Rent-a-Center Valuation | RCII

Valuation conducted on 3/3/2017

Thesis:

A CFO resignation, self-inflicted operational mishaps and a one-and-a-half billion-dollar impairment charge have created the perfect storm of bad news for Rent-A-Center (RCII). These events are short term in nature. Couple this with a hard-to-understand business model, sustainable large cash flow, and an imminent activist board presence, RCII is significantly undervalued and due for a timely turnaround. 

Brief Summary:

RCII is a RTO (Rent to own) business that leases appliances and furniture to predominantly subprime customers. These are people who generally make below $50,000 dollars a year and can’t afford to buy expensive merchandise outright or lack access to credit. RCII controls almost 30% of a 9 Billion plus RTO industry which it effectively shares with Aaron’s. Rent a Center operates around 2463 brick and mortar stores and a growing Acceptance Now platform1.  RCII buys merchandise from other retailers such as Ashley’ Furniture2, and then turns around and rents those items. Customers are allowed at any time to exercise a buy option on whatever they are renting. This usually occurs for about 25% of the items that Rent-A-Center leases. The other 75% of times after they have been leased for approximately 18 months are sent to one of their main wholesale stores where they are sold for a discount.

Why RCII is trading at a 16-year low:

Since 2015, RCII has been plagued by self-inflicted operating mishaps that include the following:

  • Botched labor restructuring leading to a drop in sales
  • Problems with RCII’s in-house Store Information Management System3 which led to a sales drop
  • Their CFO has resigned under mysterious conditions.
  • RCII has recently taken a 1.5-billion-dollar impairment charge on their goodwill.
  • Bearish sentiment on retailers has affected RCII even though it is not a traditional retailer. It straddles both the retail and consumer finance sectors.

Why there is significant upside

  • RCII aggressively depreciates their merchandise causing earnings to significantly underrepresent cash flow. Maintenance capex is less than depreciation by more than a factor of 10.
  • RCII has a defensible moat. This is because collections are a labor intensive part of this business and requires a large geo footprint and specialized labor to collect. As such, this company is far down on Amazon’s hit list and should demand a higher multiple than standard B&M retailers.
  • RCII effectively operates in a duopoly with Aarons, because of its dominant position and stable revenue, it is hard to see competition taking market share from Rent a Center, it is here to stay.
  • RCII has taken steps to address all of its operational issues.