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CREATING THE DREAM FOR AUSTRALIAN FAMILIES

PAGE 0 OF 26

YELLOW BRICK ROAD

HOLDINGS LIMITED ASX: YBR

February 2016

PAVING THE WAY TO

WEALTH CREATION

PAVING THE WAY TO WEALTH CREATION

PAGE 1 OF 26

TABLE OF CONTENTS

1. Executive summary ............................................................................................................................................. 3

Financial Overview ......................................................................................................................................................................... 5 Gross Margins .................................................................................................................................................................................. 7 Advertising Investment ................................................................................................................................................................. 7

2. Review of 1H16 Results ..................................................................................................................................... 8 3. Industry Outlook .................................................................................................................................................. 9

The Mortgage Industry in Australia .......................................................................................................................................... 9 Financial Advisers in Australia ................................................................................................................................................. 12

4. Yellow Brick Road History .............................................................................................................................. 13 5. Mortgage Business ........................................................................................................................................... 13 6. Wealth Management ....................................................................................................................................... 14 7. Management Overview ................................................................................................................................... 15

Executive Chairman – Mark Bouris......................................................................................................................................... 16 Executive Team Review .............................................................................................................................................................. 16 Remuneration and Incentives .................................................................................................................................................. 17 Board and Major Shareholders ............................................................................................................................................... 17

8. Capital Management ....................................................................................................................................... 18 9. Sundry Items ....................................................................................................................................................... 19

Revenue Recognition ................................................................................................................................................................. 19 Goodwill and Impairment ......................................................................................................................................................... 19

10. Valuation Considerations ............................................................................................................................... 19

Comparison to Listed Peers ..................................................................................................................................................... 20

11. Appendix 1 – Overview of FY15 Results ................................................................................................... 22


PAGE 2 OF 26

YELLOW BRICK ROAD

HOLDINGS LIMITED

ASX Code: YBR

Current Price: $0.205

3 Year Price target: $0.61

Valuation: $0.45

Peter Leodaritsis

[email protected]

Selwyn Chong

[email protected]

Yellow Brick Road (YBR) aims to be a leading financial

services firm that reaches 80% of the population that

traditional wealth companies ignore until pre-

retirement. The business strategy is based on a life

cycle partnership, starting with debt to assist with

building the foundation for future wealth creation.

At the core of YBR’s business model is the family

mortgage - a customer acquisition strategy to leverage

on emerging wealth needs. By targeting their

mortgage offering to young families, YBR introduces

wealth accumulation products earlier and has the

potential to enjoy growing annuity streams over time,

as home loans are paid down.

YBR has an experienced, driven and uniquely

passionate management team who are focused on

execution. They are supported by a strong and

charismatic leader with an established track record.

The establishment phase is over and earnings over the

next few years are underpinned by internal

restructuring and a reinvigoration of the branch

network following a series of acquisitions and an

aggressive branch expansion strategy. However,

earnings growth is masked by significant ongoing

investment in marketing and advertising over the next

3-years to support ambitious growth plans.

YBR is a growth stock with appeal to long term

investors with a healthy risk appetite who seek capital

appreciation. Execution risk is not insignificant and on

this basis our earnings outlook, valuation and 3-year

price target are conservatively based. There are no

prospects for dividends over the medium term.

However, despite the risk, the stock is attractively

priced and significantly undervalued. Catalysts to a re-

rating include an improvement to positive cashflow

and evidence of wealth based revenue growth.

Year ended 30 June

FY14 FY15 FY16 FY17 FY18

Act Act F'cast F'cast F'cast

Revenue $m 32.1 166.3 232.0 265.7 304.1

Reported Net Profit $m -8.8 -2.6 -4.4 -0.2 5.6

Earnings per share -0.04 -0.01 -0.02 0.00 0.02

Price Earnings Ratio - - - - 10.3

Price/Book Value x 2.27 0.71 0.75 0.75 0.70

Price/NTA x 3.54 1.40 1.54 1.54 1.34

Dividends per share $0.00 $0.00 $0.00 $0.00 $0.00

Yield 0% 0% 0% 0% 0%

Franking 0% 0% 0% 0% 0%

Return on Equity -30% -5% -6% 0% 7%

Debt/Equity x

1.0

2.6

3.0

3.1

2.9

Net Interest Cover x -22.6 -12.0 -7.8 0.5 11.1

Valuation

DCF Valuation $0.45 3 Year Price Target $0.61

Risk Free Rate 2.75%

Market Risk Premium 6.00%

Beta

1.20

Forecast cashflow (years) 10

Nominal growth rate 2.5%

Stock Data

52 week range $0.185 - $0.62

Shares on issue 278.4 m

Market capitalisation $57.1 m

Highlights

Investment View

CREATING THE DREAM FOR AUSTRALIAN FAMILIES

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1. EXECUTIVE SUMMARY

Yellow Brick Road Holdings Ltd (YBR) was established in 2007 by Mark Bouris to provide

integrated financial advice to the average Australian. Mr Bouris had previously founded and

operated Wizard Home Loans from 1996 until 2004. YBR’s value proposition is based on a

combination of mortgages and wealth products. The company grew its branch network quickly

since 2009 and gained significant scale following its acquisition of Resi, a mortgage broker,

and Vow, a mortgage aggregator, both in August 2014. These acquisitions reinforce the

importance of the home mortgage to YBR as a customer acquisition strategy, facilitating the

discussion and engagement of a wealth creation strategy to 80% of the Australian population

that traditional wealth companies ignore until pre-retirement.

The YBR distribution model is based around a ‘hub and spoke’ structure providing centralised

support to financial services professionals, that are financially motivated and self-driven and

who wish to build and operate their own business. Branches provide simple straightforward

financial products and services with more complex financial products referred to Head Office.

We estimate YBR has only about half of its 240 YBR license agreements are income producing

for mortgages and only around 40 operating at a similar level in wealth revenue, reflecting the

age profile of the distribution network. Despite this, YBR continues to win market share and

secures record lending volumes month after month. The company is currently in a ‘sweet spot’

where it continues to ‘bite around the ankles’ of the major players unnoticed, but has quickly

grown to be the 4th largest aggregator of home loans in Australia as at December 2015, ranking

ahead of Aussie and Mortgage Choice peers. This business momentum coupled with the

prospect of improving branch performance, as the younger branches mature, holds significant

upside revenue potential for the business.

However, masking this underlying performance is a significant advertising and marketing

investment program aimed at a creating and securing YBR as an iconic Australian financial

services brand. To date, this strategy has been successful as YBR as enjoyed steady growth in

brand awareness with independent market research studies conducted by firms ‘Millward

Brown’ and ‘Blue Sculpture’ revealing an increase from 28% to 37% of respondents over the

past year. This is also reflected in YBR’s lead generation which is up over 300% over the last 12

to 18 months according to management. This heavy investment in advertising and ongoing

marketing campaigns will undoubtedly continue to drive business volumes and provide

significant support to the younger and underperforming branches as they move up the yield

curve.

YBR also has ambitious growth targets for its wealth business, after all the company is a wealth

management business – announcing that it is targeting to have 30% of its business in wealth

products by 2020. This is indeed an ambitious goal, as wealth revenue currently stands at

approximately 8% of gross profit or income. However, providing us with some comfort is the

fact that prior to the acquisition of the Resi and Vow mortgage businesses, approximately 30%

of YBR’s income was derived from wealth products. Although our experience has taught us

that cross-sell in financial services is a difficult proposition, we are somewhat buoyed by YBR’s

unique differentiating factor in delivering a value proposition to average Australian families -

a market segment that traditional wealth managers ignore. By targeting their mortgage

offering to young families, YBR introduces wealth accumulation products earlier and has the

potential to enjoy growing annuity streams over time, as home loans are paid down - a life

cycle partnership starting with debt, in assisting to build the foundation of future wealth

creation.

An experienced

operator capitalising

on an unexploited

market niche…

…with a highly

motivated sales

force...

…delivering record

volumes and loan

growth despite close

to 50% of the

network still coming

of age…

…with aggressive

advertising &

marketing spend to

drive further revenue

growth...

…and underpins the

growth of the wealth

management

business, as it seeks

to exploit an

overlooked market

segment.


PAGE 4 OF 26

Execution risk is not insignificant and on this basis our earnings outlook, valuation and 3-year

price target are conservatively based. We expect that YBR will continue to win market share in

the home loan market and they continue to achieve record lending volumes month after

month. However, we remain cautious in our outlook for growth in wealth revenue and our

forecasts reflect wealth revenue growing from 8% to just under 12% of income, over the three

years to June 2019. As wealth revenue grows so does the prospect of a stock re-rating as the

business moves from a mature commoditised mortgage business to a higher margin and

higher multiple wealth operation.

The following table summarises the main Strengths, Weaknesses, Opportunities and Threats

(SWOT) that we consider to be of importance to YBR’s success.

Overall we believe this SWOT analysis reveals YBR’s strong growth potential. We view YBR as

having a unique combination of management, experience and more importantly competence

to extract and capitalise on the growth option embedded within their business model.

Figure 1: SWOT Analysis

Strengths Weaknesses

Management Expertise Lower Gross Profit Margins than competitors

Strategic Alliances with Channel Nine

& Macquarie Bank

Reliance on Mortgage operations as major revenue

stream

Brand presence of Mark Bouris, and Celebrity

Apprentice

Reliance on Mark Bouris as the key marketing face of

the company

Wide distribution footprint

Developing brand recognition

Presence across different Operating Models

(Franchisee, Aggregator)

Opportunities Threats

Growth potential in Wealth Management. Economic Conditions impacting the Property Market

Consolidation of Resi & Vow to improve

profitability

Regulatory environment may change

Acquisition of other brokerages and financial

advisors

Potential for Banks to withdraw support and pursue

their direct channels

Emerging Channels (e.g. online)

Downward pressure on margins from lenders

YBR shares are undervalued, trading at 0.79x its Book Value, due to uncertainty about its

profitability. Cash burn in the December 2015 half was ($4.2m) and although the company has

cash at the bank of $6.6m, it also has a further $7m in unused debt facility available for working

capital.

We value YBR at $0.45 on a DCF basis with a 3-Year Price Target of $0.61 based on a 3-year

roll forward of earnings. Management are well experienced and capable of driving improved

branch returns and we would be looking for signs of their strategy delivering increased wealth

revenue and positive cashflow as initial catalysts for the share price to close our valuation gap.

Monthly increase in

lending volumes,

however we remain

cautious about

wealth revenue

growth.

SWOT analysis

shows stong

potential for YBR to

continue its market

growth.

Significantly

undervalued due to

market concerns

over cash-burn

Valuation reflects

inherent potential to

improve revenues in

wealth & mortgages.


PAGE 5 OF 26

FINANCIAL OVERVIEW

YBR is currently loss making as it continues to make significant ‘investment for future’ outlays

to establish a strong foundation for a prosperous future. One of these ‘investment for future’

programs is an aggressive advertising and marketing campaign. The YBR campaign seeks to

entrench the YBR brand into the minds and hearts of average Australians using the Executive

Chairman, Mark Bouris, as the face of YBR and the ‘people’s champion’. YBR positions itself as

not only the provider of mortgage finance to secure housing requirements but also as a life

cycle partner, paving the way for future prosperity through a wealth creation strategy. The

current level of advertising and marketing expenditure is almost double the required

maintenance advertising investment.

Figure 2: Key Financial Metrics

Key Financial Metrics

FY15 FY16 FY17 FY18

A$m Act F'cast F'cast F'cast

Revenue 166.3 232.0 265.7 304.1

Gross Margin 28.7 38.5 44.6 51.8

NPAT -2.6 -4.4 -0.2 5.6

Cash at Bank 10.8 5.2 2.2 4.7

Net Assets 79.9 76.2 76.0 81.7

Book Value per Share $0.29 $0.27 $0.27 $0.29

Net tangible Assets per Share $0.15 $0.13 $0.13 $0.15

Net Operating Cashflows -2.7 -4.2 0.3 4.2

Furthermore, Mortgage businesses are ‘long-tailed’ businesses. A mortgage operator needs

to establish a brand presence in order to generate leads and then there could be as much as

a 12 to 36 month lag for these leads to convert to applications, approved loan facilities and

finally loan drawdowns. Hence, for YBR this could mean there is up to a 3-year gestation period

before for the full impact of any increased advertising is fully reflected in revenues.

Once YBR achieves ‘critical exposure’ and the brand is truly entrenched in the minds of average

Australians, YBR will reduce advertising to a normalised level and this alone will underpin

ongoing profitability into 2019 and beyond.

The following waterfall chart shows Gross Profit growth in FY15 was largely negated by YBR’s

increase in operating expenses. This highlights the need for YBR to reach sufficient scale in

order to support its operations, and thereby set in place the foundations for future profitability.

Loss making position

is driven by a

reinvestment into

advertising to drive

future revenues…..

….as mortgages is a

long tailed

business….

with the potential to

reduce advertising

spend in later years.


PAGE 6 OF 26

Figure 3: Movement in Earnings from FY14 to FY15

In the 3 years to FY18 we are forecasting Gross Profit for Mortgages to increase to $46.1m

(from $26.3m) and Wealth to increase to $5.0m (from $1.7m). With the absence of the one off

FY15 acquisition related expenses, a $7.6m earnings benefit will flow through in FY18. Income

Tax Benefits of $6.8m in FY15 are expected to move to an Income Tax Expense of $2.4m,

resulting in a net $9.2m impact on earnings. The overall net impact highlights the turnaround

potential for YBR as it solidifies its scale position, moving to our forecast FY18 NPAT of $5.6m.

Figure 4: Breakdown of Gross Profit Forecasts

Gross Profit

FY15 FY16 FY17 FY18

A$m Act F'cast F'cast F'cast

Lending 26.3 35.6 39.9 46.1

Wealth 1.7 2.2 4.0 5.0

Interest & Other 0.8 0.7 0.7 0.7

Total Gross Profit 28.7 38.5 44.6 51.8

Figure 5: Movement in Earnings from FY15 to FY18

-12

-10

-8

-6

-4

-2

0

2

4

6

8

10

FY14 NPAT

-$8.8m

Gross Profit Consulting

Expense

Employee

Benefits

Expense

Operating

Expenses

Occupancy

Expenses

Other Non

Operating

Expenses

Depn &

Amort

Interest

Expense

Tax Benefit FY15 NPAT

-$2.6m

FY15 Results

16.2 -0.8 -5.1 -3.6 -0.3 -5.3 -1.4 -0.3 6.8 -2.6 -8.8

-5

0

5

10

15

20

25

FY15 NPAT

-$2.6m

Mortgage

Gross Profit

Wealth Gross

Profit

Consulting &

Employee

Expense

Marketing

Expense

Operating

Expenses (excl

Marketing)

Occupancy

Expenses

Other Non

Operating

Expenses

Depn &

Amort

Interest

Expense

Tax Benefit FY18 NPAT

$5.6m

FY15 to FY18 Forecasts

19.8 3.3 -8.3 -2.1 -2.7 -0.1 7.6 -0.3 -0.1 -9.2 -2.6 5.6

3 Year turnaround

potential exists as

YBR builds scale.

Maiden profit to be

driven by mortgage

volumes and

increasing

contribution from

wealth.


PAGE 7 OF 26

GROSS MARGINS

In FY15 YBR generated a 22.3% average Gross Margin on its mortgage business. This is

relatively low compared to listed competitor Mortgage Choice with a 33.7% Gross Margin,

however it is better than its smaller competitor Homeloans, with 18.6% Gross Margin. As a

result YBR needs to drive greater volumes through its business in order to achieve sufficient

revenues to cover its cost base. By FY18 we forecast that YBR will have achieved this, with

$304m in Revenue and net profit of $5.6m. Once this is attained, additional growth in margins

will directly benefit EBIT as the overhead costs are scalable. We are confident that YBR

management has the skill, expertise and proven track record to drive Revenue growth over the

next 3 years to achieve this. The level of Gross Margin is largely fixed in the business through

the existing contracts with loan writers. However YBR’s mix is different in that a large portion

of its business now comes from Vow Financial, a mortgage aggregator. Mortgage aggregators

typically generate lower margins in order to aggregate on a large scale.

Figure 6: Comparison of Gross Margins

Year to June 2015 (A$m) YBR Mortgage

Choice

Homeloans

Mortgage Commission Revenue $157.6m $162.5m $14.2m

Mortgage Commission Expense -$122.4m -$107.7m -$11.6m

Gross Margin % 22.3% 33.7% 18.6%

Source: Company Accounts

ADVERTISING INVESTMENT

Advertising spend within the mortgage industry has a delay before revenue is generated.

Generally a campaign will drive an increase in enquiries, such as during a season of The

Celebrity Apprentice (which Mark Bouris is the host and during which YBR increases its

advertising), however this does not translate into revenue until the customer decides to

purchase a property or take out a wealth product. This can often be around 6-12 months for

property and thus revenue will be recognised in the following financial year results. In addition,

once a mortgage broker reaches a significant scale a large portion of their business is

generated by referrals within their own network, so whilst the advertising will generate initial

enquiries into the branch, the branch will need to continue the momentum to remain viable.

During the Sept – Nov 2015 run of The Celebrity Apprentice (Season 4) YBR benefitted from a

299% increase in new customer introductions in the second quarter, with a 51% increase in

home loan settlements in December 2015 compared to December 2014. As customers take

time to find and settle their properties, we expect a significant increase in home loan

settlements in 2H16 and 1H17.

In FY16 we forecast advertising expenses to increase to $9.0m ($4.4m pcp) due to advertising

from The Celebrity Apprentice as well as additional across the board spending. We forecast

revenue growth of 39.3% to come from this advertising spend, as well as the full year inclusion

of the Resi and Vow acquisitions. In FY17 we forecast marketing costs to peak at $9.5m and

decline to $6.5m in FY18 by which time we expect the benefits from earlier marketing will flow

through to profitability. In FY19 we have reduced marketing spend to $5.0m as we would

consider this to be a more regular marketing spend for YBR onwards.

Figure 7: Forecast Marketing/Advertising Spend

Advertising Spend

A$m FY15A FY16F FY17F FY18F FY19F

Marketing Costs 4.4m 9.0m 9.5m 6.5m 5.0m

Source: Mainstreet Forecasts

Low Gross Margin of

22.3% compared to

competitor

Mortgage Choice at

33.7%.....

… hence needs scale

to drive earnings.

Advertising and

Marketing spend to

drive business into

low performing

branches.

Already delivering

strong leads from

The Celebrity

Apprentice Season 4.

We forecast a short

term increase in

advertising spend to

$9.5m, before

reducing to a $5.0m

ongoing level.


PAGE 8 OF 26

2. REVIEW OF 1H16 RESULTS

On 26 February 2016 YBR released its 1H16 results for the 6 months ended 31 December 2015.

Total Revenue increased 95.9% to $116.0m for the half year and NPAT loss of $4.1m was in line

with the prior corresponding period loss of $4.3m (which had benefitted from a $6.8m income

tax benefit in the 6 months to Dec 2014).

Figure 8: 1H16 Profit and Loss Summary

Yellow Brick Road 1H16 Profit and Loss Results

Half Year Period 31 Dec 2015 31 Dec 2014 Movement

Revenue 116.0 59.2 +95.9%

Commission Expenses -92.3 -43.2 113.6%

Gross Profit 23.7 16.0 +48.1%

Gross Margin 20.4% 27.0% 6.6 percentage points worse

Marketing Expense -4.6 -2.3 +101.7%

Operating & Other Expense -23.8 -20.2 +17.9%

EBITDA -4.6 -6.3 27.3% improvement

NPAT -4.1 -4.3 4.8% improvement

Settlements (6 months) $8.4bn $6.0bn $2.4bn growth

Loan book $32.3bn $26.1bn $6.2bn growth

Revenue increased 95.9% to $116.0m for the half year, driven by strong settlements and

growth in the loan book.

Settlements were up to $8.4bn for the half year to Dec 15, well ahead of $6.5bn in half

year to June 15 and $6.0bn in Dec 14.

Total loan book of $32.3bn continues to grow by around $3bn each half year period

($29.2bn at June 2015 and $26.1bn at Dec 2014).

Loan book revaluation of -$1.8m was recorded during the period. This relates to a mark to

market revaluation of the loan book based on its expected average loan life. The amount is a

non cash amount relating to $26.5m in trailing revenue and $24.7m in trailing commission,

with a net impact of -$1.8m to EBITDA. Valuations are undertaken annually in accordance with

prescribed accounting standards.

Gross Profit of $23.7m was recorded for the half year, representing a 20% Gross Margin, below

the 27% pcp and the FY15 amount of 22%. The weaker Gross Margin is as a result of the full

year inclusion of the Vow aggregator business which operates on a lower margin due to its

scale. We are forecasting FY16 Gross Profit of $48.1m (or $38.5m after Discount Unwind

Expenses), which takes into account 2H benefits of revenue growth.

Marketing Expenses increased to $4.6m ($2.3m pcp) largely due to advertising associated

with The Celebrity Apprentice Season 4. Although the show is not expected to screen in 2H16,

we expect YBR will maintain its advertising spend at $9.0m for the full year in order to continue

its momentum to capture market share.

NPAT of -$4.1m was similar to the -$4.3m in pcp, however after taking into account the $2.3m

increased advertising (which will benefit later periods) and the $1.8m revaluation of the loan

book, the result was an overall breakeven for the current period. Whilst the headline loss is a

negative, the underlying components of the business appear to be moving in the right

direction to set the company up for future profitability.

Very strong revenue

growth, driven by

record settlements.

Revaluation of the

loan book of -$1.8m

is a non cash

adjustment.

Weaker margins as

expected from the

full year inclusion of

Vow.

Although loss

making, the

underlying growth

in the business is

moving in the right

direction.


PAGE 9 OF 26

3. INDUSTRY OUTLOOK

THE MORTGAGE INDUSTRY IN AUSTRALIA

The Australian residential loan market consists of $1.35 trillion in outstanding loans with $345

billion in new housing finance commitments in 2014. Home loans have grown significantly in

the past 2 decades, supported by low interest rates, a relatively stable economy, low

unemployment and population growth. Although lending confidence was impacted during the

Global Financial Crisis (‘GFC’), growth has returned strongly to the lending market with 2012,

2013, 2014 experiencing growth of 6%, 18% and 17% respectively, and 2015 expected to also

show double digit growth.

The following graph shows the strong growth in lending coinciding with the reduction in

official interest rates in the mid-1990s.

Figure 9: Housing Finance Commitments vs Indicator Variable Lending Rates

Source: Australian Bureau of Statistics (5609), Reserve Bank of Australia (Indicator Lending Rates – F5)

KEY PLAYERS AND COMPETITIVE POSITIONING

Lending in the Australian home loan industry is dominated by the big 4 Australian banks (CBA,

Westpac, NAB and ANZ) who provide around 80.9% of total loans. The balance is placed with

other banks, building societies, credit unions and authorised deposit taking institutions. The

dominance of the big 4 banks is largely due to their lower cost of funding allowing them to

remain competitive on interest rates as well as their brand and market presence.

A strong residential

market supported by

low interest rates,

stable economy, low

unemployment and

population growth.

Dominance of Big 4

banks in lending.


PAGE 10 OF 26

Figure 10: Total Residential Home Loans by Lender as at September 2015

Source: APRA Quarterly ADI Property Exposures, Monthly Banking Statistics

Currently 52.6% of all new loan settlements are undertaken via a mortgage broker whose role

is to obtain the most appropriate and best loans for the borrower. Mortgage brokers receive

commission from the lenders (banks, authorised deposit taking institutions and other lenders)

for sourcing the business (originating commission) as well as trailing commissions in

subsequent years. In the UK mortgage brokers control around 78% of the market and

expectations are that the Australian market could reach similar levels. The potential growth in

the mortgage broker channel in Australia provides YBR opportunity to continue its market

share growth irrespective of the overall property market.

The broker market is fragmented with no one broker group owning more than 10% of the

whole market. As a result, competition is strong between the brokers and with a common suite

of mortgage products, the brokers rely on their brand and service to differentiate themselves.

We consider YBR to be well experienced to support their network in achieving this. Selected

market shares at June 2015 are:

Figure 11: Estimated Market Shares at June 2015

AFG 10.0%

NAB Aggregators 6.0 - 8.0% (est)

Aussie Home Loans 4.0 - 5.0% (est)

Yellow Brick Road 4.0%

Mortgage Choice 3.7%

eChoice 0.3%

Source: Company accounts, Mainstreet estimates based on settlements

Within the mortgage broking industry there are a number of operating models. YBR began

operations as a licensed business model, quite similar to the franchise model of Resi which it

acquired in August 2014. All Resi branches have now been converted into YBR branches. Also

in August 2014, YBR expanded into the aggregator model with the acquisition of Vow Financial.

The strong presence of YBR across franchises, licensee and aggregator models allows it to

compete with the banks’ multi-channel approach, as well as providing YBR with cross industry

breadth as a significant and influential player in the Australian mortgage market.

Mortgage Brokers

account for 52.6% of

new loan

settlements, and

growing.

YBR operating both

a licensee and

aggregator model.


PAGE 11 OF 26

Figure 12: Mortgage Broker Operating Models

Mortgage Brokers Operating Models

Wholesale Mortgage Broker (aka Aggregators) Example Brands

Wholesale brokers provide support to individual mortgage brokers

who wish to trade under their own name.

The lending panel, support, training and administration is provided

by the wholesale broker.

AFG

Connective

Vow Financial (YBR)

PLAN Lending (NAB)

ChoiceLend (NAB)

FASTLend (NAB)

National Mortgage Brokers

(Aussie Home Loans)

Finsure

Loan Kit (Finsure)

Franchise Model

Franchise brokers distribute under the franchisor's name for a fixed period

of time.


by the franchisor.

Mortgage Choice

Aussie Home Loans

(80% CBA)

Resi (YBR)

Loan Market (Ray White)

Smartline Home Loans

Licensee Model

Similar to a franchise model, however brokers are employed or licensed by

the branded employer, on a retainer + commission basis.


by the licensor.

Yellow Brick Road (YBR)

Sole Trader Model

The sole trader operates under their own brand and license.

The lending panel, support, training and administration is undertaken

by the Sole Trader.

Note: NAB uses its Advantedge platform to manage its aggregators PLAN Lending, ChoiceLend and FASTLend.

CYCLICAL CONSIDERATIONS & SECTOR OUTLOOK

We consider the main drivers to strong property prices to come primarily from the low interest

rate environment, population growth supported by net migration, relatively low

unemployment and a stable economy. Our view is that while these factors remain within their

current ranges, any downturn will likely be relatively short.

Interest rates are currently at 40 year lows with the Reserve Bank Variable Indicator

Lending Rate at 5.7%. Figure 9 previously shows the drop in interest rates in the early

1990s coinciding with the strong increase in home loan commitments.

The current unemployment rate of 5.8% in Figure 13 below remains below its 35 year

average of 7.0% which we would consider to be supportive of the property market.

The net migration and population figures in Figure 14 below shows a net migration

rate into Australia consistently contributing to population growth and, in turn,

supporting the demand for property. In the past 10 years Australia has experienced a 2.2

million net influx of arrivals over departures.

The strength of these key indicators are often considered to be the main reasons why

Australia’s property market was not impacted as severely during the GFC and why it will

continue to remain resilient to any short term shocks.

Current economic

indicators

supporting the

property market…

…and expected to

remain resilient to

short term shocks.


PAGE 12 OF 26

Figure 13: Unemployment Rate – Australia Figure 14: Population & Migration Growth

Source: ABS 6202 Labour Force Australia Source: Net Overseas Migration

FINANCIAL ADVISERS IN AUSTRALIA

There are approximately 18,300 financial advisers in Australia with the market dominated by

the ‘Big 5’ domestic players (consisting of AMP and the ‘Big 4’ banks CBA, NAB, Westpac and

ANZ) who represent over 50% of the number of advisers. The Australian industry is quite

vertically integrated with the majority of dealer groups owned by the banks and AMP, who

provide the products as well as run the distribution channels.

The Top 10 dealer groups represent around 75% of the number of advisors. The financial

adviser market in Australia is a mature, highly regulated industry with the recent Future of

Financial Advice (FOFA) legislation becoming mandatory in July 2013 following a series of

significant losses in the industry brought about by poor financial advice. In addition to

improving compliance and disclosure requirements, FOFA placed a ban on advisers from

receiving volume commissions, and upfront and trailing commission on new investments,

effectively moving the industry towards a fee for service and flat commission style structure.

It is estimated that only 2 to 3 out of every 10 Australians use a financial adviser, and of these

around 13% use a financial adviser on an ongoing basis and 17% use a financial adviser on an

occasional basis. The most likely users of financial advisers are retirees and pre-retirees,

followed by wealth accumulators (aged 30-50), SMSF investors and high net worth investors.

YBR is targeting opportunities in the growing need for financial advisers across the overall

population.

Financial advisers typically do not charge a fee for the first initial consult, but charge a

Statement of Advice (SOA) fee between $200-$400 for simple advice and $2,000-$4,000 for

more complex advice. The SOA must document the advice, strategies and investment products

recommended. Financial advisers earn a fee on the initial deposit as well as an ongoing

management fees on the investments, and these fees need to be disclosed in the SOA.

Financial advisers also earn commission on life insurance products they sell. In November 2015

the federal government announced a reduction in the commission structure. Upfront

commissions of up to 120% will reduce to 80% maximum from July 2016, 70% in July 2017 and

60% in July 2018 with trail commissions capped at 20%.

Dominance of Big 5

in the financial

adviser market.

FOFA has removed

upfront and trail

commissions, and

moved towards fee

for service and flat

commission rates.

Life insurance

commissions to be

significantly

reduced.


PAGE 13 OF 26

4. YELLOW BRICK ROAD HISTORY

Yellow Brick Road was established in July 2007 by Mark Bouris to provide integrated financial

advice to Australian retail and SME customers. (Mr Bouris had previously founded Wizard

Home Loans in 1996 and ran it until it was sold to GE in November 2004) In the first 12 months

of operation YBR acquired 3 accounting practices, a general insurance broking business and a

financial planning business.

YBR established its branch network in May 2009, growing it to 47 branches by December 2010

when it was proposed that ITS Capital Investments (a non-operating ASX listed entity) acquire

the shares of YBR and relist on the ASX as YBR. In May 2011 a capital raising of $12.5m was

undertaken as well as a $13.0m placement with Nine Entertainment Group prior to YBR

officially listing on the ASX on 3 June 2011. By January 2012 total licenses had grown to 100.

On 29 August 2014 YBR acquired Resi, a mortgage broker for $33.4m, as well as Vow Financial,

a mortgage aggregator for $16.4m. The Resi branches have been fully integrated and

restructured into Yellow Brick Road locations.

Currently there are 240 YBR branch license agreements, and Vow Financial attracted its 1,000th

broker in October 2015.

5. MORTGAGE BUSINESS

Revenue growth in the YBR branded locations has been over 300% in the past 5 years, albeit

from a small base. While YBR may have over 240 branch license agreements, we estimate that

only 140 of these can be considered to be income producing, as the remaining are still

becoming established. In FY15 mortgage revenue of $39.7m was generated from these

branches, or approximately $0.28m per branch, which is the same as competitor Mortgage

Choice’s average mortgage revenue per loan writer.

New branches typically take 2-3 years to reach their full potential, and the focus on the

Resi/Vow acquisitions has resulted in many licensees not being fully supported in their start up

period. Now that the acquisitions have been integrated there is an opportunity for YBR to

refocus on the potential of these remaining licensees to build their revenue up to the same

level as the mature branches.

In order to achieve this we expect YBR to continue to invest heavily in its advertising and

marketing to driving enquiries into these locations. As the branches generate more income

they are able to become more self-reliant for business leads, through referrals and their own

marketing presence. This is a traditional strategy to grow a mortgage business and needs to

be coupled with a strong mentoring program to remain effective.

Our forecasts suggest that as the remaining branches approach the income producing level of

the 140 established branches, YBR has the potential to increase revenue from $39.7m in FY15

to $105.8m in FY19, adding $66.1m in revenue from pure efficiency gains in its YBR branches

alone. This represents strong revenue growth potential for YBR based on productivity

improvements, which we believe it can achieve independently of any directional moves in the

property market.

Exeprienced

operator building a

much bigger

business.

We estimate 140 of

the branches to be

income producing…

…with the potential

for the 100

remaining to reach

potential over the

next 2-3 years

…providing

opportunity for an

additional $66.1m

revenue from YBR

branch mortgages.


PAGE 14 OF 26

Figure 15: Lending Revenue Forecasts

Branch Revenue Assumptions - Lending


A$m Act F'cast F'cast F'cast F'cast

Total YBR Branches

No. of Branches 140 140 180 260 320

Average Revenue per Branch $m 0.28 0.29 0.32 0.32 0.33

Total YBR Revenue - Lending 39.7 40.8 57.8 82.2 105.8

Revenue Growth 2.8% 41.7% 42.1% 28.8%

HO, Vow (and Resi) Revenue 117.6 180.0 189.0 198.5 208.4

One Off Revaluation -26.5

Total Lending Revenue 157.3 194.3 246.8 280.6 314.2

Source: Mainstreet assumptions and estimates

6. WEALTH MANAGEMENT

The wealth operations of YBR were established in July 2008, with the acquisition of a financial

planning business. The commencement of the branch network in May 2009 provided YBR with

the opportunity to showcase its retail presence by offering its mortgage products combined

with an affordable wealth offering aimed at the average Australian. Whilst initially slow to begin

with, licensees in YBR branches were trained to offer both wealth and mortgage products to

customers with revenue contributions from wealth representing 29.8% of business (or $7.1m)

in FY14. Although wealth revenue grew to $8.3m in FY15 this was overshadowed by the

acquisitions of Resi and Vow which reduced wealth’s contribution to around 8% of gross profit.

YBR currently has $357m of Funds Under Management on its wealth platform, which we

estimate receives just under $3m revenue investment management fees. The 50/50 joint

venture with Smarter Money has an additional $311m in FUM which contributes to YBR’s share

of profits from JV’s. Life Insurance new business premiums are estimated to have contributed

approximately $4.5m in FY15.

YBR’s wealth strategy is based on offering a complete financial package to its customers

through investment products and platforms, life and general insurance, and superannuation

(including SMSF) products. Unlike its mortgage competitors, YBR describes itself as starting off

as a combined wealth/mortgage business, whereas Aussie Home Loans and Mortgage Choice

are seen predominantly as a mortgage broker who added wealth products to their core

offering.

We consider the key factor for YBR to grow its wealth business will be if it can take the wealth

culture that existed prior to the acquisitions and continue it into the new entities. YBR is

considering changes to its incentive structures to facilitate greater sales of its wealth products.

In addition YBR Head Office will be providing qualified staff across the branches to support the

focus on wealth products.

Our research has revealed that only approximately 40 branches are generating wealth revenues

of any significance. This presents a major opportunity for the remaining branches to increase

their wealth revenue. We estimate that not all the branches will be able to achieve significant

wealth sales, however we expect that over 4 years YBR will be able to attain 150 branches

having wealth platform customers and 180 branches having life insurance customers at

optimum levels. If this is achieved YBR will be able to grow total wealth revenue from its current

$8.3m to $30.3m by 2019. This is strong growth which we consider achievable for YBR as its

branches were set up on the basis of both wealth and mortgages. In addition, YBR’s competitor

Mortgage Choice has shown achievable growth in its financial planning business which augers

well for YBR’s offering.

Wealth business has

been overwhelmed

by the strong

mortgage growth

and acquisitions.

A complete financial

package is offered

from the outset…

…driving branch

behaviour…

… with a potential

$22m additional

revenue for YBR’s

wealth business..


PAGE 15 OF 26

Figure 16: Wealth Revenue Forecasts

Branch Revenue Assumptions - Wealth


A$m Act F'cast F'cast F'cast F'cast

YBR Highly Productive Wealth

No. of Branches 40 40 80 100 150

Average FUM 9 10.5 11.0 11.6 12.2

Commission Rate 0.90% 0.90% 0.90% 0.90% 0.90%

Total Revenue 3.2 3.8 7.9 10.4 16.4

YBR Highly Productive Life

No. of Branches 40 60 100 150 180

Average Premium per Branch 0.05 0.06 0.06 0.06 0.06

Commission Rate 110% 110% 80% 70% 60%

Total Revenue 2.4 3.7 4.6 6.2 6.6

HO, VOW and Other Wealth Revenue 2.7 2.8 2.9 3.1 3.2

Additional Vow brokers selling Wealth 50 60 90

Average Revenue 0.05 0.05 0.05

Additional Vow Revenue 2.7 3.0 4.1

Total Revenue 2.7 2.8 5.7 6.1 7.3

Total Wealth Revenue 8.3 10.3 18.2 22.7 30.3

Revenue Growth 23.5% 77.3% 24.7% 33.3%

Source: Mainstreet estimates

7. MANAGEMENT OVERVIEW

We consider the management of YBR to have a very strong, in depth commercial competency

and the expertise required to drive the growth strategy of the group. Each of the executives

has extensive management and industry experience within their fields and work well together

to deliver on the strategy of the Board.

The recent restructure in early 2016 aligns the executive management competencies very well

to meet YBR’s goals. Matt Lawler, previous CEO of Yellow Brick Road has become CEO Wealth,

bringing with him his extensive wealth experience. More importantly the restructure allows him

to provide a dedicated focus on growing the wealth products. Tim Brown, previously CEO Vow

has become CEO Mortgages and we consider this a very strong appointment. Tim has ground

up experience in the mortgage industry, is well respected and is well placed to continue the

growth in the YBR and Vow brands. The key executives meet regularly to coordinate their

activities and strategies and we view the restructure as a perfect fit for the executives to deliver

on the company’s growth plans.

Mark Bouris, as Executive Chairman, maintains an in depth working knowledge of YBR and

contributes strongly to its success. His brand presence both as a personality as well as a

successful businessman is instrumental in driving advertising and customers to the YBR

operations.

Restructure provides

increased focus on

wealth.


PAGE 16 OF 26

EXECUTIVE BIOGRAPHIES

EXECUTIVE CHAIRMAN – MARK BOURIS

Mark Bouris is the Executive Chairman of YBR and majority shareholder. Mark has over 25 years

of experience in the finance and property sectors. He was the founder and Chairman of Wizard

Home Loans in 1996 which grew to become the second largest non-bank mortgage lender in

Australia before it was sold to GE Money in 2004 for $500m. In 2015 Mark was appointed a

Member of the Order of Australia for his significant service to the finance industry, particularly

the home loan mortgage industry, to education and to charitable organisations.

Mark is an energetic, engaging executive with a strong vision for growth and a driving

personality. His in depth knowledge gained from building Wizard has been the structure of the

YBR business and he is integral to the success of the brand and its growth.

External Roles Held: Executive Chairman of TZ Limited, Non-Executive Chairman of Anteo

Diagnostics Ltd, Board member of the Sydney Roosters, Adjunct Professor at the University of

New South Wales Australian School of Business, member of the University of NSW Business

Advisory Council, member of the University of Western Sydney Foundation Council.

EXECUTIVE TEAM REVIEW

MATT LAWLER, CEO WEALTH

Matt Lawler has over 25 years’ experience in the financial services industry with expertise in

investments, insurance, mortgages and financial planning. Matt joined Yellow Brick Road in

May 2011 as Chief Executive Officer and moved to the role of CEO Wealth in early 2016 as part

of YBR’s strategy to provide a dedicated focus on growing the wealth offering. Matt has

extensive experience in the wealth space. Prior to joining YBR he was Executive General

Manager of NAB Partnerships, and prior to that he was the Executive General Manager of MLC

Advice & Distribution. Matt has a Diploma of Financial Planning from Deakin University as well

as a Graduate Diploma in Financial Markets.

TIM BROWN, CEO LENDING

Tim Brown has over 30 years’ experience in the Banking and Finance industry and has held

senior management positions in Macquarie Bank, LJ Hooker, Suncorp, Aussie Home Loans and

AVCO Finance (now GE Capital). Tim’s successfully establish and owned a LJ Hooker Home

Loans master franchise before it was acquired by LJ Hooker in 2003. Tim is responsible for

mortgage and property related sales and distribution of products across the YBR Group of

companies. Tim has an MBA, a Diploma in Mortgage Lending and Business Management and

a Diploma in Financial Planning.

SCOTT GRAHAM, CHIEF COMMERCIAL OFFICER

Scott Graham’s expertise in consumer businesses (Ford South America, Coca Cola, NAB Wealth

and NAB) spans over 30 years in senior management roles in strategy, marketing and business

unit leadership. He spent 12 years in the US and Latin America where he was Group Director

Worldwide of Coca Cola’s new beverage portfolio and later led the regional strategy and export

operations for Ford South America. Scott was part of the turnaround team that took Ford South

America from 20 consecutive years of losses to regular free cash flow of over $1 billion annually.

Upon his return to Australia, he worked in private equity before becoming General Manager

Marketing for MLC and NAB Wealth. At YBR, Scott is responsible for operations, strategy,

marketing, PR, investor relations and business partnerships.

High profile,

experienced

Executive Chairman

with respected

industry position.

Experienced and

well respected

executive team.


PAGE 17 OF 26

RICHARD SHAW, CHIEF FINANCIAL OFFICER & COMPANY SECRETARY

Richard Shaw is a Certified Practising Accountant and holds a Master of Business

Administration from the University of Technology Sydney and a Bachelor of Accounting and

Finance from the University of Tasmania. He joined Yellow Brick Road in August 2010 and has

over 25 years’ experience as a finance executive including roles as CFO at OzEmail Internet,

BlueFreeway Limited (appointed after its takeover by the Independent Print Media Group and

responsible for its restructure and privatisation) and CommSecure Limited.

REMUNERATION AND INCENTIVES

Mark Bouris is engaged under a consultancy agreement between YBR and Golden Wealth

Holdings (‘GWH’), a company controlled by Mr Bouris. An independent external consultant

Egan Associates was engaged to structure the agreement which expires on 31 July 2019 and

Mr Bouris is paid a maximum fee of $1.125m per annum for his services. In addition, GWH

received 6.0m shares in August 2014 as part of the long term agreement to secure Mr Bouris’

services. Mr Bouris has performance rights on 10m shares subject to share prices between

$1.01 and $1.74 up until August 2019.

In October 2015 YBR issued 195,840 shares to nominated employees in lieu of cash bonuses

relating to the June 2014 year ended. The shares were issued subject to the employees

remaining with YBR for the 12 months ended June 2015 and were issued at a strike price of

$0.70.

BOARD AND MAJOR SHAREHOLDERS

The YBR Board consists of Mark Bouris, Executive Chairman and 3 Non-Executive Directors –

Adrian Bouris, Owen Williams and Melanie Kansil.

The top 3 major shareholders in YBR are Mark Bouris, Macquarie Group and Nine

Entertainment Group. Macquarie provides lending and wealth products to YBR, including white

labelled products which YBR earn an additional corporate margin on. Nine Entertainment

provides advertising to YBR through The Celebrity Apprentice as well as other media

advertising. The ownership of shares by both Macquarie and Nine are important to the success

of YBR and provides strategic support. All material transactions between these entities are fully

disclosed in the annual report.

Figure 17: Majors Shareholders

Substantial Shareholders

Shareholder Shares Held %

Golden Wealth Holdings (Mark Bouris) 51,211,262 18.41

Macquarie Group Limited 51,020,919 18.34

Nine Entertainment Group 49,592,858 17.83

Acorn Capital 16,685,182 6.00

Top 4 Shareholders 168,510,221 60.58

Source: Yellow Brick Road Annual Report

Mark Bouris’ services

secured until August

2019.


PAGE 18 OF 26

8. CAPITAL MANAGEMENT

YBR was initially established in 2007 as a private company which was majority owned and

controlled by Mark Bouris. Prior to its IPO listing the company had 21,500 shares, of which Mr

Bouris directly controlled 15,200 through his companies Golden Wealth Holdings and YBR

Nominees. The major capital transactions since its listing are:

1. As part of the IPO in May/June 2011, the company restructured itself through a number of

transactions:

• Existing shareholders of ITS Capital Investments had their shares converted into 14.1m

shares of YBR as part of the reverse takeover.

• The company raised $12.5m through the issue of 31.25m shares at $0.40 each

• An additional 0.75m shares were issued to Bell Potter as consideration for services to the

transaction.

• 84.1295m shares were issued to the prior owners of YBR (3,913 shares for every 1 share

held)

2. In July 2011, Nine Entertainment Group entered in partnership with YBR and was issued

32.45m shares at a placement price of $0.40. The total amount of $12.98m was paid for by

$6.49m in cash, plus $6.49m in paid advertising over a 5 year period.

3. In December 2012 the company issued 15.0m shares to Macquarie Bank Limited and 2.5m

shares to Coolabah Ventures, both at an issue price of $0.40.

4. In June 2013 the company raised $10.0m through the issue of 10.0m shares to Macquarie

Bank Ltd and 4.285715m shares to Ellison (WA) Pty Ltd, both at an issue price of $0.70.

5. In August 2014 the company raised $54.0m through the issuance of $77.2m shares at $0.70

to fund the acquisitions of Resi and Vow Financial, 60.1m of the shares were issued under a

private placement, with the balance issued to Resi and Vow shareholders as part

consideration for the acquisition.

6. In August 2014 the company issued 6.0m shares to Golden Wealth Holdings, a company

controlled by Mark Bouris as consideration for a lock in/lock out and long term incentive.

YBR currently has 278.2m ordinary shares on issue. In November 2015 the company announced

its intention to undertake an on market buyback of up to 10% of its shares over the course of

12 months, however it has not yet exercised this option.

As at December 2015, YBR had $6.6m in cash at bank. This was a $4.2m reduction from the

June 2015 position. YBR has a $7.0 undrawn debt facility it can utilise if it requires short term

funding for its growth.

YBR’s ambitious growth plans are likely to require acquisitions; however we expect any

potential acquisition to be a small bolt on entity and will need to be eps accretive immediately,

given that the company is using its excess cash to fund existing growth.

We expect YBR’s focus on the next 2-3 years will be on driving its existing network with its

current available capital.

Capital raisings for

funding, strategic

partnerships and

acquisitions.

Cash at bank $6.6m

is low, Bank facility

of $7m available.


PAGE 19 OF 26

9. SUNDRY ITEMS

REVENUE RECOGNITION

Mortgage origination revenue is recognised on the date of settlement for the property, whilst

the actual cash payment from the lender will occur in the month or quarter following

settlement, and will vary by the different lender. Mortgage trail commission is calculated by

taking the expected value of all future trail commissions and discounting this back to the

present period. The Discount Unwind recognises any changes in this amount due to changes

in the discount rate or a change in the expected payment pattern on the mortgage.

Life Insurance Up Front Commission revenue is recognised on the date of inception of the

policy based on the upfront rate.

GOODWILL AND IMPAIRMENT

As at June 2015 YBR held $39.0m in Goodwill on the Balance Sheet. Impairment testing is

undertaken half yearly to calculate the value of business expected to be generated from the

acquired entity businesses of Resi and Vow. YBR have indicated there is around $20m surplus

based on expectations in the mortgage operations and we currently do not expect any

impairment of goodwill to impact on YBR’s profitability.

10. VALUATION CONSIDERATIONS

We value YBR at $0.45 per share on a Discounted Cash Flow (DCF) basis. This valuation is based

our forecast scenario of increased advertising spend used to drive increased revenue across

the lower performing branches. We consider our forecasts to be conservatively achievable

based on YBR’s management track record and experience in growing its business and

capturing market share.

We forecast cash flows out for 10 years and use a Discount Rate of 10.0% with a Terminal

Growth Rate of 2.5%. We have a Long Term Price Target of $0.61 per share based on a Roll

Forward of our DCF Valuation by 3 years. This assumes that cashflows start at the FY19 position.

Figure 18: DCF Valuation Assumptions

Discounted Cashflow Valuation

FY16 FY17 FY18 FY19 FY20 FY21 FY22 FY23 FY24 FY25

Net Operating Cashflows -4.2 0.3 4.2 7.3 10.1 11.6 13.2 13.9 14.8 15.7

Risk Free Rate 2.75% Long Term Price Target $0.61

Risk Premium 6.00% DCF Roll Forward Period 3 years

Beta

1.20

Discount Rate 10.0%

Present Value (Yrs 1-10) 43.1

Terminal Growth Rate 2.5%

Terminal Cash Flow Amount 16.0

Present Value (Terminal ) 83.4

NPV of Cashflows 126.5

Shares on Issue 278.4

DCF Valuation per Share $0.45

Source: Mainstreet

DCF Valuation $0.45

per sharebased on

conservative

forecasts.

Long Term

Valuation $0.61 per

share.


PAGE 20 OF 26

COMPARISON TO LISTED PEERS

A comparison of YBR to its listed peers shows that whilst YBR is loss making, it is trading at a

significant discount of 0.71x Book Value at June 2015, compared to its peers who trade at 1.17x

– 2.94x Book Value. This highlights the potential upside to YBR’s share price once it can move

towards profitability.

Figure 19: Comparison to ASX Listed Home Mortgage Brokers

Comparison of ASX Listed mortgage brokers

12months to 30 June 2015

Yellow

Brick Road

Mortgage

Choice AFG Homeloans

Market Cap (A$m) 57.1 200.9 212.7 50.7

Settlements ($ billion) 12.6bn 11.5bn 31.2bn 1.0bn

Loan book ($billion) 30.8bn 49.5bn 102bn 3.6bn

Total Revenue $m 166.4m 184.8m 526.2m 56.4m

-Mortgage Revenue $m 155.7bn 140.3m 525.9m 44.4m

NPAT -2.6m 18.9m 20.4m 5.6m

Price to Book Value 0.71 1.97 2.94 1.17

Source: Company annual reports, Current share prices

Mortgage brokers in the UK are settling a greater proportion of home loans (78% of

settlements) compared to their global peers. A recent phenomenon, since April 2014, driven

by the introduction of increased compliance standards by the UK Regulator. Significantly more

rigorous qualifying assessments inadvertently created a competitive advantage for UK

mortgage brokers as their sales force are typically better qualified than their bank peer group

and; consumers need only attend one interview with a broker in comparison and then they get

a scale offering from any UK lender.

A recently listed mortgage broker, Mortgage Advice Bureau (London AIM Code: MAB1, listed

November 2014) has a market capitalisation of GBP149m. The steady growth in UK mortgage

brokers is reflected in its last full year results (to December 2014) with an NPAT of GBP5.4m

from GBP56.6m revenue, and a book value of GBP7.6m. Mortgage Advice Bureau generates

41% of its income from Insurance Commissions; and 42% from Mortgages and 17% from Other

Fees. Its strong share price demonstrates the potential upside for a mortgage broker such as

YBR to capitalise on combined revenue and earnings growth

YBR undervalued

compared to ASX

listed peers.

UK’s Mortgage

Advice Bureau

shares reflecting its

strong growth

potential.

YBR undervalued

compared to US

finance companies

with higher risk

profiles.


PAGE 21 OF 26

In the US, mortgage brokers hold a small market share (<10%) and there are no listed peers.

In order to gain an approximate international comparison, we looked at a number of US finance

companies which are primarily involved in residential mortgage originations and the servicing

of mortgages. Penny Mac Financial and Impac (1.01x – 1.35x book value) appear to be

reasonable comparisons for YBR and reinforces our view that YBR is undervalued at current

price levels. We would not use the lower price to book value ratios at Stonegate (which is

closing many branches and downsizing) and Nationstar (which has a high level of debt, and a

large share of reverse mortgages).

Figure 20: Comparison to NYSE Listed Mortgage Companies

Company NYSE

Code

Market

Cap

US$m

Revenue

US$m

NPAT

US$m

P/BV

x Comment

Stonegate Mortgage SGM 122.0 193.2 -44.2 0.47 closing branches,

cutting costs to turn

losses around,

$28.5m 3Q15

writedown

Impac IMH 139.3 167.0 80.8 1.35 securitised mortgages

Nationstar Mortgage

Holdings Inc

NSM 1,197.9 1,988.6 38.8 0.71 high debt, large

amount of reverse

mortgages

Penny Mac Financial PFSI 273.0 713.1 47.2 1.01

Source: Company accounts

Note: Results are for 12 months to December 2015, except for Stonegate being the 12 months to Sept 2015.


PAGE 22 OF 26

11. APPENDIX 1 – OVERVIEW OF FY15 RESULTS

YBR made a 1H15 loss of -$4.3m in the 6 months to 31 December 2014 which included 4

months results of Resi and Vow (acquired on 29 August 2014). The full inclusion of these 2

entities in 2H15 helped move YBR to a profit of $1.7m in the 6 months to 30 June 2015 resulting

in a full year NPAT of -$2.6m.

The following chart shows a breakdown of the FY15 consolidated income statement with a

breakdown of estimate gross profit margins. These gross profit margins are estimated by

Mainstreet to reconcile with the audited financial accounts and the chart shows the drivers

which contributed to the earnings of the mortgage broking business.

MORTGAGE BUSINESS

Settlements: When a mortgage is settled by the loan writer, YBR receives a commission from

the lender. This is typically in the range of 0.60% - 0.70% of the settlement value, depending

on the lender (eg bank), and we have assumed a 0.65% average rate as commission revenue.

This amount is shared with the loan writer who receives anywhere between 40-60% of the

amount depending on their commission structure and amount of business they settle each

month.

Trail Book: In addition to the upfront commission on settlement, mortgage brokers also

receive a trailing commission on mortgages in their second year onwards. This trail commission

is paid by the lender (eg bank) and is typically around 0.15% – 0.25% of the remaining value of

the mortgage, with YBR’s average rate at 0.174%, increasing to around 0.236% after the

inclusion of additional corporate margin on YBR branded products and sponsorships. YBR

receives this as commission revenue and pays the loan writer between 20-50% of the amount

depending on the size of the loan writer’s book of business.

Discount Unwind: At the start of mortgage loan agreement, the total cashflows and interest

payments are estimated and valuation is placed on the amount on a net present value basis. If

during the course of the year certain loans are discharged via early settlement, and the

borrower is required to make a payment to the lender for a differential change in interest rates,

then the lender will pass on the resulting trail commission to YBR and this is recognised as a

Discount Unwind on trailing commission revenue. A similar Discount Unwind on trailing

commission expense for YBR is then passed on to the loan writer.

Gross Profit Margin: The ratio of commission expenses to commission revenue is quite high

at around 90% (and 87% for discount unwind). This is a concerning high commission expense

ratio for the industry and is largely driven by YBR’s aggressive growth plans to encourage the

roll out of branches in order to set up the required network. Since this network is fully

established, advertising costs can be reduced and margins improved. The network will be used

to grow YBR’s wealth offering, which has further potential.

WEALTH MANAGEMENT

The Funds Under Management (FUM) at the end of FUM was $357m for platforms with fee

income of $3.3m, or an average fee of 0.75% (being 0.25% investment fee plus 0.50%

administration fee) This is quite low for an investment platform and reflects YBR’s desire to

make financial advice affordable and accessible to the everyday Australian.

Insurance revenue of $5.0m was generated from both Life and General Insurance business.

NON BRANCH SALES AND OTHER

Non branch sales consists of business that is referred to YBR’s head office and includes

Accounting and Tax advice as well as other complex accounts that cannot be handled by

licensee/franchisee/loan writers.

A 50:50 joint venture with Smarter Money Investments generated $0.4m in profit for YBR, which

is included under equity accounting standards.


PAGE 23 OF 26

Figure 21: FY15 Profit & Loss Analysis

Source: YBR Accounts, Mainstreet Equities Advisors

Yellow Brick Road Holdings

Total Revenue $165.9 m

Mortgage Broking Wealth Management Non Branch Sales & Other

Origination & Trail

Revenue$147.4 m Interest $0.3 m

Discount Unwind on Trail $9.8 m Share of JV's Profit $0.4 m

Revenue $157.3 Revenue $8.3 m Revenue $0.8 m

Total Revenue $166.3 m

`

Mortgage Broking Wealth Management

Origination & Trail

Expense-$122.4 m

Discount Unwind Trail -

Expense-$8.6 m

Direct Expense -$131.0 m Direct Expense -$6.7 m

Total Direct Expense -$137.6 m

Gross Profit $28.7 m

Consultancy Expenses -$1.7 m

Employee Benefits -$14.4 m

Operating Expenses -$10.2 m

Occupancy Expenses -$1.0 m

Other Non Operating Exp -$8.1 m

Total Expenses -$35.5 m

EBITDA -$6.8 m

Depreciation & Amortisation -$1.8 m

EBIT -$8.6 m

Interest Expense -$0.7 m

Profit Before Tax -$9.4 m

Tax Benefit $6.8 m

NPAT -$2.6 m


PAGE 24 OF 26

Source: Company Accounts, Mainstreet Equities, ASX Charts


PAGE 25 OF 26

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