Fitch Ratings has affirmed the Long-Term Issuer Default Rating (IDR) and senior unsecured debt ratings of PRA Group Inc. (PRA) at ‘BB+’. The Rating Outlook remains Negative.
Key Rating Drivers
The rating affirmation reflects PRA’s leading global franchise within the debt purchasing sector, with a dominant market position in the U.S. and a strong presence across 18 countries in Europe, the Americas and APAC.
The ratings are constrained by PRA’s monoline business model, primarily purchasing and collecting charged-off consumer debt, continued lack of meaningful portfolio growth opportunities, and limited contingent liquidity resources. Additional constraints include the company’s reliance on internal modelling for portfolio valuations and associated metrics such as estimated remaining collections (ERCs), and the potential for heightened regulatory scrutiny of the consumer collections businesses as evidenced by the recent Consumer Financial Protection Bureau (CFPB) settlement.
The Negative Outlook reflects the increase in PRA’s leverage (gross debt-to-adjusted EBITDA) in 1Q23 above Fitch’s downgrade trigger of 2.5x given slowing collection activities in a more challenging operating environment. Failure to reduce leverage to 2.5x or below within the Outlook horizon could result in a one-notch rating downgrade.
In 1Q23, PRA reported cash collections of $411 million, which were down 14% y/y on a consolidated basis as cash collections continued to normalize from a resilient 2021 and the 2021 U.S. core vintage underperformed management’s expectation. Portfolio purchases of $230 million were up 56% y/y in 1Q23 as supply of non-performing loan portfolios continued to improve from the record lows observed in 2021. Delinquency rates on consumer-related debt continue to normalize, but remain below the pre-pandemic average quarterly run-rate. ERCs were generally flat q/q in 1Q23 as soft collection rates offset a modest improvement in portfolio purchases.
PRA reported a net operating loss of $34 million in 1Q23 compared with net operating income of $72 million in 1Q22 driven mainly by a write-down in expected future cash collections for select U.S. portfolio vintages and to a lesser degree non-recurring cost items (including severance expenses related to the recent change in the CEO and other workforce reductions as well as certain case-specific litigation expenses). The negative operating income resulted in a breach of PRA’s profitability covenant in its revolving credit facilities, which was subsequently waived by its lenders. Fitch views covenant breaches negatively as this could increase uncertainty with respect to funding flexibility.
Adjusted EBITDA was $233 million in 1Q23, or $1.0 billion for the trailing 12 months (TTM) ended 1Q23, down from record levels in recent years. The EBITDA margin (adjusted for portfolio amortization) was 59.7% for the TTM ended 1Q23, below the 63.2% average from 2019-2022. Fitch anticipates earnings to remain under pressure over the medium term as collection experience normalizes against record levels seen in 2020 and 2021; however, profitability metrics should remain consistent with the assigned rating category.
PRA’s gross leverage was 2.9x for the TTM ended 1Q23, up from 2.3x at YE 2022. Proforma for the repayment of $345 million of convertible notes maturing in June 2023, leverage would be 2.6x, which is within Fitch’s ‘bb’ category benchmark of 2.5x-3.5x, but above Fitch’s downgrade sensitivity of 2.5x for PRA. Fitch believes leverage could remain above 2.5x near-term given continued pressure on adjusted EBITDA amidst a challenging collection environment as well as future spend on portfolio purchases. The pace of deleveraging remains subject to an improvement in collections from portfolio purchases made in recent quarters.
Fitch also considers gross debt-to-tangible equity as a complementary leverage metric. On this basis, leverage was 3.5x at end-1Q23 proforma for the planned debt paydown in June and below Fitch’s 5x downgrade trigger.
PRA’s long-term funding consists of secured revolving credit facilities, a term loan, and unsecured notes. The unsecured funding mix was approximately 40% of total debt as of 1Q23. Fitch expects the unsecured funding mix to trend incrementally lower in the near term as PRA is expected to fund portfolio growth with available capacity from secured credit facilities.
The liquidity profile is supported by cash of $116 million and undrawn and available revolving credit capacity of $437 million at end-1Q23. Fitch views PRA’s liquidity position as adequate as the company also has the flexibility to moderate the pace of portfolio purchases vis-a-vis collections to conserve liquidity.
RATING SENSITIVITIES
Factors that Could, Individually or Collectively, Lead to Negative Rating Action/Downgrade
–Failure to sustainably reduce debt/adjusted EBITDA below 2.5x due to a reduction in earnings and adjusted EBITDA and/or outsized debt-funded portfolio acquisitions;
–An increase in debt/tangible equity above 5x;
–A shift to a largely secured funding model with the unsecured mix decreasing to 20%;
–Deterioration in asset quality, as evidenced by acquired debt portfolios significantly underperforming anticipated returns or repeated material write-downs in expected recoveries;
–An adverse operational event or significant disruption in business activities (for example arising from additional regulatory intervention in key markets adversely impacting collection activities), thereby undermining franchise strength and business model resilience.
Factors that Could, Individually or Collectively, Lead to Positive Rating Action/Upgrade
Factors that could, individually or collectively, lead to positive rating action/upgrade, including a revision of the Outlook to Stable would be driven by improved operating performance that contributes to a sustained reduction in cash flow leverage below 2.5x over the next 12 to 18 months.
Beyond that, positive rating action could result from:
–Unsecured debt greater than 40% of total debt on a sustained basis;
–Sustained leverage below 2.0x on a debt/adjusted EBITDA basis and below 4.0x on a debt/tangible equity basis;
–Demonstrated franchise strength and earnings resilience through the current economic cycle.
DEBT AND OTHER INSTRUMENT RATINGS: KEY RATING DRIVERS
The unsecured debt rating is equalized with PRA’s Long-Term IDR, reflecting Fitch’s expectation of average recovery prospects in a stressed scenario as the negative impact from the presence of significant secured funding in a priority position is offset by lower total leverage.
DEBT AND OTHER INSTRUMENT RATINGS: RATING SENSITIVITIES
PRA’s senior unsecured debt rating is primarily sensitive to changes in the group’s Long-Term IDR and secondarily to the funding mix and recovery prospects on the unsecured debt. A material increase in the proportion of secured debt, which weakens recovery prospects for unsecured debtholders in a stressed scenario could result in the unsecured debt rating being notched down below the IDR.
ADJUSTMENTS
The Business Profile score has been assigned below the implied score due to the following adjustment reason: Business model (negative).
The Earnings & Profitability score has been assigned below the implied score due to the following adjustment reason: Revenue diversification (negative).
The Capitalization & Leverage score has been assigned in line with the implied score. Historical and future metrics was identified as a relevant negative factor in the assessment.
The Funding, Liquidity & Coverage score has been assigned below the implied score due to the following adjustment reason: Historical and future metrics (negative).
Best/Worst Case Rating Scenario
International scale credit ratings of Financial Institutions and Covered Bond issuers have a best-case rating upgrade scenario (defined as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defined as the 99th percentile of rating transitions, measured in a negative direction) of four notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from ‘AAA’ to ‘D’. Best- and worst-case scenario credit ratings are based on historical performance. For more information about the methodology used to determine sector-specific best- and worst-case scenario credit ratings, visit https://www.fitchratings.com/site/re/10111579
REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING
The principal sources of information used in the analysis are described in the Applicable Criteria.
ESG Considerations
PRA Group, Inc. has an ESG Relevance Score of ‘4’ for Customer Welfare – Fair Messaging, Privacy & Data Security due to the importance of fair collection practices and consumer interactions and the regulatory focus on them, which has a negative impact on the credit profile, and is relevant to the ratings in conjunction with other factors.
PRA Group, Inc. has an ESG Relevance Score of ‘4’ for Financial Transparency due to the significance of internal modelling to portfolio valuations and associated metrics such as estimated remaining collections, which has a negative impact on the credit profile, and is relevant to the ratings in conjunction with other factors. These are features of the debt purchasing sector as a whole and not specific to the company.
Unless otherwise disclosed in this section, the highest level of ESG credit relevance is a score of ‘3’. This means ESG issues are credit-neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. For more information on Fitch’s ESG Relevance Scores, visit www.fitchratings.com/esg.
Source: PRA GROUP
