Paragon full of merits

The Paragon Group of Companies generates most of its income from lending money to buy-to-let landlords. And, with no retail deposits, it raises money on the wholesale money market to finance its operations - or rather, it used to before wholesale lending dried up as a result of the financial crisis.

That's not as bad as it sounds because Paragon's £9bn-worth of mortgage assets - down from over £10bn in September 2008 - are already funded. But it does mean that, until new sources of capital are secured, the company can do little in the way of new business. While there are tentative signs that the wholesale lending market is improving, the rates of interest that lenders are demanding are still too high. Paragon's management has implied that access to suitable amounts of funding should be achievable, but not for another 12 to 18 months.

So, these are frustrating times, but at least Paragon can take comfort from the quality of its loan book. Full-time landlords - typically with a dozen or more properties - tend to take a longer-term view of the property market. While small-scale landlords may wring their hands as house prices crash and exit, the full-timers see weak prices as a buying opportunity. And the demand for rented accommodation remains strong as fewer potential first-time buyers reach the bottom rung of the housing ladder. Tough credit conditions also encourage borrowers to maintain payments because there is scant chance of raising funds elsewhere from the mainstream lenders. So arrears on Paragon's buy-to-let portfolio are extremely low. From March to June this year, the proportion of loans three or more months in arrears fell from 1.17 per cent to just 0.97 per cent of the loan book.

Even when landlords run into difficulties, Paragon works hard to find solutions. Initial steps involve the appointment of a rent receiver, which gives the landlord an opportunity to recover his financial position without the tenant or the property itself being at risk. Around one-third of properties the subject of a rent receiver have since been returned to the landlord. And, of properties in the receiver-of-rent portfolio, 94 per cent are let and yield rental income in excess of the mortgage costs. However, there is little doubt that arrears would rise if the UK economy took a further downturn.

Paragon has also been seeking other means of income and, operating through the group's Redbrick brand, a range of services have been developed for the rental sector. These include providing energy performance certificates, surveys and valuation services (the group has its own team of surveyors), tenant credit checks and insurance services. And progress has been impressive. Together with other initiatives in loan servicing, operating profits from these activities jumped from £0.2m in the first half of 2008-09 to £2.4m in the first half of this year.

Paragon also generates decent cash flow, some of which has been used to take advantage of weakness in bond markets. For example, in the third quarter of 2009-10 the company bought back £12.5m-worth of bonds that it had securitised for just £7.3m. In addition it had bought back £37.7m of debt bought last year for just £18.9m.