Sector Watch: Debt collection stocks
A slowing economy will likely lead to rising defaults in America’s growing mountain of consumer debt, but bad news to some is like music to others. Portfolio Recovery Associates (Nasdaq: PRAA) and Asset Acceptance Capital Corp. (Nasdaq: AACC) are two debt collection specialists profiting from the ever-expanding opportunities of an unpaid credit card here and an unpaid auto loan there.
Both companies capitalize on portfolio purchase opportunities that result from the growing pool of consumer credit outstanding and an increasing number of credit card and debt charge-offs.
Consumer outstanding credit has grown more than 6% annually in the last 20 years and presently exceeds $2.4 trillion. Credit card charge-offs have been growing at a 12.5% annual rate and will reach $88 billion by 2010; the face value of all debt purchases in the United States has expanded 12% annually and will likely exceed $95 billion in 2010. The $100 billion credit card debt market, the $3 billion bankruptcy market, the $5 billion telecom credit default market and the $2 billion auto loan default market are all expected to double over the next three years.
Portfolio Recovery Associates and Assset Acceptance Capital took asset write-downs in 2007 that cut their share prices nearly in half, creating price appreciation potential for new investors.
Portfolio Recovery Associates is the nation’s leading full-service provider of outsourced receivables management. It purchases, collects and manages portfolios of defaulting consumer receivables from banks, credit unions, consumer and auto finance companies and retail merchants.
The company’s competitive strengths include a sophisticated approach to portfolio pricing and long-standing relationships with many of the nation’s leading consumer lenders. The defaulting consumer receivables Portfolio Recovery Associates collects are purchased directly from the credit originator. In some instances, the company collects debts on behalf of clients for a commission.
During the first nine months of 2007, the company’s earnings grew 14% year-over-year to $37.6 million, or $2.35 per share, from $33.1 million, or $2.06 per share. September quarter highlights included a 9% year-over-year increase in cash collections to $65.2 million from $59.7 million. In addition, the company purchased $2.6 billion face value of debt during the September quarter for $57.4 million, the third largest amount Portfolio Recovery Associates has ever spent in a single quarter. The acquired debt consists of 59 portfolios from 23 different sellers.
Portfolio spending during the first nine months of 2007 was a record $160 million and higher than any previous full-year total. Portfolio Recovery Associates sharply increased staffing during the September quarter and is implementing strategies for improving collector productivity that was slightly lower in the third quarter and nine-month period. Over the last 52 weeks, shares have ranged between $28.13 and $65.66.
Analysts look for Portfolio Recovery Associates to produce 12% growth this year and next year and 14% average annual longer-term growth. My $45 price target for these shares is above Tuesday’s closing price of $28.24.
Wading in the same pool is Asset Acceptance Capital, a purchaser and collector of defaulted or charged-off account receivables portfolios from consumer credit originators for over 40 years. It purchases these receivables for its own account and, unlike its main competitor Portfolio Recovery Associates, doesn’t act as a collector for third parties, believing direct ownership affords the company the best opportunities to employ long-term strategies that maximize profits.
Asset Acceptance Capital purchases debt portfolios at a substantial discount to face value from credit card issuers, consumer finance companies, health-care providers, retail merchants, telecoms and utilities. Between 1997 and 2006, the company purchased 740 consumer debt portfolios with an original charged-off face value of $27 billion for an aggregate purchase price of $579 million. Since 2000, Asset Acceptance Capital has made purchases across more than 120 asset types from over 150 different debt sellers. Unlike third-party collection agencies which typically abandon collection activities after attempting to collect for six month, Asset Acceptance Capital takes a long-term approach to the collection effort, typically five years or more. In many cases, the company is continuing to collect on individual portfolios 10 years after purchase.
Asset Acceptance Capital shares traded as high as $19.25 last year. However, impairment charges taken in the first nine months of 2007 resulted in reduced 2007 per-share earnings and caused the company’s share price to plummet.
Asset Acceptance Capital’s earnings fell 54% year-over-year in the first nine months of 2007 to $16.5 million, or $0.50 per share, from $35.7 million, or $0.96 per share, for the same period last year.
Despite lower earnings, there were positive developments in the September quarter that suggest the fundamental business remains sound. Each of the company’s primary collection channels remains strong and has generated considerable year-over-year collections growth so far in 2007. Overall cash collections increased 8.5% year-over-year to $282 million from $260 million. In addition, the company’s account representative productivity has increased steadily in 2007 and was up 20% in the September quarter of 2007 compared to the September quarter of last year.
Although net income fell, earnings before interest taxes, deprecation and amortization (EBITDA) was higher and up 5% year-over-year in the first nine months of 2007 to $131.3 million. Also, the company continued to add to its revenue-generating portfolio, boosting receivables purchased by 50% ($40 million) during the first nine months of 2007. Asset Acceptance Capital spent $35.3 million during the September quarter of 2007 to purchase charged-off consumer debt portfolios with a face value of $1.9 billion.
Analysts expect this company to produce 37% growth next year and 12% annual longer-term growth. My $15 price target for Asset Acceptance Capital (AACC) is above Tuesday’s closing price of $9.03.
About the Author
Contributing author Lisa Springer is an equity research analyst with nearly 20 years of investment research experience.
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Jan 16 11:46am
It will get harder to collect.: Sub-prime is already spilling over into credit cards and other consumer debt. Won't it become much harder to collect from consumers becasuse they won't have the money to pay? Therefore, it will be harder to make money on a commision basis or on purchased debt? I understand there are very few companies buying debt right now. If this is true then the outlook for these companies in not bright? Is there something I am missing?
Jan 16 11:23pm
What about Asta Funding?: It looks very cheap. But don\'t know if accounting thing is over~
Jan 17 09:33am
These stocks don\'t trade well.: What a great time for the collection companies given the spiraling in bad consumer debt. The finanace companies, etc. do not want bad debt on their balance sheets and will write off these debts. The opportunities for these collection agencies are certainly increasing. Whether they can successfully collect on these debts is another! The market is saying at this moment they will not. Before purchasing any shares, it might be prudent to wait for a \"good\" quarter. You may pay up a bit but better investing in an appreciating stock than one going down.
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