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This bargain FTSE 250 dividend growth stock has smashed estimates. Should you buy?

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Guarantor loans specialist Amigo Holdings (LSE: AMGO) is up more than 6% this morning. That came after posting a 38.3% rise in profit after tax to £100.1m in its maiden preliminary results, plus a sharp rise in customer numbers.

Amigo stock price

Investors are currently feeling friendlier towards Amigo, but the stock has struggled since its FTSE 250 listing last June, when it started trading at 286p. Today, the Amigo Holdings share price stands at 221p, down almost a quarter.

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The outlook is promising with City analysts predicting strong earnings growth. So should you buy shares in Amigo Holdings for your Stocks and Shares ISA?

Friend in need

First, it’s worth understanding what Amigo does. It aims to help those who cannot borrow money from mainstream lenders, typically due to a poor credit rating, by giving them loans up to £10,000, with the applicant using a family or friend as a guarantor.

Amigo says it offers an alternative to payday loans, one that gives borrowers with bad credit the opportunity to rebuild their credit score. However, it’s also worth noting its loans cost a hefty 49.9% a year. Mainstream personal loan rates range from 3% to 15%, depending on your credit rating and how much you borrow.

Rising custom

Customer numbers hit 224,000 in the year to 31 March, a rise of 23.1% on last year’s 182,000. Revenues climbed 28.4% over the year to £270.7m, beating consensus estimates of £258.1m.

Amigo also posted net loan book growth of 17.4% to £707.6m and said 95% is either fully up to date or within 31 days overdue, which demonstrates the underlying credit quality. It also announced a final proposed dividend of 7.45p, giving a total annual dividend of 9.32p. This works out as a 50% payout and “is above expectations at IPO.”

Sub-prime rates

Non-mainstream lending is a controversial area and Amigo must tread carefully to avoid incurring the wrath of regulators. Today, the group said it’s “already in line with the direction of travel suggested by the recent FCA statements on the growth of the guarantor loan segment.” It also pointed out it was named as the highest-rated personal loan provider for transparency of information during 2019 by Fairer Finance.

Amigo operates in the mid-cost credit space, which the FCA defines as “credit above prime borrowing rates, but below the high-cost short-term credit cap of 100% APR.” It appears to be trying to do the right thing in a tricky market, with a simple product and transparent pricing. But time will tell.

Complicated

As Rupert Hargreaves recently noted that, ethical considerations aside, companies like Amigo do provide an essential service. He tipped the stock when it was trading at 11.3 times forward earnings. Today, you can buy it at just 7.3 times, which looks attractive, especially since its PEG ratio is just 0.5.

The forward yield is a handy 4.5%, with cover of 2.6. City analysts are positive, anticipating earnings per share growth of 17% next year, and 22% the year after. The worry, as ever, is that an economic downturn could hit loans quality, and profits. The sub-prime lending sector can be rather complicated at times.

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Harvey Jones has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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