Private Equity Legend Enters the ARM Industry – Big Time

Private equity has been fueling a lot of the recent larger deals in the ARM industry.  From NCO’s bid to go private to the purchase of UK debt purchaser/collector Cabot Financial, private equity has been hot on the ARM industry for a while now.  So it should come as no surprise that one of private equity’s legends seemingly has his eye trained on debt purchasing and collection.

In April, two separate deals were announced involving major players in the ARM industry and a firm called J.C. Flowers, LLC.  First, on April 16, J.C. Flowers was named as the lead firm in the massive buyout of Sallie Mae, a deal worth about $25 billion.  The deal, while spectacular in its size and players (Bank of America and JP Morgan Chase were also involved), did not really set off any alarms in the industry.  Sure, Sallie Mae has grown into one of the largest collection agencies and debt buyers in the country, but they are primarily a student loan firm, and it was that business that sparked the deal.  In the deal, J.C. Flowers will own 50.2 percent of Sallie Mae.

A week later, it was announced that J.C. Flowers had snatched up 25 percent of the outstanding shares of debt purchaser Encore Capital Group (Nasdaq: ECPG).  More importantly, representatives of J.C. Flowers were being invited to join the Encore board of directors and help guide the company into the future.  After the dust settled on the busy week, J.C. Flowers owned 50.2 percent of a company that recorded revenues from collections of $240 million last year and 25 percent of a debt purchaser that had revenues of $255 million in the same time period.  So basically: a new major ARM player was created.

So who, or what, is J.C. Flowers, LLC?  Short answer: they’re a private equity firm based in New York.  They specialize in investing in financial companies.  They have an office in London.  But there is, of course, a lot more to the story.

J.C. Flowers is so named for its leader, J. Christopher Flowers.  A former partner at investment banking powerhouse Goldman Sachs, Flowers hung his own shingle in 1999 with J.C. Flowers, LLC.  He is ranked 322 on Forbes’ most recent list of the 400 richest Americans.  And he’s somewhat of a legend in investment banking and private equity circles.

"He's a genius, he really is," said a CEO of an insurance company that counted Flowers as its largest shareholder in a 2005 Reuters article.  Flowers and his firm have gained a reputation for complicated deals that involve turning around financial companies with large debt loads.  Some of the past successes include Japanese bank Shinsei Bank and U.S. insurer Crump Group.  As a quantifiable hat-tip to his Midas-like touch, Flowers’s initial buyout fund when he launched his company in 1999 raised $1 billion; for his next round, he will be raising $8 billion.

It is still yet to be seen what Flowers will be doing with the Sallie Mae debt collection business.  There has already been speculation in the financial press about what will become of Arrow Financial, General Revenue Corp., and Pioneer Credit in the post-buyout corporate structure at Sallie Mae.  Although, in fairness, the article linked above was written before the news of J.C. Flowers’s involvement with Encore Capital, which may change the equation.

With a 25 percent stake in Encore -- and a seat on its Board -- and a controlling interest in Sallie Mae’s 76 percent stake in Arrow Financial, J.C. Flowers finds itself controlling a significant share of the debt purchasing market in the U.S.  Could J.C. Flowers’s interest in Encore be directly related to its interest in Sallie Mae?  Perhaps.  Creating a little synergy in the student loan giant’s ARM process would certainly help up its value, the real goal of any private equity investment.  Since Sallie Mae can’t exactly sell bad student loans to itself through Arrow, it helps to have an external purchaser for some of that debt.   Could J.C. Flowers be planning to divest the collection business from Sallie Mae to other private equity or major industry players like OSI or NCO?  Maybe.  Turnaround specialists do tend to shed units and concentrate on core business.

Of course, it will be interesting to see what happens, and it’s still a little early for speculation.  First, the Sallie Mae deal needs to be completed.  After that, it could take a while to see what the ARM industry’s newest private equity player will do.  But it still remains intriguing that such a Wall Street force has set his eyes on the ARM industry.