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Newtek Business Services, Inc. (NKBS) owns several companies that provide services to small and medium sized businesses.  The stock trades at $3.50/share.

Fundamental Analysis

Overview:

Newtek provides the following services:

• Small Business Lending
• Electronic Merchant Payment Processing
• Outsourced Bookkeeping and Controller Services
• Tax Filing, Preparation and Advisory Services
• Customized Business Insurance

The company steadily grown revenues for several years, but has faltered somewhat during the past nine months.  The market has punished this temporary downturn severely; early in 2004, the stock had been trading as high as 7.95.  The most recent trade was at 3.50.  We feel that the decline was unjustified and will discuss this.

Historic Growth VS Future Growth

Over the past five years, the company has grown earnings by an annualized 100%.  The main driver of this historic growth was income from tax credits.  Management has shifted their focus to small business lending and electronic merchant payment processing.  As a result, expectations for future growth should be significantly different from historic averages (they would be different anyway -growth rates generally slow as companies mature).  Analysts project 25% annual earnings growth over the next five years.

The Transition

During the most recent quarters, income from tax credits dropped drastically, and this resulted in an overall drop in revenues and a net loss.  However, the company grew revenues in its other key business areas - and this is the focus of management's stated long-term goal. 

While we believe that the company's transition may result in further short-term disappointments, we view the recent developments in a relatively favorable light.

Financial Status

Newtek has a market capitalization of 114.96 million, cash of 42.56 million, and 66.68 million in debt.  We believe that the cash reserves will be sufficient to cover debt obligations and net losses until the company has completed it's transition.

Analyst Projections

Analysts project earnings of $0.41/share on total revenues of slightly over 100 million for the fiscal year 2005.  This leaves the company with a forward P/E ratio of 8.54, which is quite low.  The company's forward P/EG ratio (based on analyst 5-year EPS growth projections) is .341, which is very low.  We believe that the market is excessively discounting the stock as a result of the recent revenue and earnings downturn.

Academic evidence suggests that declines in valuations (such as just occurred for NKBS) are often reversed.

Summary

We believe that NKBS is significantly undervalued.  We expect that the market will begin to revalue the company to more favorable levels when an earnings turnaround begins. 

Technical Analysis

The technical situation has mirrored the long-term fundamental situation; for years, the stock was in a strong uptrend.  In early 2004, this uptrend ended, and the stock began a steep decline.

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During the past several weeks, NKBS has been consolidating in a quadruple bottom.  This is a very bullish pattern.  A successful break above resistance would trigger a technical buy signal.

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Key Levels

Stop buy:  4.06

This stop buy is placed 9 cents above the high of consolidation.

Stop loss:  3.44

This stop loss is a penny below the lows of consolidation.

Target:  4.97

This target is slightly below resistance.

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