Are Thorn Group Ltd shares cheap?

Thorn Group Ltd (ASX: TGA) has come under attack after being accused of using predatory practices to source low income earners as customers for its Radio Rentals business. The scrutiny comes amidst the ongoing class action against fellow payday lender Cash Converters International Ltd (ASX: CCV) faces for unfair brokerage fees.

Accordingly, the market appears to be in trepidation of payday lenders, possibly explaining Monday’s unexpected 9% plunge for Thorn Group’s shares. Given Thorn Group shares currently trade at post-GFC lows, I believe it might be time to revisit this robust financial services company.

About Thorn Group

Thorn Group operates two principal businesses – consumer leasing and business finance.

Its business finance arm comprises Thorn Equipment Finance and Thorn Trade & Debtor Finance, both of which contribute approximately 10% to group revenue.

The group’s crown jewel is its consumer leasing business which operates under the brand name Radio Rentals. Radio Rentals accounts for approximately 81% of group revenue and is in direct competition with listed FlexiGroup Limited (ASX: FXL) in the lucrative consumer goods leasing market.

The consumer leasing business (aka Radio Rentals) provides customers with the ability to finance household products such as washing machines, televisions and fridges on tailored payment plans. In return, Thorn Group receives interest which is baked into the instalment payment, providing strong recurring revenue for the company.

Company financials

Despite the ‘sticky’ business model, Thorn Group underwhelmed the market in its most recent trading update in May. The group reported a 34% drop in net profit after tax, even though revenue came in 3.5% higher.

Notably, the fall in NPAT was attributable to three significant one-off items, however, excluding them underlying NPAT was flat at $30.3 million.

Of concern, however, was Thorn Group’s Radio Rentals segment results which experienced a 4% drop in underlying earnings (EBIT) due to “enhanced credit assessment procedures”. Although Radio Rentals’ revenue remained flat at $246 million, the slowdown in EBIT could lead to lower profitability in the future.

Nevertheless, management remains optimistic of the company’s future, announcing a strategic review of all businesses to streamline operations and pursue organic growth. This should augur well for growth.

I believe these initiatives, alongside the circa 30% fall in share price in the last three months compensates investors for any near-term risks, making it a buy at current prices.

Foolish takeaway

Despite a plunge in net profit and concerns over the regulatory action against the payday lending industry, Thorn Group’s current share price undervalues the resilience of its operations in my opinion.

Given the company generates recurrent revenues and trades on a trailing dividend of 8.5% (fully-franked), a purchase at current prices could result in a big payday for long-term investors.

If you are interested in quality dividend shares, then I would recommend this top dividend share instead. A strong yield and potential share price gains make this a great investment idea in my opinion.

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Motley Fool contributor Rachit Dudhwala has no position in any stocks mentioned. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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