Key points in CONN’s latest 10-K
- Omitted the static loss table found in previous 10-Ks and 10-Qs.
- Removed the following sentence: “Under our current policy, the maximum number of months an account can be re-aged over the life of the account is limited to 12 months.”
I guess I will continue to hold my short position in CONN. While I don’t entirely know what’s going on, this does not smell right. (*The borrow is expensive.)
Static loss tables
I could not find the phrase “static loss” in CONN’s latest 10-K. The most recent 10-Q does contain a static loss table. Here’s how it looks year-over-year…
For the latest year of origination, cumulative loss rates have gone up. e.g. 0.8% –> 1.1%, 5.8% –> 6.9%
Origination quality does not seem to be improving.
The latest 10-K deleted the following sentences in 2 different places:
Our policy limits the number of months that an account can be re-aged to a maximum of twelve months.
Under our current policy, the maximum number of months an account can be re-aged over the life of the account is limited to 12 months.
Presumably, this policy has changed. I did not have time to read the entire 10-K so I’m not sure if the 10-K states what the new policy is. Normally, most companies make it easy for investors to figure stuff like this out. The company could have put in a new sentence explaining their new re-aging policy where the old sentence used to be. This does not seem to be the case.
I would note that the SEC asked them a number of probing questions about their accounting (see CONN’s CORRESP and UPLOAD filings). Normally this leads to more disclosure, especially on items that may have been deemed immaterial in the past. More disclosure on topics that the SEC has asked you about is an easy cover-your-ass move and reduces the legal liabilities for insiders. Very few investors actually read entire 10-Ks (I guess I’ve become one of them)… so I don’t see much downside to additional disclosure. Making the 10-K more difficult to figure out does not strike me as a smart move.
Apparently CONN decided to repurchase its shares. This is the part that confuses me. CONN’s cost of capital on some of its debt seems quite high. The latest 10-K states:
The effective interest rate of the Class B Notes after giving effect to offering fees is 12.9%.
Usually, an interest rate that high is a sign of distress. If I were in the CEO’s position, I would pay down debt rather than repurchase shares. Generating an easy 12.9% return is very difficult to beat. I doubt that repurchasing shares exceeds that hurdle. If things were truly going well at CONN, I would think that:
- The static loss tables would show stable or improving origination performance.
- The language and disclosure in the 10-K wouldn’t shift around so much.
- The language about the re-aging policy would stay the same. If it ain’t broke, why fix it? Why remove this sentence???
I have no idea if this is occurring. It could potentially explain why the borrow is expensive?
Things that Conn’s is doing well
(This section is not meant to be snarky. I am trying to balance out my posts because Conn’s is not completely awful.)
What they do with their no-interest promotions is potentially very clever. A lot of consumers:
- Blindly pay their bills. This can be good for Conn’s because a creditworthy consumer may accidentally get themselves into a very expensive loan.
- Decide to let their debt accumulate. Some consumers do not arbitrage their savings versus debt- they may have debt at very high interest rates while earning very little interest/yield on their savings. Those are the best debtors. Getting creditworthy customers to take on expensive loans is a profitable endeavor if you can pull it off. (And yes, there are employed consumers with high FICO scores that walk through Conn’s doors.)
- Do not understand the contract. Some consumers may not understand that there is a balloon payment at the end of the no-interest period. Missing the balloon payments puts them into an expensive loan. (*There may theoretically be some regulatory risk associated with this practice.)
Also, Conn’s engage in practices that other subprime lenders and retailers engage in:
- Extended warranties. Very high margins.
- Bundle insurance with their loans. Very high margins and gets around pesky regulations. (*There may be some regulatory risk associated with this practice.)
*Disclosure: I am short CONN. Please do your own homework and come to your own conclusions because I clearly have not read the 10-K. I have not had the time to do deep research unfortunately.