Conn’s Bad Debts Plunges Retailer Deeper into the Red

Retailer’s total revenues fell to $376.77 million from $395.23 million in the year-ago period

c1Durable goods retailer Conn’s Inc. (NASDAQ: CONN) reported its Q3 FY17 financial results on December 06th, 2016.

The Woodlands, Texas-based Company operates over 110 retail locations in Arizona, Colorado, Georgia, Louisiana, Mississippi, Nevada, New Mexico, North Carolina, Oklahoma, South Carolina, Tennessee, and Texas. It operates through two segments: Retail and Credit. The company’s stores provide home appliances, furniture and related accessories, home office products, and consumer electronics. Conn’s also provides repair service agreements, installment credit plans, and various credit insurance products. Unlike its competitors such as Best Buy Co. Inc. (NYSE: BBY) and Bed Bath & Beyond Inc. (NASDAQ: BBBY), Conn’s provides flexible in-house credit options for its customers in addition to third-party financing programs and third-party rent-to-own payment plans. Read more about Conn’s financial results below.

Q3 FY17 financial highlights

During Q3 FY17, Conn’s total revenues fell to $376.77 million from $395.23 million in the year-ago same period, mainly due to higher delinquency rates and the decision to exit video game products, digital cameras, and certain tablets. As with the previous quarters, Conn’s retail operation continued to perform well despite the significant impact underwriting refinements have had on sales. During the reporting quarter, retail gross margins improved 40 basis points versus the year-ago same period and on a sequential basis, mainly due to improved product assortment, and warehousing and delivery efficiencies.

For November 2016, same store sales were down approximately 8%, primarily as a result of the recent underwriting refinements. During the reporting quarter, the recent enhancements to its underwriting model affected same store sales by approximately 1,000 basis points and were the primary drivers of the 10.1% reduction in same store sales.

On a positive note, total costs and expenses declined to $360.38 million from $377.31 million in the year-ago comparable period. However, on account of provisions for bad debts and credits, operating income fell to $16.3 million in the reporting quarter from $17.91 million in the year-ago same period. Interest expenses also increased to $23.47 million from $19.70 million in Q3 FY16.

A huge fall in revenues and a higher provision for income taxes during Q3 FY17 pulled Conn’s deeper into the red with net losses of $3.81 million, or $0.12 loss per diluted share compared to net losses of $2.42 million, or $0.07 loss per diluted share, in the prior year’s same quarter. On a non-GAAP basis, adjusted net loss for the quarter was $2.5 million, or $0.08 adjusted loss per diluted share, which excludes charges and credits. This compares to adjusted net earnings for the prior year’s same quarter of $0.6 million, or $0.02 adjusted earnings per diluted share, which excludes charges and credits and loss on extinguishment of debt.

c2During Q2 FY17, the Company revised its methods for calculating its estimates related to the allowance for doubtful accounts, allowances for no-interest option credit programs, and deferred interest. To turn around its credit business, the Company refined its underwriting model and improved infrastructure to produce consistent and predictable earnings. The Company also plans to reduce the number of new stores over the next two years. Furthermore, Conn’s developed a cost mitigation plan, which is expected to offset planned increases in its selling, general and administrative (SG&A) budget by about $10 million during H2 FY17.

Segmental highlights

Retail: During Q3 FY17, Conn’s retail revenues fell 4.5%, or $14.7 million, to $308.37 million versus $323.05 million in the year-ago same period, due to a decline in same store sales, but partially offset by new store openings. Excluding the impact of its decision to exit video game products, digital cameras and certain tablets, same store sales for the quarter fell 10.1%. Sales growth was also impacted by underwriting changes made in Q4 FY16 and Q1 FY17. During the reporting quarter, retail gross margins improved 40 basis points versus the year-ago period and on a sequential basis, mainly due to improved product assortment, and warehousing and delivery efficiencies as shown below.

Source: Company's Presentation
Source: Company’s Presentation

During Q3 FY17, Conn’s retail operating income was $33.9 million, and adjusted retail segment operating income was $35.9 million after excluding net charges of $2 million primarily associated with impairments from disposals, legal and professional fees, charges for severance and transition costs due to changes in the executive management team.

Credit: During Q3 FY17, Conn’s credit revenues fell 5.2% to $68.4 million, mainly due to lower credit insurance commissions stemming from higher claim volumes in Louisiana after the floods and lower average rates in new states. Revenues also fell because the yield rate of 15%, which was 80 basis points lower than a year ago, partially offset by growth in the average balance of the customer receivable portfolio of 3.9%. The total customer portfolio balance grew by 2.2% to $1.5 billion as of October 31st, 2016 versus the year-ago same period.

During Q3 FY17, provision for bad debts decreased by $6.8 million to $51.3 million versus the prior year’s comparable period, mainly due to smaller growth in the allowance for bad debt due to slower portfolio growth and underwriting changes made in Q4 FY16 and in FY17, partially offset by higher net-charge offs.

Other highlights

Direct loan program: For Q2 FY17, Conn’s received regulatory licenses in the state of Texas that is required to offer direct loans at higher annual percentage rate (APR) to customers financed through its in-house credit offering. The company implemented the direct loan program across all 55 Texas locations by the end of October 2016. As a result of the rollout, all of November’s Texas originations were under the direct loan program, which improved the APR on new originations to over 27%, an increase in excess of 500 basis points compared to September 2016. Conn’s expects the direct loan program, planned changes in other states, and changes to no-interest programs to increase its overall yield by 600 to 900 basis points on new originations by the end of FY18.

Store updates: In Q3 FY17, the Company opened one new Conn’s HomePlus store in North Carolina, bringing the total store count to 113. During FY17, Conn’s opened 10 new stores with no additional openings planned for the remainder of the year. For FY18, the Company has committed to opening only 3 new locations.

Liquidity and capital resources: As of October 31st, 2016, Conn’s had $146.0 million of immediately available borrowing capacity under its $810 million revolving credit facility, with an additional $658.7 million that could become available upon increases in eligible inventory and customer receivable balances under the borrowing base. The Company also had $59.1 million of unrestricted cash available for use.

Source: Company's Presentation
Source: Company’s Presentation

Guidance for Q4 FY17

For Q4 FY17, Conn’s expects same store sales to decline by about 10% and retail gross margin to come in between 37.0% and 37.5% of total net sales. SG&A expenses are predicted between 27.75% and 28.75% of total revenues, while provision for bad debts are forecasted to range between 16.75% and 17.75% of the average total customer portfolio balance (annualized). Credit segment finance charges and other revenues are forecasted to range between 18.75% and 19.25% of the average total customer portfolio balance (annualized). Lastly, Conn’s forecasts interest expenses to range between $25.5 million and $26.5 million during Q4 FY17.

Stock Performance

c5Conn’s stock ended the day at $13.05, slipping 6.79%, at the close on Wednesday, December 14th, 2016, having vacillated between an intraday high of $14.05 and a low of $13.05 during the session. The stock’s trading volume was at 730,513 for the day. The Company’s market cap was at $362.79 million as of Wednesday’s close.

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