Inheritance Tax Service
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Octopus Inheritance Tax Service – The latest from Fern Trading

6:23pm 25 Mar 2020 - Written by Rob Skinner, Lead Fund Manager

This update focuses on Fern Trading, the company that most investors in the Octopus Inheritance Tax Service own shares in.

Specifically, I want to update you on four areas that advisers have asked us about:

  • Valuation – Why we’ve so far not seen much impact on Fern’s share price.
  • Liquidity – Inflows and outflows have been in line with what we’ve seen over recent years.
  • Underlying business operations – How Octopus is supporting companies that make up Fern.
  • Deployment of capital – The sorts of opportunities we look for.

I’ll now look at each of these areas in more detail.

Fern’s share price valuation

Fern’s share price valuation

Every month, we undertake a valuation of Fern and recommend a share price to the Fern Board at which Fern is happy to issue new shares and Octopus, as discretionary manager of the Octopus Inheritance Tax Service, is happy to buy shares on behalf of investors. We are doing that again as usual to set the share price for the month of April.

As we allow customers to buy and sell shares every week, it is important that we make sure the share price is fair on a weekly basis.  Therefore, we have to regularly consider whether anything material has happened that may cause us to revalue Fern mid-month. In recent days we’ve been looking at Fern’s business to see if its value has moved materially and have concluded that the current share price remains fair today.    

I’ll explain why by looking in turn at each of the main sectors in which Fern operates.

Renewable energy

The value of Fern’s renewable energy assets is based on the cash flows they’re expected to generate over 25 to 30 years. So the main driver of valuations here is long-term (25 years+) energy price forecasts.  Those dipped at the start of the year, which caused a small dip in Fern’s share price.

While there can be no doubt the UK economy is experiencing severe short-term pain, people will continue consuming power, and people will still be paying for power generation. Renewable energy assets therefore remain very much in demand; indeed, in the last few days we’ve seen transactions in the market that support the current valuations of Fern’s energy assets. 

Healthcare

We’re in discussions with the NHS to open up our private hospitals to them. This will be a commercial agreement which is in the interests of Fern, but also shows how Fern’s assets are viewed as critical infrastructure to the UK.  Furthermore, we’re pleased that Fern is able to support the wider community in these troubling times.

Property lending

About 25-30% of Fern’s business comprises short term lending in the property sector. The loans Fern makes include residential loans (buy-to-let, bridging), commercial loans and development loans, with an average loan size of around £500k for residential, and £2-3m for commercial and development loans. Typically, Fern lends to professional borrowers, with a 6-18 month maturity.  There are typically more than 200 loans in this part of Fern’s business at any one time, spread right across the UK, and the average loan to value (LTV) is below 65% which provides a meaningful level of protection for Fern’s capital should loan interest and capital need to be repaid over a longer period.

We always monitor this part of Fern’s business very closely and review any non-performing loans in great detail to assess timing and amounts of any recovery processes. At the moment there is nothing that would require a material reduction in value of Fern’s lending business or individual loans, but we’re stress-testing all the loans and paying attention to how the property sector as a whole changes over the coming days and weeks.

We are expecting demand for new loans to be lower than normal in the current climate.  We also always adopt a risk adjusted approach to lending, and have adjusted our criteria to a more cautious set of conditions than in a more positive market.

Fibre broadband networks

The sudden necessity for many people to work from home illustrates why Fern has entered the fibre broadband sector. Good connectivity is going to be increasingly important to the UK in the years ahead. We believe there’s a great growth opportunity for Fern’s fibre broadband businesses.

Liquidity

Liquidity

We manage more than £2 billion of investors’ money in the Octopus Inheritance Tax Service and it has been running for more than a decade. As such, we are very used to managing liquidity for investors on a weekly basis, from regular withdrawals to large ad hoc payments in excess of £10 million. 

Withdrawal requests tend to be fairly regular from month to month and we don’t expect that to change significantly. This is in keeping with the nature of the product. It’s a long-term investment that most people will hold until death, and not a pot of money they tend to dip into. Both withdrawals and inflows over the last couple of weeks have been in line with those we’ve seen over the last few years.

We have designed the Service so we can aim to provide liquidity to investors on a weekly basis in normal circumstances. And we also manage Fern in such a way that we would expect to be able to provide liquidity in unusual circumstances as well, although it’s important to remember that liquidity can’t be guaranteed.

Underlying business operations

Underlying business operations

Over the last week or so we’ve been making sure we as Octopus have our logistics up and running to work from home and oversee everything as normal. We’ve also been contacting all the companies that make up part of the Fern group to make sure they have what they need, both from an operational and a cash perspective. I’m pleased to say that all of Fern’s companies are up and running and fully functional on a working from home basis.

Our renewable energy sites are used to safely operating using a skeleton staff over festive periods, and so are very capable of continuing to produce power to generate revenues at times like this. And as I mentioned earlier, some of our healthcare assets look likely to be used to provide much-needed facilities for the NHS.  The majority of Fern’s operations fall into the “key worker” category by the government, as they are helping to keep the lights on, keep the internet going, and provide critical healthcare.

Deployment of new money

Deployment of new money

In the weeks ahead, we’ll be looking to see if there are opportunities to acquire assets at an attractive price. We’ll also be looking at ways we can support the existing businesses in Fern, which may themselves be presented with attractive growth opportunities.

A diversified business strategy

A diversified business strategy

Fern continues to pursue a diversified business strategy, with a focus on real asset sectors, the benefits of which become apparent at times like this.

While the world is going through a terrible period, Fern is in good shape to keep delivering on what investors in the Octopus Inheritance Tax Service have entrusted us to do.

A reminder of the key risks

A reminder of the key risks

  • The value of an investment in the Octopus Inheritance Tax Service, and any income from it, can fall as well as rise. Investors may not get back the full amount they invest.
  • The benefit of tax relief depends on individual circumstances. Tax treatment is assumed as per current legislation, which may change in the future.
  • Qualification for BPR depends on portfolio companies maintaining their qualifying status, which is assessed at the point a claim for the relief is made.
  • The shares of smaller and unlisted companies may be more volatile than shares of companies listed on the main market of the London Stock Exchange.
  • They may also be harder to sell.