pros and cons, page-59

Not a stupid question and an interesting one where different people may have some differing views. In my view interest rates will to some extent have an impact, although the effect could be indirect or more direct depending on which balances we are looking at or whether we are looking at an overall entity valuation.

Most of these companies have some level of net debt/leverage. CLH had approximately $119m of debt at 31 Dec 16. In the spreadsheet I maintain I haven't got logged whether that is fixed or variable. But either way it will at some point be re-priced (assuming its not paid off). My understanding, and happy to be corrected, is that a lot of bank funding for businesses doesn't work directly off the cash rate, but rather is linked to BBSW (or bank borrowing swap rate - what the bank can borrow at in the interbank market, which in turn is influenced by the cash rate, but also other variables). On top of this base rate they will get charged additional amounts in the interest rate they receive for risk premiums etc (for example credit risk, liquidity risk, required capital return for the bank...). CLH, CCP, PNC all to some extent have leverage and are thus exposed to interest rate risk on that side of the ledger. A big increase in rates would likely be negative.

In terms of the asset side of the ledger the book values of PDLs, for example, may or may not be impacted. In terms of future cash flows changes in rates could have an affect on these, including changes in expectations of a customer paying the interest they are being charged and the rate being charged and thus cash received changing. I am not 100% sure but I don't think the rate charged to customers is generally varied (they may be able to but not sure they do) and is more like a rate you get on your credit card that regardless of what rates do banks don't tend to change them. Different collectors may treat this differently, I haven't looked into that in detail. Also there would be a difference on book values depending on the accounting policy applied - amortised cost vs fair value. Amortised cost uses a fixed IRR based on expected cash flows on day one and the "effective interest rate" doesn't change, however changes in value arise only from changes in expectations about future cash flows from initial projections, whereas with a fair value model then the discount rate should change when appropriate (as well as the cash flows themselves). Bear in mind changes in book values are really timing as ultimately over time the net effect of the cash flows will be the result in the P&L (i.e. total cash received from debtors less initial investment in debt when acquired).

From a theoretical entity valuation  perspective one might say if the risk free cost of money reduces then the value of risk assets will increase, due to the reduction in the discount rate (WACC) applied. IMO I think this ignores the fact that risk premiums may go up if money is cheap, it really depends on why money is cheap in the first place. So assuming that an entity should be worth more if risk-free rates go down I don't think always holds (imagine government bonds being very expensive because investors are moving out of risk assets as there is more perceived risk, it would follow that equity premiums should increase and probably more than offset the reductions seen in risk free rates generally derived from government bonds).

On a net basis, my view would be that expectations of material increases in interest rates would be a net negative for these sorts of companies (customer may be stretched with repayments, funding/cost of capital more expensive...) and vice versa.

A bunch of thoughts from a madperson, DYOR.