Earnings Call Transcript - EZPW Q4 2020

Operator, Operator

Good morning, everyone, and welcome to the EZCORP Fourth Quarter Fiscal 2020 Earnings Conference Call. Please note that this call may be recorded.

Michael Keim, Investor Relations

Thank you, and good morning, everyone. During our prepared remarks, we will be referring to slides which are available for viewing or download from our website at investors.ezcorp.com. Before we begin, I'd like to remind everyone that this conference call, as well as the presentation slides, contains certain forward-looking statements regarding the company's expected operating and financial performance for future periods. These statements are based on the company's current expectations. Actual results for future periods may differ materially from those expressed or implied by these forward-looking statements due to a number of risks or other factors that are discussed in our annual, quarterly, and other reports filed with the Securities and Exchange Commission. And as noted in the presentation materials, and unless otherwise identified, results are presented on an adjusted basis to remove the effect of foreign currency fluctuations and other discrete items. Now I'd like to turn the call over to Mr. Jason Kulas. Jason?

Jason Kulas, CEO

Thanks, Michael, and good morning, everyone. We look forward to giving everyone an update today on our strategy and the focus we are putting on store-level operations, overall efficiency, and long-term growth. As a leading provider of pawn loans in the U.S. and Latin America, we play a vital role in ensuring that our customers have access to the short-term cash they need. Our retail operations also play an important role in recycling secondhand goods. We believe strongly that over the next few years, we will build shareholder value as we continue to improve our ability to meet these needs. Our results for the fourth quarter of fiscal 2020 were negatively impacted by declines in pawn loans outstanding and inventory primarily related to the COVID-19 pandemic, the follow-on effects of the stimulus, as well as write-offs and charges related to cost-saving and streamlining initiatives. While we have seen a strong and continued rebound in new pawn loans since the trough in June, it will take time for recent trends to be reflected in our financial performance as we look into fiscal 2021. However, recent strategic and financial initiatives position us well for sustainable long-term growth as we leverage our competitive advantages, including our large store base across diverse markets and exceptional talent providing essential services to a growing customer base. Starting on Slide 4 of the investor presentation. Our top priority is team member retention and well-being. We remain focused on the health and safety of our team members during the pandemic and have enhanced diversity and inclusion training, continuing to pay dividends through declining attrition at the store level in the U.S. and across Latin America. Turning to our customers. We are focused on accessibility, with virtually all of our stores remaining open and expanding payment flexibility by broadening options across stores and online and ensuring appropriate store staffing levels. We are giving our customers more choices in accessing our services, particularly through our online Lana platform, where we have seen a continued increase in volume since the end of Q3, a benefit that will extend well beyond the pandemic. From a financial standpoint, we maintain a strong balance sheet with over $300 million of cash at quarter-end and no near-term debt maturities, positioning us well to serve our customers as their short-term cash needs increase over time. We remain focused on cutting costs with restructuring efforts at the executive level and rationalizing our digital efforts, as evidenced by our recent closure of CASHMAX in Canada and the closure of 9 pawn stores in the U.S. and Mexico. On Slide 5, we walk through key financial themes for the quarter. First, we implemented meaningful cost savings initiatives and remain committed to ongoing expense reductions to continuously improve operating efficiencies. Notably, we will realize recurring savings of over $12 million in corporate expenses due to our initial program. Second, the revenue backdrop remained challenging during the fourth quarter. Total revenue for the quarter was down 20% year over year, primarily driven by lower pawn service charges due to softer demand for pawn loans related to the impact of stimulus payments and COVID-19 headwinds. Merchandise sales were up slightly compared to the fourth quarter of fiscal 2019. However, scrap sales were down significantly, primarily reflecting a softer diamond market and limited inventory ahead of the holiday sales season. Lower inventory is holding back sales, but our teams in the stores are doing an excellent job of selling what we have and managing our inventory holistically, a direct result of our improved inventory management programs. Looking ahead, we expect operating results to remain under pressure in fiscal 2021. Tim will discuss our financial outlook in more detail, but at a high level, it will likely take several quarters for pawn service charges and merchandise sales to return to pre-COVID levels, even as pawn loans and inventory continue to grow. While results for fiscal 2021 will be under pressure, we are confident that the actions on operations and expenses will provide us with operating leverage as the business recovers, which we are already beginning to see with pawn loans continuing to grow. On the capital front, we remain focused on managing capital expenditures with ample liquidity on the balance sheet to fund accelerating pawn loan growth, some new store openings, and to capitalize on potential M&A opportunities. Slide 6 is a graphical representation of the pieces we have put in place to strengthen and grow our core pawn business. As mentioned earlier, everything we do is built on the strength of our tenured team members and the focus on serving our customers. Key strategic initiatives include strengthening the core, cost reduction and simplification, and continuing to innovate and grow. Each of these components is critical, and without even one of them, our strategy is incomplete. Starting with cost reduction and simplification on Slide 7. In an effort to align with the near-term pawn service charge trajectory and maximize profitability when revenue growth resumes, we implemented several cost reduction actions during the quarter. More specifically, we streamlined headcount at both corporate and field levels and consolidated the digital and Lana teams. We also renegotiated vendor contracts and leases, closed the noncore CASHMAX business in Canada, and scaled back capital expenditure plans. We note that CASHMAX charges have come in better than expected due to improved collections and vendor negotiations. As a result of these early initiatives, we will realize more than $12 million of recurring annual cost savings beginning in fiscal 2021, mostly related to administrative expenses. On top of that, we realized approximately $14 million of annualized cost savings related to labor and stores. However, these savings are likely to be temporary in nature, as we expect the majority of related costs to be added back as transaction activities in stores return to normal levels. Importantly, this is just the beginning of our journey. Looking beyond our initial reductions, we see further opportunities to extract operating efficiencies in fiscal 2021, including simplifying and centralizing corporate functions, standardizing back office and store processes, and rationalizing data and reporting activities across the company. Over the next couple of years, the goal is to identify and automate corporate and store-level processes to save time and costs and reduce risk. Additionally, we remain focused on leveraging our digital platform to broaden engagement across channels and improve customer experience. On Slide 8, we provide an update on efforts to optimize and modernize our IT infrastructure. As we further develop our point-of-sale system, we look to capitalize on more insightful product pricing intelligence, increased team member productivity, and increased inventory velocity. In fact, in the fourth quarter, loan-to-value ratios on forfeited merchandise across both the U.S. and Mexico declined by more than 10%. This is directly attributable to our improved processes and lending guidance enabled by the new point-of-sale system. We remain focused on consistently reviewing and refining loan-to-value ratios on a customer and product basis to maximize returns on earning assets. More broadly, we are implementing a comprehensive retail strategy leveraging the uniqueness of pawn and the recycling of secondhand goods. Turning to innovation and growth initiatives on Slide 9. A key strategic priority remains broadening customer engagement to serve more customers more frequently. Importantly, we are repositioning Lana as a digital pawn channel. Everything we do will now be assessed through whether it improves our core pawn business. In the case of Lana, our existing and near-term offerings do just that. Customers can access loan extension capabilities across all eligible states, and over 70,000 Lana bank accounts were funded in fiscal 2020. Moving forward, we have integrated the Lana team into the core EZCORP family to reduce costs and increase throughput, with development focused on layering in other pawn capabilities, including layaway payments. Next, improving service remains critical to retaining existing customers and attracting new ones. This means providing loan extension payment options in any of our stores, by phone or online with any debit card, leveraging customer feedback and data analytics, and continuing to optimize our store footprint. We continue to develop our digital marketing strategy, focusing on expanding our online and social media presence. We recently launched new websites for three of our U.S. pawn brands and continue enhancing digital metrics to capture new customers and generate higher returns. Regarding store growth, we are reassessing our de novo strategy in light of the ongoing pandemic. While this will continue to be a key part of our growth strategy, we will likely open fewer stores than we did in fiscal 2020. We are also focused on capitalizing on acquisition opportunities across core and new markets that meet our strategic and financial criteria.

Timothy Jugmans, Interim CFO

Thanks, Jason. I wanted to start by walking through the natural lag that exists in the pawn business between new loans made and the ultimate revenue from their activity—pawn service charges and sales. On Slide 10, we graphed our trends across new loans made, PLO, and PSC, as well as PLO versus inventory and ultimately, merchandise sales. Before March, there was reasonable timing consistency between growth in the pawn loan book, inventory, and related pawn service charges and merchandise sales. The graphs show substantial shocks to new loan demand beginning in April when stimulus payments were made. While the loan balance declined in the June-ending quarter, pawn service charges did not reflect that fully until the following quarter. It's notable that the degree to which pawn service charge revenue decreased is far less than the decline in the PLO balance. We have witnessed significant sequential improvements in PLO since June. However, average PLO is indicative of the next quarter's pawn service charge revenue, which is expected to recover in the quarter following a return to normal new loan origination volume. The delay in loan forfeitures that drive our inventory is at least 90 days after the time of origination, meaning we expect inventory balances to begin recovering in fiscal Q3 and Q4 after tax season, with sales volume fully recovering at the end of fiscal year 2021. Now turning to our results for the fourth quarter. We reported a loss of $0.42 per share on a GAAP basis compared to a loss of $0.01 for the prior fiscal year's fourth quarter. On an adjusted basis, we reported diluted earnings per share of $0.07 for the fiscal fourth quarter compared to $0.13 in the prior year quarter. Adjustments for the quarter included charges and noncash write-downs associated with efforts to simplify and streamline the business, as well as other COVID-19 impacts and our typical exclusion of noncash interest expense related to our convertible debt and adjustments for foreign exchange fluctuations. I'll also point out that GAAP and adjusted EPS for the quarter included a reversal of $21 million in short-term and long-term incentive compensation accruals. Focusing on our consolidated financial results for the fourth quarter on Slide 11. Net revenue was down 25% year-over-year, primarily due to ongoing COVID-19 impacts. Our ending PLO balance of $134 million was down 33% year-over-year, driving lower pawn service charges. PLO increased by $18 million on a sequential basis during the quarter, reflecting strengthening loan demand. Merchandise sales were up 1% year-over-year for the quarter while related gross profit was down 7% due to lower margins, reflecting aged inventory reduction in Latin America, partially offset by further inventory management improvement in the U.S. Lower inventory levels and less collateral becoming inventory will pressure sales and scrap rates until PLO rebuilds. Turning to U.S. Pawn on Slide 12. Ending segment PLO was down 32% year-over-year, with pawn service charges down a similar percentage due to lower average PLO for the quarter, partially offset by an improvement in yield. We continue leveraging our enhanced point-of-sale system to optimize loan-to-value decisions and drive higher pawn loan redemption rates and yields. Turning to the retail side of the business. While merchandise sales for the quarter softened 4% compared to the prior year period, our merchandise margin expanded by 200 basis points, driven by effective inventory management. More specifically, aged general merchandise inventory improved to $1.2 million or 4.3% of total inventory as of September 30, down from $4.6 million or 6.5% of total inventory a year ago. Lastly, while adjusted operational expenses were down 12% from the prior year quarter due to cost reduction initiatives, EBITDA was down 48% for the quarter, primarily reflecting lower pawn service charges. Next, on Slide 13, Latin America segment results remain depressed with minimal EBITDA contribution for the quarter. Pawn service charges were down 33% due to a lower average PLO for the quarter and modestly lower yield primarily due to lower activity from COVID-19 transportation limits and reduced hours across Guatemala, El Salvador, Honduras, and Peru. While merchandise sales were up 13% for the quarter, reflecting step-up in volumes due to aged inventory reduction efforts, related gross profits and margins were down in the fourth quarter of fiscal 2020. Looking ahead, recent progress on inventory management with aged merchandise inventory down over 70% sequentially, as well as strategic initiatives to optimize loan-to-value ratios position our Latin American business for rebuilding yields and merchandise margins over time. We expect to incur additional operating losses in fiscal 2021. The drop in pawn loans outstanding and inventory assets this year, primarily due to the ongoing COVID-19 pandemic and subsequent government stimulus programs, continues to negatively impact pawn service charges, merchandise sales, and gross profits given the timing lag between asset and revenue growth. Ultimately, the scale and pace of recovery in pawn loans outstanding and inventory levels, as well as the size and mix of potential further stimulus packages, will determine the timing of our return to operating profits. More favorably, our recent efforts to rightsize our cost structure will help lessen operating losses in the near term and enhance earnings growth over time as revenue builds. Furthermore, we expect to continue to realize tax benefits looking ahead to fiscal 2021.

Jason Kulas, CEO

Before we open the call for questions, I'd like to turn it back to Jason for some closing comments. Thank you, Tim. Stepping back, we remain focused on optimizing our core pawn business to meet customer short-term cash needs, and we've made significant progress in driving continuous operational improvements that we believe will lead to more consistent financial performance and increased earnings power over time. Specifically, we are rightsizing our expense base and keeping an ongoing focus on extracting further efficiencies while maintaining operating leverage as transaction activity and asset levels rebuild. We have rationalized noncore activities and maintain a strong and liquid balance sheet to support growth.

Operator, Operator

Our first question comes from John Hecht with Jefferies.

John Hecht, Analyst

First, I just want to ensure I understand the cost savings. It sounds like you have $12 million of admin expenses that will be permanent cost savings and that you've temporarily reduced $14 million from store costs, which will return as business expands. Is that the right interpretation?

Jason Kulas, CEO

That's right, yes. Given the timing of it, some of that $14 million will stick as there will be a ramp back up to those levels. But that's exactly right.

John Hecht, Analyst

Okay, that’s helpful. Regarding forward-looking factors, was the commentary about more operating losses consolidated or specifically tied to Latin America?

Jason Kulas, CEO

The comments were more consolidated. We are very encouraged by what we're seeing; a rebounding portfolio and increasing demand are reflected in our pawn loans outstanding. In September, pawn loans outstanding were down in the low 30s versus last year. October was closer to 30% down from last year, and November is in the mid-20s down from last year. We're seeing a consumer who is coming back with increasing demand for our services, and we expect this to pay dividends by the end of fiscal '21, despite uncertainties related to possible COVID-19 shutdowns and the impact of future stimulus.

John Hecht, Analyst

About demand recovery, is it consistent in the U.S. and Mexico, or are you seeing different trends in those markets?

Jason Kulas, CEO

The recovery is better in the U.S.; it's come back quicker. In Latin America, particularly Mexico, it's also starting to recover but at a much slower pace. Our Central America locations continue to be impacted by delays from more severe shutdowns, which is a smaller part of the business. The biggest driver right now is the U.S.

Operator, Operator

Our next question comes from Greg Pendy with Sidoti & Company.

Gregory Pendy, Analyst

Regarding the $14 million temporary labor cost cuts, do you believe you have the flexibility to ramp that back up? Retailers have struggled when making cutbacks, so are you comfortable scaling that accordingly as demand returns?

Jason Kulas, CEO

We are. We approached the store-level cuts carefully, mostly limiting them to natural attrition and similar methods. As demand returns, we’ll add those resources and expenses accordingly. Our ability to scale back is still quite good, and we prefer to manage expenses conservatively during this interim period.

Gregory Pendy, Analyst

Considering the lean inventory, what risk do you face in terms of curbing traffic to the stores and possibly affecting loan inquiries?

Jason Kulas, CEO

It's true that we are light on inventory compared to historical norms. However, our store teams are doing a great job of selling what we do have. We have initiatives in place to drive more traffic to our stores through various marketing efforts, digital engagement, and updated websites. We historically operated with more inventory than many in the industry, and we aim to settle into a more efficient inventory level which will help with margins and inventory management.

Gregory Pendy, Analyst

How competitive are you with the loan-to-value ratios?

Jason Kulas, CEO

We see significant opportunity here. Our point-of-sale system enables us to price transactions effectively, allowing those not experienced in pawn brokering to operate efficiently within our system. The discipline around setting prices helps us compete better and manage inventory well. Loan-to-value ratios for items being pawned have lowered, while those not dropped have remained higher, permitting effective sales gross profit management.

Gregory Pendy, Analyst

Are there any upticks in pawn loans targeting gold given the prices?

Jason Kulas, CEO

In the U.S., we see a bit of a pickup, but not as much in Latin America. When we evaluate gold prices, we lend more per item, and we keep these loan-to-value ratios within an acceptable range, monitoring closely. Rising gold prices for existing loans has been a positive trend we've observed over the past couple of years.

Operator, Operator

Ladies and gentlemen, that concludes our question-and-answer session. I'll turn the floor back to Mr. Kulas for any final comments.

Jason Kulas, CEO

Thank you, everyone, for your time this morning. We look forward to discussing our progress on future calls, and we hope everyone has a great day.

Operator, Operator

Thank you. This concludes today's conference. You may disconnect your lines at this time. Thank you for your participation.