The rent-to-own sector has always been a favorite of mine, at least as far as the business model is concerned.
Customers who cannot afford to purchase new appliances go to a rent-to-own store, and rent the appliance instead. If they later choose to buy the product, they have that option. Along the way, the rental fees collected (even if the product is returned and re-rented) vastly exceed the purchase price the merchant paid for it. In fact, the merchant probably got a bulk discount for purchasing it. In many ways, it’s like timeshares for appliances — and timeshares make a lot of money.
Alas, the rent-to-own industry is mature, with thousands of stores spread across the country. Competition grew here pretty quickly, because capital recognized that lending money to these outfits was a pretty secure investment. In the worst-case scenario, appliances were re-possessed for failure to pay, so there was some collateral even though it was a depreciating asset.
Now that the industry is mostly in the hands of large chains, private equity is moving in for buyouts, eager to take over chains that may have inefficiencies but that, regardless, generate the cash flow that private equity loves. Here are three of the best-looking rent-to-own stocks:
Aaron’s (AAN) just rejected a $30.50 buyout offer from PE firm Vintage Capital. Vintage was going to mount a proxy contest, Aaron’s sued, and Vintage has dropped the matter entirely. AAN is excited about its recent acquisition of Progressive Finance, moving into the online rent-to-own space, where private firms like WhyNotLeaseIt.com have been doing very well.
Aaron’s has been struggling with its top and bottom lines. However, it sits on $343 million in cash, or about $5 per share. It has recaptured solid free cash flow after stumbling in 2012. EPS growth is projected at 7% this year, 30% next year and 8% for the long term. The jump next year is likely an overinflated expectation regarding the Progressive purchase.
Backing out cash, AAN trades at 12.5x this year’s earnings. I think AAN stock is pricey here at $30 per share, but given the private equity valuation of $30.50, I think it’s worth considering. I’d prefer a lower entry point, though.
With that PE acquisition attempt, it’s no surprise that Conn’s (CONN) just picked up a sizable investment from Greenlight Capital. Conn’s is a tiny player, with only 75 locations compared to Aaron’s 2,115. As a smaller company, it has room to grow and plans to expand its store base to 300 in a few years.
Unlike its massive counterparts, CONN stock revenues are growing quickly. In FY14, revenues were up 38%, same stores sales were up an astonishing 26.5%, and EPS increased 63%. EPS is slated to grow 40% this years, and 30% the year after. I think this undiscovered growth play is worth buying into at only 15x this year’s earnings.
Rent-A-Center (RCII) is the gorilla of the space, with more than 3,000 stores in the U.S. and Mexico, as well as Puerto Rico. The Q1 report was disappointing, with earnings that fell 28% year-over-year on revenue that grew only 1.8%, and comps were down 0.8%. However, the stock jumped almost 10% on Tuesday, which may have to do with the news of Greenlight’s investment.
But even with dismal sales numbers, RCII stock is attractive because it continues to generate a lot of operation cash flow — projected to be above $325 million this year. That’s why it pays (and should continue to pay) its 3% dividend. It is on solid enough ground to be a good retirement play.
As of this writing, Lawrence Meyers was long CONN. He is president of PDL Broker, Inc., which brokers financing, strategic investments and distressed asset purchases between private equity firms and businesses. He also has written two books and blogs about public policy, journalistic integrity, popular culture, and world affairs. Contact him at email@example.com and follow his tweets at @ichabodscranium.