Credit Corp Can Circumvent Current Crisis

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Credit Corp has reflected the uncertain operating conditions in its broader FY21 guidance yet remains in a strong position in terms of its Australian PDL business.

-Lack of clarity around timing of capital allocation
-Australian PDL business in a strong strategic position
-US business considered a large swing factor
 

By Eva Brocklehurst

Credit Corp ((CCP)) has maintained a strong balance sheet despite significant pandemic-related provisioning and impairments in FY20. A wide guidance range for FY21 reflects the risks around the broader economic conditions and the rate of expected recovery.

Morgans considers the long-term potential outweighs both risks in the short term and the uncertainty regarding the path of earnings recovery, while Macquarie also expects the company is well-placed to capitalise on the current environment.

Ord Minnett notes management has a track record of guiding conservatively, particularly with respect to the purchased debt ledger (PDL) business. There remains a lack of clarity about the timing of capital allocation but the broker is confident management will be on top of this while mindful of maximising shareholder returns.

PDL sales are expected to accelerate with the company enjoying an increase in market share in Australia, although this is is also necessary to underwrite earnings into FY22 and beyond.

Credit Corp has a stated return on equity (ROE) target of 16-18% amid a low level of gearing. Ord Minnett points out, over the past five years, the company has successfully allocated capital to different parts of the business such as consumer lending and US PDLs.

The latter came to the fore as the return profile in Australian PDLs came under pressure when more capital entered the market, resulting in price inflation. Now the Australian PDL business is in its strongest strategic position ever, the broker asserts.

In terms of lending volumes, Morgans expects current subdued demand will continue primarily because consumers are able to access funds by early release of superannuation and other support. The company has anticipated lending volumes will recover to an average of 64% of pre-pandemic levels.

The consumer lending business is still in run-off but shows signs of stabilising and Macquarie agrees unemployment trends and government economic support will drive the returns in debt purchase and lending. The broker was pleased with asset turnover and cost-to-collect in Australia in FY20, noting the majority of existing forward commitments have been renegotiated at sustainable pricing.

Macquarie notes the collections experience recently returned to pre-pandemic expectations with uncharacteristically high incidence of one-off repayments, but the company does not believe this will continue as temporary support measures are reduced.

Formal FY21 guidance comprises net profit of $60-75m, PDL acquisitions of $120-180m and a dividend forecast of 45-55c per share. Contracted PDLs stand at $86m, evenly split between Australia and the US. The wide range of guidance reflects the relatively uncertain operating conditions and several scenarios, Morgans asserts. The main variables include the performance of cash collection and lending volumes.

FY20 net profit was $15.5m including impairments and provisioning. Cash collections in the second half were up 6.5% on the first half. No final dividend was declared. Revenue rose 18%, assisted by the increased PDL outlay and the acquisition of Baycorp.

Risk

Ord Minnett believes the main earnings risk now is one of capital allocation while Morgans assesses the company's capacity to deploy capital is significant. The broker estimates around $300m in PDLs can be acquired and the net cash position maintained. Supply and pricing will be key and the former is expected to improve throughout FY21 as loan forbearance and consumer support measures are reduced.

US Business

The US business has the potential to be a large swing factor because of the size of the market and potential increase in supply, as well as a lack of pricing adjustment to date, Morgans asserts. The broker also envisages some potential for the company to acquire competitor books, and this should be immediately accretive.

Contracted forward flow appears reasonable while Credit Corp remains confident US supply should increase. The highly leveraged nature of other US industry participants, combined with the potential for access to capital to tighten, provides corporate acquisition opportunities over the next couple of years, in the broker's view.

Ord Minnett remains cautious about the ability to allocate capital in the US because of the market structure, as much larger competitors have access to capital markets and industry feedback suggests PDL pricing has reduced only marginally, and not enough to reconcile with the company's view of unemployment being more than 10% for two years.

US pricing in FY20 was one area where Macquarie was unimpressed, noting the company has invoked period clauses to cease buying a pre-pandemic prices where possible. FNArena's database has three Buy ratings and the consensus target is $20.65, signalling 17.3% upside to the last share price.

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