Virgin Money: Headwinds ahead, as management look towards acquisition by Nationwide

Virgin Money’s half year trading results were released on Tuesday morning. Overall, the results were steady, although there could be headwinds ahead, which is why the stock price is slightly lower so far on Tuesday. The bank reported a 5% growth in loans, although there was a 2% decline in mortgage growth, which reflected subdued demand, although the bank did note that mortgage demand has improved since January. Business lending was higher by 7%, while customer deposits also rose by 2%. Net interest income for H1 was in line with expectations, however, net interest income is one of the weak spots for the second half of VM’s fiscal year, with the bank saying that lower interest rates on credit cards could hit NIM in the coming months. Lower net interest income could be partially offset by a 5-10% expected increase in lending in H2.

In line with other UK banks, VM said that credit quality was good, and arrears are in line with expectations. The bank said that the improving economic outlook has helped.

The weak spot in this report was costs. The bank expects the cost-to-income ratio to be ‘significantly higher’ in H2, without shedding light on the numbers to expect. VM also announced that it would cancel its dividend and buyback in light of the proposed takeover by Nationwide.

Nationwide acquisition could be rubber stamped next week

The management team are deeply in favour of this cash acquisition, saying that it represents an ‘exciting opportunity’ to build on its strategic plans. The board seems confident that the acquisition will go ahead and has already cancelled the share buyback and the dividend in light of the proposal by Nationwide.

However, the deal cannot be agreed until the shareholder vote on 22nd May. While it seems likely that it will be passed, there are some notable naysayers, including the fund manager and largest independent investor Allan Gray, who are looking for a better offer than the £2.9bn currently on the table.

An uphill struggle to derail this proposed acquisition

The odds seem to be against Allan Gray, since the largest shareholder and founder Sir Richard Branson has already indicated that he will back the takeover, which will net him £724mn. The management team are behind the deal, even though it will result in some job losses after the first year. Added to this, it is unlikely that Nationwide will offer more for VM, as it has already revised its offer higher, after being rebuffed by Virgin when it first approached the bank in January.

The financial sector rebound

The timing for the acquisition is also worth noting. Global financial stocks are seeing an upswing and a surge in demand right now. For example, 4 out of the top 5 best performing stocks in the UK in the past month are financial stocks including St James’ Place, NatWest, Barclays and Standard Chartered. Year to date, NatWest and Barclays are the first and third best performing stocks in the FTSE 100. Financial stocks are also performing well in the US, and the investment banking and brokerage sector is the seventh best performing sector on the US blue chip index in the past month, outperforming key tech sectors. This is a sign of an improvement in risk appetite. This surge in demand for financial stocks could be why Allan and Gray are lobbying for Nationwide to boost their offer for Virgin Money – there could be more upside in the financial sector, do don’t sell too quickly, otherwise you may not get the best price. While there could be some logic to this argument, we continue to think that the path of least resistance is for VM shareholders to agree to the acquisition when they vote on 22nd May. If, unexpectedly, the acquisition does not go ahead, this could cause a sharp decline in the share price of VM, which has risen nearly 30% year to date, partly due to Nationwide’s offer.