AFG delivered solid first half FY25 results with revenue up 11.2% to $625.6 million and NPAT growing 6.3% to $15.3 million. The Distribution segment was the standout performer, achieving 8% earnings growth and an impressive 39% return on equity, driven by record broker numbers and residential settlements up 13.2% to $31.8 billion.

The Manufacturing segment is showing clear signs of recovery after a challenging FY24. The AFG Securities loan book reached a record $5.1 billion (up 23% year-on-year) with settlements surging 147%. Net interest margin has begun improving to 114bps, supported by normalizing funding conditions evidenced by a recent RMBS transaction upsized from $500 million to $700 million.

Strategic initiatives are progressing well, with major technology investments completed and delivering high Net Promoter Scores. The Broker Investments program has expanded to include stakes in Lifespan and Empower Wealth, expected to contribute additional EBITDA of up to $7 million annually. The company maintains a strong balance sheet with $185 million in investments and liquid assets, positioning it well for continued growth.

Australian Finance Group Ltd (AFG) is one of Australia's leading mortgage aggregation companies, connecting lenders with borrowers through an extensive network of over 4,100 brokers nationwide. Founded in 1994, the company has established itself as a critical intermediary in Australia's financial system, with AFG brokers originating approximately 1 in 10 residential mortgages in the country.

AFG operates through two primary segments: Distribution and Manufacturing. The Distribution segment focuses on mortgage aggregation, providing administrative and infrastructure support to contracted brokers while giving them access to a panel of lenders. Revenue is generated through upfront commissions, trail commissions, subscription fees, and sponsorship income. The Manufacturing segment involves AFG lending directly through its AFG Securities business, which offers residential mortgages funded through established residential mortgage-backed securities (RMBS) programs.

The company has evolved from a traditional mortgage aggregator to a diversified financial services business, combining both aggregation services and direct lending operations. Strategic investments in broker businesses and technology platforms further strengthen its competitive position in the evolving Australian mortgage market.

AFG's 1H25 results demonstrated the resilience of its diversified business model. The Distribution segment delivered outstanding performance with profit before tax up 8.2% to $28.9 million and an impressive 39% return on equity. This was driven by record broker recruitment (now exceeding 4,100), strong residential settlements growth, and successful technology adoption with subscription income up 12.2% to $10.1 million.

The Manufacturing segment showed stabilization after a challenging FY24, with profit before tax of $8.4 million only slightly below the prior year. More importantly, the AFG Securities loan book reached a record $5.1 billion with settlements up 147% year-on-year, indicating strong recovery momentum. Net interest margin has begun improving to 114bps, supported by better funding conditions.

Management noted that funding conditions are improving, with a recent RMBS transaction upsized from $500 million to $700 million due to strong investor demand. The company maintains a strong balance sheet with $185 million in investments and liquid assets, while the interim dividend was modestly reduced to 3.8 cents to support growth investments.

Our financial forecasts project revenue growth moderating from the current 11.2% to a sustainable 7.0% CAGR over the next five years, driven by continued broker network expansion and Manufacturing segment recovery. The Distribution segment is expected to maintain 7-8% growth supported by increasing broker market share (from 75% toward 80%+) and technology-driven efficiency gains.

Manufacturing segment recovery is central to our projections, with the AFG Securities loan book growing from $5.1 billion to approximately $6.2 billion by FY26. We forecast gradual net interest margin expansion from 114bps to 125-130bps as funding conditions normalize, though not returning to historical highs due to competitive pressures.

Strategic investments are expected to contribute additional EBITDA of up to $7 million annually, phased in over two years. Capital expenditure requirements are projected to decline to 0.5% of revenue following completion of major technology investments, enhancing free cash flow generation. ROIC is forecast to improve from 8.0% to 14.5% over the period, demonstrating increasing capital efficiency.

Our DCF base case yields a valuation of $2.09 per share, suggesting 51% upside from the current price of $1.38. This valuation reflects the sum of discounted cash flows during the explicit forecast period and the present value of terminal value, calculated using a 12.2% WACC and 3.0% terminal growth rate.

The valuation is anchored in a two-segment approach recognizing the distinct economics of AFG's Distribution (aggregation) and Manufacturing (lending) businesses. For Distribution, we project 7-8% revenue CAGR driven by expanding broker numbers and market share. For Manufacturing, we project stronger near-term growth (10-12%) as AFG Securities recovers, with gradual NIM expansion supporting earnings growth.

Multiple-based valuations provide a complementary perspective, with NTM EV/EBITDA and P/E multiples yielding more conservative estimates. The valuation disparity highlights whether AFG should be valued as a distribution-focused business or lending business. Our balanced approach weights DCF methodology at 60% given its ability to capture distinct segment economics and long-term growth trajectory.

Interest rate risk represents the most significant exposure, particularly for the Manufacturing segment where profitability is directly linked to net interest margin. However, early signs of recovery are evident with improving funding conditions and NIM beginning to expand from compressed levels.