Asta Funding – Part 3
After reviewing Asta Funding’s FY 2009 10-K I wanted to expand on the analysis and update the book value from my previous posts. So I don’t get too repetitive, I recommend reading Part 1 and Part 2 of the Asta Story first for more detail, but here is the two minute summary…
Asta Funding is in the business of buying portfolios of distressed consumer receivables (primarily charged off credit card receivables) for pennies on the dollar. Historically, they had paid up to approximately $15 million to purchase smaller portfolios of these assets. Then in March 2007, they paid $300 million to acquire one large portfolio. I will refer to it as the “Palisades Portfolio,” but if you are reading their SEC filings it is also sometimes referred to as the “Great Seneca Portfolio,” “The Portfolio Purchase,” and a few other names. Despite the rosy nomenclature, it has been anything but great. Almost immediately, the collections fell dramatically behind expectations.
To purchase the portfolio, Asta formed a wholly-owned subsidiary, “Palisades XVI.” The $300 million was financed with a $227 million loan from Bank of Montreal, and $75 million from the parent company’s line of credit.
The Bank of Montreal note was initially non-recourse to the parent company – but as collections on the Palisades Portfolio deteriorated, the loan was repeatedly amended to now include an $8 million limited guarantee from the parent company. Additionally, ALL cash flow from the Palisades Portfolio is now used to pay down the principal balance on the loan.
For the following reasons, I think it makes the most sense to look at Asta Funding and the Palisades subsidiary separately:
- The Palisades Portfolio value is very uncertain. The company has already taken impairments of over $83 million against it, moved it from the interest method of accounting to the cost method (essentially saying they can’t predict future cash flows), collections are WELL behind initial expectations, and we continue to be in a difficult environment for this business.
- Because it is now on the cost method of accounting, all cash collections from the Palisades Portfolio are recognized as return of principal and NO income is recognized until the full carrying value has been recovered.
- All cash flows from the Palisades Portfolio go to pay down the Bank of Montreal loan. So when looking at free cash flow to equity (cash flow available for new purchases, dividends, share buybacks etc), the subsidiary is basically a wash.
- And most importantly, the parent only has an $8 million limited recourse guarantee on the subsidiary loan.
Here is the balance sheet, as reported 9/30/09:
At a P/B of just 0.63, Asta seems to be cheap relative to its competitors (ECPG and AACC, for example – more on this in Part 2). But because of the issues surrounding the Palisades Portfolio in particular, I have also created an adjusted version of the balance sheet reflecting the following (this is just an update from what I did in Part 1 based on the previous 10-Q):
- The Bank of Montreal forecloses on the Palisades Portfolio, seizing the “Restricted Cash,” (which is cash collected but not yet paid towards the loan principal balance), and acts on the $8 million limited guarantee from the parent.
- Arbitrarily reducing the book value of the “interest method” receivable portfolios by a further 25% and the other “cost recovery method” portfolios by 50%. See part 2 for a detailed discussion of the impairments already taken by the company. This additional haircut just adds to the margin of safety.
- A “Hidden Value Asset” of $40.7 million, equal to 1x trailing earnings from fully-amortized portfolio (receivables with no book value that are still throwing off cash – much more on this in parts 1 and 2).
Comparable P/B Ratios:
Here is what Asta looks like compared to a couple of publicly traded competitors when you exclude the Palisades subsidiary. Doing so captures the fact that most of the company’s debt is non-recourse to the parent.
As you can see, Asta (excluding Palisades) offers the cheapest P/B despite the fact that it has taken far more impairments to its book value than its two competitors. (What each company’s “proper” impairment should be is a different question). It also currently has less leverage, meaning it’s book value per share is less susceptible to swing from further impairments.
Finally, the amount of revenue from fully-amortized portfolios (zero basis), which is such a key piece of value for Asta (see parts 1 and 2), is somewhere between its two competitors, at least when measured as a percentage of the total distressed receivables in the portfolio.
More to come, including some of the things I don’t like about this investment. Thank you everyone for your support!