Summary:
Like rival collector Encore Capital Group, PRA Group benefited from a continuation of trend from the first half of the year, with the collectability of its current receivables book augmented, particularly in the United States, by an improvement in household financial positions resulting from the size and speed of government transfer payments, the widespread nature of lender forbearance programs, and limits on discretionary spending in categories like travel & entertainment. Global cash collections increased +14% y/y, led by collections growth of +22% y/y in its core domestic portfolio. Unlike Encore, PRA Group has seen core European collections improve +6% y/y, with the key differentiator being an absence in the U.K. market which has underperformed the rest of Europe. Call center and digital collections continue to perform strongly, with collections migrating over from the legal channel. In response to the newly revised Fair Debt Collection Practices Act, management expressed their content for the newly added clarity and consistency with the revision proposed 18 months ago, suggesting no significant operational costs of compliance for the company.
Despite already improved purchase price multiples, global charge-off supply remains sluggish, with domestic supply impact by the pause in the delinquency and charge-off cycle achieved by the size and speed of government income bridging efforts, widespread lender forbearance programs, and reductions in discretionary spending, especially in categories like travel & entertainment. Consistent with the takeaways from bank earnings, management has shifted expectations for higher charge-off rates, which they expect to double from current levels, from late 2020 / early 2021 to the back half of 2021.
In the meantime, the company is touting its strong capital and liquidity position (>$1B) as it remains uniquely positioned to take advantage of the forthcoming phase transition in the credit cycle.
PRAA shares remain a Best Idea Long.
The Quarter:
PRA Group (PRAA) reported 3Q20 diluted GAAP EPS of $0.92, up +$0.37 or +67% y/y from $0.55 in 3Q19, and well ahead of the street estimate for $0.65 and the top-end of 6 street estimates ranging from $0.57 - $0.77 per share.
Revenues of $268M were up +7% y/y, ahead of the average street call for $254M as well as the top-end of 5 street estimates ranging from $245-$265M. The revenue beat was driven by a $25M positive adjustment to expected future recoveries related to a pull-forward in the timing of the company's estimated remaining collections. Recall, under CECL, the company's allowance charges now include two components: (1) differences between actual recoveries compared to expected recoveries for the reporting period and (2) the net present value of increases or decreases in ERC at the constant effective interest rate for each underlying pool of paper.
As we have spoken to at great length over the past few months, we have observed a phenomenon in which household cash flows have momentarily improved as a result of the size and speed of government transfer payments, widespread lender forbearance, and physical limits on discretionary spending, particularly in the deeply depressed category of travel & entertainment. Accordingly, PRA Group has seen global cash collections, with strength in both the United States and Europe, exceed expectations over the past two quarters, and the company has treated this overperformance as a pull-forward in timing. Global cash collections of $519M were up +14% y/y, with core United States and core Europe up +22% and +6% y/y, respectively.
Meanwhile, operating expenses decreased -1% y/y, driven by a -17% y/y decline in legal collections expense due to the company's decision to temper its use of the legal collections channel as collections migrated over to the strongly performing call center and digital channels. Compensation expense declined -4% as efficiencies realized through technology and data & analytics helped rationalize collector head count.
Notwithstanding a slowdown in the supply of charge-offs resulting from paused credit cycle dynamics, PRA Group continues to see some of the best purchase multiples in years, which management has previously clarified is not due to a mix shift in the types of paper purchases, but instead the result of improving conditions in the market for charged-off paper.
Accordingly, the company is shoring up its liquidity position and taking a conservative approach to purchasing in anticipation of increasing charge-offs, which they expect to double from current levels over the next 12 months. Based on expectations shared in the prior two quarters, management expectations have shifted from late 2020 / early 2021 to the back half of 2021. Between it’s borrowing capacity and cash on hand, the company has over $1B to deploy on portfolio purchases, in addition to the $1.3B in EBITDA generated over the last twelve months.
