Gold has been weighing on pawn shops of late. Gold is trading at about $1,330 per ounce, and despite an 8% rally in the precious metal in July, the price for the precious metal is still far from its record highs of near $2,000 set two years ago.
Customers use gold to pawn and borrow against, while pawn shops can earn high interest and keep or sell the gold if the borrower never returns. Now, with the price of the precious metal under pressure, gold has been a drag on performance at pawn shops everywhere. This despite the fact that many pawn shops only lend in amounts that are no more than 70% of gold’s price, according to a recent NPR article. So is it a temporary blip on which you should capitalize by investing in pawn-shop companies or a warning sign that more pain is on the way? Let’s mine for answers.
Not on EZ-street
Revenue climbed 5% to $235 million. Last year jewelry scrapping, which is the sale of precious metals including gold to wholesalers, contributed more than 50% of overall revenue, so it’s a major piece of the revenue pie. In the most recent quarter, scrapping weighed on results; total revenue excluding gold scrapping was up 13%. Clearly, EZCORP Inc (NASDAQ:EZPW)’s performance is tied closely to the market price for gold, which makes the stock a volatile investment.
The falling gold price has weighed heavily on EZCORP Inc (NASDAQ:EZPW), forcing the company’s hand to close more than 100 of its slow-growth stores over the past few months. The company doesn’t pay a dividend, and its bad debt from as a percentage of fees is rising (up 25% in the most recent quarter) amid delinquent online loans. Although it’s in the midst of a restructuring, EZCorp hasn’t lost sight of growth and has its sights set on Mexico (where the pawn-store market is in expansion mode) and the US for additional retail store openings, pawn-store acquisitions and in online lending.
Expansion push
Over at Arlington, Texas-based First Cash Financial Services, Inc. (NASDAQ:FCFS), the company was similarly plagued by lower gold prices. Total second quarter revenue climbed to $143 million from $132 million in the year ago period; but wholesale scrap jewelry revenue took a dive from $24 million in last year’s second quarter to $5.3 million in the most recent quarter.
Like EZCORP Inc (NASDAQ:EZPW), First Cash Financial Services, Inc. (NASDAQ:FCFS)’s business model is heavily tied to jewelry scrapping, but it’s attempting to diversify its revenue streams further to offset the volatility in commodity prices. It’s opening up to 95 new large-format pawn stores across the U.S. and Mexico in 2013. Most of the retail locations will be in the less-saturated Mexican market. More than 90% of the company’s 2013 revenue is projected to come from the pawn-retail business with the remainder stemming from its consumer-loan and credit-service businesses, but while gold will continue to be part of the business the company will be looking toward general-merchandise sales as jewelry scrapping is expected to comprise less of earnings performance going forward.
The company is focused on growing its pawn-store presence across the U.S. and Mexico, and it’s recent acquisition of Value + Pawn is giving it a foothold in Houston, a large and growing market for the pawn industry.
Luckily it It hasn’t lost sight of its investors and has a share buyback program underway in which it can repurchase up to 1.5 million shares. Having generated $57.5 million in free cash flow in the second quarter, it also spent $39 million to repurchase 729,000 shares.
Cash is king
Fort Worth, Texas-based Cash America International, Inc. (NYSE:CSH) has a consumer loan business via its domestic retail services segment and an e-commerce segment, where it similarly offers loan products. In the second quarter, the trend of falling gold prices, which is weighing on sales (the company reported total revenue of $411 million, flat with the year-ago period), was exacerbated by weak domestic loan demand. EPS of $0.81 was below the low end of the company’s original guidance but inline with an updated forecast. While the commercial sale of scrap gold had a negative impact on revenue, the company believes that this weakness was already factored into the expectations so there weren’t any surprises there.
Worse, the company expects that these conditions will persist at least through 2013. However, while loan demand was weaker than expected, the company doesn’t believe its customers are finding new sources of short-term credit, according to the company’s earnings call, or that rivals are stealing market share. Instead, consumers in the states in which Cash America International, Inc. (NYSE:CSH) operates, including Nevada, Illinois, Ohio and Florida, aren’t demonstrating confidence in their ability to manage new debt, and this is a challenge that will persist for the company for the foreseeable future.
Cash America International, Inc. (NYSE:CSH) is looking to Mexico for growth in its retail services locations in addition to new e-commerce non-payday loan-product offerings in the US and the UK to offset some of the prevailing weakness elsewhere. One bright spot is that Cash America pays a $0.035 dividend. But with demand for retail loans expected to remain soft coupled with headwinds from gold prices, it looks like Cash America’s bumpy ride is going to continue.
Conclusion
It’s hard to say where the price of gold is headed. Dennis Gartman of The Gartman Letter says the price of gold is headed hundreds of dollars higher. If that’s the case, there could be some relief for pawn stocks soon.
EZCORP Inc (NASDAQ:EZPW) is trading at a forward Price/Earnings (P/E) multiple of only 7.2 and it’s working to turn things around. If you’re bullish on the price of gold I would consider this a point to get into the stock.
Cash America International, Inc. (NYSE:CSH) is in a lose/lose situation between its loan and retail businesses, and e-commerce doesn’t appear to be lifting the company’s boat.
First Cash Financial Services, Inc. (NASDAQ:FCFS) is more expensive with a P/E closer to 17, but its commitment to repurchasing shares makes it more attractive. Of the three companies, I recommend First Cash.
Gerelyn Terzo has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned.
The article Gold Is a Headwind for Pawn Shops originally appeared on Fool.com.
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