Conn’s (CONN), a specialty furniture and mattress retailer, which also provides credit to incentivize customers, reported disappointing quarterly results due to worsening credit delinquencies. Conn’s lowered full year EPS guidance to $2.80-$3 from $3.40-$3.70. Higher expenses and provisions for bad debt have resulted in a CONN price decline of 30%.
Top Line Growth Not Trickling Down To Profits
On the quarter, Conn’s total revenues saw a 30% increase over the same period a year ago. Thus far in 2014, revenues have risen 32% over 2013. Additionally, the company improved margins by approx. 200bp, yet higher than expected SG&A, provisions for bad debts and interest expenses have eaten at profit margins.
SG&A was reported at 30% of revenues, a historically high figure when compared to the 28-29% expectation. The company projected that for the full year 2014, this figure would settle back down to 28.5% – 29.0% of total revenues. This appears to be a temporary spike that should be fixed in the near term.
The more alarming costs, however, are due to the 75% YoY increase in bad debt provisions that Conn’s has experienced in 2014. As management has warned, this is expected to worsen.
“The rate of customers failing to pay their debts after two months will probably reach historical highs in the second half of the year”
Will Actions Taken be enough?
Conn’s has implemented tighter underwriting policies and issued $250M in 7.25% senior unsecured notes back in July to improve liquidity. As of July 31, 2014, the company had $361.2 million of borrowings outstanding under its asset-based credit facility, $4M in cash and $607M in debt.
Building a customer base with subprime credit is not a winning formula. Conn’s collecting troubles are a result of high delinquency, which goes back to programs like no or low interest on purchases to attract customers. Tighter policies may result in slower growth, but better overall financials.
Final Thoughts: Traders Trade, Investors Wait
Conn’s same store sales grew at 11.7%, a good measure of retail growth. The company opened eight HomePlus locations during the quarter, closed one store and remodeled or relocated three others. These expansion plans are going to continue into the second half of 2014. Investors should wait and see how the tighter credit policies are implemented and the effect these underwritings will have on the financials. If collections improve at the cost of top-line growth, I would consider such a move beneficial to Conn’s overall business. Jumping in at these deflated values could end up burning investors if credit delinquency rates continue worsening. It’s best to wait.
For short term traders, I believe the stock price will see a bounce due to the high short interest rate (below). CONN is down 30% today (60% YTD), so it’s likely that a good number of shorts have taken profits. This should reduce selling pressure and provide a temporary bounce. The longer term trend depends on how the company deals with subprime credit.