KBW’s Eric Hagen, CFA, Reports About Encore’s 2Q20 First Look: Strong Earnings Rebound on Cash Collections & Lower Expenses

Charlotte SchafferUncategorized Leave a Comment

ROCK[$4.13;$4.34;$2.27;$2.58] Earnings rebounded meaningfully Q/Q on higher revenue and lower expenses. Roughly half the estimated cash collections that were pushed out/deferred due to Covid were recouped in 2Q, which primarily drove the beat. ERC was flat Q/Q at $8.4 billion. Management noted strong collection trends domestically had continued into July, with a partial offset being somewhat weaker supply outlook near-term in Europe. In sum, we view the quarter positively.

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Key Points

  • Operating EPS of $4.34 beat our $2.58, mostly driven by stronger realized cash collections in 2Q. The company noted that its domestic cash collections in 2Q were 29% higher than its 2Q collection curves, and Cabot’s collections were 17% higher than what the company estimated for the quarter. Those over-collections drove the $66 million allowance reversal in 2Q, which was the primary driver of the beat. Additionally, although we captured the drop in legal expenses that management guided to last quarter, opex still beat us by $0.16.
  • Recall, the company posted a 1Q core loss due to an allowance charge (see note), as it adjusted its collection estimates around Covid. It was essentially too conservative in that allowance (hence the recovery in 2Q of about half of what it pushed out). We ultimately think investors should view the combination of 1Q and 2Q as an exercise in “fine tuning” the collection curves around Covid (and therefore, the average EPS of around $2/share is probably a decent starting point for a run-rate for forward EPS).
  • Adjusted EBITDA of $343.1 million beat our $273.9 million estimate and was up about 6% Y/Y. The company noted that Cabot’s cost management enabled strong profitability despite Covid’s impact on recognizing the timing of collections. New deployments were only $25 million for Cabot, and $125 million in the U.S., where the company noted it deployed at an average ERC multiple of 2.5x.
  • Our estimates are still under review, but we expect the combination of strong collection trends into July, as well as lower funding costs should offset the higher legal collection expenses the company expects going forward (see our recent note on new credit agreements). Management guided to legal costs picking back up to around $50-60 million/quarter going forward. At the same time, it noted that all else equal, it would expect further over-collections in 3Q (though not at the same magnitude as 2Q).
  • We view it as a strong quarter, and we think the overall trends support the company maintaining a balanced capital structure, which should enable it to absorb a potential glut of new supply as charge-offs make their way into the market next year. We think there’s upside to the stock given the outlook to generate very strong cash-on-cash returns without potentially needing to raise leverage.
  • We see positive read-through for PRAA’s earnings, which are out on Thursday evening, as we expect realized cash collections in 2Q also posted a strong beat versus the company’s Covid-adjusted curves. We also expect management will likely echo the somewhat slower near-term outlook around new purchases in Europe, as Encore noted banks have paused much of their sales activity (see our recent note).

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