How Much is HRB's Sub Prime Mortgage Business Worth?
My basic thesis regarding H&R Block (HRB) is that the tax business alone could support the company's $7.1 billion market cap. I don't know what the mortgage business is worth, but I think it is more than zero.
From today's Journal:
"Merrill Lynch & Co. agreed to buy National City Corp.'s First Franklin subprime-mortgage unit for $1.3 billion.
The deal for First Franklin, which last year originated more than $29 billion in loans, is the latest in Wall Street's push to beef up in mortgages. As a cooling housing market threatens to damp the supply of mortgages, investment banks are looking to bring lending capabilities in-house to help them meet the growing demand for mortgage-backed securities. Subprime mortgages are those focused on consumers with poorer credit histories."
Franklin originated $29 billion in sub prime loans last year, Option One (HRB's sub prime lender) and HRB Home Mortgage originated $40.1 billion last year. Franklin sold for $1.3 billion and HRB's business is worth $??? Even if the mortgage business were worth only $1 billion, it could add 15% to HRB's value.
Franklin is priced at 6.2% of the value of the mortgages it originated last year. If HRB's mortgage business were priced at 6.2%, it would be worth $2.5 billion.
I don't know how much the mortgage business is worth, but I am pretty confident it is more than zero.
Timothy Burger
timothyb(at)timothyburger.com
posted by Timothyb @ 5:22 PM
2 comments
2 Comments:
An interesting analysis and since your "buy" rec. on 8/29 I think the stock is up about 2.5%. Two qusetions with your analysis...
1. Your assumption of the "tax business" of the HRB business being $7.1 billion seems to be pulled from no where (although I'm sure you have your reasons) and I think they could have some trouble sustaining that mark. They have two competitors, Jackson Hewitt and Liberty Tax Services which are, I believe, growing at an exponentially greater rate than HRB's somewhat stagnant preparation business. Also, much of HRB's "tax business" is culled from Rapid Refunds, which are basically short term loans with astronomically high intrest rates; accordingly there are a number of attorney's generals looking to stick it to them on this point, this lessons consumer confidence in the company as well as removes a revenue source if they are enjoined from these practices.
2. Comparing two businesses with essentially the same business model as a basis for comparison does not always work out so easily as your Franklin example. It would be like saying Wal-mart had $29 billion in sales and K-mart had $29 billion in sales, they still aren't the same company. I know there is a certain commodity factor involved in sub-prime loans, but there is also an efficiency component as well as a customer base component. HRB is notorious for giving loans to individuals with horrible credit and their default rate is somewhat higher than most investors would probably be comfortable with.
I'll be interested to see where this comes out, but I'm pretty sure we would have more fun talking about this over beer...then we can just arm wrestle to see who is right.
-Casey
Casey,
Both excellent points.
1. HRB has maintianed it's market share over the past three years in the face of increased competion from both Intuit and from Jackson Hewitt and Liberty Tax. For each of the past three tax seasons HRB has processed approximately 16.7% of the total number of US tax returns. This year they increased average revenue per return by 6.6% in the face of stiff competition.
2. You are correct that you can't say that two businesses are worth the same just because they have the same revenue and the same business model.
My point is that HRB initiated 35% more loans, so even if you priced their business at a deep discount to Franklin's, the mortgage business is worth something north of $1 billion (Franklin's smaller business sold for $1.8 billion).
I also agree that this, like most things, would be better discussed over a drink.
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