One 'Pawn Shop' Stock to Buy Before the Market Bounces Back

Mar.21.11 | About: First Cash (FCFS)

The market is correcting, money is tight, and yet First Cash Financial Services (NASDAQ:FCFS) has never performed so well. Maybe someone forgot to tell investors that this stock has 0.83 beta and should be following the market somewhat. Or maybe the "informed investor" looked behind the curtain to see what is pushing this pawn and small loan company upwards.

FCFS vs. The Market

The share prices are trading at the mid-30’s and have jumped almost 12% in the past week while the market on average has dumped roughly 2% if you track the S&P 500 index or the SPX. What is making this stock such a great play?

Overvalued by the Long-term Financial Multiples?

The stock might look overvalued when analyzing the long-term multiples. The price to earnings ratio is over 20% higher than its 7 year average and 13% higher than the industry average. The price to book ratio is 40% higher than its 7 year average. Even the price to sales ratio is 37% higher than the 7 year average.

Compare this to the PE ratios to competitors Cash America International (NYSE:CSH) of 11.5 and EZCORP (NASDAQ:EZPW) of 13.85. Their price to sales ratios are only a fraction of FCFS at 0.95 and 1.76 respectively.

Does that make the stock overvalued by 20 – 40%? Hardly. Let’s look a bit deeper than surface paint.

Forward-looking Growth

First Cash Financial Services is starting to ramp up growth. Earnings were recently revised upwards for 2011 by roughly 5%. They expect sales to increase also.

FCFS is about to sell 10 short-term loan stores in the Illinois to get out before new regulations eat into profit margins. They will then go about investing into more lucrative pawn shops to boost earnings. They will also engage in repurchasing shares.

The last 5 years have averaged 15.45% earnings growth but the next 5 years, according to 3 analysts, should have 19% annual growth. As the proportional increase in earnings accelerates, a higher price multiple valuation is warranted. I also really like the direction that management is taking to aggressively dumping stores about to give them grief and to go after the most profitable areas of their business. I also appreciate that they want to increase shareholder wealth at the same time.

Margins, Liquidity, and Debt

But are there some skeletons hiding in the ratios? The long-term debt to equity is almost nil and less than 3% of the industry average. The current ratio used for liquidity is over 4 times better than the industry average. Return on equity is over twice as good, and return on assets is over 15 times better. Even net profit margins are over 12 times higher than industry averages.

Clearly, this stock has very good liquidity, high relative margins, and low debt. Add to that, they have been internally improving their margins, liquidity, and debt over the past year and recent quarter.

Although the numbers I have are slightly higher for FCFS than this one source, look at how FINVIZ compares the Credit Service companies with market caps over 1 billion. As you can see, FCFS is a strong contender right across the board with return on equity, return on assets, and return on investments.

Name

Ticker

Market Cap (mil)

Dividend Yield

Return on Assets

Return on Equity

Return on Investment

First Cash Financial Services

FCFS

1148.14

18.12%

21.26%

20.52%

Credit Accept Corp Mich

CACC

1880.19

13.50%

34.98%

15.95%

World Acceptance Corp

WRLD

954.2

12.60%

22.76%

13.26%

Cash America International

CSH

1242.78

0.33%

8.55%

15.68%

9.52%

Advance America

AEA

325.15

4.79%

8.15%

15.98%

9.42%

Experian Group

ECPG

594.5

7.37%

17.97%

7.72%

Equifax Inc.

EFX

4411.28

1.78%

6.97%

14.29%

7.92%

Fifth Street Finance

FSC

723.49

9.74%

4.86%

6.17%

6.17%

American Express

AXP

53110.45

1.63%

2.98%

26.15%

3.28%

Alliance Data

ADS

4148.18

2.90%

132.25%

5.21%

Capital One Financial

COF

23347.72

0.39%

1.66%

11.48%

Discover Financial Services

DFS

11995.5

0.36%

1.43%

9.73%

Dollar Financial

DLLR

786.38

1.11%

5.94%

1.24%

PHH Corp.

PHH

1198.19

0.78%

3.14%

0.83%

Nelnet Inc.

NNI

1029.16

1.32%

0.73%

22.21%

0.73%

NewStar Financial

NEWS

539.05

0.50%

1.86%

SLM Corp.

SLM

7766.65

0.32%

12.58%

0.38%

Capital Source Inc.

CSE

2227.88

0.58%

-1.29%

-6.63%

Student Loan Corp.

STU

648.8

4.32%

-1.35%

-39.90%

-1.64%

Click to enlarge

Valuations

The price to earnings to growth ratio is recommended to be around 1. Both with past growth and forward looking growth, this is in the ball-park of 1. The trailing PE is equal to past and future earnings estimates. We only use forward growth for the PEG ratio, but its good to know that past growth has been good when looking at today's multiple.

For the price valuation, we will use PE since the other multiples have proved to be more volatile and PE is more stable to use right now. With current EPS expectations this year at $2.176, we have a share price valuation of $45.70 using a current PE multiple of over $43. Today’s price is a 17.5% discount giving a good margin of safety.

This estimate is not including some possible earnings surprises that could come from switching to the more profitable businesses. Also, don’t discount the momentum that can be created from share buybacks. And if you like momentum investing, check out the last 9 months of price action. Based on that alone this stock should continue to outperform over the next year, and not to mention the relative strength shown during this down market.

FCFS … forget what the headlines are saying about a market correction and keep on bucking the trend! The only thing falling from your sky is little trinkets you can sell at the pawn shop.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.