PROG Holdings Stock: Don’t Buy Just Yet (NYSE:PRG)

Investment Thesis

PROG Holdings (NYSE:PRG) continues to be a solid performer among a tough economy and rising interest rates. Given its recent Q4 earnings, I believe the stock is a hold but continue to be optimistic about the company’s long-term potential. However, given its valuation, I believe most of its growth prospects are priced in fairly, so investors should continue to sit tight. Management has shown to be very thoughtful in returning capital to shareholders. Despite some controversy about potentially misleading lending practices to these subprime borrowers, I believe the company is serving an unmet need of allowing people to get things they need at reasonable rates. I think the business will continue to perform well given the need for progressive lending and actually help low-income individuals build a strong credit profile.

PROG Holdings Is A Progressive Lessor

PROG Holdings provides transparent and competitive payment options to consumers, typically low-income with poor credit scores, that can’t get access to traditional financing methods. The company is a fintech holding company that has three segments: Progressive Leasing, Vive, and Four. According to the 2023 annual report, “Progressive Leasing provides consumers with lease-purchase solutions for merchandise, including furniture, appliances, electronics, jewelry, mobile phones and accessories, mattresses, and automobile electronics and accessories from leading traditional and e-commerce retailers (whom we refer to as our point-of-sale partners, “POS partners,” or “retail partners).” As of 2023, Progressive Leasing made up 97% of total revenue, the main driver of the business.

Vive is described in the 2023 annual report as offering “customized programs with services that include revolving loans through private label and Vive-branded credit cards.” This segment basically provides the financing solutions for these subprime borrowers in the form of their own branded credit cards. These credit cards bring the opportunity for some of these low-income borrowers to access “over 7,500 POS partner locations and e-commerce websites includes furniture, mattresses, fitness equipment, and home improvement retailers, as well as medical and dental service providers.” Vive contributed to 3% of total revenue for 2023.

Finally, the annual report refers Four as their “proprietary platform capabilities to provide our base of customers and POS partners with another payment solution as part of the PROG Holdings financial technology offerings. Shoppers use Four’s platform to purchase furniture, clothing, electronics, health and beauty, footwear, jewelry, and other consumer goods from retailers across the United States.” The company says revenue from this segment was immaterial for 2023.

Establishing Strong Credit Profiles To Help Subprime Borrowers

Right away, an astute observer may feel that this business is rather controversial, as it primarily targets those with poor credit history and possibly marginalized communities. Although at first glance the business seems limited, I think it provides much needed living essentials to those who need it most. Given rising inflation, interest rates, and a tough US economy, Progressive Leasing is providing a much needed service to those in need by giving them the chance to act responsibly and build a strong credit profile in a tough economy. While many may have reputational concerns about the company, I believe their transparent and fair leasing practices are incredibly reasonable and serve to help their customers. A little of responsibility is needed on part of the borrower, but in a free market, adults with reasonable living experience should have the proper budgets and discipline to make sure they can make the payments and improve their credit score. Far from ruining people’s finances, the company is trying to get people started financing their lives and building a strong credit profile.

Large, Untapped Addressable Market Provides Growth

According to management estimates in their investor presentation, they believe their company can potentially grow sales over the long-term, as the Virtual Lease to Own industry has at least $8 billion in market size compared to the current revenues of $2.4 billion TTM.

Management knows that there are many borrowers out there with FICO scores below 700 but still have good incomes, cash flow, and are underserved by the current market. When people think about these subprime borrowers, they may assume these borrowers are in the utmost bottom in terms of income and are nearing poverty-stricken levels. However, this is most certainly not the case. According to the annual report, “Approximately 40% of United States population has a near or below prime FICO score and may not have a convenient solution to finance the purchase of big-ticket items.” Most of the company’s core customers have Fico credit scores between 300 and 650, and are mostly millennials with a median monthly income of $3,300.

The company is providing the opportunity for 40% of the US population to gain access to merchandise they need, often furniture, appliances, and electronics. They have a rigorous credit approval process that has shown a successful track record, judging from their relatively low write-off rate of “7%, the midpoint of our annual targeted range of 6% to 8%” (Q4 Earnings Transcript). What this means is that around 93% of payments are made, showing the company’s rigorous credit screening methods are working. Many of their so called “risky” customers have shown to make their payments on time, improve their credit score, and get the things they need. It seems to me that the company is creating many win-win deals for all its stakeholders, creating a positive impact on society.

Strong Partnerships with Established Merchants

Many of their retail partners are some of the biggest names in the game, from Dell (DELL) to Best Buy (BBY) to Lowe’s (LOW). Because Progressive Leasing is involved in helping drive sales for these retailers, this partnership is incredibly beneficial for both parties, and will likely remain so in the future. Retail partners can tap into a wider customer base, reduce credit risk, and rely on Progressive for a streamlined payment processing experience. I believe these strong partnerships improve the brand image and reputation of Progressive Leasing as they have proven to be a reliable lease-to-own provider to millions of customers. Given this reputation, I don’t believe retail merchants will abandon this lucrative partnership as it brings significant sales in for these businesses. Therefore, relatively high switching costs prevent Progressive’s merchant partners to leave because it would negatively affect their top-lines.

Management’s core focus is to “grow our gross merchandise volume (GMV) through existing merchant partners, new partners, and direct-to-consumer initiatives” and has seen some recent success,

In Q4, e-commerce as a percentage of Progressive Leasing GMV was at a seasonal high, representing approximately 20% of total leasing GMV, and we continue to add new e-com retail partners during the quarter through our customizable integrations and plug-ins. We also deepened our integrations with several existing partners, including launching an e-com card solution with a long-time top 5 retail partner. In 2023, we added nearly twice as many new e-com partners as we added in 2022, which allows us to further our strategy of being able to engage with our customers wherever and whenever is most convenient for them.

Within the retail channel environment of 2023, we grew balance of share with our top partners and continued our track record of renewing key retailers with multiyear exclusive contracts.

We grew the PROG Marketplace materially in 2023. And through continued enhancements this year, we plan to roughly double the GMV for PROG Marketplace in 2024. We view this marketplace as a complement to our retail partner channel since we already partner with some of the best retailers in the country.

Given these exciting results, the business is seeing positive momentum in its strategy of growing GMV with existing and new POS partners, a key performance indicator of its financial success.

PROG Holdings Is Worth $30/Share

Starting with TTM revenues of $2.4 billion, I expect revenues to grow at 2% year over year, reaching ~$2.5 billion in three years. I believe the company can get to $2.5 billion in revenue by pursuing the largely untapped market of underserved borrowers with little credit history. Given their low penetration, the company can continue to find new POS partners in e-commerce, cultivate repeat business among consumers, and offer new product categories. Management gave guidance of $2.3 billion of sales for 2024, and cited a difficult operating environment with softer demand for consumer spending. Despite a tough 2024, I believe long-term the company can continue to grow steadily given its strong partnerships and untapped market potential.

At $2.5 billion in revenue, I expect net margins to be around 5%, which is around the 5 year average. Therefore, earnings should be ~$125 million. Divide by shares outstanding of 44 million is ~$2.85 EPS. Multiply by a 10x earnings multiple and the fair value is likely around ~$30/share. For new investors, no strong margin of safety exists as the gap between price and my value isn’t large enough to safely buy.

The reason for the hold rating, however, is that I believe management is incredibly thoughtful in returning capital to shareholders. They recently announced a $.12 dividend quarterly, along with a $500 million share repurchase program. I believe shareholders who hold will be rewarded for their loyalty, as the company plans on giving back.

Risks – A Bad Reputation

To start, the company faces controversy over allegations of providing financing options to those who have little credit history. Past litigation highlighted this problem, as the attorney general of Pennsylvania sued Progressive Leasing for “deceptive practices to take advantage of low-income Pennsylvanians”.

The company has been under intense scrutiny for potentially overcharging these low-income consumers and concerns about clarity in advertised prices. The FTC and Progressive Leasing reached a settlement of $175 million in 2020.

Rent-to-own companies like Progressive Leasing get a bad reputation because they are seen as somewhat exploitative. I acknowledge this as a risk, but I think since then the company has made noticeable changes to address this problem. In fact, they had to because in this press release the FTC says,

Progressive will be prohibited from misrepresenting the cost, terms, or nature of its plans. The company also will be required to clearly and conspicuously disclose the total cost to own a product when marketing its plans, and must get consumers’ express, informed consent before charging or billing them.

I think it’s safe to say that Progressive Leasing learned its lesson. Since then, they’ve improved their transparency and major retailer partners continue to work with them. However, further regulatory scrutiny could impact the company’s ability to perform and their bad reputation could jeopardize shareholder return.

Other risks stem from competition, as many lease-to-own companies exist in the industry. They all want a piece of the growing pie, so the competition could get more intense and impact pricing by Progressive Leasing.

Hold On To PROG Holdings

Given the company’s untapped market potential, good risk management practices, and management’s priority in returning capital to shareholders, I think the business itself will perform quite steadily into the future. However, the prices are reflective of this view, so the company is likely fairly valued. Investors may want to keep this company on their watch list and if a significant discount presents itself in the future, they can buy with a better margin of safety. Thus, PROG Holdings stock is a hold for now.