Orchard Funding (LSE:ORCH), whose shares I bought last week at 48p, is a small player in an industry dominated by two giants. Nevertheless, it has been profitable in each of the last eleven years. Indeed, it has grown profit steadily (except for the Covid years), so there must be some degree of protection from the big boys bullying the firm out of its markets.
Ravi Takhar, CEO and 53.66% shareholder, took control of a small company in 2002. A subsidiary, Bexhill, was created that year to target clients of insurance brokers by lending to them for up to 10 months. Monthly repayments meant that the money returned to Bexhill pretty quickly.
By 2014 Bexhill had about 100 broker clients who helped arrange loans for policyholders so that they could pay their insurance policy premiums upfront. Annual advances were about £30m (at any one time only £10m - £15m was outstanding) which generated revenue (interest) of £1.8m. Profit after tax was £0.87m.
Orchard Funding Limited
The second strand to the company’s lending was conducted through Orchard Funding Limited. From a standing start in 2010, by 2014 this subsidiary was lending money to clients of 400 accountancy practises. In early 2015 its loan book stood at £8m having lent about £16m over the previous 12 months. Annual revenues (interest) were £1.17m and profit after tax £0.15m. It had 2,236 borrower agreements, with an average loan value of about £4,000.
Floating on the stock exchange
On joining AIM in 2015, in which it raised £10m gross, or £8.7m after financial advisers had taken their cut, the directors were able to proudly state that the business model was so good that there had been “no arrears or losses on the lending book of the Group over the last seven years” (Admission document). We’ll look at the reasons behind this impressive statement by a lender later.
There were then only 11 members of staff so operating costs were low. Even today there are only 20.
A good net interest margin, low operating costs and low/no default meant that the business was cash generative, leading directors to declare a high ambition for dividends: “As the Group is cash generative it is the Directors intention to implement a progressive dividend strategy” (Admission document).
Staff numbers could be kept low because it had been improving its processing platform for loan proposals, with feedback from daily use. By 2015 it was used on 100 insurance brokers’ and 400 accountancy firms’ computers, processing each year transactions for over 3,000 borrowers.
Delivered via the internet it incorporates all the systems, procedures and documentation required by an insurance broker or an accountancy firm to introduce its clients to the Group and conduct a finance business. It also manages all the agreements, calculates funding requirements and performs all day-to-day accounting and administrative tasks of the Group.
“As well as supporting our own business, Lend XP is now used by all of our finance company clients. Lend XP enables us to integrate effectively and efficiently with 3rd party IT systems and has continued to increase our operational efficiency and our ability to conduct business with introducers, for whom IT integration is a pre-condition to doing business. IT development clearly has a cost and we therefore continue to invest in this fundamental part of our business…In house IT enables us to efficiently launch products into new markets without significant infra-structure costs. This year our IT has enabled us to lend into the Hire Purchase market quickly and on a cost-effective basis. (2021 Report)
LendXP automatically generates paperwork for end user customers, manages direct debits to collect money and tracks all client transactions. Partners (brokers, accountants, etc.) are not charged to use LendXP.
Orchard recently made a couple of small equity investments into an “Open Banking” platform company called Open B Gateway Limited, a supplier of a computer-based system which allows instant analysis of potential borrowers’ bank statements – these statements are now available for financial firms to analyse (given client permission is granted). Being able to immediately judge past financial behaviour of client borrowers allows better underwriting decisions. Orchard Funding owns 30% of Open B Gateway.
On flotation the directors said their aim was to double the size of the lending from its annual £46m. They were going to do this by (a) increasing the number of insurance broker and professional firm clients, (b) increasing the volume of business from existing brokers and accountancy firms.
Some of the extra £8.7m raised in the float was useful for handing out to brokers and accountancy firms as commission when they persuaded a client to take credit. Money was also useful for reducing Orchard’s financial risk.
Managers have been successful in growing volumes of loans to £80m in 2022, but the number of insurance broker partners remains around 100 and the number of accounting firm partners is still around 400.
Size of market
While the general insurance market is about £50bn per year only about one-third (FCA) of policyholders choose to buy on credit.
The potential of the accountancy fee fi
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