Description

IPF was spun-off from Provident Financial (PFG LN) in July and is down 15% from its close the first day.  It is a high growth, high return business with solid management who bought large amounts of stock personally at higher prices.  It is mis-priced because of classic spin-off dynamics (e.g. it is the fast growth emerging market subsidiary of a mature high dividend parent). It is also probably overlooked because it debuted immediately before the summer turbulence in financial stocks.  It has 50%+ upside using very reasonable assumptions.

IPF provides “home collected credit” in emerging markets, principally Eastern Europe.  It is extremely profitable with 40-50% ROE’s (on normalized equity) and it has very high growth tied to penetration of consumer finance in emerging markets.  Home collected credit is a very simple niche business with some excellent characteristics. IPF makes small cash loans with an average balance of £200 and has agents collect repayments in person at the customer’s home on weekly basis.  The majority of customers and agents are middle age women.  The agents are typically mothers who work 10-15 hours a week making collections in their neighborhood.  Their primary compensation is a 5% commission on collections, so they have a strong incentive to get the money back.  This is essentially the Avon-lady of consumer finance. 

The product is very simple with fixed weekly payments for a term of 26 to 52 weeks.  For example, a typical loan might be for £100 with weekly payments of £5.70 for 26 weeks. So, IPF puts out £100 and collects £148.  There are no late fees or other charges of any kind.  Customers are expected to miss payments and that is already incorporated into the pricing.  Customers and regulators appreciate the simplicity and transparency.  While the APRs are very high (165% in the example above), the pricing is comparable with credit cards when adjusted for all the late fees and hidden charges imposed by credit card companies. 

IPF was formerly the emerging markets growth division of Provident, a 120-year old home collected credit lender in the UK.  It has profitable/established operations in Poland, Czech Republic, Hungary and Slovakia, and start-up/money losing operations in Mexico and Romania.  It is in the process of starting in Russia and the Ukraine, and it plans to enter India at the end of 2008.  IPF essentially has no direct competition.  It is not lending to customers with impaired credit records, rather it is lending to middle income customers who are un-banked simply because the banking industry is much less penetrated in emerging markets.  Customers are not price sensitive and the relationships are sticky.  Approximately 70% of customers take out another loan.  Some portion of the other 30% try to get another loan and are rejected.  

Historical growth has been very strong with 20% CAGR in customers in the last five years and 10x growth in profits.  Management expects to grow earnings in established markets by 15% and overall earnings by 25%.  They have a well established process for setting up pilots and rolling out in new markets, and they have been successful rolling out in new markets every 1-2 years, for example: Poland (1997), Czech Republic (1998), Hungary (2000), Slovakia (2001), Mexico (2003), Romania (2006), Russia (2007), Ukraine (2008E), and India (2009E).     

IPF is best valued on a sum-of-the-parts basis because it takes 25% of profit from established regions to build out new regions.  Management makes this easy to analyze because they provide separate income statements and forecasts for the established regions and the start-up regions.  For example, in 2008 the established regions are expected to earn 19 pence and the start-up regions are losing 5 pence.  IPF is valued at 11.7x for the established regions, which are growing 15%, if you exclude the new markets.  The established regions deserve a much higher multiple than 11.7x.  For example, Eastern European banks trade at 17x which would make IPF worth 325 pence, for 44% upside, giving no value to the start-up regions.  The start-up regions have significant value.  Most of the sell-side analysts use a DCF and ascribe about 65 pence to the start-up regions, which gives total upside of almost 75%.  Regardless of the assumptions you use to value the start-up business, the company is extremely undervalued just for the established regions.  Finally, management has identified 33 pence, or 15% of the share price, as excess capital which they plan to give back in 2009.

IPF has two risks: regulation and credit quality.  IPF is licensed to operate in all its markets and it does not run up against laws preventing usury despite the high APR of its loans.  The regulators in each country like the fact that IPF brings a “grey market” product into the “white market”, and they like the transparency of the product because there are no hidden fees or extra charges.  IPF’s largest market, Poland, established an interest rate cap last year.  IPF simply unbundled its product, so a portion of the payment is interest and a portion is for the home collection service.  This was approved by the regulators and there were no changes to IPF’s performance. 

IPF and its former parent have solid long term records on credit quality.  Provident had modest increases in credit losses in the 1991 UK recession and profits actually grew as demand for their product increased.  IPF has a “low and grow” strategy whereby new customers get small loans and the loan size is increased as their payment history is proven.  The biggest factor ensuring credit quality is the fact that payments are home collected by agents that have relationships with the customers and that agents only get paid if they make collections.  In addition, the loans are relatively small and short term, so IPF can pull back when the agent sees a customer’s circumstances change (for example, the agent will know if the local plant is laying off workers).

Management is excellent for a company of this size.  The Executive Chairman is the former CEO of Visa and of the UK bank Bradford and Bingley.  He personally invested $1mm on the first day of trading and several other executives and directors invested substantial amounts at the same time (the COO invested $600K).  Management has a simple comp plan.  The executives get 3% of the increase in the market cap over three years, if they first achieve a gross increase of 30% (i.e. 10% p.a.).  The average price for the first month of trading, 225 pence, is used as the baseline.

Catalyst