The following article is part of The Motley Fool's "Stock Madness 2005," a contest based loosely on the annual NCAA College Basketball Tournament, a.k.a. March Madness. From March 17 to April 4, our writers and analysts will engage in head-to-head competition with each other, advocating and arguing on behalf of 64 stocks we've selected as among the most interesting to Foolish investors. You, dear readers, are the fans and referees -- you'll read these exciting duels and then vote for the stock you think is the better investment... and should therefore move on to the next round of play. The company that survives six "games" will be our tournament champion, and its writer our most valuable "coach."
But, please, make no mistake -- "Stock Madness 2005" is a GAME!
Our writers are doing this for fun. They are enjoying the spirit of competition and the art of debate. They are delighting in the search for positives in the companies they've drawn... and negatives in the companies they're pitted against. They are NOT necessarily recommending these stocks as the ones they believe in above all others. As ever, YOU must decide whether the stocks we're writing about -- winners and losers -- are deserving of your investment dollars.
UPS
Atlanta
, Ga.
$73.25
52-week low-high: $67.94-$89.11
$82 billion market cap
It's a classic battle -- the tiny unknown from Southeastern Nowhere State is facing off against one of the greats of the game. I'm sure that Portfolio Recovery Associates fields a talented squad and will be undaunted in its quest to unseat the favorite. But in the end, like all 16-seeds, its valiant effort will be rudely slapped down.
Everyone may know UPS' game plan, but thus far no one has been able to stop it. As outlined in last week's opening round victory over rival FedEx
A show of hands: Who out there has ever bought anything online? OK, looks like most of you. Odds are also good that your package was delivered by UPS. As e-commerce continues to expand, those familiar brown trucks are going to remain crammed with packages. Last year, all those deliveries worked out to $3.3 billion in net income (a 15% gain) on more than $36 billion in revenues.
Sure, the same measures have been rising faster at Portfolio Recovery, as would be expected from a company less than one-hundredth the size of UPS. What happens, though, if competition and improving conditions narrow the company's spread even further? The reason the company buys receivables for next to nothing is because in many cases, that is precisely what they're worth. That's why the original debt owners have essentially abandoned their collection efforts.
Portfolio Recovery may or may not have any difficulty finding portfolios of defaulted loans to feed on, but pricing that debt accurately and actually coaxing the deadbeat borrowers to pay up is a difficult and risky business. Just ask previous failures like Commercial Financial Services and Creditrust.
While improving economic fundamentals will dry up potential pools of bad debt and force collection agencies to shell out more to obtain them, a stronger economic backdrop will do nothing but benefit UPS as more purchases ultimately lead to more deliveries. Management is certainly optimistic, having recently boosted the company's dividend payment by 18%.
Portfolio Recovery may execute a few flashy plays on the court, but the undeniable strength and stability of UPS will win out over time.
Fool contributor Nathan Slaughter is still waiting for his junior high school to retire the #42 basketball jersey that he once wore. He owns none of the companies mentioned.
Portfolio Recovery Associates
Norfolk
, Va.
$35.51
52-week low-high: $24.06-$43.00
$548 million market cap
By Stephen D. Simpson, CFA
So here we are in the second round, and plucky little Motley Fool Hidden Gems recommendation Portfolio Recovery is up against "Big Brown" -- UPS. I'm not worried, though, since I think my nimble little David can smack Goliath right between the eyes.
UPS is a company with a bright future in its past -- that's no slur against this well-run shipping company, but I do believe breakout growth is a thing of the past. Looking back to just the last three years, the company is growing revenue by about 8% on a compounded basis, with net income growth dragging in at about 2%. Yawn!
By comparison, Portfolio Recovery has grown the top line by 42% and net income by 55% over that same time.
Now, I'm sure someone will point out "hey, with that kind of growth, Portfolio Recovery is going to attract lots of competition." Maybe, but UPS already has FedEx breathing down its neck and beating it up for its milk money. I'd rather take my chances with some ephemeral unknown competitor than face a giant like FedEx.
There's no doubt that the fortunes of both companies are tied to the economy, but I'd argue that Portfolio Recovery is in a no-lose situation. If the economy improves, people will spend more and some of them will be unable or unwilling to pay their bills. If the economy worsens, even the most well-intentioned folks might find themselves falling behind in their payments. But with UPS, what happens in a global slowdown where people just aren't shipping as much?
Finally, when looking at the stock of UPS, it seems like the market isn't all that crazy about the big, brown machine either -- the stock is up only about 7% over the past year. What's more, UPS is not cheap -- the trailing P/E is 25 (near a five-year high) and the EV-to-FCF ratio is likewise a very robust 25. Compare that to a P/E below 21 and an EV-to-FCF of 11 for PRAA.
UPS might be a great shipping company, but for my money those "handling charges" are just way too high.
Fool contributor Stephen Simpson owns shares of Portfolio Recovery.
Rebuttal
Growth? Forget the history books; look at what's happening right now. How about 300,000 more packages delivered per day last quarter -- en route to a record 3.6 billion for the year? How about a 17% jump in net income on revenues that climbed by double digits? How about a 40% surge in international operating income on export volume from places like China that soared 125%? How about upbeat expectations for 17% earnings growth and about $3.5 billion in free cash flows this year? If none of that has yet been priced into the stock -- even better.
Meanwhile, Portfolio Recovery shareholders will have to keep their collective fingers crossed that an improving economy doesn't dry up (or raise the price of) the lifeblood of the company -- pools of bad debt. That's one mirage in the desert I would not want to depend on. -- N.S.
Let me ask you something -- if UPS is so great, where is the growth? Don't great companies grow? Maybe that's why the stock's going nowhere fast.
If this were Africa's Serengeti, UPS would be an old lion -- majestic and strong, but more apt to spend his days snoozing under a tree or making little lions. Portfolio Recovery, though, is more like a leopard -- surprisingly strong, nimble, and still on the hunt. -- S.S.
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