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The Provy’s Cheque Is In The Post

22 August 2017 by Chris Bowie

As a poor university student in Glasgow in the late 1980s, I was often asked “do you take Provy cheques?” by customers of the clothes shop I worked in at weekends to help fund student life. These cheques from Provident Financial were and indeed are a real life line for many people who cannot secure access to bank consumer credit – and Provident has had a successful business model for more than 100 years based on extending credit to those shut out of other markets.

Today the sustainability of that model is looking seriously challenged as this FTSE-100 stock is down 75%, and some of their investment grade BBB rated bonds are down more than 30 points. The reasons for this seem to be company specific, and at this point we do not think there is a broader read-across to conventional or even alternative lenders. It appears that a profit miss and dividend cut caused by a change to their method of collecting credit has been the biggest factor in this – and has led to the chief exec Peter Crook resigning immediately. This, combined with a regulatory review into practices at their credit card division, Vanquis, has put extreme pressure on the equity and debt; I personally can’t remember another FTSE-100 stock in recent memory being down as much intraday as this – even RBS on its worst days was never down 75% (although it came very close in January 2009).

Provident has a bullet maturity senior unsecured bond falling due for repayment on October 4th, some £120m in size. This bond was trading above par yesterday and is currently bid in the low 90s. Reports suggest that the company has around £200m in cash and a revolver facility of a similar amount. Adjusting for expected losses, the company should be able to repay this bond but may need to start drawing on its revolver facility if losses exceed current expectations – and if the company loses its investment grade rating that may cause further problems in terms of raising short term debt. If we look at bond maturities due in March 2018, October 2019, April 2020, September 2021 and lastly October 2023 – then we see that the October 2019 BBB bond is the biggest of these in terms of size at £250m, and has seen the biggest price fall today of more than 30pts.

Whilst we do not own any Provident Financial debt, and do not foresee taking a position, we have had a discussion on the desks around what this might mean for other alternative lenders because we do have some exposure to debt collectors, but our total exposure across the business to alternative lenders is tiny.

The short answer is we think this is a stock specific story – which does not have an immediate read-across to other alternative lenders or indeed debt collectors. Why? Well firstly Provident’s drop in recovery values, from 90% to 57%, does not seem to be down to deteriorating consumer credit conditions. Instead it appears to be down to their shift from self-employed debt collectors to directly employed collectors who are systems led, and this new system seems to have been very badly implemented indeed.

Reading across, in our ABS business, we have not seen a deterioration in consumer credit performance, nor indeed in our consumer facing IG, nor unconstrained exposures. In fact across all three business lines we are underweight unsecured consumer facing debt. There has been some negative press commentary recently about risks in consumer credit, especially in the auto sector, but again this is not a sector we have a material exposure to. From a macro perspective, with unemployment now at incredibly low levels (in fact levels not seen since the summer of 1975), fundamental support for consumer debt repayment from the jobs market appears sound – although real wage growth has not been as high as we would have liked to have seen.

One area of concern we have noted is a slight deterioration in the Bank of England Credit Conditions Survey, but when put in context this is a ‘slight’ deterioration, and only in the non-prime sectors, where lending is clearly being reigned in. We would call this an ‘amber’ light for the unsecured non-prime sectors.

Overall, we therefore feel that whilst there are some modest macro risks to the alternative lending sector, where we are comfortable management has appropriate systems in place and is executing well, the returns more than compensate for the risks. This does highlight however that highly idiosyncratic risk is the main risk that keeps us underweight this sector. In this particular case, Provident Financial appears to be a distinctly unique story and not a bellwether for the overall sector, but nonetheless investors should tread carefully around non-prime unsecured consumer credit.

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