Dividend stocks are everywhere, but many just downright stink. In some cases, the business model is in serious jeopardy, or the dividend itself isn't sustainable. In others, the dividend is so low it's not even worth the paper your check is printed on. A solid dividend strikes the right balance of growth, value, and sustainability.
Today, we're going to look at one dividend-paying company that you can put in your portfolio for the long term without too much concern. This isn't to say that this stock doesn't share the same macro risks that other companies have, but it's a step above your common grade of dividend stock. Check out the previous selection.
This week, we'll turn our attention to rent-to-own retail specialist Rent-A-Center (RCII -0.52%) and I'll show you why income-seeking investors may want to pull the trigger on this downtrodden company.
Source: Mike Mozart, Flickr.
Retail isn't all fun and games
As we do every time we examine a potential dividend diva, let's first have a closer look at some of the obstacles that Rent-A-Center will face that could make the going rough for its shareholders.
As you'll note by the company's roller-coaster ride over the past year, not everything has gone as planned for Rent-A-Center. For multiple quarters Rent-A-Center has noted that its core customer base has been under pressure, which once again forced the company to lower its profit and sales expectations for the upcoming quarter last week. The company offered quarterly revenue guidance of approximately $773 million with adjusted EPS in the range of $0.36-$0.38. By comparison, Wall Street was expecting Rent-A-Center to deliver $785.3 million in revenue and $0.48 in EPS in Q2.
Source: Dan Moyle, Flickr
Rent-A-Center is also facing tough competition that's experiencing many of the same issues. Shares of peer Aaron's (AAN) were lit like a candle this week after it, too, issued revised second-quarter guidance. Aaron's lowered its revenue guidance by $3 million to $672 million, but drastically lowered its EPS guidance from a range of $0.43-$0.48 to a new range of $0.34-$0.37. Additionally, Aaron's announced that it would be closing 44 underperforming stores by the end of the third quarter. Long story short, lower-income and low-credit-quality consumers are seeing their wallets pinched according to Aaron's and Rent-A-Center, and competition among these rent-to-own businesses is only growing fiercer.
Lastly, the rent-to-own business isn't entirely cyclical, but the health of the U.S. economy can certainly influence how well or poorly Rent-A-Center's business behaves. If the economy takes a turn for the worse, or wage growth slows, then consumers will have less disposable income to work with to rent durable products such as furniture and electronics. Additionally, high levels of unemployment also make it tough for Rent-A-Center to thrive as people need to have the ability to generate income in order to rent goods.
The Rent-A-Center advantage
Despite its recent struggles, I believe Rent-A-Center has a number of advantages that could have investors clamoring to own this stock over the long run.
To begin with, the past couple of years have been extremely consumer-friendly thanks to the Federal Reserve keeping the federal funds rate at historically low levels. Low lending rates have been conducive to lax lending standards by creditors as well as the willingness of consumers to rack up credit card and loan debt. But the end of QE3 and the beginning of interest rate hikes are also well within sight. What this could mean is that higher lending rates on credit cards could wind up pushing consumers toward leasing furniture, appliances, and electronics on a rent-to-own basis, where the weekly or monthly payments are perceived to be lower.
Another important aspect that could play into the hands of Rent-A-Center is the changing landscape of employment in the U.S. Since the recession we've witnessed a marked jump in the number of part-time employees, including those who've been forced to take a job part-time but would rather have a full-time job.
But the implementation of the Affordable Care Act could also bring sweeping employment reform as businesses with 50 or more full-time employees need to offer health insurance to those employees and potentially subsidize their premium cost or face harsh penalties ranging from $2,000 to $3,000 per employee beginning Jan. 1, 2016. What this means is we could see additional workers' hours cut in the wake of the implementation of the employer mandate. Regal Entertainment, the nation's largest operator of movie theaters, for instance, cut thousands of employees' hours last April in order to skirt the employer mandate since the ACA has no rules concerning part-time workers.
Combined, this change could produce a new class of part-time workers who have enough disposable cash to afford renting furniture, appliances, and other amenities, but who don't have the financial capability to get credit cards or garner large loans to outright purchase these items. As this landscape changes, Rent-A-Center should see benefits.
Rent-A-Center is also in the process of rolling out an exciting new business venture of renting out a variety of name-brand smartphones that consumers can rent with or without a contract. This move should give consumers who have a poor credit history an opportunity to purchase a small luxury like a smartphone. As Rent-A-Center's press release notes, it'll sport a wide array of Samsung products including the Galaxy S3, S4, and the new S5, to name a few.
Finally, Rent-A-Center also boasts an attractive valuation relative to its peers. Based on Wall Street's estimates, Rent-A-Center is valued at roughly 10 times forward earnings and less than nine times 2017's profit potential. Even with subdued top-line growth potential over the near-term, simply being able to control its costs and execute on its new smartphone opportunity could easily make this an intriguing value play.
Show me the money!
What income seekers should really be excited about, and why we're really taking a closer look at Rent-A-Center today, is the company's healthy and growing dividend.
Graph by author. Data source: Nasdaq.com.
As you can see from the chart above, Rent-A-Center only began paying a dividend in the summer of 2010, but has since grown that payout 283%, from just $0.06 per quarter to $0.23 per quarter. On an annualized basis, following the company's latest swoon after its Q2 update, this means Rent-A-Center is yielding 3.6%, which should be more than enough to get long-term dividend-seeking investors' attention. It's also a slightly better yield than you'll get by investing in a 30-year U.S. Treasury bond.
Furthermore, Rent-A-Center's payout ratio even with reduced annual estimates is only 42%, meaning there's a good chance its dividend is stable in the meantime and could grow substantially in the coming years. Also, with the exception of 2013, Rent-A-Center has consistently delivered $103 million or more in free cash flow generation over the past decade, which implies it has more than enough capability to manage its nearly $800 million in net debt, while also paying its dividend and expanding the business.
If you're looking for a solid dividend-paying company with long-term growth potential and a forward P/E that could crack under 10 any day, then perhaps it's time to give Rent-A-Center a closer look.
