Pawn shops cashing in

BANGALORE - Bad credit? Need money now? Just grab that electric guitar in the corner and head for a pawn shop. Cash-strapped consumers are swapping jewelry, music systems and electronic gadgets for cash like never before.

"The pawn transaction is a very simple, no-questions-asked secured loan that's working very well for people," Sterne Agee analyst Henry Coffey said.

U.S. payday lenders, who make small, short-term loans against the borrower's next paycheck, are investing more in their pawn operations as stricter regulations and rising unemployment make their primary business less attractive.

Lenders like Ezcorp Inc, First Cash Financial Services Inc and Cash America International Inc have seen lower profits on the payday front but strong results from their pawn operations.

Compared with payday loans that carry sky-high interest rates -- sometimes even more than 300 percent -- pawn loans are easy on the pocket and do not have to be repaid if the borrower decides to forfeit the collateral.

Companies are pouring capital and managerial resources into their pawn products, which are growing at a rate not seen in the past 10 years, Coffey said.

Much of the shift in emphasis has been spurred by regulators who are trying to curb the interest rates charged by payday lenders.

The Ohio Legislature passed a bill last year to effectively cap the interest rate on payday loans at 28 percent, a blow to payday lending centers in the state.

Fort Worth, Texas-based Cash America closed 42 stores in Ohio, and on Thursday it reported a drop in fourth-quarter profit and lowered its 2009 earnings outlook.

Some other states are moving to cap interest rates at 36 percent.

"I think there's going to be a lot of noise regarding that," said Stephens Inc analyst David Burtzlaff.

"The 36 percent interest rate caps have been talked about a lot, and you can't operate at that rate. Simple math won't allow it, given the loss rates these companies experience on the product."

Analysts also expect the payday lending sector to face resistance from U.S. President Barack Obama, who called for caps on interest rates and improved disclosure during his campaign.

"It poses more of a risk than earlier, but given the environment I don't know whether he (Obama) will take away the last consumer credit option right now," Burtzlaff said.

To overcome earnings shortfalls on the payday front, the companies have turned to expanding their pawn operations.

First Cash said it expects 75 percent to 80 percent of its earnings in 2009 to come from pawn operations, and others are not far behind.

MEXICO CALLING

Fueled by new growth prospects, U.S. pawn lending companies are now aggressively expanding south of the border where demand is still high. Analysts believe Mexico could be a significant growth vehicle for the lenders going forward.

"Culturally the pawn product has been in Mexico for a very long time and it is well accepted," Burtzlaff said. "All of these companies have lot of room for store expansions."

First Cash said it expects significant growth in customer traffic and transaction volumes in Mexico in 2009.

First Cash expects to open 55 to 60 new stores in Mexico and a limited number of new pawn stores in the United States this year, while Ezcorp plans to open 30 to 35 pawn shops in Mexico.

Cash America said in September it planned to buy an 80 percent ownership stake in 100 pawnshops in Mexico for about $90 million.

But Mexico is not going be an open field for the U.S. companies, and local pawn shop operators may present tough competition.

Growth in Mexico is still in a relatively early phase, and the business there is dominated by small independents as well as one large quasi-government-owned pawn shop chain Monte de Piedad, Sterne Agee analyst Coffey said.

A strengthening dollar against the Mexican peso and volatility in gold prices might also create headwinds for the U.S. pawn operators.