Cash Store Financial CSF CN
October 06, 2008 - 11:01am EST by
hudson1008
2008 2009
Price: 4.90 EPS
Shares Out. (in M): 0 P/E
Market Cap (in $M): 94 P/FCF
Net Debt (in $M): 0 EBIT 0 0
TEV ($): 0 TEV/EBIT

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Description

Cash Store Financial (TSX:CSF) is a publicly traded payday lending company based in Edmonton and traded on the Toronto Stock Exchange. The C$94MM market cap company has no active sell side coverage and is not widely followed by institutional investors. However, the company’s performance has been greatly improving after some hiccups a few years ago and there are several catalysts that should make this stock a double over the next 12-18 months. CSF is also the most attractive acquisition candidate for US strategics that want a footprint in the underpenetrated Canadian market once the regulatory process is finalized (expected in the next 12 months). The company currently trades at about 2.3x forward EV/EBITDA and a 31% unlevered FCF yield and is using cash to actively repurchase stock and pay dividends to shareholders. We believe that a few more quarters of improved performance, upcoming investor meetings and aggressive share repurchase will drive the stock significantly higher over the next several quarters. Also, it is important to note in this environment that the company has no debt, $16MM in cash and generates a ton of FCF.
 
 
 
9/3/2008
 
 
Jun-08
Jun-09
Current price per share
               4.80
 
EBITDA
26.3
34.7
Diluted Shares outstanding
               19.5
 
 EPS
           0.62
             0.99
Current market value
               93.7
 
EV/EBITDA
3.0x
2.3x
 
Debt
                  -   
 
P/E
7.8x
4.9x
 
Cash
              (15.6)
 
FCF Yield
11.0%
30.9%
TEV
               78.1
 
Div Yield
3.6%
 
 
 
 
 
 
 
Company Overview
CSF operates 384 payday loan stores throughout Canada, which represents nearly 30% of the estimated 1300 outlets in Canada (Dollar Financial is the largest player in Canada with 419 stores, but also operates in the US and UK).
 
For those not familiar with the industry, you might be surprised by the demographics of the typical customer, which look remarkably similar to median education and income levels. Based on a Canadian study conducted by Pollara, the average customer has household income of $40-45k and over 50% have post-secondary educations. Nearly all have checking accounts and the vast majority are employed full-time. The demand for short term credit is acute, as many customers have typically bounced checks, paid late fees, or overdraft fees to essentially “finance” their short-term credit needs. A payday loan is quick, with convenient locations/hours, and has high customer satisfaction. Generally, a customer comes in requesting about $300 and writes a post-dated check on their next payday (10-18 days) for the loan amount plus the fee (generally $20-25/$100 borrowed). The customer either returns to the store to pay off the loan in cash on their payday or the store deposits the post-dated check on the applicable date. The credit process verifies employment, income level, contact information, references and an active checking account. There are no traditional FICO-like scoring models utilized for these products.
 
 
Store-Level Economics
 
De novo stores generally take 6-9 months to breakeven and take 2-3 years to ramp up their portfolio. The mature stores generate in excess of $400k of revenues with a 35% contribution margin and a 38% branch level EBITDA margin. CSF spends about $50-60k for leasehold improvements and $50-$100k for start-up losses, resulting in a quick payback and a ROI that most retailers can only dream of.
 
Revenue
     400.0
 
Opex
     200.0
50.0%
Bad Debt
       60.0
15.0%
Branch Op. Inc
     140.0
35.0%
D&A
       12.0
3.0%
Branch EBITDA
     152.0
38.0%
 
The company provides good disclosure on the store-level operating performance by vintage. The key takeaway is that the company has tremendous earnings growth potential by virtue of the improvement in revenues and branch operating income over the next few years as their 2005-2008 stores approach maturity. I estimate that the existing store base will grow branch level operating income by $17MM (42%) over the next few years, and this is without any assumption of continued same-store sales growth or further reductions in loan losses, which the company believes they will see.
 
 
 
 
June 2008 per/store ave ($000)
 
Vintage
Stores
Revenue
Branch EBIT
Margins
 
2001-2004
              201
            412
            143
34.8%
 
2005
                69
            344
             91
26.6%
 
2006
                55
            301
             62
20.7%
 
2007
                27
            231
             15
6.6%
 
2008
                32
            180
              (8)
-4.7%
 
Total
              384
            352
            101
28.6%
 
 
 
 
 
 
Existing store Base @ Maturity
     158,311
       55,075
34.8%
 
Regulatory Environment
 
Some investors have shied away from the US payday companies because of an increase in the perceived regulatory risk. In Canada, the trend is quite the opposite and I expect the regulatory environment will be certain and stable within the next 12 months. I expect valuations to improve substantially and would expect CSF to be approached by several strategic and financial buyers once everything unfolds.
 
Federal Legislation
The payday loan industry was essentially unregulated prior to 2007, yet the industry ballooned from several hundred stores in 2000 to nearly 1,200 stores by 2007. The constraint to make expensive short-term loans was regulated by section 347 of the Criminal Code of Canada, which criminalizes the charging of usurious interest rates above 59% APR. Obviously, 59% APR does not work for fee-based 2-week loans and would not cover the overhead or loan losses associated with providing this type of credit. To operate legally, CSF utilized the “broker model” whereby CSF charged a 20% origination fee to arrange a 59% APR loan provided by an independent third-party lender. CSF voluntarily made retention payments to the 3rd party lenders as an inducement for them to make these loans and to reimburse them for loan losses. This is very similar to the “CSO model” used in Texas by virtually all of the US operators.
 
While the company has legal precedent to use this model, there has always been a concern that perhaps this loophole would be closed off, even though their had never been any enforcement of S347 by the government. Starting in 2006, the Federal government starting reviewing their approach towards the industry and concluded that they would be better off regulating the industry at rates that allow the industry to exist and be competitive, but provide better protection and disclosure for consumers. In May 2007, Bill C-26 received royal assent and went into force.
 
Bill C-26 exempts payday loan firms from the federal 59% APR cap for loans under $1500 and under 62 days in maturity. The federal government pushed the decision on rate caps and the exact consumer protection measures down to each province. Thus, to technically be exempt from the 59% APR cap, each province must 1st pass their own legislation and the payday lender must be licensed in the relevant province.
 
The best resource for following the legislation is the CPLA website:
http://www.cpla-acps.ca/english/home.php
 
Provincial Legislation
Most of the provinces have passed legislation with the licensing requirements, disclosure and consumer protection issues, but progress has been slower than expected on the rate cap decisions. Most provinces are holding hearings to discuss the rate cap in front of public utility boards. The industry is well represented by the Canadian Payday Loan Association (CPLA), CSF and some smaller private operators. The industry has also come well prepared with studies from Deloitte & Touche, E&Y and several academic and market studies. The D&T study shows the average cost of providing a payday loan is $26-$27/$100, which reflects the lack of scale of the many small competitors in the industry (I estimated CSF’s cost/$100 to be in the $15-$17 range). While there is some consumer advocate resistance, the CPLA and industry has been proactive about self-regulation and pushing for enabling legislation and seem to have a compelling basis for a favorable rate environment. Unlike the US, the directive is that the industry needs to exist and the regulations should allow competition among reasonable operators, while weeding out the extreme fees or operators who don’t play by the rules. Based on our survey of operators, we generally find Dollar Financial to charge the lowest fees at about $20-$22/$100, CSF at $22-$25/$100 and smaller operators at $25-$32/$100.
 
Thus far, only 2 provinces have passed rate caps and the decisions are on the far end of the spectrum. Manitoba was 1st and came out with a $17/$100 cap, which was blasted by the industry and is currently under appeal. I believe industry has a viable case in winning the appeal and it appears the 3-person committee overstepped their boundaries and didn’t follow their mandate from the Finance Minister of Manitoba (which clearly stated that the government should not drive companies out of business, that consumers show an interest in having the service and that the service should be offered in a way that is “just and reasonable”). The decision from the committee admitted that many small operators will have to shut down and offered no quantitative reasoning for their rate.
 
Nova Scotia was the next province to rule and had the chance to even reconsider their thoughts after the Manitoba ruling was announced. Nova Scotia announced a $31/$100 cap which they believed will promote a competitive industry while pruning some of the bad apples. They specifically denounced Manitoba’s decision in a harshly-worded commentary. This was viewed as a strong positive for the industry and is more consistent with the approach we believe is being taken by the provinces that are still under debate. While the exact timing of future decisions is uncertain, we believe there will be 1-2 more data points by year-end with the rest of the provinces ruling in 1H 2009. Our expectation is for most of the provinces to cap rates in the mid-$20’s to low $30’s with some likelihood of a province or 2 coming in with a lower rate. It is important to note however, that there are no provinces that are even discussing a rate as low as Manitoba and there is virtually no risk of an industry killing bill like we see in the US.
 
It’s also important to note that in the case of a lowball rate in 1-2 provinces, CSF’s financial impact will be mitigated by the fact that they will be the last man standing (along with Dollar Financial) and thus should see loan volumes increase dramatically and wouldn’t likely see a material decline in profitability (although its clearly a bit of a wildcard). Almost all of the mom & pop operators in Manitoba will close if the ruling is not successfully appealed, given their higher cost structures and lack of scale. In addition, CSF can charge higher optional/ancillary fees to increase the total fee charged to consumers.
 
Management/Ownership
CEO Gordon Reykdal owns 18% of the company and management/board members own another 5-6%. In addition, 2 US funds own 23% (per Bloomberg), thus the float is probably only 50-55% of the 19.3MM outstanding shares. We think that management is competent (though not spectacular), and has delivered on their promises of improved performance and returning cash to shareholders. They have focused actively on improving the 4-wall economics through process improvements and investments in systems and regional support. CSF has not directed much attention to investor relations or sell-side coverage (and has been buying back their stock on the cheap), but plans to hit the road and meet with US and Canadian investors this fall which should get the story out more broadly.
 
 
Financial Performance / Price Target
 
CSF recently reported their Q4 and FY June 2008 results, which showed continued momentum in same stores sales as well as improving branch-level margins and overhead leverage. The company has reduced loan losses 12.2% of brokerage revenues in Q4 and expects that trend to continue in FY 2009. The improvements have been primarily company-specific improvements such as development of an internal collections department, more focus on proactive client management (i.e. calling the customer to set a specific time to repay the loan) and reducing loan sizes to 1st time customers (it’s hard to burn a payday lender more than once). Our assumptions for FY 2009 are 3% comp sales growth, loan losses of 12.7% of revenues (down from 15.4% in FY 2008 but up from 12.2% in Q4) and 54 new stores. The book tax rate should return to a more normalized 33-34% and the company will be able to utilize $4.5MM of NOLs to shield cash taxes. We are projecting EBITDA of $34.6MM and FCF of $24MM. The company has been aggressively repurchasing stock and intends to do so for the foreseeable future. CSF has repurchased 1.6MM shares since July 2007 (representing 8% of total shares) and has about 1mm shares left on their authorization. The company also has a 17.5c/yr dividend and is selectively looking at small tuck-in acquisitions. We believe the company will be valued at $11-12 (6x EBITDA / 10% FCF Yield) by the end of FY June 2009 if they reach their financial targets and the regulatory process heads in the direction we expect. Based on conversations with bankers and industry consultants, we expect strategic interest from several publicly traded and private-equity backed payday firms based in the US once the remaining provinces announce their rate caps.

 
 
 
FY
 
 
 
 
FY
FY
 
 
2007
Sep-07
Dec-07
Mar-08
Jun-08
2008
2009
 
Broker Fees
    103,672
    27,238
    27,079
         25,949
    28,617
    108,883
    124,407
 
Other Revenue
      19,826
      4,943
      5,512
           5,356
      5,873
      21,684
      23,419
 
Interest Income
            64
          57
          83
               41
          52
          233
          200
Total Revenue
    123,561
    32,238
    32,674
         31,346
    34,542
    130,800
    148,026
 
 
 
 
 
 
 
 
 
 
 SG&A
      14,704
      4,000
      3,920
           4,431
      4,270
      16,621
      18,000
 
 Rent
       9,205
      2,450
      2,464
           2,591
      2,773
      10,279
      11,500
 
 Advertising
       4,023
      1,000
      1,050
           1,012
      1,066
       4,128
       4,400
 
 Salaries and Benefits
      33,656
      8,529
      8,830
           8,627
      9,413
      35,399
      40,558
 
 D&A
       3,596
      1,055
      1,196
           1,063
      1,111
       4,425
       4,750
 
Branch Expenses
      65,184
    17,034
    17,460
         17,724
    18,635
      70,853
      79,208
 
 Retention Payments
      23,418
      5,792
      5,290
           4,800
      4,229
      20,111
      18,740
 
Total Store Expenses
      88,602
    22,826
    22,750
         22,524
    22,864
      90,964
      97,948
 
 
 
 
 
 
 
 
 
 
Store Contribution
      34,959
      9,412
      9,924
           8,822
    11,678
      39,836
      50,078
 
Store Margin
28.3%
29.2%
30.4%
28.1%
33.8%
30.5%
33.8%
 
 
 
 
 
 
 
 
 
 
Overhead
      21,529
      4,140
      4,760
           4,791
      5,752
      19,443
      21,590
 
 
 
 
 
 
 
 
 
 
EBITDA
      19,021
      6,584
      6,638
           5,435
      7,616
      26,273
      34,665
 
EBITDA Margin
15.4%
20.4%
20.3%
17.3%
22.0%
20.1%
23.4%
 
 
 
 
 
 
 
 
 
 
Pre-Tax Income
      13,430
      5,272
      5,164
           4,031
      5,929
      20,396
      28,488
 
 Taxes
      (4,760)
     (1,855)
     (1,958)
          (1,323)
     (2,734)
      (7,870)
      (9,544)
 
Net income
       8,670
      3,417
      3,206
           2,708
      3,195
      12,526
      18,945
 
 
 
 
 
 
 
 
 
 
 Diluted Shares
         20.7
        20.8
        20.3
             20.2
        19.8
         20.2
         19.2
 
EPS
         0.42
        0.16
        0.16
             0.13
        0.16
         0.62
         0.99
 
 Stores
          358
         361
         367
              378
         384
          384
          438
 
 
 
 
 
 
 
 
 
Cash Flow
2007
Sep-07
Dec-07
Mar-08
Jun-08
2008
2009
 
Add: EBITDA
      19,021
      6,584
      6,638
           5,435
      7,616
      26,273
      34,665
 
Less: interest expense
            58
          89
         155
               86
          73
          403
          338
 
Less: cash taxes
      (6,445)
     (3,372)
     (2,413)
             (101)
           (0)
      (5,886)
      (3,134)
 
Working Capital and Other
      (2,053)
     (2,002)
     (2,620)
           3,953
     (5,511)
      (6,180)
      (2,000)
Operating Cash Flow
      10,581
      1,300
      1,760
           9,373
      2,178
      14,611
      29,869
 
 
 
 
 
 
 
 
 
 
Less: capex
      (3,332)
     (1,100)
     (1,605)
          (1,820)
     (1,261)
      (5,786)
      (5,700)
 
Other,net
            -  
           -  
           -  
              (15)
        (180)
         (195)
            -  
Free cash flow
       7,249
         200
         155
           7,538
         738
       8,630
      24,169
 
 
 
 
 
 
 
 
 
 
Debt Issued/(Repaid)
         (151)
         (38)
         (39)
              (23)
         (12)
         (111)
             (7)
 
Equity Issued
          302
     (1,494)
     (2,080)
          (1,528)
        (674)
      (5,776)
      (6,000)
 
Dividends
 
     (2,062)
        (504)
             (495)
        (492)
      (3,552)
      (3,395)
 
Disc Ops
      (1,480)
        (212)
        (235)
          (1,753)
            0
      (2,200)
            -  
Change in Cash
       5,920
     (3,606)
     (2,703)
           3,740
        (440)
      (3,009)
      14,767
 
 
 
 
 
 
 
 
 
Beg Cash
      12,734
    18,653
    15,047
         12,344
    16,084
      18,653
      15,644
Ending Cash
      18,653
    15,047
    12,344
         16,084
    15,644
      15,644
      30,410
 
 
 

 

Catalyst

Catalysts: Regulatory clarity, strong near-term performance, investor road shows / new sell-side coverage, potential strategic take-out in 2009/2010
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    Description

    Cash Store Financial (TSX:CSF) is a publicly traded payday lending company based in Edmonton and traded on the Toronto Stock Exchange. The C$94MM market cap company has no active sell side coverage and is not widely followed by institutional investors. However, the company’s performance has been greatly improving after some hiccups a few years ago and there are several catalysts that should make this stock a double over the next 12-18 months. CSF is also the most attractive acquisition candidate for US strategics that want a footprint in the underpenetrated Canadian market once the regulatory process is finalized (expected in the next 12 months). The company currently trades at about 2.3x forward EV/EBITDA and a 31% unlevered FCF yield and is using cash to actively repurchase stock and pay dividends to shareholders. We believe that a few more quarters of improved performance, upcoming investor meetings and aggressive share repurchase will drive the stock significantly higher over the next several quarters. Also, it is important to note in this environment that the company has no debt, $16MM in cash and generates a ton of FCF.
     
     
     
    9/3/2008
     
     
    Jun-08
    Jun-09
    Current price per share
                   4.80
     
    EBITDA
    26.3
    34.7
    Diluted Shares outstanding
                   19.5
     
     EPS
               0.62
                 0.99
    Current market value
                   93.7
     
    EV/EBITDA
    3.0x
    2.3x
     
    Debt
                      -   
     
    P/E
    7.8x
    4.9x
     
    Cash
                  (15.6)
     
    FCF Yield
    11.0%
    30.9%
    TEV
                   78.1
     
    Div Yield
    3.6%
     
     
     
     
     
     
     
    Company Overview
    CSF operates 384 payday loan stores throughout Canada, which represents nearly 30% of the estimated 1300 outlets in Canada (Dollar Financial is the largest player in Canada with 419 stores, but also operates in the US and UK).
     
    For those not familiar with the industry, you might be surprised by the demographics of the typical customer, which look remarkably similar to median education and income levels. Based on a Canadian study conducted by Pollara, the average customer has household income of $40-45k and over 50% have post-secondary educations. Nearly all have checking accounts and the vast majority are employed full-time. The demand for short term credit is acute, as many customers have typically bounced checks, paid late fees, or overdraft fees to essentially “finance” their short-term credit needs. A payday loan is quick, with convenient locations/hours, and has high customer satisfaction. Generally, a customer comes in requesting about $300 and writes a post-dated check on their next payday (10-18 days) for the loan amount plus the fee (generally $20-25/$100 borrowed). The customer either returns to the store to pay off the loan in cash on their payday or the store deposits the post-dated check on the applicable date. The credit process verifies employment, income level, contact information, references and an active checking account. There are no traditional FICO-like scoring models utilized for these products.
     
     
    Store-Level Economics
     
    De novo stores generally take 6-9 months to breakeven and take 2-3 years to ramp up their portfolio. The mature stores generate in excess of $400k of revenues with a 35% contribution margin and a 38% branch level EBITDA margin. CSF spends about $50-60k for leasehold improvements and $50-$100k for start-up losses, resulting in a quick payback and a ROI that most retailers can only dream of.
     
    Revenue
         400.0
     
    Opex
         200.0
    50.0%
    Bad Debt
           60.0
    15.0%
    Branch Op. Inc
         140.0
    35.0%
    D&A
           12.0
    3.0%
    Branch EBITDA
         152.0
    38.0%
     
    The company provides good disclosure on the store-level operating performance by vintage. The key takeaway is that the company has tremendous earnings growth potential by virtue of the improvement in revenues and branch operating income over the next few years as their 2005-2008 stores approach maturity. I estimate that the existing store base will grow branch level operating income by $17MM (42%) over the next few years, and this is without any assumption of continued same-store sales growth or further reductions in loan losses, which the company believes they will see.
     
     
     
     
    June 2008 per/store ave ($000)
     
    Vintage
    Stores
    Revenue
    Branch EBIT
    Margins
     
    2001-2004
                  201
                412
                143
    34.8%
     
    2005
                    69
                344
                 91
    26.6%
     
    2006
                    55
                301
                 62
    20.7%
     
    2007
                    27
                231
                 15
    6.6%
     
    2008
                    32
                180
                  (8)
    -4.7%
     
    Total
                  384
                352
                101
    28.6%
     
     
     
     
     
     
    Existing store Base @ Maturity
         158,311
           55,075
    34.8%
     
    Regulatory Environment
     
    Some investors have shied away from the US payday companies because of an increase in the perceived regulatory risk. In Canada, the trend is quite the opposite and I expect the regulatory environment will be certain and stable within the next 12 months. I expect valuations to improve substantially and would expect CSF to be approached by several strategic and financial buyers once everything unfolds.
     
    Federal Legislation
    The payday loan industry was essentially unregulated prior to 2007, yet the industry ballooned from several hundred stores in 2000 to nearly 1,200 stores by 2007. The constraint to make expensive short-term loans was regulated by section 347 of the Criminal Code of Canada, which criminalizes the charging of usurious interest rates above 59% APR. Obviously, 59% APR does not work for fee-based 2-week loans and would not cover the overhead or loan losses associated with providing this type of credit. To operate legally, CSF utilized the “broker model” whereby CSF charged a 20% origination fee to arrange a 59% APR loan provided by an independent third-party lender. CSF voluntarily made retention payments to the 3rd party lenders as an inducement for them to make these loans and to reimburse them for loan losses. This is very similar to the “CSO model” used in Texas by virtually all of the US operators.
     
    While the company has legal precedent to use this model, there has always been a concern that perhaps this loophole would be closed off, even though their had never been any enforcement of S347 by the government. Starting in 2006, the Federal government starting reviewing their approach towards the industry and concluded that they would be better off regulating the industry at rates that allow the industry to exist and be competitive, but provide better protection and disclosure for consumers. In May 2007, Bill C-26 received royal assent and went into force.
     
    Bill C-26 exempts payday loan firms from the federal 59% APR cap for loans under $1500 and under 62 days in maturity. The federal government pushed the decision on rate caps and the exact consumer protection measures down to each province. Thus, to technically be exempt from the 59% APR cap, each province must 1st pass their own legislation and the payday lender must be licensed in the relevant province.
     
    The best resource for following the legislation is the CPLA website:
    http://www.cpla-acps.ca/english/home.php
     
    Provincial Legislation
    Most of the provinces have passed legislation with the licensing requirements, disclosure and consumer protection issues, but progress has been slower than expected on the rate cap decisions. Most provinces are holding hearings to discuss the rate cap in front of public utility boards. The industry is well represented by the Canadian Payday Loan Association (CPLA), CSF and some smaller private operators. The industry has also come well prepared with studies from Deloitte & Touche, E&Y and several academic and market studies. The D&T study shows the average cost of providing a payday loan is $26-$27/$100, which reflects the lack of scale of the many small competitors in the industry (I estimated CSF’s cost/$100 to be in the $15-$17 range). While there is some consumer advocate resistance, the CPLA and industry has been proactive about self-regulation and pushing for enabling legislation and seem to have a compelling basis for a favorable rate environment. Unlike the US, the directive is that the industry needs to exist and the regulations should allow competition among reasonable operators, while weeding out the extreme fees or operators who don’t play by the rules. Based on our survey of operators, we generally find Dollar Financial to charge the lowest fees at about $20-$22/$100, CSF at $22-$25/$100 and smaller operators at $25-$32/$100.
     
    Thus far, only 2 provinces have passed rate caps and the decisions are on the far end of the spectrum. Manitoba was 1st and came out with a $17/$100 cap, which was blasted by the industry and is currently under appeal. I believe industry has a viable case in winning the appeal and it appears the 3-person committee overstepped their boundaries and didn’t follow their mandate from the Finance Minister of Manitoba (which clearly stated that the government should not drive companies out of business, that consumers show an interest in having the service and that the service should be offered in a way that is “just and reasonable”). The decision from the committee admitted that many small operators will have to shut down and offered no quantitative reasoning for their rate.
     
    Nova Scotia was the next province to rule and had the chance to even reconsider their thoughts after the Manitoba ruling was announced. Nova Scotia announced a $31/$100 cap which they believed will promote a competitive industry while pruning some of the bad apples. They specifically denounced Manitoba’s decision in a harshly-worded commentary. This was viewed as a strong positive for the industry and is more consistent with the approach we believe is being taken by the provinces that are still under debate. While the exact timing of future decisions is uncertain, we believe there will be 1-2 more data points by year-end with the rest of the provinces ruling in 1H 2009. Our expectation is for most of the provinces to cap rates in the mid-$20’s to low $30’s with some likelihood of a province or 2 coming in with a lower rate. It is important to note however, that there are no provinces that are even discussing a rate as low as Manitoba and there is virtually no risk of an industry killing bill like we see in the US.
     
    It’s also important to note that in the case of a lowball rate in 1-2 provinces, CSF’s financial impact will be mitigated by the fact that they will be the last man standing (along with Dollar Financial) and thus should see loan volumes increase dramatically and wouldn’t likely see a material decline in profitability (although its clearly a bit of a wildcard). Almost all of the mom & pop operators in Manitoba will close if the ruling is not successfully appealed, given their higher cost structures and lack of scale. In addition, CSF can charge higher optional/ancillary fees to increase the total fee charged to consumers.
     
    Management/Ownership
    CEO Gordon Reykdal owns 18% of the company and management/board members own another 5-6%. In addition, 2 US funds own 23% (per Bloomberg), thus the float is probably only 50-55% of the 19.3MM outstanding shares. We think that management is competent (though not spectacular), and has delivered on their promises of improved performance and returning cash to shareholders. They have focused actively on improving the 4-wall economics through process improvements and investments in systems and regional support. CSF has not directed much attention to investor relations or sell-side coverage (and has been buying back their stock on the cheap), but plans to hit the road and meet with US and Canadian investors this fall which should get the story out more broadly.
     
     
    Financial Performance / Price Target
     
    CSF recently reported their Q4 and FY June 2008 results, which showed continued momentum in same stores sales as well as improving branch-level margins and overhead leverage. The company has reduced loan losses 12.2% of brokerage revenues in Q4 and expects that trend to continue in FY 2009. The improvements have been primarily company-specific improvements such as development of an internal collections department, more focus on proactive client management (i.e. calling the customer to set a specific time to repay the loan) and reducing loan sizes to 1st time customers (it’s hard to burn a payday lender more than once). Our assumptions for FY 2009 are 3% comp sales growth, loan losses of 12.7% of revenues (down from 15.4% in FY 2008 but up from 12.2% in Q4) and 54 new stores. The book tax rate should return to a more normalized 33-34% and the company will be able to utilize $4.5MM of NOLs to shield cash taxes. We are projecting EBITDA of $34.6MM and FCF of $24MM. The company has been aggressively repurchasing stock and intends to do so for the foreseeable future. CSF has repurchased 1.6MM shares since July 2007 (representing 8% of total shares) and has about 1mm shares left on their authorization. The company also has a 17.5c/yr dividend and is selectively looking at small tuck-in acquisitions. We believe the company will be valued at $11-12 (6x EBITDA / 10% FCF Yield) by the end of FY June 2009 if they reach their financial targets and the regulatory process heads in the direction we expect. Based on conversations with bankers and industry consultants, we expect strategic interest from several publicly traded and private-equity backed payday firms based in the US once the remaining provinces announce their rate caps.

     
     
     
    FY
     
     
     
     
    FY
    FY
     
     
    2007
    Sep-07
    Dec-07
    Mar-08
    Jun-08
    2008
    2009
     
    Broker Fees
        103,672
        27,238
        27,079
             25,949
        28,617
        108,883
        124,407
     
    Other Revenue
          19,826
          4,943
          5,512
               5,356
          5,873
          21,684
          23,419
     
    Interest Income
                64
              57
              83
                   41
              52
              233
              200
    Total Revenue
        123,561
        32,238
        32,674
             31,346
        34,542
        130,800
        148,026
     
     
     
     
     
     
     
     
     
     
     SG&A
          14,704
          4,000
          3,920
               4,431
          4,270
          16,621
          18,000
     
     Rent
           9,205
          2,450
          2,464
               2,591
          2,773
          10,279
          11,500
     
     Advertising
           4,023
          1,000
          1,050
               1,012
          1,066
           4,128
           4,400
     
     Salaries and Benefits
          33,656
          8,529
          8,830
               8,627
          9,413
          35,399
          40,558
     
     D&A
           3,596
          1,055
          1,196
               1,063
          1,111
           4,425
           4,750
     
    Branch Expenses
          65,184
        17,034
        17,460
             17,724
        18,635
          70,853
          79,208
     
     Retention Payments
          23,418
          5,792
          5,290
               4,800
          4,229
          20,111
          18,740
     
    Total Store Expenses
          88,602
        22,826
        22,750
             22,524
        22,864
          90,964
          97,948
     
     
     
     
     
     
     
     
     
     
    Store Contribution
          34,959
          9,412
          9,924
               8,822
        11,678
          39,836
          50,078
     
    Store Margin
    28.3%
    29.2%
    30.4%
    28.1%
    33.8%
    30.5%
    33.8%
     
     
     
     
     
     
     
     
     
     
    Overhead
          21,529
          4,140
          4,760
               4,791
          5,752
          19,443
          21,590
     
     
     
     
     
     
     
     
     
     
    EBITDA
          19,021
          6,584
          6,638
               5,435
          7,616
          26,273
          34,665
     
    EBITDA Margin
    15.4%
    20.4%
    20.3%
    17.3%
    22.0%
    20.1%
    23.4%
     
     
     
     
     
     
     
     
     
     
    Pre-Tax Income
          13,430
          5,272
          5,164
               4,031
          5,929
          20,396
          28,488
     
     Taxes
          (4,760)
         (1,855)
         (1,958)
              (1,323)
         (2,734)
          (7,870)
          (9,544)
     
    Net income
           8,670
          3,417
          3,206
               2,708
          3,195
          12,526
          18,945
     
     
     
     
     
     
     
     
     
     
     Diluted Shares
             20.7
            20.8
            20.3
                 20.2
            19.8
             20.2
             19.2
     
    EPS
             0.42
            0.16
            0.16
                 0.13
            0.16
             0.62
             0.99
     
     Stores
              358
             361
             367
                  378
             384
              384
              438
     
     
     
     
     
     
     
     
     
    Cash Flow
    2007
    Sep-07
    Dec-07
    Mar-08
    Jun-08
    2008
    2009
     
    Add: EBITDA
          19,021
          6,584
          6,638
               5,435
          7,616
          26,273
          34,665
     
    Less: interest expense
                58
              89
             155
                   86
              73
              403
              338
     
    Less: cash taxes
          (6,445)
         (3,372)
         (2,413)
                 (101)
               (0)
          (5,886)
          (3,134)
     
    Working Capital and Other
          (2,053)
         (2,002)
         (2,620)
               3,953
         (5,511)
          (6,180)
          (2,000)
    Operating Cash Flow
          10,581
          1,300
          1,760
               9,373
          2,178
          14,611
          29,869
     
     
     
     
     
     
     
     
     
     
    Less: capex
          (3,332)
         (1,100)
         (1,605)
              (1,820)
         (1,261)
          (5,786)
          (5,700)
     
    Other,net
                -  
               -  
               -  
                  (15)
            (180)
             (195)
                -  
    Free cash flow
           7,249
             200
             155
               7,538
             738
           8,630
          24,169
     
     
     
     
     
     
     
     
     
     
    Debt Issued/(Repaid)
             (151)
             (38)
             (39)
                  (23)
             (12)
             (111)
                 (7)
     
    Equity Issued
              302
         (1,494)
         (2,080)
              (1,528)
            (674)
          (5,776)
          (6,000)
     
    Dividends
     
         (2,062)
            (504)
                 (495)
            (492)
          (3,552)
          (3,395)
     
    Disc Ops
          (1,480)
            (212)
            (235)
              (1,753)
                0
          (2,200)
                -  
    Change in Cash
           5,920
         (3,606)
         (2,703)
               3,740
            (440)
          (3,009)
          14,767
     
     
     
     
     
     
     
     
     
    Beg Cash
          12,734
        18,653
        15,047
             12,344
        16,084
          18,653
          15,644
    Ending Cash
          18,653
        15,047
        12,344
             16,084
        15,644
          15,644
          30,410
     
     
     

     

    Catalyst

    Catalysts: Regulatory clarity, strong near-term performance, investor road shows / new sell-side coverage, potential strategic take-out in 2009/2010

    Messages


    Subjectthoughts
    Entry10/06/2008 11:26 AM
    Memberskyhawk887
    I don't think investors can ever really feel comfortable owning a publicly traded payday lender. And that is because the product is fundamentally a bad one. (Of course, I would say the same about credit card debt, but that has become socially acceptable and the annual rates are only 15-20%.) Though I don't have the stats, I suspect that a lot of the payday loan customers are repeat customers, which means that the product is predatory. If someone has to use the product once every year or two, that would be fine, but I doubt that is the case.

    If there is room in our society (or Canada's) for payday lenders, it will almost certainly be for privately owned companies. As soon as a publicly traded payday lender reports good numbers or sees it stock price surge, it will become a magnet for consumer advocacy groups and changes in the law. If the companies are private, it will be more difficult for advocacy groups to gather information amd mount a campaign.

    That being said, Cash Store could be a great trade for the next 6-12 months. But anyone who wants to own it long term always has to worry about political/existential risk.
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