Flexigroup Focuses On Diversification

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-Growth in new industries, markets
-Lower funding costs
-Aggressive NZ expansion
 

By Eva Brocklehurst

Flexigroup ((FXL)) has been a stable Buy rated stock for some time on FNArena's database. Despite share price underperformance this year as the market factored in headwinds to credit growth, several brokers believe the financial services provider has been sold down beyond what is reasonable.

Citi has initiated coverage of the stock, mindful of the increased diversity of product and services and the potential for leveraging an improvement in the cost of funding. The company has reaffirmed market guidance of FY14 cash profit of $84-86m and Citi expects earnings growth of 12% in FY14 and 9% in FY15.

The financial services provider offers retail point-of-sale financing, commercial leasing and interest-free credit cards, primarily in Australia and New Zealand. Macquarie considers the stock has de-rated beyond what was necessary to reflect lower growth expectations for FY15 and credit growth headwinds. The stock is now trading, on the broker's estimates, at a FY15 price/earnings ratio of 10.7 times.

Citi envisages three primary drivers for the stock. The first is new industries and end markets. Originally, the company offered single line rental and lease solutions via Harvey Norman ((HVN)). Now Certegy Ezi-Pay, the company's card payments business, has transformed the customer base substantially into diverse segments such as solar panels and jewellery. Certegy acquires receivables from retailers at a discount and offers zero-interest fortnightly/monthly instalments to end customers. Self-managed, flexible lay-buy services are also offered through select partners like Toys "R" Us. Mobile broadband expands the company's offering further, through targeted device-plus-service bundling. Consumer and small-to-medium enterprise leasing comprises 41% of Flexigroup's services. Here, the company's FlexiRent performs real-time credit approvals and acquires trade volume primarily funded by third parties.

The second driver is lower funding costs, partly derived from securitisation. The company has a long experience within the local finance industry and works in conjunction with independent credit reporting agencies. Originally it funded its leasing business via unrated bank facilities and cash. Flexigroup now has four avenues of funding, with securitisation representing 38% of drawn-down funding in the first half of this year, compared with zero four years ago. The company issued $255m in asset-backed securities last month, the fourth securitisation package from the Certegy business.

Acquisitions make up the third driver, providing both revenue growth and a counter to the soft retail markets. Citi observes that generating a critical mass of receivables is key to continue reducing the cost of funding. As volume for the original leasing business continues to decrease, at an average 10% per annum since FY11, the company has focused on expanding categories and end-markets to generate organic growth. The company has also launched an aggressive expansion plan into New Zealand where demand is forecast to increase 15-20% per annum over the next three years. The broker does not think the company will pursue offshore opportunities beyond New Zealand until the businesses are ready to withstand the challenges such expansions present.

Catalysts for Citi include evidence of the leveraging of cost of funds, which has fallen to 6.2% from 9.4% four years ago, and increased traction in new sectors beyond solar, where Certegy first made its mark, such as home improvements. Risks exist in the securing of sufficient funding for new products, or translation of business through product substitution such as in the case of mobile devices substituting computers. Price compression and increased delinquencies are other risks. All these could limit competitiveness and profitability.

The company's 7-year compound average growth rate of 14% for revenue and 18% for profit suggests the business has managed well through the cycles. Calculation of the organic growth rate is a little more difficult given the number of acquisitions the company has made. Profit margins grew to 37% in FY13 from 30% over FY06-09, and Citi forecasts 38% in FY14. The margin increases reflect the shift from the consumer beginnings to a more diversified financial services provider.

Citi adds its Buy rating to the other four on FNArena's database. The consensus target is $4.44, suggesting 27.7% upside to the last share price. Targets range from $3.81 to $5.00. The dividend yield on FY14 and FY15 earnings estimates is 4.8% and 5.1% respectively.

See also Flexigroup Spending To Grow on May 19 2014.
 

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