Provident Financial (LSE:PFG) has been downgraded by Peel Hunt as the UK sub-prime lender is expected to make material hikes to its bad-debt provisions and risks grow as it is "accelerating into a downturn".
Following a fourth-quarter trading update, the broker cut its target price 22% to 293p and reduced its recommendation to 'hold' from 'add'.
While lending surged in the final quarter of 2022, with receivables increasing 8.8% or 40% on an annualised basis, IFRS9 requirements to provide 12 months of expected credit losses at the point of loan origination, "this will likely lead to a significant increase in provisioning charges," analysts said.
This is due to the largely unsecured nature of the group's receivables and with the non-prime nature of borrowers translating into high expected loss rates.
The analysts pointed out that these provisions are "accounting driven and do not reflect arrears that to date have remained low and stable".
Earnings per share estimates were cut 3% for 2022 and by 39% for 2023, "but in principle should stabilise and strengthen in later years as the larger book generates high income".
"The bigger concern is that PFG is accelerating growth into a downturn with a relatively high risk book. Unlike many of its peers it has not tightened credit criteria as the macro outlook has worsened, which is a key reason why its growth has been so material," the analysts said, noting that many non-bank peers have experienced funding issues.
Peel Hunt sees the valuation as "not demanding" at 9.6 times forecast 2023 earnings and 5.2 times for 2024.
"We view the risk profile of the group as having significantly increased and reduce our recommendation".