The prospect of rising interest rates could prove to be a double-edged sword for Arrow Global and investors should therefore pay very close attention to the valuation of the consumer debt specialist. The company unveiled plans for a main market IPO (initial public offering) earlier this week (10 Sep) and although pricing will not be confirmed for a few weeks the firm has been given a mooted £400 million valuation.
A company of this size will almost certainly attract buying from tracker portfolios and such technical buying may give a short-term boost to the share price. But long-term investors should pay close attention to the model’s potential risks in a rising interest rate environment.
Arrow’s business model is to buy bad debts typically at 10p in the pound and mainly from financial organisations – Royal Bank of Scotland (RBS) has an interest– and then use superior information sources to better identify the delinquent borrower before handing over recovery to debt collection agencies.
As the UK economic rebound takes hold and lending overall picks up then you would expect more bad loans, but there is also potential for acceleration in debt delinquency rates with a hardening in creditor attitudes as occurred in the early 1990s recovery. Therefore the proposed £50 million raise to add to the firm’s £8 billion loan book makes sense.
But analysis of the valuation is unlikely to be made available to the public for a while and understanding the details here could well be key.
It is possible that the company will be valued as an annuity type operation with future cashflows discounted to a present value. The float is institutional only but private investors tempted to jump in on the open market should perhaps wait for details of the valuation, in particular the rate at which future expected cashflows (£637.4 million estimated for next 10 years) are discounted and the interest rate sensitivities.