Senior Debt Refinancing and MTN Amendment/Extension
IAM Capital Markets View
A refinance of the existing senior debt facility on more favourable terms as well as an amendment/extension of the MTN will improve the risk proposition of this credit going forward. This is a well-structured package and will place the credit on a positive trajectory as COVID-19 abates and the Purchased Debt Portfolios (PDP) book continues to improve following a better macro backdrop.
In our view, it is an improving high-yield credit, and noteholders will benefit from a newly structured, lower cost (almost a 50% reduction in debt costs), and more efficient capital structure. As a result of the Carlyle bid being withdrawn (partly a function of some protracted legal processes, various accounting concerns, and the looming COVID-19 situation), the senior debt facility had to be refinanced in late 2020 at a significantly higher weighted average margin of 11%.
The new debt facility is at a much lower cost of 7.07% (blended average margin over a four-year life). As PDP volumes improve over the course of FY22e and FY23e, there is inevitably a scenario where the senior debt facility gets refinanced at a low 5-6% handle, improving overall debt costs once again.
Having gone through the sternest test over the past two years, the credit has been through the toughest period and remained intact. EBITDA/profitability has been incredibly sensitive to COVID-19 restrictions being lifted, which means banks will start bringing a significant number of PDP books to the market.
Furthermore, the refinancing of the existing senior debt facility will get equity investors more willing and motivated to participate in capital raising going forward. Net assets are sitting at 90.4c as of the last financial year (almost 2x the current share price of 45c). This could provide much needed additional subordination for MTN holders.
For context, the Carlyle bid had valued the company at around AUD1.80 per share (almost 4x the current share price). The company has a market capitalisation of AUD30m and could have an improved average EBITDA profile going forward – thus, this looks very attractive for fresh equity despite the heavy damage inflicted on the company over the last three years.
Pioneer Credit Ltd (ASX: PNC) is an ASX-listed financial services provider with over 200,000 customers across Australia and New Zealand. Pioneer listed in 2014, but its origins trace back to 2009.
Pioneer specialises in acquiring and servicing unsecured retail debt portfolios (PDPs) – typically personal loans and credit card accounts more than 180 days overdue from major/regional banks. CBA is one of the key counterparties across the PDP book, which illustrates the ranking and quality of the underwriting at hand. These portfolios consist of people with financial obligations to Pioneer. Portfolios are acquired at distressed values (around 20c in the $1) and Pioneer works with customers to restructure and facilitate monthly payments over time.
Pioneer is largely a fixed cost business, so it has a high degree of operating leverage. Thus, as PDP volumes start to flow from FY22e and FY23e, EBITDA/profitability will rise quite significantly. In many respects and counterintuitively, Pioneer operates in a countercyclical manner. When the bad debt cycle and economy is weaker, Pioneer can access more PDP volumes and generate higher EBITDA/profitability. It essentially isn’t dependent on how the economy is tracking.
However, COVID-19 has made things tricky and created the perfect storm as banks have not been allowed to release their PDP books due to their social duty to households impacted from the lockdowns. With vaccination rates improving to 80-90% and borders reopening, the macro backdrop will likely see a significant number of PDP books come to market and Pioneer will be able to compete on more rational pricing arrangements (supported by a healthy funding capacity).
Pioneer is the clear #2 player in the market and has a strategy to increase its market share in the PDP market. Credit Corp is Pioneer’s largest competitor — another Australian debt buyer which purchases and collects debts in Australia, New Zealand and the United States. Aside from Credit Corp, there are no real direct competitors, so this helps Pioneer from a competitive advantage standpoint. Pioneer is not regulated by APRA but is required to follow specific Codes of Conduct policies in relation to collection and payment agreements across their books.
Pioneer has experienced no material impact from responsible lending practices from the banks. However, some have required Pioneer to remediate accounts over the last 24 months (approximately two thousand accounts in total). Pioneer has assisted through recoursing the accounts back to the banks. General recourse is calculated at the investment amount, however based on the status of the accounts, the company has achieved returns more than the target multiple. i.e., from accounts on an active payment arrangement.
Financials and Recovery Analysis
As PDP volumes start to flow from FY22e and FY23e, EBITDA/profitability will rise quite significantly. As EBITDA rises it will help to cover the new lower interest burden and generate free cash flow (after capex and debt costs).
A steadier state funding arrangement would see the senior debt facility get refinanced at a low 5-6% handle. Costs to service (CTS) the PDP books should gradually lower over time as Pioneer benefits from cost efficiencies, operational leverage, and better investment in data and analytics.
Further improvements in funding costs will improve returns towards managements target of >15% ROE. Outside of reducing the cost of funds, Pioneer has strategic Initiatives in place to improve recovery performance at a reduced CTS.
From a liquidation perspective, Pioneer targets 2.4x over ten years on PDPs acquired (by vintage). The key driver to liquidation performance has been the supply and acquisition of debt portfolios, which was initially reduced as a result of COVID-19. Purchasing activity has picked up in FY22 with an increase in forward flow volumes month on month. The FY20 and FY21 vintages are forecasted to achieve 2.6x and 2.9x in investment, respectively.
Pre 30 June 2019, Pioneer classified PDPs at fair value through profit and loss (‘FV’). As at 30 June 2019 onwards, Pioneer now classify PDPs at Amortised Cost (‘AC’). The PDP book has been adjusted as at 30 June 2019, at transition from FV to AC i.e., no further adjustments to be made.
Chart 1. Financial Statements
Source: Pioneer ASX 2021
In terms of recovery, a liquidation (or business sale) value would likely result in lower than 100% recovery with the assets being geared at around 80% (net Debt/PDP). Depending on the economic environment, a 10% fall in PDP values alongside a 10% winding up cost would be the minimum for noteholders to start incurring haircuts to their capital. Having gone through the sternest test over the past two years, the credit has been through the toughest period and not failed — so, this would be a very low probability event.
However, the more likely scenario would be a takeover, which could trigger a Change of Control (CoC) and noteholder put (@100 px). Pioneer had to refinance in late 2020 at a high cost to preserve shareholder equity. The owners are also not looking to issue equity because they do not want their holding in the company diluted. While a takeover might trigger a change of control, the company could be taken out by a higher-rated counterparty.
Chart 2. Financial Projections
Source: Pioneer ASX 2021
Background of New Transaction
Pioneer has entered an exclusivity period with an Investment Group to complete a refinancing of its existing senior debt facility. The new debt facility is at a much lower cost of 7.07% (a blended average margin over a four-year life). This new debt facility remains conditional on the MTN maturity extension being completed at 5 years. The following covenants include:
- Compliance with Borrowing Base;
- Performance Triggers;
- minimum ICR of 2.0x;
- minimum liquidity requirement;
- no dividend or other equity distributions; and
- group change of control.
The existing MTN will be amended/extended as such:
- Maturity extension to 5 years (3.5 year maturity extension)
- Upsize to AUD60m (with AUD20m in incremental new debt)
- Covenant reset over the five-year period (see table below)
Table 1. Covenant Reset (5 Years)
Source: Pioneer Presentation 2021
- BBSW+875bps (from current BBSW+725bps)
- Consent fee of 0.5%
- Margin step-up of 150bps from 22 March 2023 if total LVR>82.5%
There is a Change of Control (CoC) and noteholder put (@100 px). As part of the proposed package, Compliance Certificates will be provided quarterly to the Note Trustee.
Relative Value — Little Cheap
Pioneer is going to continue as a going concern (as illustrated in the recent Director’s Notice in FY21 Accounts), as six months ago there was the potential for a collapse following the failed bid by Carlyle. At BBSW+875bps, the new MTNs will be pricing around 2% wider than the new debt facility, which we believe does not fully reflect the improved outlook on the MTNs going forward. Compared to other high-yield (mostly unrated) comps (shown below), it also looks to be very good value as illustrated in the chart below.
There are few ASX-listed financial services providers that offer greater than 6% yield, and many of those bonds are deeply subordinated with PONV language written into the documentation. The new CAIG bond is the most recent comp, at a 9-10% range. This is however, a different risk profile, but the new MTNs at BBSW+875bps stack up nicely against this as well.
From a liquidity perspective, the notes should benefit following an upsize to AUD60m (with AUD20m in incremental new debt).
Chart 3. High Yield (Most Unrated) Comps