Warren Buffett always said that a company’s managers should have the ability to be candid with shareholders. They should report financial performance honestly, point out what went right and what went wrong. First Cash Financial Services (FCFS) has always been a strong performer in the payday loan and pawn lending space. About two years ago, they made what they, I, and a lot of other folks believed was a great purchase. They bought AutoMasters, a chain of Buy-Here-Pay-Here auto stores. It was a natural extension of the high-yielding lending strategy they had pursued for years.
Unfortunately, through a combination of a weakening economy and international collections issues, AutoMasters became a drag on the company. So CEO Rick Wessel made the absolute correct move in choosing to liquidate the company when turnaround efforts failed. The company admitted the miscue in its quarterly filings, took the write-down, and continued with its pawnshop and payday loan store expansion plans.
This is why I hold First Cash stock. Rick Wessel and CFO Doug Orr are level-headed, low-key, patient executives. Just by spending time with them, a shareholder will realize that their demeanors are reflected in their business execution. The results continue to speak for themselves. The latest quarterly and annual results look like this:
- Diluted EPS up 35%
- Net income from continuing operations up 28%
- YTD same-store revenue up 13%
- Quarterly same store revenue up 8%
- Mexican pawn revenue up 38% YOY, and 31% QOQ
- Q4 merchandise pawn sales across all stores up 27%, pawn fees up 20%
- Retail pawn merchandise sales gross margin of 45%
- FY cash flow of almost $43 million
With strong cash flow and $29 million cash on hand, the $68 million of debt they carry is of no concern. Shares outstanding decreased by almost 7%.
The company began moving into Mexico two years ago and business is on fire there. It has 250 stores there now, achieving that number in record time, when it recognized that there was both a need for pawn shops and very little competition. Its continued expansion will be funded by cash flow and the remaining receivables from Auto Master.
In addition, First Cash appears to see far better opportunities down south than in the U.S. It has plans to open 50 to 60 more stores in Mexico. Of some note is that it has no plans to add any more payday loan stores this year. Why might that be? I see three primary reasons.
First, with the economy continuing to tank and the ranks of the unemployed growing, there will be a greater need for short-term credit. Payday loans, however, require a customer to have a job Pawning the family lawnmower, however, does not. Second, the payday loan market in the U.S. is nearing saturation. At next month’s conference of the payday lender’s trade association, I expect them to say there may only be room for another 2,000 stores in the country. Why expand into a saturated market? Finally, although I believe the concern that President Obama will attempt to cap interest rates at 36% APR to be overblown, First Cash clearly has little reason to gamble. With Mexico providing it with such wonderful opportunity, there’s no reason to push the envelope here in the U.S.
Although earnings growth will slow a bit this year as the new stores get up and running, I expect these stores to mature in 2010, returning the company to earnings growth of around 15%. With 2009 analyst estimates hovering around $1.37 per share, and the stock at $16.00, I see continued upside for the stock going forward, plus an opportunity to purchase shares in the $15 range and sell covered calls one or two months out. I’d like to wait for lower price before re-entering, so I’m hoping to see $14 or lower just long enough for me to jump back in.
Full Disclosure: No position in First Cash Financial Services.