The share price of FTSE 250 stock Provident Financial (LSE:PFG) dropped sharply last week following an unexpected trading update. So what happened? And does the reduced price make Provident a bargain stock to buy now? Let’s take a look.
A worrying update
Provident is a financial services firm that provides credit facilities to individuals who are considered too risky for mainstream lenders. It currently serves more than 2.2 million customers in the UK under multiple brands. These include Vanquis Bank, Moneybarn, and Satsuma Loans.
Last week, the company revealed its latest figures, which looked fine on the surface, considering the disruptions caused by Covid-19. However, a worrying announcement was made regarding its consumer credit division (CCD).
The management team intends to enter its CCD into a Scheme of Arrangement following a significant rise in customer complaints and claims. These rising complaints have led the Financial Conduct Authority (FCA) to launch an enforcement investigation focusing on the affordability and sustainability of lending to sub-prime customers.
The Scheme of Arrangement is a court-approved measure that allows a company to restructure its capital, assets or liabilities. Assuming the FCA approves the scheme, the company will fund £50m of claims and cover up to £15m of related costs. This will ultimately ensure all legitimate claims are satisfied and provide certainty for stakeholders.
However, if the FCA decides to reject the proposal, the management team has stated that it’s CCD (which includes Satsuma Loans) will go into administration. Given this segment represents nearly 30% of revenue generation, I feel the recent drop in this FTSE 250 stock’s share price makes perfect sense. But is there an opportunity for a turnaround here?
A FTSE 250 opportunity for growth?
Despite its CCD problems, the company is still collecting around 90% of its loans on time. Meanwhile, Provident’s other divisions appear to be recovering from the pandemic’s impact relatively well.
Vanquis Bank saw a 28% year-on-year reduction in receivables. But quarterly performance shows that it has begun returning to pre-pandemic levels at an accelerating pace. What’s more, due to reduced impairment costs, overall profitability for the segment has improved significantly. At the same time, Moneybarn, its car loan service, continued to grow receivables by 13%, in line with expectations.
It’s also worth noting that all of Provident’s segments are independent entities. In other words, if CCD were to shut down, the direct adverse effects on Vanquis Bank and Moneybarn will most likely be negligible.
The bottom line: a stock to buy now?
The investigation and potential closure of Provident’s CCD don’t inspire me with a lot of confidence, even with its other operations performing relatively well.
The surge in claims and complaints has undoubtedly damaged the firm’s reputation. And while there may not be any direct impact on its other segments, if CCD goes into administration, the firm’s relationships with its customers, creditors, and regulators will likely be permanently damaged. At least that’s what I think.
Personally, I believe there are far better investment opportunities out there in the FTSE 250. And so I won’t be adding this stock to my portfolio today.
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Zaven Boyrazian does not own shares in Provident Financial. 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.