We all saw this article the other day which discussed a US Census Bureau report that says more than half of the population is now considered "Low Income," defined as those earning at or near the poverty level.
It is logical, as part of any well-rounded portfolio to position some investments to take advantage of demographic trends, and there are a number of companies that are known for targeting this (unfortunately) growing group, including Procter & Gamble (PG) McDonald's Corporation (MCD), and Wal-Mart (WMT).
The problem with these particular companies is that they are huge, and they are at the flat part of their growth curve, so they are going to be hard pressed to grow at a rate faster than the overall economy.
So, the project of the day is to find some alternate investments that are occupying a space in the market that could benefit from increased numbers of "Low Income" consumers, and are still small enough to generate growth, and therefore make investors some more money.
Here are some suggestions:
Dollar General Corporation (DG)
This company is everyone's favorite, because they have found a niche in the marketplace below Wal-Mart and above the Convenience Stores. They've taken advantage of some opportunities in rural communities that are too small to support a big box store, and also made some inroads in urban areas. Low income shoppers prefer smaller stores, and because of high fuel costs, may prefer to shop locally rather than travel to the nearest Wal-Mart. Their stores are clean and pleasant, have a reasonable selection of food and clothing items, and are run with minimal staffing.
|Op Free Cash Flow||$1.03B||$24.29B|
|Est Rev Growth Next Yr||16.40%||9.40%|
|Med Analyst Est||46||62|
Dollar General has nearly twice the operating profitability of Wal-Mart, is throwing off cash at a rate 33% higher than Wal-Mart, relatively speaking, and is growing at very nearly twice the annual rate. The analysts are suggesting a 12% price improvement for DG next year, compared with pocket change for WMT.
Note: The analysts estimates throughout this article are from Yahoo Finance.
Everybody loves DG, and that is the problem. The stock is trading at its 52-week high, and as a result is pricey. Also, as the company gets bigger the challenge will be to grow in a controlled way, and that includes access to our fragile financial markets, which are chaotic at the moment.
Advance America Cash Advance Centers Inc. (AEA)
This is one of the leading companies that serves the important function of lending people short-term money who otherwise would not be able to get it. According to the company website its customers give its transactions a 97% positive experience rating, which, is better than my personal experience with several of the conventional banks in the country. I have compared it below to Wells Fargo Corporation (WFC), one of the country's major banks, whose business, from what I understand, it is to lend money to people who already have it.
|Est Rev Growth Next Yr||13%||0.00%|
|Med Analyst Estimate||10.5||32|
AEA is only a half-billion-dollar company, less than 1% of the size of Wells Fargo and is making a gross margin of 71% on its loan portfolio, twice that of WFC. Based on the Yahoo Finance analyst estimates, AEA's revenues are growing at an expected rate of 13% next year, a doubling in size in under 6 years. Analysts estimate a 10% or so upside in the next year.
This company is part of the so-called "payday loan" industry and as a result is subject to scrutiny by various consumer groups. It is of some concern that this ostensibly profitable business can only get 18% of its 71% margin to the bottom line, partly because they have to operate a lot of retail locations, but there has also been some criticism of executive compensation. A further consideration is that like the RMBSs that we analyzed recently, borrowing costs are at an unprecedented low level, and any increases in interest rates will adversely affect their margins.
Still, this business performs an important service to a growing segment of the market, the customers are on the whole delighted with the service, and there are worse businesses to be in.
America Movil S.A.B. de C.V. (AMX)
This is not a small company, it is over $82B in market capitalization, but I am throwing it into this group because they are the marketers of the Tracfone, which is a prepaid, low-cost cellphone service that is primarily sold from kiosks in Wal-Mart targeted at low-end consumers. Tracfone is not quite 10% of AMX's business, but grew by 2.7% between the second and third quarters, and 15% year on year. The majority of AMX's business is cellphone service all throughout Latin America and Brazil, which in and of itself has its risks and merits.
|Est Rev Growth Next Yr||21.00%||15.90%|
|Med Analyst Est||28.25||40|
Compared to its North American competitor Verizon (VZ), it has similar operating margins but a higher bottom line as a percentage of sales, a 1/3 higher growth rate, and with a lower PE, the stock is cheap,
There is some evidence that low income users actually are using the Iphone in great numbers, as an alternative to PC usage, so it may be that the use of the Tracfone is limited to the frugal, and not necessarily to the low income. Apple Corp (AAPL) is developing a low cost I-phone as an alternative to the PC. Other cellphone service providers, recognizing the importance of customer loyalty and retention, are introducing special cellphone plans for low income consumers. An additional problem: Peso Peril. Being a Mexican company, the stock is vulnerable to declines in the peso.
Cott Corporation (COT)
Cott Corporation is North America's largest producer of "store brand" soft drinks, which are a lower-end alternative to the household names with which we are all familiar. They have a long term relationship with Wal-Mart and for several years have been the exclusive producer of Great Value brand soft drinks. However, effective January 2012 their exclusivity agreement is expiring, the company will still retain a big portion of the business, but there will be a phase-in period for alternate suppliers. Last summer, Cott Corporation purchased Cliffstar Corporation a competitor who was better positioned in the "store brand" fruit juice business.
|Op Free Cash Flow||$135.5M||$9.11B|
|Est Rev Growth Next Yr||4.30%||4.40%|
|Med Analyst Est||9||75|
You can see Cott's biggest problem, compared to its much more famous and much bigger rival Coca Cola (KO), COT's profit margins, producing essentially the same type of fizzy sugary water are only a fraction of Coke's because of very low levels of "individual servings," as well as the problem of being exclusively tied in to Wal-Mart, who is known for its aggressive treatment of suppliers and who has made up 30% of the company's sales volume.
So you can see the strategy unfold: Replace some of Wal-Mart's carbonated beverage business with Cliffstar's juice business, which carries margins of 10-15%, according to the management's discussion. Do the cost-reduction and rationalization of assets, and in time things will be looking up.
The Wal-Mart demarketing has happened over a period of three years, and the Cliffstar acquisition was more recent, but as someone who has sat in meetings in which the demarketing of Fortune 10 customers has been discussed I can respect the nerve of the management in making the decision, and would also say that when something like this happens, it is never 100% intentional, and is quite frequently good. Things have a way of working out.
COT generates cash at the same rate as Coke, relative to its size, its growth rate is similar, and the stock is cheap right now. The analysts are seeing a 39% price increase this year as some of the transaction costs associated with the Cliffstar transaction work through the system and stop showing up on the books. According to the management it will take a couple of years to get the entire system at its maximum level of efficiency, so it may be a bit early for the stock. Then again, maybe not.
The main problem COT has is when the major soft drink companies run a price promotion, and the difference between the name-brand and store-brand soft drinks is sufficiently small that the low income consumer will splurge and pay the difference. There are two other headwinds, as the management presentation above says: their raw material supply, mainly sugar, is a commodity and influenced by all of the things that influence commodities, and also their packaging costs are influenced by the cost of PET resin, which is a petroleum derivative. HQ for this company is in Canada, any currency risk goes the other way, thanks to the strong Canadian economy.
As we are so fond of saying, the world is chaotic and there are no guarantees on anything but there might be some opportunities in the "Low Income Consumer" segment for those who wish to see them.
Additional disclosure: I just have to love the story on COT, and am going to put in a stop order at below the current market price and buy on a pullback, since I am in no hurry and since we have had a few days of up-market.