Small Caps | Mar 06 2019
Collection House has made its third acquisition in recent months and brokers assess the potential upside could be substantial.
-Main risk is realising cash potential from the acquired debt ledgers, and leveraging the extra costs over future years
-Contribution from Volt Bank could provide significant growth in FY20
-Higher debt levels reduce flexibility in the face of any unexpected PDL valuation pressure
By Eva Brocklehurst
Collection House ((CLH)) has added another purchased debt ledger (PDL) portfolio to its stable, which brokers assess is a significant acquisition in terms of the potential upside. Selected assets and the PDL portfolio of ACM Group, which will cease collecting and whose founder is retiring, have been acquired for $40.3m, funded by cash and a $50m expansion of the bank financing facility.
This is the company's third acquisition in recent months, after the NZ$40m acquisition of RML in January and the $8.5m equity stake in Volt Bank in November 2018.
The company has acquired the plant & equipment, intellectual property and the Sydney lease from ACM Group. Cash collections of $75m are expected, while one-off expenses will total $1.3m, in the company's estimation.
Collection House expects to achieve $5.5m in earnings (EBIT) from the transaction in FY20. While Morgans expects the company will be able to use existing resources to significantly reduce the cost to collect debt, guidance implies a further $4m in costs have been taken on board.
The main risk is, therefore, realising the level of cash potential in the portfolio and leveraging the extra costs over future years. Morgans also notes that, as this is effectively a PDL acquisition, the level of earnings will decline unless the increased scale enables a higher level of PDLs to be maintained.
Excluding the acquisition, the company's underlying estimate of earnings per share is 15.5c and PDLs, including corporate transactions, worth at least $120m are now secured.
Ord Minnett suspects the the valuation of the ACM Group business, underwritten by expected future recoveries of $75m, could be a stretch, after assessing historical filings with the Australian Securities and Investments Commission (ASIC).
Still, the expected returns from the Volt Bank acquisition sets the business up for significant growth in FY20, which the broker calculates could be more than 30% based on underlying FY19 forecasts.
Canaccord Genuity chooses not to reflect the contribution from Volt Bank in its forecasts, until there is a better indication of the customer numbers and nature of the services Collection House will provide. Despite this, the broker is increasingly confident that the business is positioned for an uplift in cash collections and earnings, upgrading to Buy from Hold, with a target of $1.60.
Debt
Morgans estimates Collection House will have around $193m in net debt as of June. While the loan-to-valuation ratio and cash interest cover are alright on current metrics, the broker considers the balance sheet relatively stretched. The gearing position also heightens the risk for any negative portfolio valuation movements in future years.
Relative to gross cash collections, the company's carrying value of PDL is a highest versus listed peers, Morgans adds. Overall, the broker assesses higher debt levels have reduced the company's flexibility in terms of sustaining any unexpected PDL valuation pressure. Morgans has a Hold rating and $1.42 target.
Ord Minnett notes the acquisition diversifies Collection House into telecommunications debt. The company has now acquired two competitors in the PDL market in Australasia in the past two months. Removing ACM Group from the market is unlikely to materially change the structure, the broker hastens to add, as it experienced a decline in PDL purchasing over the past five years.
Even so, from a relationship perspective with clients, the transfer of the arrangement book to Collection House should be a meaningful positive for the original debt issuers. Ord Minnett has a Lighten rating and $1.25 target.
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