Some banks have taken a more cautious approach to lending due to the unfavorable economic situation. Combined with the Federal Reserve rate hikes, the gap between banks and finance companies in terms of borrowing costs has narrowed and could present excellent lending opportunities for the latter.
Usually, most non-bank financial companies are known to have a riskier and more aggressive approach to lending, but those with a strong risk management framework in play often end up delivering great returns in my experience. I recently came across one such micro-cap financial player that looks promising due to its unique credit policy and fast processing times: Mill City Ventures III Ltd. (MCVT, Financial).
Mill City Ventures III is a Minnesota-based specialty finance firm focused on public and private enterprise lending as well as casual equity investments. Its investments primarily take the form of growth capital which finances borrowers’ growth, expansion and start-up costs. Apart from financing, the company also offers some managerial assistance to private and publicly listed companies. The firm seeks a form of active investment and advises its portfolio companies on financial and operational matters.
Like most other players in specialized finance, the company’s goal is also to provide returns on investment above the market average. When we talk about the nature of lending and investment products, Mill City Ventures is known to offer litigation financing, asset backed loans, title loans, tax anticipation loans, real estate bridging loans , mortgages and other financial services.
High risk and high yield loans
Mill City Ventures started as a business development company in 2013 and gradually grew into a full-fledged specialty finance company and non-bank lender. It is part of the group of specialist finance companies, which are essentially non-bank lenders that provide credit to SMEs that might otherwise have difficulty obtaining financing.
They have their own differentiated credit policy to assess each loan application. The company doesn’t have much of an approach based on formulas and ratios like the average bank and seeks to focus on qualitative factors as well as hard data such as the borrower’s intent and ability to pay. and the asset value of any collateral pledged. As the loan criteria are much more flexible than other financial institutions, Mill City Ventures is able to charge higher processing fees and a higher interest rate. Its borrowers benefit from a fast processing time, which for some offsets the higher cost of borrowing, and also ensures a good flow of loan opportunities into the business.
The company’s business structure involves fewer reporting requirements than banks, giving it great flexibility. For example, he could easily loan out more than 50% of his corpus if he encountered a good high-value loan opportunity without going through a regulatory nightmare. Additionally, a large percentage of its income in the form of interest and processing fees trickles down to the bottom line, as it has a relatively small staff, low overhead and a flat organizational structure, which implies a significantly lower cost of processing proposals, with a quick decision on loan application.
Key financial indicators
The financial statements of banks and financial institutions are relatively difficult to analyze because they are very different from those of ordinary companies. It is easier to directly analyze some very specific financial metrics that can help determine business performance.
First, let’s look at capital employed. According to its most recent balance sheet, Mill City Ventures manages nearly $17 million, which it raised through a combination of debt and equity that it lends in the market. Revenues of $3.67 million over 12 months and a net profit of $1.23 million are currently being reported from the investment of these funds. The company is able to generate an after-tax return of between 7% and 8% on its capital employed.
It is important to mention that no true non-performing assets have been reported by the company so far and interest flows appear to be regular against cash flow, which means that the asset management policies risks are solid. Additionally, the company’s capital employed has fallen from nearly $9 million in 2016 to around $17 million today, but its performance has been reasonably consistent.
Past Success Stories
Mill City Ventures’ investor presentation discusses a number of specialty lending scenarios where the company has had success in the past.
Alatus Development LLC, one of their borrowers, raised a $3.9 million loan to continue work on ongoing apartment development projects. The borrower had significant net worth and needed quick capital, with repayment taking place after the apartments were sold. Alatus sold various apartment buildings and paid off Mill City Ventures, and the company earned net interest and closing cost income of $365,000.
Another example is Mill City Ventures’ $3.4 million loan to Villas at 79th, which allowed the company to close on the land and seek final development approvals. Management claims to have generated a return on investment of 58.29% on this short-term loan transaction.
As we can see above, Mill City Ventures shares are undervalued based on the GF Value chart. The company’s current return on assets of 7.21% is well above the credit services industry average and its leverage ratio of 0.15 is also an indicator of very low leverage.
We can see that the current stock price is well below the GF value as well as the Graham number. I have confidence in the company’s risk management strategy; CEO Douglas Polinsky is an investment management industry veteran with extensive experience lending to public and private companies while employed at reasonably well-known funds. Overall, I think Mill City Ventures could be a promising small-cap value opportunity in specialty finance.