First Marblehead Proves Us Right (FMD)

We don't issue that many sell recommendations, but when we do, we mean what we say. Like when we said to sell Baush and Lomb (BOL) pre-blowup. The stock tanked 33% in a matter of days.

We now have another one of our "you must sell this stock" ideas proved right: student loan outsourcing company First Marblehead (FMD) -- it tanked 16% on Thursday after Bank of America (BAC), one of its largest customers, awarded business to a competitor. Today, we found out that Bank of America had been outsourcing new private student loan products to EduCap, a nonprofit that Boston-based competitor of FMD.

As we said weeks ago, FMD faces fierce competition and holds only a handful of customers -- that sort of client concentration makes us cringe. That's why we concluded our report by stating: "...we deem the risk/reward unattractive; valuation of 5.8 x sales does not help the bull case -- investors should augment whatever discount rate [WACC] they're using to value FMD because FMD has less experience, employees, and cash flow generation."

We'd love to publish the nasty emails we got for disparaging First Marblehead, but we'll have to spare you the details: this site is PG-13.

FMD 1-yr chart:

Comments

[Buff Bills:]

You have to admire the self-aggrandizing nature of the Catablast author. They publish a poorly researched article on June 15th advising investors to avoid FMD. On the 15th, FMD opened at $48.65, and from there went on a 20% run up to $58 a share. On the BAC 'news,' the stock fell back and today closed at $47.98.

So, the stock is down a whopping $.67 from when Catablast published their first missive. And for that, they congratulate themselves for calling this 'tank.'

And to continue their history of either bad research or intentional misleading, they write that FMD has 'only a handful of customers,' when in fact, they have over 120 lender, marketer and school clients. That's a big handful.

2006 Jul 10 08:35 PM

[Brendan Farley:]

Yep, just "Another Snowling Job."

www.bankstocks.com/art...;id=9881047

Granted, Brown doesn't address the BAC/EduCap issue (which was according to BAC a nonstarter,) but Snowling's intentional vagueness was too irresponsible to be anything but a deliberate attempt to drive FMD down.

"[I]mpact on earnings has yet to be determined..." You'd expect more thorough analysis from a "Five Star Earnings Analyst." Then again, those shorts sure were sweating before Snowling's report.

2006 Jul 12 12:37 AM

[joel menkes:]

Brown responded on that point yesterday or the day before, i forget which. And i added 400 shares. I also filed a complaint with the sec last week and added an addendum to that complaint yesterday or the day before, i forget which.

We've been discussing this in depth on the yahoo message board but i'll keep it short here. As far as i can tell educap loans have immediate repayment scheduled, just as if you took out a car loan or a home mortgage, no defering of payment until graduation. Unless they now offer deferred payment loans as well the product involved is one different than the product tied in with fmd operations, or we've got it wrong over there. Makes sense to me though. Bac did note they were running this as a test. Are they testing a new service provider after signing a contract with fmd only about 3 months ago, or are they testing a new product line? Regards

2006 Jul 13 09:27 AM

[FIG trader:]

First Marblehead FMD should be sold right here for the obvious reason. Its ROE will degrade over time, and the valuation will fall to a price/book more in line with other financials. Don't believe it. Look at the chart of SLM (NNI is next). That balloon has been popped, and also should be sold right here on this rally. Nobody believed FRE/FNM could ever see 2 x book back in the late Nineties, and look at them now. Expect a sub-par return relative to the financials. In fact, the FRE/SLM long short trade can still work over the next two years even after the recent action.

2006 Sep 05 03:47 PM

[FIG trader:]

Not only is it overpriced, but nobody even knows it is overpriced, because they don't know how to evaluate these securities. The stock is worth a fraction of the current quote, even assuming "normalized' earnings near consensus for the next few years. What earnings are achievable beyond 2007? Its guesswork. As long as risk is priced so cheaply, they can fund all the growth they want. But, the fee structure is so outrageous, it won't last long, and the market will wise up. I think they got some relief with the recent decline in yields, and rising appetite for financials", but its a safe short, perhaps hedged on the long side with another financial like ACF or COF

2006 Sep 05 04:28 PM

[Brendan Farley:]

I love it.

2006 Sep 18 02:59 PM

[FIG trader:]

Mo money is going to have less money if he still holds onto FMD for long; just look at the chart of SLM, and the relative underperformance. It may take a while for investors to wake up tp FMD hype, but the clock is ticking; How would calculate fair value for this, using consesnus estimates through 2010???

2006 Oct 20 07:40 PM

[FIG trader:]

Tick tick

2006 Oct 27 05:22 PM

[Mo Money:]

Oh noes! Teh FMD is down 7% -11011101!!!!

Big deal, considering I dollar cost averaged all the way down to 22 something and cut my position in half at 69 and change after securing the 15% cap gains tax... Recouped my initial investment plus beer money. FMD could drop to zero tomorrow and I'd still be up over 60%.

Yes, margins will eventually decrease but they will be offset by rising volume (still waiting for those margins to decrease however!). And yes, BAC is a concern past 07 and JPM's partnership expires in 10, but 1) their departure is not a certainty and 2) FMD has been signing new clients ergo minimizing concentration.

FMD has had quite the hot streak, so no I'm not adding any more here. However, to have the audacity to call it a "safe short" prior to a 30% run up and then point to a subsequent 7% loss as proof of your genius is simply pathetic-- especially when you saw that day's pre-market high of 78!

Just walk away...

2006 Oct 30 02:35 PM

[FIG trader:]

I'm not ever going away (much unlike FMD). I like to watch financials implode. Its my hobby, and profession. And frankly, a little skepticism helps people learn how the financial engineers in this business make mo money with "Other Peoples Money". Just few minor corrections, for the record. The stock did jump (which is why I specified offsetting the short with a long on COF at 72ish, now at 81ish). The trade is losing money currently, because the financial names with any beta have been scorching. But I didn't point to the 7% drop as proof of my genius. the "clock is ticking" comment was posted on October 20th (followed by subsequent tic tic on the 27th after drop; there will be many many more). The purpose of this discussion is really just to prove how irrational this market is/was for FMD/COF and many many more (exclsuively in the short term). In the short term they will be driven be liquidity; longer term they will revert to valuations reflecting the virtual certainty that over the life cycle their return on capital will approximate their cost of capital. At that point, the premium valuation will evaporate. Cheers

2006 Oct 30 05:18 PM