Is Cash Converters International Ltd a screaming bargain?

There’s two possible ways to view Cash Converters International Ltd (ASX: CCV).

One is to say that the stock has been a significant underperformer, with shares down 30% in the past five years. Legal and regulatory issues as well as some operational mis-steps have battered the market’s confidence in the company, while similar lending company Money3 Corporation Limited (ASX: MNY) – which doesn’t operate pawnshops – has grown 330% in the same time.

The second way to view Cash Converters is to look at the price of its business now and evaluate the likelihood of growth as well as the potential rewards that growth would bring to shareholders. Although earnings took a hit from discontinued operations, Cash Converters is valued at 7 times its ‘profits from continuing operations’ last year, or approximately 7 times its free cash flow of $22 million over the past year.

Bargain, or not?

Looking at its value today, Cash Converters does look cheap. 7 times underlying earnings is almost unheard of, especially for a company with good free cash flow and a whopping 9% dividend. On this basis, I’d be tempted to take a small position in the company and I recently bought shares in Thorn Group Ltd (ASX: TGA) for similar reasons.

Cash Converters has scope for improving profits simply by exiting unprofitable stores in the UK, and its latest presentation revealed that the UK has 3x the registered Webshop users than its Australian segment does.

On the downside, the company is also reducing lending to the Centrelink segment which could hurt profits in the years ahead – personal loans being the company’s largest money-spinner.

Regulatory issues

The real elephant in the room is the regulatory issues, with multiple lawsuits as well as an Australian Securities and Investment Commission (ASIC) investigation into the company’s lending practices. Although Cash Converters continues to ‘discuss the most appropriate resolution‘ with ASIC, the fact that they’ve set aside $12.5 million in provisions for ‘potential’ compliance issues suggests the company might not come out on the right side of this investigation.

Given the repeat lawsuits and investigations (with little forewarning) that have cropped up in recent years, I’d describe Cash Converters as high risk. Even though management is actively working to improve its compliance, the issues that are cropping up appear to be from times before compliance was such a focus. This company is not suitable for investors for whom capital preservation or security is a priority.

However if Cash Converters were able to turn things around, there appears to be significant upside on the table – if you can stomach the risk.

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Motley Fool contributor Sean O'Neill owns shares of Thorn Group Limited. 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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