Little by little, pawn shop operator First Cash Financial (Nasdaq: FCFS) has morphed into one of my foreign holdings. Oh, the company is still headquartered in the U.S. and has substantial operations here, but more than half of the company's revenue now comes from Mexico, the majority of the store base is in Mexico, and the future of the company's growth is in Mexico as well. So, for all intents and purposes, it may be more reasonable to think of First Cash as a Mexican financial services growth stock with some U.S. operations that are in slow-growth maturity.
Overall revenue grew 17% in the fourth quarter, with pawn merchandise revenue growth of 14%, pawn service fee revenue growth of 30%, and short-term/payday loan fee growth of 16%. Profitability was also solid, as gross margins expanded almost 300bp from last year and operating income grew 34%.
As mentioned, more than half of revenue came from Mexico, where year-on-year growth amounted to 24% on a constant currency basis. By comparison, U.S. revenue growth was a much more modest 5%, as jewelry scrap sales declined by a double-digit percentage.
Topping off a good quarter, First Cash management gave very positive guidance for 2011. Keep in mind, though, that this has traditionally been an “underpromise/over-deliver” type of management, so the real results could be even better.
Looking South For The Future
I frankly like how the company has positioned itself for the future. Pawn lending is not really a growth industry in the U.S. and self-appointed public guardians keep trying to kill the payday lending business. Luckily for First Cash, only about one-tenth of the company's revenue is exposed to U.S. payday lending, and I expect that will continue to decline with time.
In addition, Mexico looks like an increasingly attractive opportunity. Mexico is significantly “under-banked” relative to the U.S., which means that Mexicans have to turn to alternative financing options like First Cash more often than they would in a country like the U.S. True, that will change in time, and Mexican officials may eventually start taking action to rein in non-bank lenders like First Cash, but that is likely to be way in the future.
As proof that I'm never satisfied, I would like to hear more from the company about future growth prospects. There is much further to go in Mexico, I grant, but how about starting to lay the groundwork for the next market and the next opportunity? I really do not know that much about local lending/pawn laws, but perhaps First Cash could have similar opportunities in Spanish-speaking Latin America (Colombia, Peru, Chile, Argentina, et al) and/or Brazil. Or how about Eastern Europe? Sure, it sounds ambitious to have a small company like First Cash operate on multiple continents, but sooner or later Wall Street will demand to know how the company can maintain mid-teens growth in the future.
The Bottom Line
With this earnings release, I've lowered my free cash flow margin expectations; not because of underperformance per se, but a better understanding of the business on my part. I'm still looking for improvement, though, as well as low-teens revenue growth out for a few years. All in all, I end up with a price target of almost $36 on these shares. That does not leave them as the cheapest shares I own, but it is enough to hang on or buy in today given the prospect of earnings outperformance and steady high-quality growth.
I would BUY First Cash Financial shares.
Disclosure: I own shares of First Cash Financial.