Payday lenders have taken another big blow today with Money3 Corporation Limited (ASX: MNY) slumping to a one-year low as Cash Converters International Ltd (ASX: CCV) saved itself from an equally ugly outcome by going into a trading halt.
Westpac Banking Corp (ASX: WBC) has decided to stop providing funds to this industry, which is facing accusations of predatory behavior against the most financially vulnerable in our society.
Shares in Money3 tumbled 9.6% to 99.5 cents – taking this week's loss to nearly 19% as it was sold down on news that its peer Cash Converts had been served with a writ for a class action lawsuit over the fees it charges for small short-term personal loans.
These loans are often referred to as "payday loans" with borrowers often trapped in a cycle of using next month's paycheck to pay for the current month's borrowings. I am using the term "paycheck" loosely here. Quite often these borrowers are on government welfare.
Cash Converters shares are likely to take a similar beating when it emerges from a trading halt to address the Westpac issue. The stock is already down 17% in the first two days of the week.
Cash Converters confirmed that Westpac was pulling the plug but said the bank would give Cash Converters enough time to establish alternative funding arrangements.
Money3 has been given similar assurances and stressed the existing facility with Westpac has a 12-month run-off period after December 2015.
But it would be a mistake to brush aside this issue. The cost of funds for payday lenders is going to rise as it is unlikely any of the major banks would be stepping up to take market share from Westpac, and loans from banks are the cheapest source of funds for the industry.
"Conservatism" is the new black. Banks have lost their appetite to finance problematic parts of the economy and a number of financial institutions like National Australia Bank Ltd. (ASX: NAB) and AMP Limited (ASX: AMP) have curtailed lending or raised rates on property investments.
Cash Converters has drawn down $59 million from its securitisation facility with Westpac while Money3 said it has borrowed around $10 million from the bank.
While Money3 appears less impacted and management said Cash Converters' lawsuit has no bearing on its business as it relates to personal lending in Queensland where Money3 has no operations.
However, investors should still tread cautiously as a successful class action against Cash Converters will likely pave the way for other similar lawsuits across other jurisdictions.
There is a lesson to be learnt from this debacle. Investors shouldn't only consider the dollars and cents of an investment.
They also need to be comfortable about the industry that a company operates because it is nearly impossible to quantify the risks of a public backlash against a sector.
No matter how one tries to justify the legitimacy of payday lending, it never fails to leave a bitter aftertaste in my mouth.
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