goeasy does not issue loans from deposits, thus it is impossible for them to face a run-on deposit, and its recent earnings exceeded expectations by 16%
SmallCapPower | May 10, 2017: goeasy Ltd. (TSX: GSY) (GSY or the Company), formerly easyhome, serves subprime customers through two operational divisions: easyhome and easyfinancial. easyhome offers brand-‐name household furniture, appliances and electronics under weekly or monthly lease agreements through its 146 corporate and 28 franchise retail stores. easyfinancial is a financial services company that provides unsecured, and secured loans to non-‐prime borrowers in Canada. easyfinancial provides installment loans for periods of between 9 and 48 months ranging from $500 to $15,000 from its 46 in-‐store kiosks and 161 standalone locations.
Investment Thesis
- goeasy has successfully transitioned into a high-growth, high ROE lending business
- The Company is entering a new period of growth, which investors have not yet priced into the stock
- The fall of Home Capital brought goeasy down with it, and the stock has yet to recover despite strong earnings report
The Growth Story
goeasy has seen consistent revenue growth over the past 15 years and has remained profitable in the past 14 years, including the 2008-‐2009 recession. The Company’s profitability is seen in its 2016 ROE of 18%, which is up ~8% from 10.4% in 2012. In terms of growth, the Company has been transitioning from a mature leasing business into a high-growth lending business.
In 2013, easyhome accounted for the 59% of the Company’s divisional operation income (operating income less corporate expenses). In 2016, easyfinancial accounted for 78%. This shows how fast goeasy is transitioning into a high growth, more profitable consumer lending company. This growth is seen in the Company’s 40% EPS growth from Q1-16 to Q1-17. EPS in Q1-17 was $0.76. The Company currently trading at 13x LTM EPS, which is in line with peers. Q1-17 marks the end of a successful growth period for the Company and their transition into a highly profitable, high-growth lending business has been achieved. Q2-17 marks the beginning of a new period of growth for the Company, which revolved around expanding and optimizing the easy financial line of business.
Management has laid out a corporate strategy revolved around evolving delivery channels, expanding easyfinancial’s line of business, and enhancing product offerings. The beginning of the new growth phase was marked by the opening of new stores in Quebec, showing that management is wasting no time executing on their plans. The Company plans to have 10 stores in Quebec by the end of the year and 40 by the end of 2019. Furthermore, 100 easyhome stores will be providing loans by the middle of this year.
The Company has also begun to expand its product offering as they have started to provide loans to more credit-worthy customers, which they believe will comprise of 20% of origination volumes in the near term. These loans can generate larger revenues as they are typically larger in sum and longer in term, with lower credit losses, slightly offset by lower interest rates.
The Company has sufficient capital resources to fund their growth through Q3/17 via $24MM in cash and a $20MM credit facility. Management has stated they can secure a debt solution to fund growth beyond that, however, they are looking to find the best structure possible.
Management has laid out the following short-term financial targets:
Source: Company Filings
Expect management to meet or exceed these targets as they have consistently done in the past:
Source: Company Filings
Source: Company Filings
Source: Company Filings
You must go back to their 2012 annual report, where the Company was still operating primarily as a leasing business, to find an unachieved financial target, where they missed revenue growth by 2% and new store openings by two locations.
Looking at the Company’s 0.5x PEG ratio we can see that investors have not yet adequately priced goeasy’s growth potential into the stock as it trades below 1 (meaning growth is not fully price into the stock) and, at a favorable discount to its peers (See table below). This means we should see a large appreciation in the stock price if management meets their growth targets.
Source: Ubika Research
Fall of Home Capital
Home Capital Group Inc. (TSX: HCG), an alternative mortgage lender in Canada, recently faced a run-on deposit of their high-interest savings accounts. Thus, deposits decreased 80% to $391 million. This is critical as their revenues are generated from loans they issue from those deposits. The run-on deposits forced Home Capital to take out a $2B line of credit, which they must pay 10% of the outstanding balance and a non-refundable commitment fee of $100MM. Thus, their share price fell over 70%, and brought other alternative financers down with it.
When Home Capital stock fell, so did goeasy, as shares slipped 10% out of investor fears. goeasy is a drastically different business than Home Capital in that they issue loans based on retained earnings and a $280MM term loan in which they have met all financial convents. (See photo below). goeasy does not issue loans from deposits, thus it is impossible for them to face a run-on deposit. Furthermore, goeasy released earnings, in which they exceeded expectations by 16%, shortly after the stock plunged from the Home Capital news, yet the stock only recovered 4%. We believe that is a free 6% of value right there.
goeasy may not have yet recovered as investors fear a Canadian credit crisis, however such a crisis has not impacted the fundamentals of the Company. Furthermore, goeasy saw an improvement in credit quality in Q1-17, as their write-off rate declined from 15.3% to 14.0% Y/Y, and past due loans declined from 6.8% to 5.0% over the same period. Management expects their write off rate to be 14.0%-16.0% for the year, reflecting their decision to introduce higher quality loans.
If you think about it mathematically, the equation does add up. GSY introducing and executing on growth plans + GSY 16% earnings beat + GSY improved credit quality + Home Capital down 70% = GSY down 10%.
Disclosure: Neither the author nor any of the principals at Small Cap Power, or their family members, own shares in any of the companies mentioned above.
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