ONE person's garbage is another person's treasure - or, in corporate speak, businesses should focus on their core competency and outsource other functions to businesses with an expertise in those areas.
Banks and other consumer lenders are geared up to sell lending products, manage clients who are servicing their loans and optimise their funding. They are not specialists at managing bad debts and arrears. Disclosures from the major banks show typically around 1 per cent of credit card debt is over 90 days in arrears. After 180 days of arrears, credit card debt is written off.
Even if they are written off, there is value in these arrears. Some debtors may have hit hard times but are well-intentioned - and could repay in instalments or under other flexible arrangements. Others may have the funds but have been "lost" intentionally or unintentionally and with a little research can be located. There are of course those who have found themselves in situations that make it impossible to expect repayment.
Listed companies Collection House and Credit Corp - along with New Zealand-based Baycorp (which is majority owned by ASX-listed Oceania Capital Partners) - lead a handful of experts in recovering value from these bad consumer debts. They possess a wealth of data and years of experience in managing the debts (Collection House recently celebrated its 20th anniversary) and possess analytical insight into which loans may still be serviced and which should be written off.
They know that for a dollar face value of credit-card debt written off by the banks, a certain amount can be recovered, depending on the profile of a particular loan book (say 30?). And having insight into that likely recovery rate means they can put a price on the debts. Thus banks and other creditors maximise their returns and focus on their core operations by selling these written-off debts to collection specialists.
By its nature this industry has counter-cyclical and defensive characteristics. A case for progressive earnings growth over the medium term can be envisioned, regardless of whether the domestic economy mounts a recovery or deteriorates further.
Annual turnover in Australia's debt collection industry is estimated by industry researcher IBISWorld to be $1.8 billion, with a compound growth rate of 3.6 per cent from 2007 to 2012.
The major players were all active in bidding for debt ledgers in the past financial year but expressed concerns over the level of competition. Credit Corp spent $92 million, slightly down on its spend in fiscal 2011. Collection House spent $61 million, up 24 per cent, and Baycorp spent $51 million, also up significantly.
But in reporting on the year that was, concerns about competition were highlighted. Credit Corp said such competition may cause it to reduce debt ledger purchases in the short term. Baycorp said it had actually withdrawn from some sales processes.
While IBISWorld expects growth to trend lower, thanks to more stringent regulations and more cautious consumer borrowing patterns, there are also trends playing into the hands of the leading and most reputable players.
Regulation - and reputation - are creating opportunities for market-share gains. Unlisted competitor ACM Group, which has in the past reportedly collected debts that were owing to NAB, CBA, Westpac and Telstra, has faced adverse court rulings recently regarding its practices. CBA responded by stating in the press that it had stopped using ACM several years ago, while NAB said it no longer sold debt to ACM.
Access to capital is another issue following the GFC. The listed players appear to be in a strong position. Credit Corp is ungeared, while Collection House has the long-standing support of a big bank and both have the flexibility of using their listed equity to help with funding.
Baycorp does not look as well positioned, recently raising funds through the divestment of its 9 per cent stake in Collection House for just under $10 million, while listed parent Oceania has launched a $14.9 million rights issue.
Collection House is trading on a multiple of just over seven times this analyst's earnings expectation for this financial year, which sits within the company's guidance for a rise in net profit to between $14 million and $14.5 million, up from $12.5 million in fiscal 2012. It appears to be the best value of the listed plays in the sector.
Credit Corp is trading at a premium, on 11.5 times consensus earnings estimates.
Martin Pretty is head of research at Investorfirst Securities.
Frequently Asked Questions about this Article…
What do debt collection companies do and why do banks sell written-off consumer debt?
Debt collection companies buy or manage written-off consumer debts that banks and lenders no longer want to handle. Banks focus on lending and funding, and typically write off credit-card debt after about 180 days in arrears (disclosures show roughly 1% of credit‑card balances are over 90 days overdue). Collection specialists use data and recovery techniques to locate debtors or negotiate repayments, so banks sell these ledgers to maximise returns and concentrate on their core business.
Are debt collection stocks defensive and suitable for everyday investors during downturns?
The article describes the debt collection industry as having counter‑cyclical and defensive characteristics: demand for specialist recovery can hold up when the economy weakens, and reputable collectors can still grow earnings over the medium term. That said, investors should weigh regulatory risk, competition and company-specific funding positions before considering debt collection stocks for their portfolio.
Who are the main listed debt collection companies mentioned and what distinguishes them?
The article highlights three listed players: Collection House, Credit Corp and New Zealand‑based Baycorp (majority owned by ASX‑listed Oceania Capital Partners). Collection House and Credit Corp are presented as well‑established specialists with strong data and experience; Baycorp has raised funds recently and looks less well positioned. An unlisted competitor, ACM Group, faced adverse court rulings and lost some bank business, illustrating the importance of reputation and compliance in this sector.
How large is Australia’s debt collection industry and what has been its recent growth?
Industry researcher IBISWorld estimates annual turnover in Australia’s debt collection industry at about $1.8 billion, with a compound annual growth rate of roughly 3.6% between 2007 and 2012. These figures give investors a sense of the market scale and historical expansion.
What are the key risks for investors in debt collection and recovery businesses?
Key risks include heightened competition for debt ledgers (which can push up purchase prices and squeeze margins), increasing regulation and reputational damage from poor practices (the article cites ACM Group’s legal issues), and access to capital after the GFC. These factors can affect earnings, cash flow and the ability to buy attractive portfolios of arrears.
How do recovery rates from written-off debt affect the economics of buying debt ledgers?
Collectors price debt ledgers based on expected recovery rates for a given loan book. The article notes that for every dollar of face value written off, a specialist may be able to recover a meaningful fraction (the piece uses an example recovery estimate of around 30%), and that analytical insight into likely recovery drives how much they will pay. Higher expected recovery improves returns; competition and portfolio quality influence realised recovery.
How are Collection House, Credit Corp and Baycorp positioned financially and in valuation terms according to the article?
According to the article, Collection House appears attractively valued on just over seven times the analyst’s earnings expectation and guided to net profit of $14–$14.5 million (up from $12.5 million in fiscal 2012). Credit Corp is described as ungeared and trading at a premium of about 11.5 times consensus earnings estimates. Baycorp is portrayed as less well positioned, having recently raised funds via sale of a 9% stake for just under $10 million while parent Oceania launched a $14.9 million rights issue.
How has competition for debt ledgers affected buying activity among the major players?
Major players were active bidders for debt ledgers over the past financial year but expressed concerns about competition. Reported purchases were Credit Corp $92 million (slightly down from the prior year), Collection House $61 million (up 24%), and Baycorp $51 million (also up). Credit Corp warned competition might reduce its short‑term purchases, and Baycorp said it withdrew from some sales processes — showing companies can scale back buying when prices or competition become unfavourable.
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