Our 42-page report explaining our long thesis for JGWPT Holdings (JGW) is available here.
We are long shares of JGWPT Holdings (NYSE:JGW), which, via its J.G. Wentworth and Peachtree brands, is the number-one player in an attractive consumer-finance market niche. JGW provides liquidity to personal-injury plaintiffs, lottery winners, and others who are entitled to long-term payment streams but have near-term financial needs. Despite its 60-70% market share, attractive organic growth rate, and ability to compound capital through acquisitions and platform expansion, JGW trades at a consensus P/E ratio of 7x, an EV/EBITDA multiple of 8x, and at nearly half of our estimate of intrinsic value.
Unlike other consumer-finance firms, JGW takes minimal credit risk and, under a well-established legal framework, obtains official court approval for every transaction it does. Regulatory uncertainty cannot justify its low valuation. But a slew of negative non-fundamental factors has dogged the stock since its November 2013 IPO: weak post-IPO trading, expiring share lock-ups, and, because of the ongoing involvement of its controlling private-equity shareholders, a small float relative to its market cap. As these non-fundamental issues fade away, the stock should re-rate dramatically on the strength of its underlying operations.
Although the sell side acknowledges the strength of JGW’s business model, analysts have come up with a variety of unconvincing reasons for setting low price targets. These include unnecessarily punitive P/E multiples and unjustifiable discounts to inappropriate “peer group” valuations. Yet their targets still, on average, imply 21% upside. Notwithstanding its entrenched number-one position, JGW has compelling opportunities to further consolidate its core and adjacent markets with bolt-on acquisitions. At the time of its IPO, JGW cited six possible deals, the largest of which on its own could increase earnings by 30% and generate a more than 25% return on capital. Even without these deals, there remains great untapped potential in JGW’s 120,000-strong customer database and 800,000 annual inbound phone calls. With such a discounted base-case valuation, investors are getting this growth option for free. If legacy shareholders want to sell without regard for value, we are happy to follow JGW’s lead and give them “CASH NOW” in exchange for their highly attractive shares.
Below are key investment highlights for why we are long JGW.
- Ubiquitous Brand Name and Entrenched Customer Base Make JGW the Undisputed Industry Leader. JGW has 60-70% share in its core structured-settlement market; no competitor comes close to its scale. Settlement sellers typically sell only a fraction of their future payment streams in any one transaction, and then conduct follow-on sales as needed. Because JGW has the most recognizable brand and largest database of leads, it enjoys a steady flow of repeat customers, accounting for half of its transactions. These repeat customers are cheaper to acquire than new clients and add stability to revenue trends.
- Superior Cost of Capital and Robust Cash Flows via Regular Securitization. JGW is the only structured-settlement firm with access to cheap, consistent institutional funding via the securitization market. Having the lowest cost of funds in its sector allows JGW to offer settlement sellers the best price. In recent transactions JGW has been able to purchase assets at an 11% discount rate while Imperial Holdings, a smaller competitor, has been charging 17% – 18%. This is likely because Imperial funded its purchases through one-off transactions at high yields while JGW can reliably access 4% – 5% financing in the asset-backed securities market.
Furthermore, the gap between the value that the bond market ascribes to JGW’s securitizations and the price that JGW pays to acquire assets is so large that JGW can crystallize almost all of its gain upfront. In effect, JGW’s working capital is negative. The robust cash flow provided by the arrangement differentiates JGW from other securitization-funded finance companies, like mortgage originators, that often receive cash in a slow trickle over a period of many years.
- Exciting Growth Prospects and Ability to Compound Capital Through Bolt-on Deals. JGW has historically grown its key business drivers at mid-to-high single-digit rates, and higher interest rates in the future could lead more plaintiffs to opt for structured settlements. Moreover, as the top player in a fragmented industry, JGW has many opportunities to acquire smaller competitors and achieve synergies, yielding returns on capital of more than 25%.
Over time, JGW can do more to capitalize on its highly effective marketing, which elicits 67,000 inbound inquiries a month, only a small fraction of which it can address with its existing products. By monetizing more of these leads, JGW can boost revenue without adding meaningful expenses. And by expanding prudently in the adjacent domain of pre-settlement funding, it can begin to capture more of the litigation value chain.
- Attractive Unit Economics. On average, JGW buys payment streams at 34% of face value and sells them at 60% of face value, for a tremendous gross return on investment of almost 80%. Viewed from a different angle, we estimate that JGW spends $6,700 to acquire a new account, which in turn generates $15,400 of pre-tax earnings net of imputed costs.
- A Court-Sanctioned, Consumer-Friendly Business Model. Each of JGW’s structured-settlement purchases must be individually approved by a judge. This court-approval process is not just a formality: the parties often appear before the judge in person, and the judge must rule that the transfer is in the best interest of the seller and his or her dependents – or else reject it. JGW’s success rate in navigating this process is 95%.
Courts endorse JGW’s transactions so frequently because JGW gives its clients a fair deal. The discount rates paid by JGW are attractive compared to the costs of alternative sources of liquidity like credit cards (19-24% for subprime borrowers), payday loans (>100%), and non-bank installment loans (18-36%). Relative to these alternatives, selling a payment stream at an 11% discount rate to repay higher-cost credit-card debt is a sensible financial move.
- Conservative DCF Valuation Implies 75% Upside to Current Share Price. JGW was expected to IPO at $19 to $22 a share, but the deal went badly and priced at $14. Since then, shares have struggled to gain traction, in part because JGW is the only major public company in its niche. But we estimate that its intrinsic value is almost $30, incorporating the benefit of the long-term tax deferral generated by JGW’s business model but not factoring in the upside from its growth initiatives. The performance of other recent consumer-finance IPOs also suggests a fair value in the mid-$20-to-$30 per share range. If the sector once again sparks M&A interest, we note that in 2005 Peachtree, then JGW’s largest competitor, sold to private equity for almost 16x pretax income. That multiple would imply a price for JGW of $36, 115% higher than where it trades today.