Predictions for 2007; What’s Next for ARM?

As we say goodbye to 2006, I am left thinking about what impact the changes that we experienced will have on the ARM industry and our individual businesses in 2007 and in the years to come.  Here are my predictions:

Mergers and acquisitions will continue to reshape the industry

In 2006, total worldwide M&A activity across all market segments shattered the records that were set during the “dot com” boom.  The ARM industry also set its own record in 2006, as we previously predicted.  Our latest tally shows 68 completed transactions with slightly more than $3 billion in deal value.  We will release final numbers to the market shortly.

Private equity was a major driver in 2006, participating in a whopping 80 percent of the dollars that changed hands.  $1.6 billion of this is attributed to the privatization of NCO Group and West Corp.  It is worth noting that with NCO going private, there are currently no publicly traded ARM companies that focus on contingency collections. 

Also worth noting: there were seven cross-border deals announced last year involving companies based in India, Australia, Russia, the United States, the United Kingdom, Canada, Germany, Panama, and Mexico.  As ARM globalizes, we expect this trend will increase. 

We expect that M&A activity will remain strong in ’07 because

1. Pricing multiples are at relatively high levels for strong performers.
2. There is an abundance of cheap and available debt to fund acquisitions.
3. Private equity is flush with capital and their interest in ARM remains high.
4. International interest is high and will result in more cross-border transactions.
5. Agencies and debt buyers alike will likely expand through acquisition.
6. The Republicans are no longer in control of the government, and buyers and sellers alike may try to get deals done before the ’08 elections instead of taking a wait-and-see-what-happens position.

Will 2007 M&A results exceed 2006’s record breaking numbers?  This is highly unlikely unless NCO sells again or goes public again quickly.  Still, M&A deals involving larger companies in the industry – both debt buyers and contingency agencies that are backed by private equity – are likely to make 2007 another memorable year for M&A.Client M&A will also have its effect

In 2006, the ARM industry was not alone in seeing historic levels of deal activity.  Although this figure seems too high to be true, the U.S. economy produced a record $4 trillion in M&A transactions last year – up from the previous record of $3.3 billion in 2000, during the height of the dot com boom.  These transactions involved bread and butter companies of the U.S. economy – including clients of many ARM companies.

As is always the case when major clients like AT&T-BellSouth, Bank of New York-Mellon Financial, and Capital One-North Fork Bancorp merge, some collection agencies will be on the winning end of the deal while others stand to lose significant amounts of business. 

The privatization of companies causes similar opportunities and challenges for ARM companies.  In the healthcare industry, the privatization of HCA will cause decision makers to consider ways to manage their receivables more effectively, including reducing rates or, more positively, increasing outsourcing or even selling accounts for immediate gratification. 

I do not expect that the pricing levels of purchased accounts will come down in the foreseeable future.  Some experienced buyers will continue to sit on the sidelines, telling the market that they are waiting for sensible pricing to return.  This hasn’t prevented portfolios from being sold to other buyers.  And, as the resell market becomes more established and legal collections become more integral to recoveries, debt buyers will take a more bullish attitude toward making purchases at the higher prices and even collecting these portfolios over longer periods of time through legal judgment.   Critical size and access to cheap capital will become even more of a factor that separates the haves from the have-nots as credit grantors seek to sell larger portfolios than ever before and as established debt buyers seek to recapitalize their own businesses by selling their entire inventory in one sizeable transaction. 

The FTC will be on the prowl again

In 2006 the final chapter of the CAMCO book was written with a $1 million settlement and the banishment of the company’s founders from collection activities.  As I’ve written previously, CAMCO was one bad apple and not indicative of an epidemic in the industry.  Sadly, however, I am confident that the FTC will come down hard on at least one more ARM company in 2007.  While it is true that the FDCPA obtained the clarification that it desperately needed last year around “mini-Miranda” disclosures and collection during the 30-day validation period, a Democratic Congress is likely to place more pressure on the enforcement of arm of the FTC and the agency may be more active as a result. 

On the state level, investigations and enforcements by attorneys general such as Elliot Spitzer may produce even more of an effect on our industry.  Truthfully, it amazes me that there haven’t been more sizeable fines levied against collection agencies in recent years with the vast amounts of accounts that are being handled.  For all of these reasons, 2007 will continue to award ARM companies that know how to collect debt while staying out of trouble.“Near Shore” collections will remain in the headlines

2006 ended with the announcement of two acquisitions.  NCO acquired Star Contact, based in Panama City; and, a few days later, West Asset Management sold its near-shore operations in Guadalajara, Mexico, to a newly formed entity.  Near-shore is nothing new.  A lot of attention has been placed on opening near-shore collection operations based in Mexico, the Caribbean, Canada, and Latin America.  Until recently, this was done predominately through internal expansion efforts.  Whether through acquisition or expansion, we strongly believe that near shore expansion will continue.  Although it takes time to establish a presence in another country, even if it is closer to the US than India or the Philippines, clients and larger agencies alike will realize the benefits of utilizing call centers that are established in these regions.

Some more predictions for ’07 and beyond

• Bankruptcy reform had a smaller effect on the ARM industry than anticipated and we do not expect to see any significant changes in 2007.
• I know that I am going out on a limb when I state that consumer debt levels will continue to rise in 2007 and have a positive effect on the amount of new business that is placed with 3rd party agencies or sold to debt buyers. 
• Rate compression in financial services, healthcare and telecommunications will continue until clients realize this has a negative effect on collection performance overall.
• Mortgage delinquencies will increase significantly and debt buyers and contingency agencies servicing mortgage lenders are well-positioned to benefit from this windfall.
• Municipalities will continue to recognize the benefits of outsourcing collection efforts to 3rd party agencies, creating profitable business opportunities for those agencies that are well positioned locally. 
• More hedge funds, with seemingly endless access to capital, will enter the ARM market as funding sources for debt buyers and as owners of large ARM service providers.
• Expect to see lots of executive-level changes in 2007 as a result of recent M&A events as some professionals seek greener pastures and others seek to sow their entrepreneurial oats by starting their own business. 

One more prediction:  take the Jets over the Eagles in the Super Bowl this year!  (Oh well, there’s always next year…)

Mike Ginsberg is President and CEO of Kaulkin Ginsberg Company, where he spearheads all of the firm's advisory business practices. Mike has been a keynote speaker at association meetings and conventions on industry issues such as "When is the right time to sell?" and "The future of the collections industry." He is a member of the board of the Institute of Merger and Acquisition Professionals (IMAP), a member of the Association for Corporate Growth (ACG), and a member of the American Collectors Association (ACA) and Debt Buyer Association (DBA). Mike also serves as an expert witness, and sits on the advisory boards of several industry associations and publications.  More about Mike Ginsberg and Kaulkin Ginsberg Company can be found on www.kaulkin.com.