Long Beach Financial Corp. is one of the very few subprime mortgage lenders that are "cash-flow-positive," but it could have more company soon.
First Alliance Corp. of Irvine, Calif., also uses cash-flow-positive accounting-which means booking profits as they come in. Aames Financial Corp. and Contifinancial Corp. are among those that have said they will do so soon.
Long Beach, based in Orange, Calif., occupies a special spot in the lending food chain: It neither originates or securitizes loans. Instead, it buys about $180 million per month in subprime mortgage loans and sells them off to larger conduits and banks, so booking profits as they materialize comes naturally.
Other subprime lenders have run into trouble by booking profits- including the assumed gains on the sale of loans-in advance. When the assumptions failed to pan out, these lenders have had to take writedowns.
Since a recent writedown by Green Tree Financial Corp., investors have begun questioning subprime lenders in general. Investors have yet to differentiate between cash-flow-positive companies and the rest, but they will, said Darrell Hendrix, analyst with Freedman, Billings, Ramsey.
At about $11, Long Beach shares are trading at about nine times earnings estimates, in line with other subprime mortgage companies. But Mr. Hendrix predicts the shares will rise above $20 within six to 12 months as investors reward the more conservative approach.
A move to cash-flow-positive accounting is necessary if the companies hope to continue to attract investors, analysts said. "Capital is going to become more and more scarce," said Jerry Robinson of Stephens Inc.
Operating in a cash-flow-positive environment has another advantage, Mr. Hendrix said. It allows a company to buy back stock. "That's a very unique thing in the sector," Mr. Hendrix said.
Long Beach has already exercised this option once, Mr. Hendrix noted. On Oct. 30, Long Beach's board authorized the repurchase of 10% of the company's outstanding shares, to be carried out over the next 24 months.