While rent-to-own industry leader Rent-A-Center (NASDAQ:RCII) reported first-quarter earnings Monday, perhaps the bigger news was the settlement of a class action lawsuit. The legal costs had led the company to report GAAP losses, though operations were still profitable. With the settlement (though it's not finalized), Rent-A-Center can focus once again on expanding its operations.
Not that it has been standing still. It has been integrating Rent-Way into the fold, and that acquisition made in November was largely responsible for the 24% increase in quarterly revenues. Net profits came in 63% less than last year, but that was a result of the litigation. Adjusting for those expenses, profits actually rose about 16% year over year, just about beating analyst expectations by a penny.
Settling the lawsuit was important. New Jersey caps at 30% interest rates that can be charged to consumers. With an effective rate of as much as 80% on some of its contracts, Rent-a-Center was in the unenviable position of trying to justify what appeared to be rates that a loan shark would smile at.
While Rent-A-Center recorded a $51 million charge related to that, on top of the $58 million reserve it had set up last quarter, the terms seem pretty reasonable. The rental company will pay $86 million to so-called victims but will be entitled to as much as 50% of any proceeds remaining in the settlement fund after the monies are distributed. You can be sure that New Jersey won't have very many new Rent-a-Centers or Aaron Rents (NYSE:RNT) opening up in the state, nor will this be the last of such suits the company will face.
Rent-a-Center also recorded a fifth consecutive quarterly increase in same-store sales. Having access to consumer electronics and appliances at cheap weekly rates -- even though the interest charged seems high -- is what drives customers to keep coming back.
Renting is generally more expensive than owning, but customers know they have the option of buying the product, or returning it. Because many customers have little credit, no credit, or poor credit and probably can't get credit or a loan from Sears (NASDAQ:SHLD) or Bank of America (NYSE BAC), the rent-to-own option is often their only recourse. It also justifies the increased rates they're charged.
With the lawsuit essentially settled and the Rent-Way acquisition done, investors can focus on whether Rent-a-Center remains a viable investment. The Motley Fool Inside Value recommendation has 3,385 locations, one-and-a-half times more stores than does Aaron Rents. And with the introduction of financial services like check cashing and payday loans at nearly 200 stores, Rent-a-Center is diversifying its revenues away from the higher-cost rental business. As these services proliferate, investors should expect margins to improve.
Despite the prospects, at current prices, Rent-a-Center trades at historical highs on a number of metrics. So I'd wait for the chance to pick up shares at better prices.
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Fool contributor Rich Duprey does not have a financial position in any of the stocks mentioned in this article. You can see his holdings here. Bank of America is an Income Investor recommendation. The Motley Fool has a disclosure policy.
