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Lender Processing Downgraded

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We downgrade our recommendation for Lender Processing Services Inc. from Neutral to Underperform based on a host of factors like its first-quarter 2011 earnings, possibility of further foreclosure delays, high debt in its balance sheet and decreased outlook for 2011.

Lender Processing Services reported first-quarter 2011 adjusted earnings per share of 81 cents, in line with the Zacks Consensus Estimate and at the lower end of the company's guidance range of 81 cents to 84 cents. Reported revenue also lagged the Zacks Consensus Estimate. The performance at the Default Services segment was hit by continued delays in the initiation of foreclosure proceedings.

In Default Services, the company lowered its estimates for 2011 foreclosure activity as well for total market revenues, based on the weakness seen in the first quarter. The company expects foreclosure activity to continue at low levels in the second quarter and then begin to increase through the second half of the year. As a result, foreclosure starts and total market revenues are expected to be down approximately 10% for 2011 at $4.8 billion.

For 2011, the company expects operating income to approximate the 2010 level based on some cost reduction initiatives. Although this will increase business unit margins, it would be partially offset by higher corporate expenses.

Lender Processing, which competes with Iron Mountain Inc. (IRM - Analyst Report) and Avis Budget Group Inc. (CAR - Analyst Report), was spun off from Fidelity National Services in July 2008. The company is about to complete three years of independent operation and is continuing to integrate additional expenses associated with replicating systems, infrastructure and personnel as a standalone company. Moreover, an increased amount of debt post spin off and its associated interest payment will continue to put pressure on the company’s earnings and cash flow. At quarter end, cash balance of the company was $4.8 million while outstanding debt was $1.1 billion.

Management expects some near-term challenges both internally and from the industry. During 2010, both of the company’s core markets registered decline in each quarter. Going forward, the company expects tough quarters based on the significant change in the origination volumes.  Management expects 2011 industry origination volumes to be around 1 trillion, down approximately 31% year over year, resulting in addressable market revenues of approximately $4.6 billion.

For full-year 2011, management expects adjusted earnings in the range of $3.57–$3.64 compared with the previous guidance of $3.74–$3.81 per share. Management also expects revenues to decline in the mid single-digit range year over year in 2011. Lender Processingcurrently retains a Zacks #5 Rank (short-term Strong Sell rating).

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