EZCORP, Inc. — Q2 FY2014 Form 10-Q
Reporting period: Three and six months ended March 31, 2014. The quarter is the company’s second fiscal quarter. Figures below are in U.S. dollars; financial statement amounts are in millions unless stated otherwise. Results are unaudited and subject to seasonal variation.
Business context
EZCORP operates pawn, buy/sell and consumer-lending businesses across the United States, Canada, Mexico and the United Kingdom, with 1,355 company-owned locations at quarter-end. It also holds equity-method investments in Cash Converters International and Albemarle & Bond. Its strategy emphasizes integrated store and online channels, expansion in Mexico and growth in consumer lending.
Financial performance and liquidity
- Quarter revenue: $259.7 million, down 3% year over year. Excluding jewelry-scrapping sales, revenue increased 4%. Net revenues were $165.3 million, down 4%.
- Quarter earnings: Operating income was $27.4 million versus $52.8 million; operating margin was approximately 10.5% versus 19.7%. Net income attributable to EZCORP was $8.0 million versus $34.0 million; diluted EPS was $0.15 versus $0.63. Continuing-operations income attributable to EZCORP was $8.0 million versus $35.6 million.
- Six-month results: Revenue was $529.1 million, down 2%; net revenues were $332.6 million, down 3%. Operating income was $63.0 million versus $101.4 million. Net income attributable to EZCORP was $30.6 million versus $64.7 million; diluted EPS was $0.56 versus $1.22.
- Revenue mix and credit costs: Quarter merchandise sales rose 3% to $103.5 million and consumer-loan fees and interest rose 7% to $64.8 million; pawn service charges fell 5% to $59.2 million and jewelry-scrapping sales fell 38% to $26.2 million. Consumer-loan bad debt rose 23% to $10.4 million. Six-month consumer-loan bad debt was $28.9 million, up 31%.
- Cash flow: Six-month operating cash flow was $53.6 million, down from $94.2 million. Investing activities provided $16.1 million versus $49.8 million used in the prior period, including proceeds from store and loan-portfolio sales. Financing activities used $73.8 million. Cash and cash equivalents were $32.2 million at March 31, 2014, down $4.1 million since September 30, 2013; restricted cash was reported separately.
- Balance sheet and debt: Total assets were $1.352 billion and total liabilities $339.7 million. Debt instruments totaled approximately $228.5 million; debt plus capital leases was $229.1 million. Of debt, $83.0 million was recourse to EZCORP and $145.5 million was Grupo Finmart debt non-recourse to EZCORP. The $200 million revolving facility had $113.9 million available after $83.0 million drawn and $3.1 million of letters of credit. The company was in covenant compliance. The revolver expires in May 2015, and management was working to replace it.
- Other indicators: Net earning assets, including loans brokered for unaffiliated lenders, were $417.2 million, up 7% year over year. Inventory was $129.0 million, up 11%; pawn loans were $128.7 million.
Material changes and unusual items
- Lower gold prices and a strategic shift toward retailing jewelry rather than scrapping it reduced six-month jewelry-scrapping sales by $31.9 million and gross profit by $12.6 million in U.S. & Canada. Merchandise sales and online sales grew, but merchandise gross margins declined.
- Operating expenses increased 16% in the quarter and 11% for six months. They included an $8.0 million one-time retirement-benefit accrual for the Executive Chairman, costs from reorganizing and outsourcing internal audit, higher labor and growth-related costs, and increased depreciation and amortization.
- EZCORP recognized a $7.9 million pre-tax impairment of its Albemarle & Bond investment, reducing its carrying value to zero. The investee’s trading was suspended in March; the filing says its subsequent sale in April was expected to yield limited, if any, value to EZCORP.
- Equity income from unconsolidated affiliates declined: Cash Converters International reported lower first-half earnings amid regulatory changes, while Albemarle & Bond was no longer reporting earnings.
- Grupo Finmart recorded gains on sales of payroll-withholding loan portfolios, including a $4.7 million gain in the quarter; a prior sale contributed to gains recorded during the six-month period. EZCORP also recorded a $6.3 million gain on the sale of seven U.S. pawn stores, partly recognized in the six-month period.
- Discontinued operations produced $1.4 million of six-month income after tax, principally from $3.1 million of pre-tax termination-related gains, compared with a $3.3 million loss in the prior-year period.
Outlook, commentary and risks
- Management expected U.S. pawn loan balances to stabilize and be roughly flat by fiscal year-end, while continuing to pursue loan-balance growth despite lower yields and competition. It reported that the expected decline in pawn balances moderated in April.
- Management planned further growth in Mexican pawn, buy/sell and payroll-withholding lending, with local financing and structured loan-portfolio transactions among the expected funding sources. It noted Grupo Finmart’s lending penetration in booked government contracts was approximately 5%.
- Management expected Houston’s July 2014 lending ordinance, along with similar restrictions in other Texas cities, to negatively affect financial-services operations in those markets. It also cited a challenging Mexican pawn and retail environment.
- EZCORP received a CFPB Civil Investigative Demand in February 2014 regarding the agency’s investigation of payday lending practices. The company said it was cooperating and could not predict whether the investigation would lead to enforcement, fines or penalties.
- The filing identifies consumer-loan credit losses, regulation, gold prices, foreign exchange, interest rates and the renewal of the 2015 revolver as relevant risks. Management stated that operating cash flow, cash on hand and revolver availability were expected to cover contractual obligations and planned needs for the rest of the fiscal year.
- Maximum exposure under letters of credit supporting loans made by unaffiliated lenders was $25.9 million; the recorded expected-loss allowance was $2.5 million. The company said it was involved in various legal and regulatory matters but did not expect their resolution to materially harm its financial condition, results or liquidity.
Important facts for investors to verify
- Whether core pawn, merchandise and consumer-lending trends offset lower jewelry-scrapping proceeds, higher credit losses and expense growth.
- How much of reported earnings and cash flow depends on portfolio-sale gains, store-sale gains, discontinued-operation gains and other unusual items.
- The performance and credit quality of Grupo Finmart’s growing loan book, its funding costs, and the conditions attached to securitization proceeds and loan sales.
- The eventual outcome and potential financial impact of the CFPB investigation and city-level lending restrictions, particularly in Texas.
- Progress in refinancing the $200 million revolver before its May 2015 expiration, including covenant capacity and access to liquidity.
- The value and earnings contribution of strategic investments, especially following the Albemarle & Bond impairment, and the timing of any recovery in Cash Converters International results.