It’s absolutely certain that the world we live in is addicted to debt –Â giving it (from the banks' side) and taking it (from the consumer side). If you’re inclined to trade this market, PRA Group (PRAA, Financial) is the stock to buy.
Portfolio Recovery Associates is down 25% over the last six months, trading below $37 per share for the first time since 2013 yet, with total consumer debt in the U.S. approaching $12 trillion, collection agencies like PRA Group will never run out of prospects. While some of the industry's practices are questionable, they provide a much-needed function in the marketplace.
PRA Group's business model (as for most in the industry) is based on purchasing debt accounts, typically for a fraction of the amount owed, from businesses who want to end collection efforts, then pursue collection over a period of years amounting to two to three times the original purchase price.
Based on a recent NerdWallet study, the average household has $129,579 of debt and earns $75,591 and when times are tough, collection companies thrive, according to many insiders. If you think the bust is coming, which some believe will be sooner rather than later, then PRA Group is your best bet. Its debt load should be considered more of a product than a liability. Right now, it has $1.8 billion in debt (let’s call it inventory), off which it generates $960 million in revenue, $413 million in earnings before taxes. That’s a 41% profit margin.
Philosophical differences aside, it’s been a steady rise for the last decade, growing revenue by 491%, net income by 370% and book value by 396%. The question is whether it can carve out an even bigger chunk of the total consumer debt – I think it can and will.
It’s easier than ever to qualify for loans at every level. PRA Group is also aggressively acquiring global debt collectors. In August it purchased a majority position in RCB Investimentos in Brazil. Last year PRA Group acquired Aktiv Kapital AS, a Norwegian-based debt collector with operations in Europe and Canada, for $880 million.
Litigation is actually positive for the future
PRA Group was forced to pay $19 million in consumer refunds and an $8 million penalty and to stop collecting on $3 million in debts by Consumer Finance Protection Bureau (CFPB) to settle allegations arising from its practices in the last few years. Again, this is just a cost of doing business, similar to insurance companies having to pay claims. The company was ordered to stop reselling debts. PRA Group is prohibited from reselling the debts it buys to other debt collectors. This will protect consumers from the potential harm that results when debt collectors continue to sell and resell debts that may be inaccurate or lack the business records and information needed to collect them. It is also likely to force the company be more diligent in the debt it buys – helping shareholders.
The DCF Value is $107.67 based on the company’s historic growth rates, but even at half that – $53.94 – the margin of safety is high enough to warrant ownership. All the current litigation is behind the company but don’t think that the complaints will cease. As for the stock, the company has 29% of its shares short, but it’s in the best position to rise if the economy stumbles in the next couple of years. As long as margins remain high and the company can generate solid returns on every dollar it buys in debt, then the business and the stock price will continue to grow.
