ADS - Alliance Data Systems

[kab60]

Fair point. I guess my concern was the banks get hit with charge offs that wipe out profits for the next two years (extreme scenario in my view but certainly possible). In that situation banks would be fine from a capital standpoint but we would have a $2.0 billion debt payment due end of 2022 right? Been lurking on the boards for years and the discussions are fantastic btw so thanks everyone.

If the banks are fine in 2022, I don't think it'll be an issue to refi. Think the only question now, if one wants to make money here, is whether or not they survive. I recall Mecham saying he invested in cockroach-like businesses (those that can't be killed - and he bought more in Q4). We can always debate relative value, growth prospects etc, but how do you guys kill ADS?

 

They recently refinanced and brought leverage down to 1,5x.

 

Unlike their clients - mainly retailers - fixed costs are low. Loss of sales will obviously increase credit losses due to fewer fresh receivables, but on the other hand gas prices are low, spending on travel, restaurants, experiences etc. goes down.

 

Generally, the consumer seems to be in a better spot than a lot of large indebted corporates. Obviously, if things get bad, some of their end customers will be out of jobs, thus increasing credit losses. And I suppose, while they were profitable during the GFC, their clients have changed. While B&M will be hard hit, their online clients might be in a better spot.

 

I definately understand, given the track record, why people are staying away. But how do you guys kill the Company? (I haven't seen any indications that credit standards are better or worse than before - outstanding credit balances 811$ per account)

 

 

[widenthemoat]

Fair point. I guess my concern was the banks get hit with charge offs that wipe out profits for the next two years (extreme scenario in my view but certainly possible). In that situation banks would be fine from a capital standpoint but we would have a $2.0 billion debt payment due end of 2022 right? Been lurking on the boards for years and the discussions are fantastic btw so thanks everyone.

If the banks are fine in 2022, I don't think it'll be an issue to refi. Think the only question now, if one wants to make money here, is whether or not they survive. I recall Mecham saying he invested in cockroach-like businesses (those that can't be killed - and he bought more in Q4). We can always debate relative value, growth prospects etc, but how do you guys kill ADS?

 

They recently refinanced and brought leverage down to 1,5x.

 

Unlike their clients - mainly retailers - fixed costs are low. Loss of sales will obviously increase credit losses due to fewer fresh receivables, but on the other hand gas prices are low, spending on travel, restaurants, experiences etc. goes down.

 

Generally, the consumer seems to be in a better spot than a lot of large indebted corporates. Obviously, if things get bad, some of their end customers will be out of jobs, thus increasing credit losses. And I suppose, while they were profitable during the GFC, their clients have changed. While B&M will be hard hit, their online clients might be in a better spot.

 

I definately understand, given the track record, why people are staying away. But how do you guys kill the Company? (I haven't seen any indications that credit standards are better or worse than before - outstanding credit balances 811$ per account)

 

kab60 - Please correct me if I'm wrong here, but don't charge offs need to hit ~12% just for ADS to start losing money? And based on my numbers they wouldn't need to add capital to the banks unless charge offs hit ~17% (as you previously mentioned, even in this situation the parent company could draw down on their revolver to appease the regulators.)

 

So let's say the first scenario plays out and ADS charge-offs are 12% for the next two years and they are able to re-finance their debt at some point over the next two years as well. After that, if they can pay me only $10 per share into perpetuity, the math tells me I would be getting better than a 10% return at these prices.

 

Ironically, I've been re-reading the Buffett letters on my way to/from work and recently came across this regarding his 1999 purchase of Wells Fargo.

 

Of course, ownership of a bank - or about any other business - is far from riskless. California banks face the specific risk of a major earthquake, which might wreak enough havoc on borrowers to in turn destroy the banks lending to them. A second risk is systemic - the possibility of a business contraction or financial panic so severe that it would endanger almost every highly-leveraged institution, no matter how intelligently run. Finally, the market's major fear of the moment is that West Coast real estate values will tumble because of overbuilding and deliver huge losses to banks that have financed the expansion. Because it is a leading real estate lender, Wells Fargo is thought to be particularly vulnerable.

 

None of these eventualities can be ruled out. The probability of the first two occurring, however, is low and even a meaningful drop in real estate values is unlikely to cause major problems for well-managed institutions. Consider some mathematics: Wells Fargo currently earns well over $1 billion pre-tax annually after expensing more than $300 million for loan losses. If 10% of all $48 billion of the bank's loans - not just its real estate loans - were hit by problems in 1991, and these produced losses (including foregone interest) averaging 30% of principal, the company would roughly break even.

 

A year like that - which we consider only a low-level possibility, not a likelihood - would not distress us. In fact, at Berkshire we would love to acquire businesses or invest in capital projects that produced no return for a year, but that could then be expected to earn 20% on growing equity. Nevertheless, fears of a California real estate disaster similar to that experienced in New England caused the price of Wells Fargo stock to fall almost 50% within a few months during 1990. Even though we had bought some shares at the prices prevailing before the fall, we welcomed the decline because it allowed us to pick up many more shares at the new, panic prices.

[kab60]

Yes, I think that math is directionally correct. There's a rate drop to take into account which should compress NIM in the short term. But like lower gas prices that should be a plus for consumers, lower rates probably means people refi like crazy and get more disposable income all else equal. On the other hand, increased medical costs due to coronavirus will probably be a hit.

[Spekulatius]

Yes, I think that math is directionally correct. There's a rate drop to take into account which should compress NIM in the short term. But like lower gas prices that should be a plus for consumers, lower rates probably means people refi like crazy and get more disposable income all else equal. On the other hand, increased medical costs due to coronavirus will probably be a hit.

 

I think the consumer not shopping at those dinky retailer ADS serves is a bigger problem than medical costs.

[kab60]

Yes, I think that math is directionally correct. There's a rate drop to take into account which should compress NIM in the short term. But like lower gas prices that should be a plus for consumers, lower rates probably means people refi like crazy and get more disposable income all else equal. On the other hand, increased medical costs due to coronavirus will probably be a hit.

 

I think the consumer not shopping at those dinky retailer ADS serves is a bigger problem than medical costs.

You mean Ulta Beauty and Sephora? :D

 

I know, I know, I should dump this POS, it's only costing me money. I know you definately don't like it. So how about you kill it? :)

[widenthemoat]

Yes, I think that math is directionally correct. There's a rate drop to take into account which should compress NIM in the short term. But like lower gas prices that should be a plus for consumers, lower rates probably means people refi like crazy and get more disposable income all else equal. On the other hand, increased medical costs due to coronavirus will probably be a hit.

 

I think the consumer not shopping at those dinky retailer ADS serves is a bigger problem than medical costs.

 

Spekulatius - let’s say you’re right, that people stop shopping at these retailers over the next two months. And I mean really stop shopping, let’s assume that they do zero credit card sales, online and offline, over the next two months starting today.

 

Well in that scenario, ADS’ current ~$18.0 billion book of receivables, which have principal collections of ~12.5% per month (per their most recent trust data), would be a book of ~$13.0 billion of receivables. Now let’s also assume we enter a recession and charge-offs hit ~9.0% (roughly consistent with 2009.) At this point, we are basically breakeven for the banks, and that is assuming zero operational cost cutting from 2019 levels.

 

After that, things start to normalize and we get back to 7.0% charge-offs (still historically high), and we cut some costs from operation to get back to a level that makes some sense (let’s say $1.5 billion of operating expenses, which is 20% higher than ADS’ operating costs with a book of ~$14.0 billion of receivables.)

 

Based on my numbers, that business has about $4.50 of owner’s earnings per share and a substantial amount of cash on the balance sheet. I would venture to say that their book of receivables would grow going forward, but let’s assume for stress testing’s sake that it doesn’t. Well, I would be willing to pay about $45.00 per share to get a 10.0% return on those owner’s earnings into perpetuity, without taking into consideration any return of capital we could potentially receive from the principal collections not being reinvested.

 

I’m not saying there is no risk - of course there is. It just seems reasonable, and rational, to like the risk vs. reward setup here. My question to the board is this: would the inability to fund new receivables cause the trust to enter early amortization? I’ve been reading through the documents and have not been able to come to a firm conclusion on this yet, any insights would be greatly appreciated.

 

Thanks,

Dan

 

[abitofvalue]

Does anyone know who this is - ". For example, the contract for one of our 10 largest clients, representing approximately 3% of our consolidated revenue for the year ended December 31, 2019, is effective through September 2020 and is not expected to renew" 

 

I suspect that more will go this way espicially as SYF signals it is increasingly willing to work with smaller retailers.

 

Andretta has the right idea but investing in digital capabilities will take time and will be a competitive disadvantage vs SYF, Citi etc. till the catch-up. The lowering of guidance from mid-teens sustainable growth to single digits is a pretty good indicator that they know they signed some uneconomic deals in the past and cant keep doing that. Imo - the notion that those guys dont do 'small' retailers will prove to be a fiction promoted by Ed & co. Andretta already hinted that ADS will need to compete on speed, flexibility.. 

 

All that said yes its cheap. the question is what can it get back to? Its just a mono-line consumer financial company except its subscale, has more subprime, mixed management (lets give Andretta benefit of dount) etc.. so put a 7-10x multiple on GAAP earnings and that's a 'fair value.' but with losses likely heading higher (bye-bye 6% guidance) and receivables growth remaining pressured..

 

 

 

[Spekulatius]

Yes, I think that math is directionally correct. There's a rate drop to take into account which should compress NIM in the short term. But like lower gas prices that should be a plus for consumers, lower rates probably means people refi like crazy and get more disposable income all else equal. On the other hand, increased medical costs due to coronavirus will probably be a hit.

 

I think the consumer not shopping at those dinky retailer ADS serves is a bigger problem than medical costs.

 

Spekulatius - let’s say you’re right, that people stop shopping at these retailers over the next two months. And I mean really stop shopping, let’s assume that they do zero credit card sales, online and offline, over the next two months starting today.

 

Well in that scenario, ADS’ current ~$18.0 billion book of receivables, which have principal collections of ~12.5% per month (per their most recent trust data), would be a book of ~$13.0 billion of receivables. Now let’s also assume we enter a recession and charge-offs hit ~9.0% (roughly consistent with 2009.) At this point, we are basically breakeven for the banks, and that is assuming zero operational cost cutting from 2019 levels.

 

After that, things start to normalize and we get back to 7.0% charge-offs (still historically high), and we cut some costs from operation to get back to a level that makes some sense (let’s say $1.5 billion of operating expenses, which is 20% higher than ADS’ operating costs with a book of ~$14.0 billion of receivables.)

 

Based on my numbers, that business has about $4.50 of owner’s earnings per share and a substantial amount of cash on the balance sheet. I would venture to say that their book of receivables would grow going forward, but let’s assume for stress testing’s sake that it doesn’t. Well, I would be willing to pay about $45.00 per share to get a 10.0% return on those owner’s earnings into perpetuity, without taking into consideration any return of capital we could potentially receive from the principal collections not being reinvested.

 

I’m not saying there is no risk - of course there is. It just seems reasonable, and rational, to like the risk vs. reward setup here. My question to the board is this: would the inability to fund new receivables cause the trust to enter early amortization? I’ve been reading through the documents and have not been able to come to a firm conclusion on this yet, any insights would be greatly appreciated.

 

Thanks,

Dan

 

You could well be right, your numbers make sense. My response to this one is why is this better than SYF or DFS at this point? The latter are better managed (imo) , have produced cleaner numbers (earnings) and are quite cheap.

[KCLarkin]

Based on price action, I am assuming this is a zero but just happened to see this:

 

Price:  22.61 USD

Blended P/E:  1.29

Blended Adjusted Earnings Yld: 77.55%

Div Yld:  11.15%

 

Pretty incredible.

[Guest roark33]

I wonder if Mecham is facing redemptions and/or margin call.  If you look at his AUM from his ADV and check that against his portfolio, he has about 1B in AUM (and he said he closed his fund), but has about 1.5B in stock in the 13F, rough numbers.  Obviously, these could be dated, but ADS is down about 80% since last year....

 

CMPR, ADS, it's not out the realm that he has to meet redemptions end of march and needs to sell this. 

 

Also SPB is down big.

[KCLarkin]

I wonder if Mecham is facing redemptions and/or margin call.  If you look at his AUM from his ADV and check that against his portfolio, he has about 1B in AUM (and he said he closed his fund), but has about 1.5B in stock in the 13F, rough numbers.  Obviously, these could be dated, but ADS is down about 80% since last year....

 

CMPR, ADS, it's not out the realm that he has to meet redemptions end of march and needs to sell this. 

 

Also SPB is down big.

 

Also likes to buy BRK on margin...

 

[Guest roark33]

yeah, I can't see him buying on margin last year, though, just wasn't one of those shooting fish in a barrel type situations, but maybe he did because he thought ADS was such a great deal at 100? 

 

who knows.

 

Some hedge funds blew up yesterday, the moves were crazy...across the board. 

[widenthemoat]

Based on price action, I am assuming this is a zero but just happened to see this:

 

Price:  22.61 USD

Blended P/E:  1.29

Blended Adjusted Earnings Yld: 77.55%

Div Yld:  11.15%

 

Pretty incredible.

 

 

KCLarkin - any other reason than price action that makes you think this would be a zero? Hope you're not right but obviously the market thinks you are. It looks like Synchrony is down substantially as well.

[KCLarkin]

KCLarkin - any other reason than price action that makes you think this would be a zero? Hope you're not right but obviously the market thinks you are. It looks like Synchrony is down substantially as well.

 

Not really. There isn't much tangible equity to fallback on if earnings falter though.

[dbuch]

https://www.alliancedata.com/news/press-releases/press-release-details/2020/Alliance-Data-Provides-Update-On-Current-Impact-of-COVID-19/default.aspx

 

 

[kab60]

If this thing survives, we'll have a multibagger on our hands from these levels. So how do we kill it?

 

What if their clients go bankrupt - a real possibility given how stores will be closed? In the last few years, these guys tried to improve the optics of the business by pruning clients in distress. But check what the CFO said a couple of weeks ago:

 

The pruning really consisted of 3 different areas. And when we talk about pruning we talk about selling the portfolios. We had areas that were nonstrategic, profitable businesses that we just decided for a variety of reasons, compliance, and the amount of infrastructure we have to put around supporting that, that we exited. So strategic reasons. Two, retailers that had some type of financial health issues, a Bon-Ton would be an example there. And the last is, if we were -- we did not get a renewal for a client. The first 2 categories won't be an issue. We've made many strategic decisions past in 2018, 2019. We're able to sell those actually in the fourth quarter of 2019. Most -- I can't imagine if we have a retailer who's not doing well financially anymore that we would prune that. I think we'll let those just matriculate through our system. They're very, very profitable. You just have to replace those receivables, and prior we chose to sell them. Most likely, we'll keep those. So my only risk, as I look at any type of loss is going to be nonrenewal.

 

So EVEN if their clients gets distressed, ADS can still make money off of them. (at the same conference the CFO said he was attracted to buybacks - this when shares were at 75 - hardly seemed like he expected the end of the Company).

 

Then we have a new CEO on board. The old guard lost all credibility, new guy starts with a clean slate. Now he might be dumb as hell, but why'd he say THIS if he expected the Company to enter bankrupcy in a couple of months:

 

"Alliance Data emerged from 9/11, the financial crisis of 2008 and numerous natural disasters as a stronger, leaner competitor. Our business model is resilient and has weathered considerable pressures. Our management team is highly experienced, and our portfolio is better positioned today from a risk standpoint than during previous crisis situations. Our operational strength and financial flexibility enable us to support our clients' needs both today and in the future, and we continue to plan on making strategic investments in the business as appropriate," Mr. Andretta concluded. 

 

In other words, they're less exposed to mall apparel as they used to. So some of their clients might muddle forward through ecommence, while others will obviously struggle.

 

---

 

The CFO also stressed that the guidance was extremely conservative this year. It obviously didn't contemplate coronavirus, large rate cuts and a country partly locked down. But the starting point should be conservative.

 

So the headwind will be from rate cuts, pressuring NIM due to increased funding costs. And less receivables growth will increase charge-offs. And then the big question is obviously employeement.

 

On the other hand, lower funding costs is a temporary headwind. And low gas prices, helicoptermoney and an inability to spend money when locked up at home might shore consumers finances a bit.

 

As for "liquidation" value, there's around 3b equity in the banks I believe off the top of my head.

 

And LoyaltyOne (BrandLoyalty, Airmiles) which, say it fetched 8 times ebitda in a normal environment, would be worth 2b.

 

Vs. a marketcap of 1,2b and 2,8b debt at corporate.

 

I'd really love for someone to try and kill this Company. I just don't see it unless we have something far worse than the GFC on our hands. If not, this thing might be over in 8 weeks when most people have been infected with COVID19 - and who knows how many have died.

 

Coming out of a crisis with elevated charge-offs, their charge-offs will most likely fall, thus increasing profitability and at least optical "safety" of their clients. If people ever figure they wanna pay 5xtimes earnings it should return 300 pct. 7xtimes earnings should be 500 pct. I know that sounds stupid considering the trajectory, but these guys merely have to make it through to be a multibagger it seems.

 

Bonds traded at 93,75 cents on the dollar yesterday: https://markets.businessinsider.com/bond/historical/alliance_data_systems_corpdl-notes_201921-24_regs-bond-2024-usu01797ah90

[flesh]

I'm with you on this one. I hadn't bought since 170, sold a bit at 130, held since then and started buying at 22, a lot. 2-6 x from here if it can weather the storm. Lollapalooza.

[kab60]

I bought all the way down from 190. Luckily swapped 1/3 to Ulta in the fall when that was crushed. Then rotated back when this thing got killed with adds at 70 and 28. Couldn't bring myself to buy before hearing something from the new CEO. That was today, took it from 6,5 to 10 pct. Best of luck ^^

[dbuch]

Ditto, I've been buying. It's going to be ugly for a while, no retail sales, lower receivables, lower NIM, higher NCOs but the banks are well capitalized and they have liquidity.

[kab60]

Also, I'm pretty sure this comment means they're close to doing an acquisition in cards: Our operational strength and financial flexibility enable us to support our clients' needs both today and in the future, and we continue to plan on making strategic investments in the business as appropriate."

 

I don't know, these Guys always seem to surprise in a negative way, but I wouldn't do M&A if zombie apocalypse was about to hit. I think I'd go full prepper (which in this case means conserve every penny).

 

Another point, this one from Nomura analyst (on DFS, AXP, COF): His analysis assumes that U.S. coronavirus infections peak in May and social distancing measures start to abate in July; he also expects government stimulus efforts will "help bridge most consumers and small businesses through the other side of the global pandemic crisis."

 

"It is possible that the virus will be largely eradicated before credit card issuers ever experience any coronavirus-related losses since accounts entering delinquency in March will generally not charge off until August," Carcache writes.

 

https://seekingalpha.com/news/3553734-nomura-sees-discover-capital-one-greatest-opportunity?utm_source=koyfin.com&utm_medium=referral

[flesh]

https://www.alliancedata.com/investors/financials-and-filings/sec-filings/default.aspx#alliance-data-0

 

Meaningful Insider buying from directors and chief accounting officer today.

[Peregrine]

The way I see it:

 

Near-term risk of funding market disruptions in the asset backed securitization market:

- But company has $3.9 billion in cash and short-term quickly revolving credit card loans so hard for me to see substantial risk here

- Also, company now has a bank sub that can issue FDIC-insured deposits thereby allowing them a flex up a far more stable source of funding

 

Longer-term risk is a decline in the business:

- Fully acknowledge that this is well possible (maybe even likely) given long-term share loss of private label cards over time to general purpose cards

- The upshot to this is that retailers still clearly value private label cards given lack of interchange, data capture and clear value proposition of boosting sales

- I think one of the key things that Alliance can do is focus on the card-holder side - how to make it more convenient and easier for customers to use their cards

 

Price:

- With the price at something like 1.5x normalized earnings, I think all the risks are heavily mitigated here, to say the least haha.

 

[kab60]

I'm with you on this one. I hadn't bought since 170, sold a bit at 130, held since then and started buying at 22, a lot. 2-6 x from here if it can weather the storm. Lollapalooza.

That was a quick (near) double, well played. Will be interesting to hear from the new CEO. Despite the quick double, risk/reward might look even better tomorrow. But I've never doubled up on this thing. Only down. :o

[flesh]

lol, It must be karma, this first stock that I was meaningfully invested in that went down 80% turns into a quick 2-4x. New decisions based on new info. Cheers (hopefully the cheers sticks right?)

 

I literally bought zero shares all the way down until 22.xx, the absolute bottom, probably, crazy lucky.

 

[flesh]

Did I hear on the call that with a 25% decrease in sales for a full year plus 10% charge off rate for a full year they are cash flow positive?

 

9% was the charge off rate in the great recession as well and only that high for 2 months?