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Annual growth of NICK:

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May. 11 2009, 12:08 PM ET
Nearest price: 4.75 (05/11/09)
by l8rdudez (profile)
(all of l8rdudez's ratings)
Strong Buy
(Previous rating: Strong Buy,
on Jun. 22 2003, 09:08 AM ET)
“Go Speed Racer, Go Speed Racer”

Executive Summary: Nicholas Financial is a subprime auto lender that has avoided the potholes of modern finance and is running, on the track, profitable and looking to gain on the field. It trades around 56% of book and should double from here.

“She comes around the bend about a quarter to three yeah”

The subprime auto lending space is littered with more wrecks than a demolition derby. There are a number of factors why NICK is making money and will continue to do so. First, they have very stable financing. They have a line of credit (LOC) from a consortium led by Bank of America for $115 million. It expires November 30, 2010 and the current balance is around $102 million. Considering that the interest expense for FY2009 ending 3/31/09 was $5.4 million, the terms are favorable. The low interest rates have actually hurt NICK slightly as they bought some interest rate swaps but the marks are unrealized. Current debt to equity (D/E) is 1.2X, which is conservative. NICK used to be capitalized around 3X D/E but decreased significantly with the recap in 2004. D/E has gradually decreased from 1.5X as of 6/30/04 to the current 1.2X. Making this more extraordinary is that they have never done a securitization.

NICK has been conservative with their underwriting. They stiffened their requirements effective 10/1/08 by increasing income requirements, reducing how much would be advanced on certain loans and restricting branch manager approvals on certain loans. This resulted in only the second quarter over quarter drop in net finance receivables in the 9 years worth of data that I reviewed. They even paid down the LOC a bit. For FY2009, they still grew net finance receivables by 4%.

“Well you come around the bend you know you do it for me”

Their reserving policy has been good. Everyone is waiting for the 10-K for more details but through 3rd Quarter of FY2009, they were still accreting reserves, which is pretty impressive given that net charge-offs (NCO) began rising in FY2007.

“When it makes it back, you be doin' it fine”

The question is what is the earning power of NICK in two years. Let’s say that they do not grow the loan portfolio and keep it steady at an average finance receivable of $210 million (this is net finance receivable plus allowance for credit losses) and LOC at $100 million. Let’s use a gross portfolio yield of 23% (current is a little over 25%), $22 million in annual overhead, 8% interest expense on the LOC (currently about 5%), credit provision of 3.0% on average finance receivable (note that allowance for credit losses also includes the dealer discount that runs 8-11% of loan value) and a 38% tax rate. Based on that information, earnings might look like this:

Interest Income $48,300,000
Overhead -$22,000,000
Interest Exp. -$8,000,000
Loss Provisions -$6,300,000
EBIT $12,000,000
Net Income $7,440,000

That is about $0.74/share and book value should be over $9/sh. If NICK can grow the loan portfolio and increase leverage, earnings would be even better. Remember, NICK earned $1.01/sh and $1.13/sh in FY2006 and FY2007, respectively, on a loan portfolio almost 20% smaller than today.

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