Payday Lender Stock Update

by: Larry Meyers

EZCorp (EZPW) cut FY guidance from $1.51 to $1.42 (average) which, still represents 16% - 19% earnings growth YOY. The company cited weakening demand for loans as well as sales of pawned merchandise. Because a customer cannot get a payday loan without a job, the nation’s 9.4% unemployment rate is finally taking a toll on PDLs. And since consumer spending is off, items that might normally have sold from the local pawn shop aren’t moving as quickly. Although these trends are somewhat offset by EZ’s ability to scrap gold at all-time highs, that won’t save the day. The stock tumbled to $10.99, giving it a current p/e of 8. EZ has always been cheap, but it’s outrageously cheap at this price. The market usually recognizes this, as previous drops to this range have not lasted very long. I added to my position last Friday. My stragegy with EZ has been to hold a half-position long, add at attractive prices, and sell calls against half my position at $12.50 or $15.

Cash America (CSH) is still going strong, but has a few challenges. The PDL market is pretty much saturated in this country and they’ve had challenges from the numbnuts in the Ohio legislature that curtailed business over there. Their Q1 conference call explains things in great detail. However, Cash America’s management is top-notch and forward-looking. Their purchase of online lender CashNetUSA was outstanding. That business accounts for some 60% of loan volume and 92% of operating income at this point. They’ve added gold buying and pawn loan services at many Ohio locations. They purchased Mexican lender Prenda Facil, joining other PDLs in the great Mexican PDL Gold Rush. They also just closed on a $100 million senior convertible offering at 5.25% to pay off debt. The company is still a bargain, given earnings growth of 10% based on current estimates of $3.06. The stock price of $22.50 gives it a p/e of 8.5. I think this is another candidate for savvy traders and investors. One of my favorite plays is to take an undervalued stock like this, sell naked puts for a number of shares I wouldn’t mind holding long if they get put to me. The July 22.50 puts, for example, returns a terrific 7% if unexecuted.

First Cash Financial Services (FCFS) continues to power along, primarily in Mexico, where they are executing extremely well. The company is done opening PDL stores in America, and is limiting expansion of pawn shops as well. Although they’ll experience slower earnings growth this year at around 9%, 2010 earnings should kick up 15%. The stock is arguably fairly valued at $16 based on 2009 earnings, but on next year’s earnings of $1.55, I think it’s fair value is around 23. I am long the stock and trade it as I do EZCorp.

Dollar Financial (DLLR) settled a Canadian lawsuit that will cost it upper eight figures to resolve. The good news is that most of the Canadian provinces have finally set reasonable fee caps in place – most in the low-$20 range-per-hundred-borr... Operationally, Dollar is struggling to find growth, but Canada will provide some help. The stock is way off it’s high, but it’s always carried a bit too much debt for my personal taste. It’s a good company, but I see more value in other players.

Advance America (AEA) proved to be a bonanza for anyone who got in when the stock was at 86 cents. It’s now at $4.50. That’s a perfect example of the irrationality that hit the market earlier this year. The company was being price below liquidation value. The company’s primary challenges are expanding their monoline operation. With the PDL market saturated, they’ll need to expand into other countries, close underperforming stores, cut expenses (they’ve already started this, to strong effect), and offer some innovative services. Management is the most experienced there is, so I am not concerned for them in the long term. I think they’re fairly value at the moment, but as soon as I see some more initiatives – such as piggybacking on CashNetUSA’s online business – I’ll probably jump in. In the meantime, I think $4 is a pretty solid floor, so selling naked puts here could be one way to go. QC Holdings (QCCO) is basically in the same situation.

World Acceptance Corporation (WRLD) is an installment lender, not a payday lender, but I cover it because it's in the same arena. The company's loan loss provisions have crept up during this time of economic difficulty, but they're seeing about 13% growth, which should put the stock at around $40. Instead, it's hovering around $20. The good news is the stock can be had very cheap at this point, so cheap that management has extended a buyback. I bought more last week and have half my position sold to covered calls.

All of these stocks have great balance sheets, easily servicing whatever debt they have through cash flow.

Federal Legislative Outlook

The foolish and destructive 36% rate cap legislation in both houses seems doomed to die, as it should. Sen. Durbin tried to tack on a rate cap amendment to the credit card bill and had to withdraw it, indicating that Congress realizes it’s a stupid, credit-constricting move. So even though Sen. Dodd signed on as a co-sponsor of Durbin’s bill, in obvious fear of the NY Times and Huffington Post editorial boards, it probably won’t make any difference. He sees it as a way to save face with his critics, while knowing that the bill wouldn’t be likely to pass. If the bill ever gets heard, and he allows it to be heard in the finance subcommittee rather than leapfrog it to the full committee which he chairs, then we’ll know for certain. I’m not worried.

Over in the House, the Gutierrez bill is scheduled for markup. I’m not a fan of this bill and, in fact, neither is the industry nor opponents. Although the $15 per hundred cap doesn’t kill the industry, it will hurt smaller mom-and-pops who don’t have the economies of scale of the big boys. I’m also opposed to it because, quite frankly, this is a state issue.

State Legislative Outlook

South Carolina’s governor vetoed a bill that limited borrowers to one loan at a time and a certain number per year, while raising the amount that could be borrowed, along with other consumer protections. Advance America publicly announced its support for this bill, especially because it will force out the operators that aren’t playing by the rules. The bill’s package of reforms and protections are a good paradigm for other states.

Texas’ legislature adjourned for two years without any change to that state’s laws regarding PDL, and rightly so.

Wisconsin’s Rep. Gordon Hintz introduced a 36% rate cap bill. I wrote the Congressman pointing out why this was a mistake. He asked for evidence of my assertions as they seemed to contradict the reports he received. I sent him comprehensive data, but he has yet to respond. Hopefully this is just a case of an uneducated lawmaker, rather than an grandstanding politician who thinks he’s doing the right thing.

Speaking of grandstanding politicians, Ohio Rep. Matt Lundy’s ill-advised bill to kill PDLs arrived with all the fanfare of a clay pigeon being blown to smithereens. Legislators on both sides of the aisle are kicking it to the curb, even those that supported the equally ill-advised law that tried to kill PDLs last year. Lundy tried to grab the spotlight because he’s proven to be a useless political hack. He isn’t particularly savvy, either. The Ohio law grew out of political payback, so trying to jump on its bandwagon isn’t the wisest move.

Overall, the industry is fine, but faces more challenges from the fact that the PDL market has maxed out at the storefront level than from legislation.

Full Disclosure: Long EZPW, FCFS.