Whopper is a deep value investor and the founder of whopperinvestments.com. He can be reached at [email protected]

If you’ve followed me for a while, you know one of my favorite investments right now is Radioshack, which trades for distressed retail level prices even though they are profitable and have great ROE/ROIC. As part of that investment, I also follow competitors HGG and BBY (BBY, btw, is interesting, as it trades almost as cheaply as RSH. Much more exposed to DVD / CD / video game sales, which are in rapid decline, and an uncertain TV / large electronic category). One retailer that I’ve had my eyes on as a potential value play is Conn’s (CONN).

Conn’s is a specialty electronics and home appliance retailer currently operating 76 stores. Most of its stores are in Texas, but it has a few in Louisiana and Oklahoma as well. The business is obviously fiercely intense, with major competition from Best Buy, Walmart, Target, Sears, etc. Conns also employs something of an old fashioned model- they pay all of their employees on a commissioned basis, which none of their competitors (outside of Sears) really use any more. This likely makes Conns prices slightly higher than their competitors, who generally pay their employees just minimum wage. On the flip side, Conns would argue this gives their employees incentive to sell more and provide much better service to shoppers.

The company also argues they have one more competitive advantage- financing. The company provides “flexible financing alternatives through proprietary credit programs (page 5 of their 10-k),” which they use to finance 60%+ of their sales. Pre-crisis, they would take the receivables from their customers who purchased on credit, shift them off balance sheet, and sell them as asset backed securities. This allowed them to make money as the servicer of the receivables and immediately take in cash, which they could then use to fund their business.

Of course, once the crisis hit, the credit markets froze up, and Conns was forced to take a ton of the receivables back onto their balance sheet and fund any new receivables they make. This has done several things to the company. 1) they are basically choking on the receivables and has placed them into a constant credit crunch. 2) because the receivables carry moderate interest rates, it has crushed the company’s returns on capital. The company recently did a rights offering because of problem 2, but I haven’t really seen a solution to problem 1.

However, countering this is the fact the company is extremely cheap. Here’s their EPS for the past five fiscal years (fiscal year runs through Jan)- 2006 $1.70, 2007 $1.66, 2008 $1.68, 2009 $1.14, 2010 $0.34 (versus a current stock price of $4.5). The stock was also mentioned here as the second cheapest on a ten year earnings basis.  Conn’s is also cheap on a book value basis- even after the rights offering, the book value per share is over $11.60 per share (see page S-32).There could be some hidden value here as well, as the company owns four of their locations and four of their warehouses, and management mentioned in one of their conference calls that they think there could be significant value in some of the land.

However, perhaps the best part of this story is the company’s results seem to be accelerating. Same store sales were up 5.2% in the all important fourth quarter (albeit, off disastrously low numbers from the previous year). While the press release didn’t include earnings figures, it did note that the company’s receivable portfolio is also performing better. Together, those two should make for a reasonably strong fourth quarter, though the company does not that they experience some price deflation in their key products, which could have cut into margins.

My Take

It’s tough to find a company trading for 1/3 of book value that’s profitable and, even better, has a history of profitability. However, I’m avoiding it because its tough to see how they continue to compete with the major retailers (the major retailers have much more in the economy of scale / negotiating power area), and I think returns on capital will continue to be dragged down until they can sort their financing funding out.


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