Monday, November 06, 2006

Asta Funding (ASFI) is a recession-proof BUY

Asta Funding group [ASFI] is a debt collection company based in New Jersey. The company has seen excellent growth and return on capital since the company entered its current business in 1999. (Prior to 1999 Asta was still monetizing motor vehicle loans for the company they spun out of – something they stopped doing in 1999).

The basic business of ASFI is pretty simple. They, and other companies like them, buy debt that banks or mobile phone carriers have written off at an average value of 2.9 cents per dollar. Then they spend an average of five years patiently working to collect the debt, averaging a recovery of 4.35 cents per dollar. It’s a basic business proposition: 4.35 cents is 1.45 cents more than ASFI paid, for a 50% profit over five years.

Asta’s business model is in the perfect place to benefit from the Bankruptcy Abuse Prevention and Consumer Protection Act, passed a year ago. This new law forces most debtors to come up with a repayment plan if they can instead of simply erasing all debt. In the year since passage we have had a chance to see that the law is not causing widespread mayhem (suggesting it will not be changed) and that it is very good for Asta’s business.

The main reason I gravitate toward this stock now is that increasing rates and a maturing recovery should lead to a cyclical increase in soured debt for a well positioned company like Asta to take advantage of, this stock is recession insurance. With this stock in our portfolio we are diversified against delinquency increases and their effect on the economy. Take a look at the charts, ASFI actually increased in value straight through the last bear market.

Reviewing ASFI as a business leads to some other nice findings. The company is cash flow positive, with a relatively good 11:1 price to free cash flow. The price to earnings is about 11 as well, and the company pays an increasing dividend. Present value analysis shows the stock is trading at a 23% discount to estimated value, which should allow the stock price to continue to grow even if the company encounters moderate difficulties. A calculation of the corporate Z-score returns 4.5, which indicates solid finances. Yet with all of this going for it this relatively undiscovered little company has a market value only twice the book value.

To evaluate the potential growth of the company we can consider the financial industry reports of predicted charge-off rates. In 1995 they were $18 billion, and in 2005 they are estimated to have been $73billion for a compound annual growth rate of 15%, versus a 4.3% growth rate I calculate as needed to justify the current stock price at a stern 15% discount rate. Fantastic! Even if all they do is grow at the rate of their business sector the stock is undervalued!

Some analysts put the long term growth rate around 8 to 11.5%, based on increasing competition, but there are few competitors with the same sort of market access and nationwide reach. Even if one of the big banks decides to dive in, the current stock price discount is enough to protect investors.

Make no mistake, this is a small company. They get a lot of mileage out of partnerships with financers and collection groups and only have 131 full time employees. They have minimal presence on the web so it can be hard to track what is going on with them. This can be a positive though, as the company has remained below the radar of most investors and presents us with a recession-resistant discount investment opportunity. What’s more, the company is bringing computerized processing and a distributed model to a poorly organized industry and has a lot of potential for growth. In particular if consumer debt delinquency increases ASFI will be able to buy receivables cheaper (due to increasing supply).

My usual dissection of annual reports did not find any pension surprises or union issues. About the closest thing to a hidden “gotcha” is that the employees have options equivalent to 11.6% of the outstanding shares. That is pretty high and effectively wipes out 11% of the stock value. The largest risk in this company would be if the estimated valuations of the portfolios is off, which could result in a substantial write-off some day. If the company is off in it’s interest modeling, for example, it could face a restatement of income and a pretty bad stock price hit.

The stock is plenty cheap to cover the risks, I call it a buy. In accordance with my “put it on the line” policy I have bought a position in the stock the same day as posting this call.

Related Articles: Fortune Magazine, Investors Business Daily, Special Dividend Declared,

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