CREDIT ACCEPTANCE CORPORATION The following discussion and analysis should be read in conjunction with the consolidated financial statements and related notes included in Item 8 - Financial Statements and Supplementary Data, of our 2019 Annual Report on Form 10-K, as well as Part I - Item 1 - Financial Statements, of this Form 10-Q, which is incorporated herein by reference.
Overview
We offer financing programs that enable automobile dealers to sell vehicles to consumers, regardless of their credit history. Our financing programs are offered through a nationwide network of automobile dealers who benefit from sales of vehicles to consumers who otherwise could not obtain financing; from repeat and referral sales generated by these same customers; and from sales to customers responding to advertisements for our financing programs, but who actually end up qualifying for traditional financing. For the three months endedSeptember 30, 2020 , consolidated net income was$242.1 million , or$13.56 per diluted share, compared to consolidated net income of$165.4 million , or$8.73 per diluted share, for the same period in 2019. For the nine months endedSeptember 30, 2020 , consolidated net income was$254.7 million , or$14.17 per diluted share, compared to consolidated net income of$494.2 million , or$26.06 per diluted share, for the same period in 2019. COVID-19 continues to be widespread inthe United States . In an effort to contain the virus, authorities implemented various measures, including travel bans, stay-at-home orders and shutdowns of non-essential businesses. These measures caused a significant decline in economic activity and a dramatic increase in unemployment. While the prevalence, severity and impact of such restrictions have lessened and unemployment rates have improved, uncertainty remains as to when economic conditions will return to normalcy and whether further restrictions may be required. Starting in mid-March, we experienced a substantial reduction in demand for our product and a significant decline in cash flows from our Loan portfolio that lasted through mid-April, after which collections and new loan volumes improved significantly. Starting in late July and continuing into October, we have experienced another substantial reduction in demand for our product. As the virus is not yet fully contained, the ultimate impact of the pandemic on our business is not yet known. The impact will depend on future developments, including, but not limited to, the duration of the pandemic, its severity, the actions to contain the disease or mitigate its impact, additional federal stimulus measures and enhanced unemployment benefits, if any, and the duration, timing and severity of the impact on consumer behavior and economic activity. Results for the three and nine months endedSeptember 30, 2020 include a reversal of provision for credit losses of$29.8 million and a provision for credit losses of$464.3 million , respectively, reflecting the adoption of CECL onJanuary 1, 2020 and the impact of changes in the amount and timing of forecasted future net cash flows from our Loan portfolio. Under CECL, we are required to record a provision for credit losses for every new loan at the time that loan is originated equal to the difference between the amount we paid to acquire the loan and the present value of forecasted net cash flows using an effective interest rate prescribed under CECL. The effective interest rate under CECL is calculated assuming 100% of the contractually scheduled payments of each loan is received. Since we do not expect to receive this amount, the effective rate under CECL is higher than the rate we expect to earn. Using the higher effective rate prescribed by CECL to record the loan results in a value for each loan that is less than the amount we paid to acquire the loan. This difference is recorded as an allowance for credit losses along with a corresponding provision for credit losses. For the three and nine months endedSeptember 30, 2020 , we recorded provision for credit losses of$114.1 million and$426.2 million , respectively, related to new Consumer Loan assignments. Over the life of the loan, we expect to record an amount equivalent to this provision for credit losses as finance charge revenue, which will be recognized using the same effective interest rate used to record the loan. The remaining reversal of provision for credit losses of$143.9 million and provision for credit losses of$38.1 million for the three and nine months endedSeptember 30, 2020 , respectively, reflect changes in our estimates of the amount and timing of future net cash flows from our Loan portfolio discussed below. Under CECL, the net present value of the change in our net cash flow forecast is recorded as a provision for credit losses or reversal of provision for credit losses. Critical Success Factors Critical success factors include our ability to accurately forecast Consumer Loan performance, access capital on acceptable terms, and maintain or grow Consumer Loan volume at the level and on the terms that we anticipate, with an objective to maximize economic profit. Economic profit is a non-GAAP financial measure we use to evaluate our financial results and determine incentive compensation. Economic profit measures how efficiently we utilize our total capital, both debt and equity, and is a function of the return on capital in excess of the cost of capital and the amount of capital invested in the business. 44
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Table of Contents Consumer Loan Metrics At the time a Consumer Loan is submitted to us for assignment, we forecast future expected cash flows from the Consumer Loan. Based on the amount and timing of these forecasts and expected expense levels, an advance or one-time purchase payment is made to the related Dealer at a price designed to maximize economic profit. We use a statistical model to estimate the expected collection rate for each Consumer Loan at the time of assignment. We continue to evaluate the expected collection rate of each Consumer Loan subsequent to assignment. Our evaluation becomes more accurate as the Consumer Loans age, as we use actual performance data in our forecast. By comparing our current expected collection rate for each Consumer Loan with the rate we projected at the time of assignment, we are able to assess the accuracy of our initial forecast. The following table compares our forecast of Consumer Loan collection rates as ofSeptember 30, 2020 with the forecasts as ofJune 30, 2020 , as ofDecember 31, 2019 and at the time of assignment, segmented by year of assignment: Forecasted Collection Percentage as of (1) Current Forecast Variance from Consumer Loan September 30, December 31, December 31, Assignment Year 2020 June 30, 2020 2019 Initial Forecast June 30, 2020 2019 Initial Forecast 2011 74.8 % 74.8 % 74.8 % 72.5 % 0.0 % 0.0 % 2.3 % 2012 73.8 % 73.8 % 73.9 % 71.4 % 0.0 % -0.1 % 2.4 % 2013 73.5 % 73.5 % 73.5 % 72.0 % 0.0 % 0.0 % 1.5 % 2014 71.7 % 71.7 % 71.7 % 71.8 % 0.0 % 0.0 % -0.1 % 2015 65.2 % 65.2 % 65.4 % 67.7 % 0.0 % -0.2 % -2.5 % 2016 63.7 % 63.6 % 64.1 % 65.4 % 0.1 % -0.4 % -1.7 % 2017 64.1 % 63.8 % 64.8 % 64.0 % 0.3 % -0.7 % 0.1 % 2018 64.1 % 63.5 % 65.1 % 63.6 % 0.6 % -1.0 % 0.5 % 2019 64.5 % 63.4 % 64.6 % 64.0 % 1.1 % -0.1 % 0.5 % 2020 (2) 64.4 % 62.2 % - 63.0 % 2.2 % - 1.4 % (1)Represents the total forecasted collections we expect to collect on the Consumer Loans as a percentage of the repayments that we were contractually owed on the Consumer Loans at the time of assignment. Contractual repayments include both principal and interest. Forecasted collection rates are negatively impacted by canceled Consumer Loans as the contractual amount owed is not removed from the denominator for purposes of computing forecasted collection rates in the table. (2)The forecasted collection rate for 2020 Consumer Loans as ofSeptember 30, 2020 includes both Consumer Loans that were in our portfolio as ofJune 30, 2020 and Consumer Loans assigned during the most recent quarter. The following table provides forecasted collection rates for each of these segments: Forecasted Collection Percentage as of Current Forecast Variance from 2020 Consumer Loan Assignment Period September 30, 2020 June 30,
2020 Initial Forecast
64.3 % 62.2 % 62.4 % 2.1 % 1.9 %
July 1, 2020 through September 30, 2020 64.7 % - 64.4 % - 0.3 % Consumer Loans assigned in 2011 through 2013 and 2020 have yielded forecasted collection results materially better than our initial estimates, while Consumer Loans assigned in 2015 and 2016 have yielded forecasted collection results materially worse than our initial estimates. For all other assignment years presented, actual results have been close to our initial estimates. For the three months endedSeptember 30, 2020 , forecasted collection rates improved for Consumer Loans assigned in 2017 through 2020 and were generally consistent with expectations at the start of the period for all other assignment years presented. For the nine months endedSeptember 30, 2020 , forecasted collection rates improved for Consumer Loans assigned in 2020, declined for Consumer Loans assigned in 2015 through 2018 and were generally consistent with expectations at the start of the period for all other assignment years presented. 45
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The changes in forecasted collection rates for the three and nine months ended
For the Three Months Ended September For the Nine Months Ended September (In millions)
30, 30,
Increase (Decrease) in Forecasted
Net Cash Flows 2020 2019 2020 2019
Dealer Loans $ 39.5 $ (4.2) $ (36.5) $ (0.3)
Purchased Loans 99.0 6.8 (7.1) 32.6
Total $ 138.5 $ 2.6 $ (43.6) $ 32.3
During the first quarter of 2020, we reduced our estimate of future net cash
flows from our Loan portfolio by $206.5 million , or 2.3% of the forecasted net
cash flows at the start of the period, primarily due to the impact of the
COVID-19 pandemic. The reduction was comprised of: (1) $44.3 million calculated
by our forecasting model, which reflected lower realized collections during the
first quarter of 2020 and (2) an additional $162.2 million , which represented
our best estimate of the future impact of the COVID-19 pandemic on future net
cash flows. Under CECL, changes in the amount and timing of forecasted net cash
flows are recorded as a provision for credit losses in the current period. While
the adjustment to our forecast, which we continued to apply throughout the
second and third quarters of 2020, represents our best estimate at this time,
the COVID-19 pandemic has created conditions that increase the level of
uncertainty associated with our estimate of the amount and timing of future net
cash flows from our Loan portfolio.
The following table summarizes changes in realized collections in each of the last ten months as compared to the same period in the previous year:
Year over Year Percent Change
Month Ended Front End Collections (1) Total Collections
January 31, 2020 15.9 % 20.0 %
February 29, 2020 13.4 % 13.2 %
March 31, 2020 -1.3 % -3.1 %
April 30, 2020 7.7 % -1.1 %
May 31, 2020 9.1 % 5.4 %
June 30, 2020 17.5 % 15.7 %
July 31, 2020 22.7 % 18.0 %
August 31, 2020 8.4 % 5.0 %
September 30, 2020 15.9 % 11.2 %
October 28, 2020 Month-to-Date 12.8 % 9.4 %
(1)Represents collections realized on Consumer Loans that are either current or in the early stages of delinquency.
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When comparing year over year changes in collections on a monthly basis, variations in the calendar can have a meaningful impact on the results as collections fluctuate according to the day of the week. In addition,February 2020 had 29 days as compared to 28 days in the prior year. The following table presents year over year collection results after adjusting for these differences: Year over Year Percent Change Month Ended Front End Collections (1) Total Collections January 31, 2020 9.7 % 13.3 % February 29, 2020 8.4 % 9.0 % March 31, 2020 2.2 % -0.6 % April 30, 2020 7.8 % -0.4 % May 31, 2020 11.6 % 8.2 % June 30, 2020 15.0 % 12.3 % July 31, 2020 18.7 % 14.8 % August 31, 2020 16.2 % 12.5 % September 30, 2020 12.5 % 7.6 % October 28, 2020 Month-to-Date 14.8 % 9.9 %
(1) Represents collections realized on Consumer Loans that are either current or in the early stages of delinquency.
Starting in mid-March, we experienced a reduction in realized collections at the same time government authorities began to implement restrictions that limited economic activity. The reduction in Front End Collections reflects a lower volume of payments from customers while the reduction in Total Collections also includes lower realized collections from repossessions, which were temporarily suspended as the COVID-19 crisis began to unfold. Starting in mid-April, Front End Collections improved as federal stimulus and enhanced unemployment benefit payments were being distributed. Starting in August and continuing into October, the improvement in Front End Collections has declined as federal stimulus and enhanced unemployment benefit payments lapsed, and unemployment rates, while improving, remain above pre-pandemic levels.
The following table presents information on the average Consumer Loan assignment for each of the last 10 years:
Average
Initial Loan Term
Consumer Loan Assignment Year Consumer Loan (1) Advance (2) (in months)
2011 15,686 7,137 46
2012 15,468 7,165 47
2013 15,445 7,344 47
2014 15,692 7,492 47
2015 16,354 7,272 50
2016 18,218 7,976 53
2017 20,230 8,746 55
2018 22,158 9,635 57
2019 23,139 10,174 57
2020 (3) 24,007 10,483 59
(1)Represents the repayments that we were contractually owed on Consumer Loans
at the time of assignment, which include both principal and interest.
(2)Represents advances paid to Dealers on Consumer Loans assigned under our
Portfolio Program and one-time payments made to Dealers to purchase Consumer
Loans assigned under our Purchase Program. Payments of Dealer Holdback and
accelerated Dealer Holdback are not included.
(3)The averages for 2020 Consumer Loans include both Consumer Loans that were in
our portfolio as of June 30, 2020 and Consumer Loans assigned during the most
recent quarter. The following table provides averages for each of these
segments:
Average
Initial Loan Term
2020 Consumer Loan Assignment Period Consumer Loan Advance (in months)
January 1, 2020 through June 30, 2020 $ 23,801 $ 10,349 59
July 1, 2020 through September 30, 2020 24,527 10,823 60
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Forecasting collection rates accurately at Loan inception is difficult. With this in mind, we establish advance rates that are intended to allow us to achieve acceptable levels of profitability, even if collection rates are less than we initially forecast. The following table presents forecasted Consumer Loan collection rates, advance rates, the spread (the forecasted collection rate less the advance rate), and the percentage of the forecasted collections that had been realized as ofSeptember 30, 2020 . All amounts, unless otherwise noted, are presented as a percentage of the initial balance of the Consumer Loan (principal + interest). The table includes both Dealer Loans and Purchased Loans. As of September 30, 2020 Forecasted % of Forecast Consumer Loan Assignment Year Collection % Advance % (1) Spread % Realized (2) 2011 74.8 % 45.5 % 29.3 % 99.8 % 2012 73.8 % 46.3 % 27.5 % 99.6 % 2013 73.5 % 47.6 % 25.9 % 99.3 % 2014 71.7 % 47.7 % 24.0 % 98.8 % 2015 65.2 % 44.5 % 20.7 % 97.3 % 2016 63.7 % 43.8 % 19.9 % 92.2 % 2017 64.1 % 43.2 % 20.9 % 81.3 % 2018 64.1 % 43.5 % 20.6 % 63.0 % 2019 64.5 % 44.0 % 20.5 % 38.1 % 2020 (3) 64.4 % 43.7 % 20.7 % 11.1 % (1)Represents advances paid to Dealers on Consumer Loans assigned under our Portfolio Program and one-time payments made to Dealers to purchase Consumer Loans assigned under our Purchase Program as a percentage of the initial balance of the Consumer Loans. Payments of Dealer Holdback and accelerated Dealer Holdback are not included. (2)Presented as a percentage of total forecasted collections. (3)The forecasted collection rate, advance rate and spread for 2020 Consumer Loans as ofSeptember 30, 2020 include both Consumer Loans that were in our portfolio as ofJune 30, 2020 and Consumer Loans assigned during the most recent quarter. The following table provides forecasted collection rates, advance rates and spreads for each of these segments: As of September
30, 2020
Forecasted
2020 Consumer Loan Assignment Period Collection % Advance % Spread %
January 1, 2020 throughJune 30, 2020 64.3 %
43.5 % 20.8 %
July 1, 2020 throughSeptember 30, 2020 64.7 %
44.1 % 20.6 %
The risk of a material change in our forecasted collection rate declines as the Consumer Loans age. For 2016 and prior Consumer Loan assignments, the risk of a material forecast variance is modest, as we have currently realized in excess of 90% of the expected collections. Conversely, the forecasted collection rates for more recent Consumer Loan assignments are less certain as a significant portion of our forecast has not been realized.
The spread between the forecasted collection rate and the advance rate has ranged from 19.9% to 29.3%, on an annual basis, over the last 10 years. The spread was at the high end of this range in 2011, when the competitive environment was unusually favorable, and much lower during other years (2015 through 2020) when competition was more intense.
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The following table compares our forecast of Consumer Loan collection rates as ofSeptember 30, 2020 with the forecasts at the time of assignment, for Dealer Loans and Purchased Loans separately: Dealer Loans Purchased Loans Forecasted Collection Percentage as of Forecasted Collection Percentage as of (1) (1) Consumer Loan Assignment September 30, Initial September 30, Initial Year 2020 Forecast Variance 2020 Forecast Variance 2011 74.7 % 72.4 % 2.3 % 76.4 % 72.7 % 3.7 % 2012 73.7 % 71.3 % 2.4 % 75.9 % 71.4 % 4.5 % 2013 73.4 % 72.1 % 1.3 % 74.3 % 71.6 % 2.7 % 2014 71.6 % 71.9 % -0.3 % 72.5 % 70.9 % 1.6 % 2015 64.6 % 67.5 % -2.9 % 68.9 % 68.5 % 0.4 % 2016 62.9 % 65.1 % -2.2 % 65.9 % 66.5 % -0.6 % 2017 63.5 % 63.8 % -0.3 % 65.7 % 64.6 % 1.1 % 2018 63.6 % 63.6 % 0.0 % 65.2 % 63.5 % 1.7 % 2019 64.1 % 63.9 % 0.2 % 65.2 % 64.2 % 1.0 % 2020 64.1 % 62.9 % 1.2 % 64.9 % 63.2 % 1.7 %
(1)The forecasted collection rates presented for Dealer Loans and Purchased Loans reflect the Consumer Loan classification at the time of assignment.
The following table presents forecasted Consumer Loan collection rates, advance rates, and the spread (the forecasted collection rate less the advance rate) as ofSeptember 30, 2020 for Dealer Loans and Purchased Loans separately. All amounts are presented as a percentage of the initial balance of the Consumer Loan (principal + interest). Dealer Loans Purchased Loans Consumer Loan Assignment Forecasted Advance % Forecasted Advance % Year Collection % (1) (1)(2) Spread % Collection % (1) (1)(2) Spread % 2011 74.7 % 45.1 % 29.6 % 76.4 % 49.3 % 27.1 % 2012 73.7 % 46.0 % 27.7 % 75.9 % 50.0 % 25.9 % 2013 73.4 % 47.2 % 26.2 % 74.3 % 51.5 % 22.8 % 2014 71.6 % 47.2 % 24.4 % 72.5 % 51.8 % 20.7 % 2015 64.6 % 43.4 % 21.2 % 68.9 % 50.2 % 18.7 % 2016 62.9 % 42.1 % 20.8 % 65.9 % 48.6 % 17.3 % 2017 63.5 % 42.1 % 21.4 % 65.7 % 45.8 % 19.9 % 2018 63.6 % 42.7 % 20.9 % 65.2 % 45.2 % 20.0 % 2019 64.1 % 43.1 % 21.0 % 65.2 % 45.6 % 19.6 % 2020 64.1 % 42.7 % 21.4 % 64.9 % 45.3 % 19.6 % (1)The forecasted collection rates and advance rates presented for Dealer Loans and Purchased Loans reflect the Consumer Loan classification at the time of assignment. (2)Represents advances paid to Dealers on Consumer Loans assigned under our Portfolio Program and one-time payments made to Dealers to purchase Consumer Loans assigned under our Purchase Program as a percentage of the initial balance of the Consumer Loans. Payments of Dealer Holdback and accelerated Dealer Holdback are not included.
Although the advance rate on Purchased Loans is higher as compared to the advance rate on Dealer Loans, Purchased Loans do not require us to pay Dealer Holdback.
Access to Capital Our strategy for accessing capital on acceptable terms needed to maintain and grow the business is to: (1) maintain consistent financial performance; (2) maintain modest financial leverage; and (3) maintain multiple funding sources. Our funded debt to equity ratio was 2.0 to 1 as ofSeptember 30, 2020 . We currently utilize the following primary forms of debt financing: (1) a revolving secured line of credit; (2) Warehouse facilities; (3) Term ABS financings; and (4) senior notes. 49
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Consumer Loan Volume
The following table summarizes changes in Consumer Loan assignment volume in
each of the last seven quarters as compared to the same period in the previous
year:
Year over Year Percent Change
Three Months Ended Unit Volume Dollar Volume (1)
March 31, 2019 0.4 % 5.1 %
June 30, 2019 0.0 % 5.6 %
September 30, 2019 0.4 % 7.6 %
December 31, 2019 -5.3 % 1.1 %
March 31, 2020 -10.1 % -4.5 %
June 30, 2020 5.7 % 5.2 %
September 30, 2020 -8.8 % -4.7 %
(1)Represents advances paid to Dealers on Consumer Loans assigned under our Portfolio Program and one-time payments made to Dealers to purchase Consumer Loans assigned under our Purchase Program. Payments of Dealer Holdback and accelerated Dealer Holdback are not included.
Consumer Loan assignment volumes depend on a number of factors including (1) the
overall demand for our financing programs, (2) the amount of capital available
to fund new Loans, and (3) our assessment of the volume that our infrastructure
can support. Our pricing strategy is intended to maximize the amount of economic
profit we generate, within the confines of capital and infrastructure
constraints.
Unit and dollar volumes declined 8.8% and 4.7%, respectively, during the third
quarter of 2020 as the number of active Dealers declined 6.5% while average unit
volume per active Dealer declined 2.2%. Dollar volume declined less than unit
volume during the third quarter of 2020 due to an increase in the average
advance paid per unit. This increase was the result of an increase in the
average size of the Consumer Loans assigned, primarily due to increases in the
average vehicle selling price and average initial loan term and an increase in
Purchased Loans as a percentage of total unit volume.
The following table summarizes changes in Consumer Loan assignment unit volume
in each of the last ten months as compared to the same period in the previous
year:
Year over Year Percent Change
Month Ended Unit Volume
January 31, 2020 -0.7 %
February 29, 2020 0.9 %
March 31, 2020 -22.3 %
April 30, 2020 -22.3 %
May 31, 2020 20.2 %
June 30, 2020 22.4 %
July 31, 2020 4.4 %
August 31, 2020 -17.4 %
September 30, 2020 -13.8 %
October 28, 2020 Month-to-Date -17.3 %
We believe the declines in unit volume for the months ended March 31, 2020 and
April 30, 2020 were primarily due to the impact of COVID-19, which resulted in
many Dealers temporarily closing or restricting their operations and a
deterioration in consumer demand for Dealers that remained open. During the
latter part of April and continuing into July, unit volumes improved. We believe
the improvement resulted from a combination of Dealers gradually reopening their
operations and the distribution of federal stimulus and enhanced unemployment
benefit payments. Starting in late July and continuing into October, we have
experienced another significant decline in unit volume as federal stimulus and
enhanced unemployment benefit payments lapsed, Dealer inventories declined and
used vehicle prices increased.
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The following table summarizes the changes in Consumer Loan unit volume and
active Dealers:
For the Three Months Ended September 30, For the Nine Months Ended September 30,
2020 2019 % Change 2020 2019 % Change
Consumer Loan unit volume 78,737 86,331 -8.8 % 278,068 291,788 -4.7 %
Active Dealers (1) 8,930 9,555 -6.5 % 11,988 12,553 -4.5 %
Average volume per active
Dealer 8.8 9.0 -2.2 % 23.2 23.2 0.0 %
Consumer Loan unit volume from
Dealers active both periods 64,517 70,269 -8.2 % 243,493 262,849 -7.4 %
Dealers active both periods 6,248 6,248 - 9,068 9,068 -
Average volume per Dealer
active both periods 10.3 11.2 -8.2 % 26.9 29.0 -7.4 %
Consumer Loan unit volume from
Dealers not active both periods 14,220 16,062 -11.5 % 34,575 28,939 19.5 %
Dealers not active both periods 2,682 3,307 -18.9 % 2,920 3,485 -16.2 %
Average volume per Dealer not
active both periods 5.3 4.9 8.2 % 11.8 8.3 42.2 %
(1) Active Dealers are Dealers who have received funding for at least one Consumer Loan during the period.
The following table provides additional information on the changes in Consumer Loan unit volume and active Dealers:
For the Three Months Ended September 30, For the Nine Months Ended September 30,
2020 2019 % Change 2020 2019 % Change
Consumer Loan unit volume
from new active Dealers 2,423 3,455 -29.9 % 21,295 30,632 -30.5 %
New active Dealers (1) 630 951 -33.8 % 2,122 3,183 -33.3 %
Average volume per new
active Dealer 3.8 3.6 5.6 % 10.0 9.6 4.2 %
Attrition (2) -18.6 % -16.2 % -9.9 % -9.7 %
(1)New active Dealers are Dealers who enrolled in our program and have received
funding for their first Loan from us during the period.
(2)Attrition is measured according to the following formula: decrease in
Consumer Loan unit volume from Dealers who have received funding for at least
one Loan during the comparable period of the prior year but did not receive
funding for any Loans during the current period divided by prior year comparable
period Consumer Loan unit volume.
The following table shows the percentage of Consumer Loans assigned to us as Dealer Loans and Purchased Loans for each of the last seven quarters:
Unit Volume Dollar Volume (1)
Three Months Ended Dealer Loans Purchased Loans Dealer Loans Purchased Loans March 31, 2019 67.4 % 32.6 % 65.0 % 35.0 % June 30, 2019 66.7 % 33.3 % 63.7 % 36.3 % September 30, 2019 67.2 % 32.8 % 64.1 % 35.9 % December 31, 2019 67.4 % 32.6 % 64.0 % 36.0 % March 31, 2020 64.9 % 35.1 % 60.5 % 39.5 % June 30, 2020 62.5 % 37.5 % 59.1 % 40.9 % September 30, 2020 64.1 % 35.9 % 60.9 % 39.1 %
(1)Represents advances paid to Dealers on Consumer Loans assigned under our Portfolio Program and one-time payments made to Dealers to purchase Consumer Loans assigned under our Purchase Program. Payments of Dealer Holdback and accelerated Dealer Holdback are not included.
As ofSeptember 30, 2020 andDecember 31, 2019 , the net Dealer Loans receivable balance was 61.5% and 62.8%, respectively, of the total net Loans receivable balance. 51
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Table of Contents Results of OperationsThe Financial Accounting Standards Board issued a new accounting standard (known as CECL) that changed how we account for our Loans effectiveJanuary 1, 2020 . The net Loan income (finance charge revenue less provision for credit losses expense) that we recognize over the life of a Loan equals the cash we collect from the underlying Consumer Loan less the cash we pay to the Dealer. While the total amount of net Loan income we will recognize over the life of the Loan is not impacted by CECL, the timing of when we will recognize this income has changed significantly from our prior accounting method. We believe that recognizing net Loan income on a level-yield basis over the life of the Loan based on expected future net cash flows matches the economics of our business. We believe CECL diverges from economic reality by requiring us to recognize a significant provision for credit losses expense at the time of assignment for amounts we never expected to realize and finance charge revenue in subsequent periods that is significantly in excess of our expected yields. Given the significant change in timing of net Loan income recognition, we believe net income for the year endingDecember 31, 2020 will be significantly lower under CECL than what would be reported under our prior accounting method, with the greatest impact occurring in the quarter of adoption. The financial statement impact of CECL in any period will depend on Consumer Loan assignment volume and the percentage of Consumer Loans assigned to us as Purchased Loans, the size and composition of our Loan portfolio, the Loan portfolio's credit quality and economic conditions. For additional information, see Note 3 and Note 6 to the consolidated financial statements contained in Part I - Item 1 of this Form 10-Q, which is incorporated herein by reference.
Three Months Ended
The following is a discussion of our results of operations and income statement data on a consolidated basis.
(Dollars in millions, except per share For the Three Months Ended data)
2020 2019 $ Change % Change
Revenue:
Finance charges $ 404.4 $ 349.9 $ 54.5 15.6 %
Premiums earned 15.1 12.9 2.2 17.1 %
Other income 7.0 15.9 (8.9) -56.0 %
Total revenue 426.5 378.7 47.8 12.6 %
Costs and expenses:
Salaries and wages (1) 46.6 47.9 (1.3) -2.7 %
General and administrative (1) 17.2 17.2 - - %
Sales and marketing (1) 16.6 16.6 - - %
Provision for credit losses (29.8) 19.3 (49.1) -254.4 %
Interest 46.8 50.4 (3.6) -7.1 %
Provision for claims 10.7 8.2 2.5 30.5 %
Total costs and expenses 108.1 159.6 (51.5) -32.3 %
Income before provision for income taxes 318.4 219.1 99.3 45.3 %
Provision for income taxes 76.3 53.7 22.6 42.1 %
Net income $ 242.1 $ 165.4 $ 76.7 46.4 %
Net income per share:
Basic $ 13.57 $ 8.73 $ 4.84 55.4 %
Diluted $ 13.56 $ 8.73 $ 4.83 55.3 %
Weighted average shares outstanding:
Basic 17,844,785 18,944,672 (1,099,887) -5.8 %
Diluted 17,849,765 18,950,866 (1,101,101) -5.8 %
(1) Operating expenses$ 80.4 $ 81.7 $ (1.3) -1.6 % 52
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Finance Charges. The increase of$54.5 million , or 15.6%, was primarily the result of increases in the average net Loans receivable balance and the average yield on our Loan portfolio, as follows: (Dollars in millions) For the Three
Months Ended
2020 2019 Change
Average net Loans receivable balance $ 6,823.8 $ 6,480.4 $ 343.4
Average yield on our Loan portfolio 23.7 % 21.6 % 2.1 %
The following table summarizes the impact each component had on the overall
increase in finance charges for the three months ended September 30, 2020 :
(In millions) Year over Year Change
For the Three Months
Ended September 30,
Impact on finance charges: 2020Due to an increase in the average net Loans receivable balance $
18.4
Due to an increase in the average yield
36.1
Total increase in finance charges $
54.5
The increase in the average net Loans receivable balance was primarily due to the dollar volume of new Consumer Loan assignments exceeding the principal collected on Loans receivable. The average yield on our Loan portfolio for the three months endedSeptember 30, 2020 increased as compared to the same period in 2019 primarily due to our adoption of CECL onJanuary 1, 2020 , which requires us to recognize finance charges on new Consumer Loan assignments using effective interest rates based on contractual future net cash flows, which are significantly in excess of our expected yields. Other Income. The decrease of$8.9 million , or 56.0%, was primarily due to a decrease in ancillary product profit sharing income due to an increase in average vehicle service contract claim rates, a decrease in remarketing fees due to a decrease in involuntary repossessions due to COVID-19 and a decrease in interest income earned on restricted cash and cash equivalents primarily due to a decline in benchmark interest rates.
Provision for Credit Losses. The decrease of
Under CECL, we are required to recognize provision for credit losses on new Consumer Loan assignments for contractual net cash flows that were not expected to be realized at the time of assignment. Under both CECL and our prior accounting method, we also recognize provision for credit losses for forecast changes in the amount and timing of expected future net cash flows subsequent to assignment. The following table summarizes the provision for credit losses for each of these components: (In millions) For the Three Months Ended
Provision for Credit Losses 2020 2019 Change
New Consumer Loan assignments$ 114.1 $ -$ 114.1 Forecast changes (143.9) 19.3 (163.2) Total$ (29.8) $ 19.3 $ (49.1) For additional information, see Note 3 and Note 6 to the consolidated financial statements contained in Part I - Item 1 of this Form 10-Q, which is incorporated herein by reference. 53
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Interest. The decrease of$3.6 million , or 7.1%, was primarily due to a decrease in our average cost of debt, partially offset by an increase in our average outstanding debt principal balance, as follows: (Dollars in millions) For the Three Months Ended September 30, 2020 2019 Change Interest expense$ 46.8 $ 50.4 $ (3.6) Average outstanding debt principal balance (1) 4,760.9 4,255.5 505.4 Average cost of debt 3.9 % 4.7 % -0.8 %
(1)Includes the unamortized debt discount and excludes deferred debt issuance costs.
The decrease in our average cost of debt was primarily the result of a change in the mix of our outstanding debt. The increase in the average outstanding debt principal balance was primarily due to borrowings used to fund the growth in our Loan portfolio and stock repurchases.
Nine Months Ended
The following is a discussion of our results of operations and income statement
data on a consolidated basis.
(Dollars in millions, except per share For the Nine Months Ended
data) September 30,
2020 2019 $ Change % Change
Revenue:
Finance charges $ 1,144.5 $ 1,013.3 $ 131.2 12.9 %
Premiums earned 42.2 38.2 4.0 10.5 %
Other income 35.2 51.6 (16.4) -31.8 %
Total revenue 1,221.9 1,103.1 118.8 10.8 %
Costs and expenses:
Salaries and wages (1) 140.4 143.9 (3.5) -2.4 %
General and administrative (1) 46.8 47.9 (1.1) -2.3 %
Sales and marketing (1) 53.9 53.1 0.8 1.5 %
Provision for credit losses 464.3 49.2 415.1 843.7 %
Interest 146.9 145.2 1.7 1.2 %
Provision for claims 28.8 23.1 5.7 24.7 %
Loss on extinguishment of debt 7.4 - 7.4 - %
Total costs and expenses 888.5 462.4 426.1 92.1 %
Income before provision for income taxes 333.4 640.7 (307.3) -48.0 %
Provision for income taxes 78.7 146.5 (67.8) -46.3 %
Net income $ 254.7 $ 494.2 $ (239.5) -48.5 %
Net income per share:
Basic $ 14.18 $ 26.08 $ (11.90) -45.6 %
Diluted $ 14.17 $ 26.06 $ (11.89) -45.6 %
Weighted average shares outstanding:
Basic 17,957,931 18,948,140 (990,209) -5.2 %
Diluted 17,973,091 18,967,552 (994,461) -5.2 %
(1) Operating expenses$ 241.1 $ 244.9 (3.8) -1.6 % 54
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Finance Charges. The increase of$131.2 million , or 12.9%, was primarily the result of increases in the average net Loans receivable balance and the average yield on our Loan portfolio, as follows: (Dollars in millions) For the Nine
Months Ended
2020 2019 Change
Average net Loans receivable balance $ 6,724.3 $ 6,216.2 $ 508.1
Average yield on our Loan portfolio 22.7 % 21.7 % 1.0 %
The following table summarizes the impact each component had on the overall
increase in finance charges for the nine months ended September 30, 2020 :
(In millions) Year over Year Change
For the Nine Months Ended
Impact on finance charges: September 30, 2020
Due to an increase in the average net Loans receivable balance $ 82.8
Due to an increase in the average yield 48.4
Total increase in finance charges $ 131.2
The increase in the average net Loans receivable balance was primarily due to
the dollar volume of new Consumer Loan assignments exceeding the principal
collected on Loans receivable. The average yield on our Loan portfolio for the
nine months ended September 30, 2020 increased as compared to the same period in
2019 primarily due to our adoption of CECL on January 1, 2020 , which requires us
to recognize finance charges on new Consumer Loan assignments using effective
interest rates based on contractual future net cash flows, which are
significantly in excess of our expected yields.
Other Income. The decrease of $16.4 million , or 31.8%, was primarily due to a
decrease in ancillary product profit sharing income due to an increase in
average vehicle service contract claim rates, a decrease in interest income
earned on restricted cash and cash equivalents primarily due to a decline in
benchmark interest rates and a decrease in remarketing fees due to a decrease in
involuntary repossessions due to COVID-19.
Provision for Credit Losses. The increase of
Under CECL, we are required to recognize provision for credit losses on new Consumer Loan assignments for contractual net cash flows that were not expected to be realized at the time of assignment. Under both CECL and our prior accounting method, we also recognize provision for credit losses for forecast changes in the amount and timing of expected future net cash flows subsequent to assignment. The following table summarizes the provision for credit losses for each of these components: (In millions) For the Nine Months Ended
Provision for Credit Losses 2020 2019 Change
New Consumer Loan assignments$ 426.2 $ -$ 426.2 Forecast changes 38.1 49.2 (11.1) Total$ 464.3 $ 49.2 $ 415.1 For additional information, see Note 3 and Note 6 to the consolidated financial statements contained in Part I - Item 1 of this Form 10-Q, which is incorporated herein by reference. Loss on Extinguishment of Debt. For the nine months endedSeptember 30, 2020 , we recognized a loss on extinguishment of debt of$7.4 million related to the redemption of the 2023 senior notes inMarch 2020 . We used the net proceeds from theDecember 2019 issuance of the 2024 senior notes, together with borrowings under our revolving credit facilities, to fund the redemption of the 2023 senior notes. For additional information, see Note 9 to the consolidated financial statements contained in Part I - Item 1 of this Form 10-Q, which is incorporated herein by reference. 55
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Provision for Income Taxes. For the nine months endedSeptember 30, 2020 , our effective income tax rate increased to 23.6% from 22.9% for the nine months endedSeptember 30, 2019 . The increase was primarily due to the impact of tax benefits related to our stock-based compensation plan and non-deductible expenses on our effective income tax rate, which increased in magnitude from 2019 to 2020 primarily due to a decrease in pre-tax income. For additional information, see Note 11 to the consolidated financial statements contained in Part I - Item 1 of this Form 10-Q, which is incorporated herein by reference.
Liquidity and Capital Resources
We need capital to maintain and grow our business. Our primary sources of capital are cash flows from operating activities, collections of Consumer Loans and borrowings under: (1) a revolving secured line of credit; (2) Warehouse facilities; (3) Term ABS financings; and (4) senior notes. There are various restrictive covenants to which we are subject under each financing arrangement and we were in compliance with those covenants as ofSeptember 30, 2020 . For information regarding these financings and the covenants included in the related documents, see Note 9 to the consolidated financial statements contained in Part I - Item 1 of this Form 10-Q, which is incorporated herein by reference. OnJanuary 17, 2020 , we used a portion of the net proceeds from the 2024 senior notes to redeem the remaining$151.8 million outstanding principal amount of the 2021 senior notes. OnFebruary 20, 2020 , we completed a$500.0 million Term ABS financing, which was used to repay outstanding indebtedness. The financing has an expected annualized cost of approximately 2.5% (including the initial purchasers' fees and other costs), and it will revolve for 24 months, after which it will amortize based upon the cash flows on the contributed Loans. OnMarch 15, 2020 , we redeemed the$250.0 million outstanding principal amount of the 2023 senior notes in accordance with the terms of the indenture governing the 2023 notes at a redemption price equal to 101.844% of the principal amount thereof. OnJune 25, 2020 ,June 26, 2020 , andJune 30, 2020 , we amended our agreements for Warehouse Facility II, Warehouse Facility VII, and our revolving secured line of credit facility, respectively. The purpose of each of the three amendments was to modify the basis for calculating our compliance with the minimum net income and fixed charge coverage covenants for periods ending on or prior toDecember 31, 2020 from our current method of accounting to the basis of accounting that was used prior toJanuary 1, 2020 . There were no other material changes to the terms of the facilities. OnJuly 23, 2020 , we completed a$481.8 million Term ABS financing, which was used to repay outstanding indebtedness. The financing has an expected annualized cost of approximately 2.0% (including the initial purchasers' fees and other costs), and it will revolve for 24 months, after which it will amortize based upon the cash flows on the contributed Loans. OnOctober 22, 2020 , we completed a$600.0 million Term ABS financing, which was used to repay outstanding indebtedness. The financing has an expected annualized cost of approximately 1.8% (including the initial purchasers' fees and other costs), and it will revolve for 24 months, after which it will amortize based upon the cash flows on the contributed Loans. Cash and cash equivalents as ofSeptember 30, 2020 andDecember 31, 2019 was$8.9 million and$187.4 million , respectively. As ofSeptember 30, 2020 andDecember 31, 2019 , we had$1,139.3 million and$1,565.0 million , respectively, in unused and available lines of credit. Our total balance sheet indebtedness increased$80.5 million to$4,619.3 million as ofSeptember 30, 2020 from$4,538.8 million as ofDecember 31, 2019 primarily due to the growth in new Consumer Loan assignments and stock repurchases. 56
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Table of Contents Contractual Obligations A summary of our scheduled principal debt maturities as ofSeptember 30, 2020 is as follows: (In millions) Year Scheduled Principal Debt Maturities (1) Remainder of 2020 $ 353.2 2021 1,111.6 2022 1,686.0 2023 693.5 2024 400.0 Over five years 400.0 Total $ 4,644.3
(1)The principal maturities of certain financings are estimated based on forecasted collections.
Based upon anticipated cash flows, management believes that cash flows from operations and our various financing alternatives will provide sufficient financing for debt maturities and for future operations. Our ability to borrow funds may be impacted by economic and financial market conditions. If the various financing alternatives were to become limited or unavailable to us, our operations and liquidity could be materially and adversely affected.
Critical Accounting Estimates
Our consolidated financial statements are prepared in accordance with GAAP. The preparation of these financial statements requires management to make estimates and judgments that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. On an ongoing basis, we review our accounting policies, assumptions, estimates and judgments to ensure that our financial statements are presented fairly and in accordance with GAAP. Item 7 of our Annual Report on Form 10-K for the year endedDecember 31, 2019 discusses several critical accounting estimates, which we believe involve a high degree of judgment and complexity. There have been no material changes to the estimates and assumptions associated with these accounting estimates from those discussed in our Annual Report on Form 10-K for the year endedDecember 31, 2019 , except as described below: The accounting for finance charge revenue and allowance for credit losses involves significant estimates related to the amount and timing of future collections and Dealer Holdback payments. During the first quarter of 2020, we reduced forecasted collection rates to reflect the estimated long-term impact of COVID-19 on Consumer Loan performance. In addition, we adopted CECL onJanuary 1, 2020 , which changed our accounting policies for finance charge revenue and allowance for credit losses. Our provision for credit losses for the nine months endedSeptember 30, 2020 , included: •$426.2 million provision for credit losses on new Consumer Loan assignments related to our adoption of CECL onJanuary 1, 2020 , which reduced consolidated net income by$328.2 million , or$18.26 per diluted share; and •$196.8 million provision for credit losses on forecasts changes during the first quarter of 2020 primarily related to the COVID-19 forecast adjustment, which reduced consolidated net income by$151.5 million , or$8.33 per diluted share. For additional information, see Note 3 and Note 6 to the consolidated financial statements contained in Part I - Item 1 of this Form 10-Q, which is incorporated herein by reference.
Off-Balance Sheet Arrangements
We do not have any off-balance sheet arrangements that have or are reasonably
likely to have a material current or future effect on our financial condition,
revenues or expenses, results of operations, liquidity, capital expenditures or
capital resources.
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Table of Contents Forward-Looking Statements We make forward-looking statements in this report and may make such statements in future filings with theSecurities and Exchange Commission ("SEC"). We may also make forward-looking statements in our press releases or other public or shareholder communications. Our forward-looking statements are subject to risks and uncertainties and include information about our expectations and possible or assumed future results of operations. When we use any of the words "may," "will," "should," "believe," "expect," "anticipate," "assume," "forecast," "estimate," "intend," "plan," "target" or similar expressions, we are making forward-looking statements. We claim the protection of the safe harbor for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995 for all of our forward-looking statements. These forward-looking statements represent our outlook only as of the date of this report. While we believe that our forward-looking statements are reasonable, actual results could differ materially since the statements are based on our current expectations, which are subject to risks and uncertainties. Factors that might cause such a difference include, but are not limited to, the factors set forth in Item 1A of our Form 10-K for the year endedDecember 31, 2019 and Item 1A in Part II of this report, other risk factors discussed herein or listed from time to time in our reports filed with theSEC and the following:
•Our inability to accurately forecast and estimate the amount and timing of future collections could have a material adverse effect on results of operations.
•We may be unable to execute our business strategy due to current economic conditions.
•We may be unable to continue to access or renew funding sources and obtain capital needed to maintain and grow our business.
•The terms of our debt limit how we conduct our business.
•A violation of the terms of our Term ABS facilities or Warehouse facilities could have a material adverse impact on our operations.
•The conditions of theU.S. and international capital markets may adversely affect lenders with which we have relationships, causing us to incur additional costs and reducing our sources of liquidity, which may adversely affect our financial position, liquidity and results of operations.
•Our substantial debt could negatively impact our business, prevent us from satisfying our debt obligations and adversely affect our financial condition.
•Due to competition from traditional financing sources and non-traditional lenders, we may not be able to compete successfully.
•We may not be able to generate sufficient cash flows to service our outstanding debt and fund operations and may be forced to take other actions to satisfy our obligations under such debt.
•Interest rate fluctuations may adversely affect our borrowing costs, profitability and liquidity.
•The phaseout of the London Interbank Offered Rate ("LIBOR"), or the replacement
of LIBOR with a different reference rate, could result in a material adverse
effect on our business.
•Reduction in our credit rating could increase the cost of our funding from, and
restrict our access to, the capital markets and adversely affect our liquidity,
financial condition and results of operations.
•We may incur substantially more debt and other liabilities. This could exacerbate further the risks associated with our current debt levels.
•The regulation to which we are or may become subject could result in a material adverse effect on our business.
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•Adverse changes in economic conditions, the automobile or finance industries, or the non-prime consumer market could adversely affect our financial position, liquidity and results of operations, the ability of key vendors that we depend on to supply us with services, and our ability to enter into future financing transactions.
•Litigation we are involved in from time to time may adversely affect our financial condition, results of operations and cash flows.
•Changes in tax laws and the resolution of uncertain income tax matters could have a material adverse effect on our results of operations and cash flows from operations. •Our dependence on technology could have a material adverse effect on our business. •Our use of electronic contracts could impact our ability to perfect our ownership or security interest in Consumer Loans.
•Reliance on third parties to administer our ancillary product offerings could adversely affect our business and financial results.
•We are dependent on our senior management and the loss of any of these individuals or an inability to hire additional team members could adversely affect our ability to operate profitably.
•Our reputation is a key asset to our business, and our business may be affected by how we are perceived in the marketplace.
•The concentration of our Dealers in several states could adversely affect us.
•Failure to properly safeguard confidential consumer and team member information could subject us to liability, decrease our profitability and damage our reputation.
•A small number of our shareholders have the ability to significantly influence matters requiring shareholder approval and such shareholders have interests which may conflict with the interests of our other security holders.
•Reliance on our outsourced business functions could adversely affect our business.
•Our ability to hire and retain foreign information technology personnel could be hindered by immigration restrictions.
•Natural disasters, acts of war, terrorist attacks and threats or the escalation of military activity in response to these attacks or otherwise may negatively affect our business, financial condition and results of operations.
•The outbreak of COVID-19 has adversely impacted our business, and the continuance of this pandemic, or any future outbreak of any contagious diseases or other public health emergency, could materially and adversely affect our business, financial condition, liquidity and results of operations.
Other factors not currently anticipated by management may also materially and
adversely affect our business, financial condition and results of operations. We
do not undertake, and expressly disclaim any obligation, to update or alter our
statements whether as a result of new information, future events or otherwise,
except as required by applicable law.
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