A Favorite Stock, NICK

[hawk59]

All,

This might be the best stock ever and I have no reason to doubt DC's analysis, but never trust anyone and always do your own work. You should never buy anything just because you saw a convincing writeup. What happens if you buy it and it starts to drop? Very tough to buy more if you don't really know anything about it.

[Groty]

On the slim chance you aren't aware, DC, I went to NICK's website and discovered links to some equity research. UPFC is mentioned as a competitor in the first piece I pulled up and its stock has had the [censored] kicked out of it.

Too soon to draw any conclusions, but maybe what's going on with NICK is less company specific and more industry related.

http://www.nicholasfinancial.com/FBWRep042806.pdf

[DesertCat]

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You should never buy anything just because you saw a convincing writeup.

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Exactly. If you are interested in NICK you should read all of it's annual reports for the last few years, the last quarterly report, and you should call mgmt with any questions. You should also research competitors by doing the same. If you live in the SE, you might even visit one of their branch offices to doublecheck everything mgmt says. If you are not prepared to do those things, don't buy an individual stock.

This is far from a no-brainer. Remember that my last public pick here was Krispy Kreme puts, most of which have now expired worthless.

[Scorpion Man]

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A little OT: DC, are you going to be posting regularly in your blog? I'd be very interested in reading.

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I hope so. I just posted a more detailed analysis of Scorpion Man's concerns. To summarize, here is a look at some key metrics from the last 8 years that show this year isn't totally out of whack historically.

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Total Delinquencies %
2006 (Q3) 2.72%
2005 (Q3) 1.99%
2004 (Y) 1.54%
2003 (y) 2.20%
2002 (Y) 2.32%
2001 (Y) 1.90%
2000 (Y) 2.49%
1999 (Y) 3.03%

Charge Off Percentages
2006 7.26%
2005 5.83%
2004 7.26%
2003 8.13%
2002 7.63%
2001 6.16%
2000 5.88%
1999 6.84%


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Don't delinquencies lead charge offs? That is the worst number to have go out of line and its at multi year highs...and the one that is not subject to "conservative" accounting, like chargeoffs.

To me, you need a good reason to believe that that number is a blip and not a trend to own the stock.

[Groty]

It may mean nothing, but it makes me nervous when highly paid executives exercise options early.

http://www.sec.gov/Archives/edgar/data/1...2906082942-.xml

[DesertCat]

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Don't delinquencies lead charge offs?

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1999 was the high for delinquencies, chargeoffs the next year went down (and were lower the next two years). So not necessarily.


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To me, you need a good reason to believe that that number is a blip and not a trend to own the stock.

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Sure. My reason is that you see similar blips in their history, and you see this mgmt team work through them with no problems.

[DesertCat]

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It may mean nothing, but it makes me nervous when highly paid executives exercise options early.

http://www.sec.gov/Archives/edgar/data/1...2906082942-.xml

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He sold about 8% of his holdings at a price 20% higher than todays. He's also in his late 60s and has most of his net worth tied up in NICK. I don't know how good sales are as predictors of a companies future, I've always read that purchases are a better indicator because people sell for lots of reasons (tax planning, diversification home purchases, divorces, pessimism over companies future, etc), but typically only buy for one reasons. They think the company is undervalued.

In this case he could be pessimistic, or buying a big boat, or both. It's not unreasonable to assume he'd like to sell more for diversification purposes, or even try to sell the company at some point. Last summer the CFO mentioned that they had been approached by private equity firms on a regular basis. I'd hate a company sale because I like to think of this as a long term holding, but it could produce a positive short term profit.

[Groty]

I spent a little time going through the 10Q. I agree with Scorpion Man. The credit trends are alarming. Finance receivables increased about 17% year over year but delinquencies increased almost 60%? That's fishy and may indicate a relaxing of underwriting discipline to grow the loan book. The other thing that suggests competitive pressures are increasing, possibly causing management to relax underwriting standards, is that dealer discounts declined several basis points year over year.

What's really spooky is the economy is still perking along at over 2% growth and unemployment is only 4.5%. It seems likely the economy will slow even more over the next few quarters. That should cause the unemployment rate to tick up (which is what the FED wants in order to contain inflation). If unemployment picks up, it's reasonable to expect the credit statistics to get even worse. If I were you, I'd try to get my hands on NICK's credit agreement to understand the covenants and how tight they are. At the end of September, they had a maximum of $13 million of unused capacity on the line (subject to a borrowing base), and you want to be comfortable they have access to it if the credit statistics continue to weaken.

[DesertCat]

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I spent a little time going through the 10Q. I agree with Scorpion Man. The credit trends are alarming. Finance receivables increased about 17% year over year but delinquencies increased almost 60%?

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Delinquencies only increased 30%, and are still in the range of historical norms. Remember that the numbers you are using for comparison from last year were low by their historical standards.

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That's fishy and may indicate a relaxing of underwriting discipline to grow the loan book. The other thing that suggests competitive pressures are increasing, possibly causing management to relax underwriting standards, is that dealer discounts declined several basis points year over year.


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It's pretty evident competitive pressures are increasing. That's something that has happened cyclically in the past. And I think it's clear that some new branches did not meet their past underwriting standards this quarter.

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If unemployment picks up, it's reasonable to expect the credit statistics to get even worse.

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This is true, and a concern. But it's also reasonable for you to expect management to fix the underperforming branches, so that's going to be a positive on credit statistic trends.

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If I were you, I'd try to get my hands on NICK's credit agreement to understand the covenants and how tight they are. At the end of September, they had a maximum of $13 million of unused capacity on the line (subject to a borrowing base), and you want to be comfortable they have access to it if the credit statistics continue to weaken.

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The line of credit was put in place in 2000 when NICK had a debt to equity ratio of 3.3-1. Today it's ratio is 1.4-1. The line has been increased every time they've asked, and I have little doubt they could have it increased substantially now. I believe this risk is very small, but let's explore what happens if it occurs.

Assume the lenders panick and refuse to increase the credit line and NICK can't find another lender who will. Nick can still operate with slow growth generated by internal cash and the remaining credit line. They could also pay out around $1 a year in dividends (8.5% yield). All this assumes the credit problems are manageable.

But in an absolute worst case scenario, the problems aren't manageable, lenders demand repayment and force NICK to liquidate. NICK has $8.70 per share in liabilities, including all debt. It has $23.85 per share in cash+loans+future interest owed. Assume that 40% of the loans default over the liquidation period and average recovery is 50% (partial payments and vehicle recovery). The $23.85 total value of the loans shrinks by 20% to about $19, minus liabilities and 50 cents a share ($5m) in liquidation costs leaves shareholders with around $9.80 per share.

So in a melt down it looks like worse case scenario getting most of my money back over a 4 year period. Of course it can't be that simple. What am I missing here?

[Groty]

The the sake of simplicity, I ignored direct loans in computing the increase in deliquencies. Direct loans are a small portion of the total book and aren't materially different from the contracts.

From page 20 of the 10Q, using contract information:

Contract delinquencies at Sept. 30 2005 were $3,876,429.
Contract delinquencies at Sept. 30 2005 were $6,196,410.

(6,196,410 - 3,876,429)/3.876.429 = 59.8%.

How did you arrive at a 30% increase in delinquencies?

45% of the dollar amount of contracts purchased in the September quarter were in Florida, a state feeling disproportionate pain associated with the housing slowdown. The stuff I'm reading suggests the homebuilders only started laying off construction workers in the past couple of months. I'm guessing some portion of the people willing to pay 24% interest to purchase a used car are day laborers. I feel pretty confident delinquencies are going to increase even more in the months ahead.

That said, your liquidition analysis looks solid.