Technology Transformation And Regulation Will Constrain Earnings Despite Near-Term Profit Recovery

Catalysts

About Vanquis Banking Group

Vanquis Banking Group is a specialist UK lender focused on serving near prime and financially underserved customers through credit cards, vehicle finance, second charge mortgages and retail deposits.

What are the underlying business or industry changes driving this perspective?

• The heavy multi year Gateway technology transformation, including large scale data migration and new platforms, creates material execution risk that could lead to delays, cost overruns and disruption to lending operations, pressuring both revenue growth and net margins.
• The rapid pivot towards digital journeys, automation and AI driven decisioning increases operational and conduct risk in a tightly regulated environment, where any model mis calibration or compliance failure could trigger higher impairments and structurally lower earnings.
• Reliance on growth in higher yielding but operationally complex segments such as non prime credit cards and specialist vehicle finance leaves the group exposed to any tightening in affordability rules or credit regulation, which could cap volume growth and compress net interest margin.
• The strategy to scale second charge mortgages and expand retail deposits concentrates the balance sheet further into UK household leverage and housing market dynamics, so a weaker macro backdrop or rising arrears would drive higher cost of risk and constrain returns on tangible equity.
• The target to build scale and efficiency in vehicle finance through a new onboarding and servicing platform assumes a benign competitive and regulatory backdrop, but if funding costs rise or FCA redress outcomes prove less favourable than expected, unit economics could deteriorate and weigh on group profitability.

Assumptions

This narrative explores a more pessimistic perspective on Vanquis Banking Group compared to the consensus, based on a Fair Value that aligns with the bearish cohort of analysts. How have these above catalysts been quantified?

• The bearish analysts are assuming Vanquis Banking Group's revenue will grow by 33.0% annually over the next 3 years.
• The bearish analysts assume that profit margins will increase from -28.4% today to 15.1% in 3 years time.
• The bearish analysts expect earnings to reach £98.9 million (and earnings per share of £0.43) by about December 2028, up from £-78.9 million today. However, there is some disagreement amongst the analysts with the more bullish ones expecting earnings as high as £123.8 million.
• In order for the above numbers to justify the price target of the more bearish analyst cohort, the company would need to trade at a PE ratio of 2.8x on those 2028 earnings, up from -3.8x today. This future PE is lower than the current PE for the GB Consumer Finance industry at 6.8x.
• The bearish analysts expect the number of shares outstanding to decline by 0.38% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 9.28%, as per the Simply Wall St company report.

Risks

What could happen that would invalidate this narrative?

• The group has already returned to profitability with three consecutive quarters of balance growth and all lending products profitable. This suggests that sustained recovery in customer demand and disciplined pricing could support higher revenue and steadily improving earnings over the medium term.
• Structural growth in near prime segments such as second charge mortgages and resilient demand in essential vehicle finance, combined with Vanquis gaining scale and becoming a market leader in some niches, may underpin ongoing balance expansion and stable or rising net interest income.
• Long-term benefits from the Gateway technology transformation, including automation, data driven decisioning and lower complaint and servicing costs, could structurally reduce the cost to income ratio and lift net margins beyond current expectations.
• The sharp and apparently durable reduction in CMC driven complaints, together with supportive regulatory changes on FOS fees and clearer exposure on motor finance commissions, may remove a major earnings drag and allow a larger share of gross income to flow through to profit.
• Strong capital and funding positions, with high Tier 1 ratios, a predominantly retail deposit base and improving cost of funds, could enable Vanquis to compound growth in its loan book while maintaining prudent risk levels. This may support higher returns on tangible equity and, in turn, a higher share price.

Valuation

How have all the factors above been brought together to estimate a fair value?

• The assumed bearish price target for Vanquis Banking Group is £0.83, which represents up to two standard deviations below the consensus price target of £1.32. This valuation is based on what can be assumed as the expectations of Vanquis Banking Group's future earnings growth, profit margins and other risk factors from analysts on the more bearish end of the spectrum.
  
• However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of £1.55, and the most bearish reporting a price target of just £0.83.
  
• In order for you to agree with the more bearish analyst cohort, you'd need to believe that by 2028, revenues will be £653.3 million, earnings will come to £98.9 million, and it would be trading on a PE ratio of 2.8x, assuming you use a discount rate of 9.3%.
  
• Given the current share price of £1.16, the analyst price target of £0.83 is 40.2% lower. Despite analysts expecting the underlying business to improve, they seem to believe the market's expectations are too high.
  
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.