Seeking Alpha: Portfolio Recovery Grinding Through A Lull

Debt collector Portfolio Recovery Associates (PRAA) had to deal with multiple headwinds in the first quarter of 2014. Many of these were "self-inflicted" with the goal of greater long-term growth and profitability, but it is nevertheless worth remembering that this quarter's results aren't really reflective of the long-term story. Conditions remain challenging in the U.S. from a supply standpoint, but the company continues to do well with its collection efforts, and the acquisition of Aktiv holds the potential to be a transformative deal. Earnings momentum may be a little weaker this year, but there still appears to be solid long-term value in the shares.

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Portfolio Recovery Grinding Through A Lull

Seeking Alpha: Portfolio Recovery Associates Finally Getting Aktiv Outside The U.S.

Holding Portfolio Recovery Associates (PRAA) hasn't been particularly rewarding over the past few months, even though PRA remains the best-run receivables collection company out there. The stock enjoyed a good run as the company managed to exceed expectations, but performance has petered out as those expectations get dialed in more closely and the receivables market gets more competitive.

Now it looks like PRA is leaping ahead into its next phase of life. The company has been very slow to exploit its acquisition of UK-based MacKenzie Hall and drive real growth outside the U.S., but the $1.3 billion acquisition of Norway's Aktiv Capital shows a very real commitment to becoming a global collection champion. There isn't quite enough information available right now to fully value the contribution that Aktiv can make, but the valuation seems reasonable and PRA management has more than earned the benefit of the doubt. Even with no contribution from Aktiv in the numbers, PRA remains meaningfully undervalued today.

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Portfolio Recovery Associates Finally Getting Aktiv Outside The U.S.

Seeking Alpha: PRA Is Great, But Expectations May Be Greater Still

I don't like talking smack about the stock of good companies, and I like it even less when it's a stock that has been exceptionally strong for me as an investor. Even so, while I have relatively few worries about the quality of Portfolio Recovery Associates' (PRAA) business, I'm a little more concerned that sell-side analysts and investors are getting too eager to bid up PRA's potential.

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PRA Is Great, But Expectations May Be Greater Still

Seeking Alpha: Old Faithful Portfolio Recovery Associates Does It Again

The kind of performance Portfolio Recovery Associates (PRAA) delivers just doesn't get boring. Although debt recovery is not a well-liked business by any stretch, PRA has done a remarkable job of refining its model so as to identify only those who can pay their debts, and the extent to which those customers are likely to respond to particular collection methodologies. Moreover, PRA has done a very good job of adhering to above-average standards such that it is one of the preferred buyers in the market and a likely beneficiary of rule/regulatory changes that could push some competitors out of the market.

Still, it's not as though the shares are notably cheap. The valuation model I use is very sensitive to changes in inputs like collection rates and discount rates, but almost all of the results end up falling into a valuation range of about $150 to $175. Further consolidation in the debt collection space and/or continued outperformance on collections and collection efficiency could certainly make those estimates conservative, but it's hard to see enough margin of safety here for me to recommend new investors make big purchases at these prices.

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Old Faithful Portfolio Recovery Associates Does It Again

Seeking Alpha: Can Portfolio Recovery Associates Keep Up An Impressive Run?

Debt collectors are hardly popular, but the reality is that they fill a critical niche in the credit cycle and ultimately keep rates lower than they would otherwise be. Not surprisingly, the housing crunch and the resulting recession created a flood of defaulted receivables for Portfolio Recovery Associates (PRAA) to buy.

Now, though, delinquencies are falling and U.S. households continue to deleverage. Can Portfolio Recovery continue to thrive by expanding its operations in areas like legal collections and bankruptcy and by out-executing the competition with better pricing discipline and operational excellence?

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Can Portfolio Recovery Associates Keep Up An Impressive Run?

Seeking Alpha: Steady As She Goes At Portfolio Recovery Associates

When it comes to buying charged-off debts and then trying to collect them, surprises are seldom ever a good thing. So it's probably just as well that Portfolio Recovery Associates (PRAA) offered few surprises this quarter. This company is always going to be controversial - the accounting is confusing for those unaccustomed to it, the IRS is investigating the company's tax calculation policies, there's more regulation and oversight coming, and it's an inherently difficult thing to collect on debt.

All of that said, PRAA is one of the best at what it does and there's more than enough room for the company to continue growing.

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Steady As She Goes At Portfolio Recovery Associates

Seeking Alpha: Unsavory Business And Murky Accounting Undervalue Portfolio Recovery

At the risk of climbing on a soapbox, isn't it interesting how people generally expect others to honor their obligations to them, but they get quite resentful when they are held to account on their own obligations? Portfolio Recovery Associates (Nasdaq: PRAA) is the largest publicly traded pure-play in a very unsavory business – debt collection. Not only does PRA have to contend with trying to get money from people who either cannot or do not want to pay, but the company is further burdened with an ever-shifting legal, legislative, and accounting environment. Perhaps it's little wonder then that these shares look quite cheap.

A Vital, But Disliked, Link In The Credit Chain
The availability of capital is predicated on the idea that lenders get their money back and/or can avail themselves of legal remedies to secure repayment. If borrowers are allowed to default and walk away too easily, the price of money shoots up and the availability drops. To that end, Portfolio Recovery occupies an important niche in the credit chain – PRAA buys up receivables that creditors could not not collect, takes the risk upon itself, and profits if it can be more successful in securing repayment.

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Unsavory Business And Murky Accounting Undervalue Portfolio Recovery

Looks Like Another Good Quarter For Portfolio Recovery

I have to confess that I've been thinking a lot lately about selling Portfolio Recovery Associates (Nasdaq: PRAA), booking my gains, and moving on to a new idea. But here again I'm conflicted – I do not like selling the stocks of very well-run companies just because they get a little expensive. So, I hold on … and today's earnings report makes me feel a little better about it.

Solid Earnings

PRA reported that revenue jumped 38% in the fourth quarter, reaching just under $101 million. EPS jumped 50% to 1.20. That compares very favorably to the average estimates of $97 million and $1.12 and the high-end estimates of $99 million and $1.16.

Looking at the details, Portfolio Recovery reported a 52% increase in cash collections (to $144 million) and maintained the same amortization rate as in the year-ago quarter. Call center collections, the company's core business, was the laggard if 19% growth is “lagging”. External legal collections rose 38%, while the company's efforts to grow its internal legal collections paid off in 70% growth (though a still-small absolute level of collections at $13 million). Purchased bankruptcy collections were up 110% to $56 million; most interesting to me because this is the first time something has been a larger contributor than internal call center collections.

Productivity was also better – collector productivity per hour paid rose 2% from the third quarter to $204 per hour paid. All in all, operating expenses rose 26% with a big jump in spending on internal legal – a business that has quite a bit of promise, but is still something of a drag on margins.

Paying Less But Getting More?

The company was also once again quite active buying paper. In this quarter, Portfolio Recovery bought written-off paper with a face value of $1.87 billion, paying a bit under $86 million for it. Although paper prices have been moving up as credit quality and household finances improve, PRAA paid $0.045 on the dollar – down from $0.067 in the third quarter (when the company paid $92.5 million for $1.38 billion in face value). Of course some worry that PRA bought lower-quality paper, but Portfolio Recovery has a long history of realizing value from its paper – even if the company's projections for its 2010 purchases are a 210% return (versus the long-term average of 243%).

Better Times On The Way

All in all, it looks like things are getting better in this market. JPMorgan (NYSE: JPM), Citigroup (NYSE: C), Bank of America (NYSE: BAC) and American Express (NYSE: AXP) all seem to be reporting better charge-off data on credit cards. Moreover, it doesn't look like the job situation is getting any worse in the country – an important consideration as Portfolio Recovery really cannot collect if people don't have jobs. That said, this is always something of a mixed blessing – it ups the odds that PRA will enjoy good collections, but it has always brought more competition back into the market and bid up the price of paper.

The Bottom Line

As the economy improves, I think Portfolio Recovery will see a lot of earnings leverage. After all, contrary to a lot of the stereotypes, a lot of the people who default on debt actually do want to make good … and once they get the economic wherewithal to do so, they do. Moreover, even though the market for paper is largely an auction market where the high bid wins, PRA's long standing in this market does serve it well when dealing with sellers. Moreover, there is something to be said for know-how and employee relations in this business and PRA knows how to find, train, and retain good collectors.

So, what's the stock worth? This is a trickier type of stock relative to a healthcare company or industrial. Nevertheless, even very modest projections of mid-single-digit free cash flow growth for the next decade and a relatively high discount rate of 12% are sufficient to power a price target in the $90's. I'm happy to hold PRA shares for the time being.

I would HOLD shares of Portfolio Recovery Associates.
   Note - I mistakenly wrote that I would "Buy" PRAA at these levels in my initial post. With an expected return of about 20% from these levels, that doesn't meet my "Buy" standard. 

Disclosure: I own shares of Portfolio Recovery Associates and JPMorgan

Another Solid Performance From PRAA

Portfolio Recovery Associates (Nasdaq: PRAA) is my second-longest held position, and the company has never really given me a good business-related reason to think about selling. The accounting here is admittedly a bit "advanced" and the stock probably is not right for everyone, but it is a business (debt collection) I really happen to like.

Revenue rose 31% this quarter to $93M - about 10% ahead of the hurdle laid out by the analysts. Net income, though, climbed 67% (to $19.5M), and the company's EPS of $1.14 handily beat the estimate of $0.93. Cash collections jumped 42% to $128M, while the company spent $87M on new paper (with a face value of $1.67B).

For the quarter, call center collections (the largest segment; about 42% of all collections) were up 9%, while the company's internal legal collections (an area of growth that the company is focusing on) were up 167% to $11M. For the quarter, 40.1% of cash collections were applied to amortization - down slightly from 40.3% last year, and still pretty high relative to the levels of a few years ago.

Looking out a bit, I do not see any reason to think that PRAA is going to be hurting for product. Major card issuers like US Bancorp (NYSE: USB), Wells Fargo (NYSE: WFC), Capital One (NYSE: COF), and JP Morgan (NYSE: JPM) have a lot of bad credit card paper on their books and they are eventually going to get rid of it - and it stands to reason that if the market leaders have this issue, so too does almost everyone else. So even though we keep reading about declining bad debt charge-offs, that needs to be seen in the context that the absolute levels are still quite high.

On top of that, management says that the purchasing environment is still relatively attractive. This, frankly, is my biggest fear - if the company cannot buy enough charged-off collections at a good price, the future growth of the company gets dicey.

Elsewhere, though, the company's dynamic scoring process still seems to be paying off in terms of enhanced productivity, and the expansion into more bankruptcy business should help. Bankruptcy business is not as lucrative in terms of the ratio of collections to purchase price, but it takes less work to get the money and it offers an annuity-like stream of cashflow.

There is a little external risk here as well. It seems like some states are looking to crack down harder on debt collection. I do not see this being a huge risk to PRAA, though. States generally acknowledge that businesses must be allowed to collect on bad debts, and it is really only the abusive collectors that are at risk. PRAA wisely chooses to avoid that route, so I think more regulation could actually force some companies out of business and reduce PRAA's competition for purchasing charged-off receivables.

PRAA has been on a pretty good tear lately and my old target of $74 does not offer much upside at all. I have not yet run the numbers on a new price target, but I cannot imagine that I will raise it enough that it would be a good idea to recommend others get in at these prices.

That, in turn, is going to lead to some deep thinking for myself - do I go ahead and cash in these shares (and pay the capital gains) and move into a more undervalued-idea, or do I sit tight and accept a lower expected return than I normally take? I always hate selling the stock of companies that are doing well (and have pretty much always done well), so it is not going to be a simple decision.

Disclosure - I own shares of JP Morgan and PRAA.