ECN is a collection of specialty finance loan origination platforms. It's been written up on VIC a handful of times in the past, and Bismarck last year and Dynamicmoats in 2021 each did a good job laying out the overview and history of the company, so we'd recommend consulting those write-ups for an overview. Since Bismarck wrote ECN up in January of last year, three things have changed.
First, ECN divested its Kessler Group business and acquired two new businesses in Source One and Intercoastal Financial. Kessler was essentially an advisory consulting business focused on the affiliate credit card space; Source One and IFG are large, asset-light origination platforms primarily in the marine space. They represent the vanguard of ECN's efforts to consolidate and professionalize point-of-sale loan origination for boats in order to build a platform similar to Triad, ECN's manufactured housing loan origination platform, and SFC, its former home improvement origination business, which it sold to Truist in 2021. Importantly, these actions position ECN as a pure-play business focused on loan origination in niche spaces.
ECN now owns three high growth, asset-light platforms that originate and manage manufactured housing, marine and RV, and inventory finance loans for financial institution partners. The credit assets that ECN “manufactures” are unique and high-quality, and they generate significant excess spread vs. traditional asset benchmarks. Triad loans yield 270bps more than mortgages and have had annual net charge offs of 30bps over the last five years. Similarly, Source One loans yield 200bps more than auto loans and have 40bps of gross charge offs, nearly half the rate of auto loans. Lastly, ECN’s inventory finance business has originated $1.7 billion of loans since 2018 with cumulative losses less than 5bps! The inventory finance business is on pace to originate $1 billion of short duration paper at 9% in 2023, generating very valuable and leverageable recurring profits.
Second, the stock price has fallen significantly - down more than 50% from highs last summer.
Third, and most importantly, ECN is currently conducting a strategic process that we think is likely to result in a sale at a significant premium to the current stock price. On March 7, ECN announced that it had received inbound interest from multiple parties. In response, ECN hired Goldman Sachs to manage a formal auction process. We are optimistic that there's a deal to be had at an attractive price in large part because we believe ECN is worth far more to a potential strategic acquirer than it is on a standalone basis (and far, far higher than the market currently values the business).
Similar to SFC, which sold at a premium multiple to Trust Financial, it is clear to us that ECN's remaining businesses are best positioned to maximize their earnings power as part of a larger financial institution or as a captive finance arm of one of the large manufactured housing companies. As we noted, ECN's originated assets are unique and generate significant excess net spread relative to comparable "commodity" assets like mortgage bonds or auto loans. Today, ECN operates on an asset-light basis, selling all originated loans through to a variety of funding partners and taking one-time origination fees on the loans in the process. But even after ECN's fees, the loans are still highly-attractive paper with spreads in excess of comparable assets - large buyers like Blackstone want far more of this paper than ECN currently gives them.
But if ECN's businesses were owned by an entity with a balance sheet and durable funding sources, that entity could take the originated paper onto its own balance sheet, thereby capturing the full excess spread on each loan. Below is a rough, illustrative example of what this might look like if ECN were owned by someone like Apollo or KKR (i.e. an alts firm with a captive insurance arm). We think of the value to such an acquirer as principally the excess spread that ECN's originated loans generate relative to "commodity" assets - so ~250-300bps for Triad POS loans, ~400-500bps for floorplan loans, and ~200bps for Marine POS loans. Less, of course, the existing opex at each of ECN's businesses to manage origination and loan servicing.
As the loan book builds across the business, there's a straightforward path to eventually generate >$500M of excess net income once the loan book has fully matured (given the ~9.5 year duration on the Triad loans). On an NPV basis this implies a valuation of >$3B USD and ~C$15 per share (even at relatively conservative exit multiples), substantially higher than today's ~$900M EV and <C$3 share price.
While we don't expect ECN to sell for anything close to C$15, we do think there are multiple bidders capable of capturing these synergies, and in ECN's management you have a team that is highly aligned (CEO owns ~13.5M shares and was a buyer in the C$6+ range) and has a demonstrated history of selling businesses at attractive prices (we think they sold SFC at >20x P/E and generated a >50% IRR for the company after-tax). Moreover, the fact that there is so much value to be captured by an acquirer increases the likelihood that someone out there is willing to pay a price high enough to enable a transaction.
While we believe it is likely that the sale process results in an attractive sale price within the next several months, we are happy to own ECN on a standalone basis. Investors are paying ~10x 2023 P/E for an asset-light business with dominant franchises in loan origination in manufactured housing and recreational boats and no meaningful credit risk. We think standalone ECN can grow EPS 25%+ for the next several years (Exclusive of any future value-creating M&A). Long-term the business likely still ends up getting sold to a balance sheet-heavy player…just at a higher price once the business is even larger and more scaled.
Risks
Near-term risk that the sale process does not result in a sale, which would be driven by bids that management feels undervalue the company relative to remaining standalone.
Medium-term ECN is exposed to cyclical end-markets, though they take no credit risk and idiosyncratic share gain opportunities should allow them to grow through all but the most severe cyclical down-cycles in their end-markets. Management's 2023 guide embeds 10%+ declines in the MH and Marine markets.