactive Brokers (IBKR); shown below is a comparison of their primary valuation metrics:

Metric

Interactive Brokers

Futu Holdings

Variance

Price/Sales

1.81

8.33

360.2%

EV / Revenue

16.96

9.54

-43.7%

EV / EBITDA

23.93

52.48

119.3%

Earnings Per Share

$2.28

$0.16

-93.2%

(Sources: Company Prospectus, IPO Edge, Sentieo)

Commentary

Futu has experienced a sharp growth trajectory, likely a cause of its relationship with Tencent that results in greater capital efficiencies and stronger growth metrics.

There is a significant market opportunity for garnering increasingly affluent Chinese investors who are interested in investing in overseas markets, especially in the wake of highly volatile mainland China markets in Shanghai and Shenzhen.

Among others, FHL competes with another Chinese company seeking to go public, Up Fintech (Tiger Brokers), which is much smaller and has unattractive financial metrics by comparison.

On the legal side, like many Chinese firms seeking to tap U.S. markets, the firm operates within a VIE structure or Variable Interest Entity. U.S. investors would only have an interest in an offshore firm with contractual rights to the firm's operational results but would not own the underlying assets.

This is a legal gray area that brings the risk of management changing the terms of the contractual agreement or the Chinese government altering the legality of such arrangements. Prospective investors in the IPO would need to factor in this important structural uncertainty.

Goldman Sachs [Asia] is the lead left underwriter for the IPO.

As to valuation, FHL management is asking investors to pay an EV / Revenue multiple of 9.54x, which is a relative bargain compared to that of Interactive Brokers (IBKR) at 16.96x.

However, the firm has half of IBKR's EBITDA on an enterprise value basis and a fraction of its earnings per share.

So, the IPO presents investors with a fast-growing firm riding the coattails of Tencent's enormous Internet presence in China while showing decelerating topline revenue and gross profit growing handily despite a relative deceleration.

The IPO is undervalued in some respects yet could be overvalued in others. With a low-float IPO as a result of the new concurrent private placement with General Atlantic Singapore FT, prospective investors will need to take all of the relevant factors into account and keep a close eye on the potentially volatile post-IPO action for the stock.

(The opinions expressed by contributing analysts do not reflect the position of CapitalWatch or its journalists. The analyst has no positions in stocks mentioned, no plans to initiate any positions within the next 72 hours, and no business relationship with any company whose stock is mentioned in this article. Information provided is for educational purposes only, may be incomplete or out of date, and does not constitute financial, legal, or investment advice.)

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