Earnings Call Transcript - CPSS Q2 2022

Operator, Operator

Good day, everyone, and welcome to the Consumer Portfolio Services 2022 Second Quarter Operating Results Conference Call. Today's call is being recorded. Before we begin, management has asked me to inform you that this conference call may contain forward-looking statements. Any statements made during this call that are not statements of historical facts may be deemed forward-looking statements. Statements regarding current or historical valuations of receivables, which depend on estimates or future events, are also forward-looking statements. All such forward-looking statements are subject to risks that could cause actual results to differ materially from those projected. I refer you to the company's annual report filed March 15th for further clarification. The company assumes no obligation to update publicly any forward-looking statements, whether as a result of new information, future events or otherwise. With us here is Mr. Charles Bradley, Chief Executive Officer, and Mr. Jeff Fritz, Chief Financial Officer of Consumer Portfolio Services. I will now turn the call over to Mr. Bradley.

Charles Bradley, CEO

Thank you, and welcome to our second quarter earnings call. As you can see from the press release, we are certainly very happy with the results. They're literally the best results for a quarter we've had in the company. We've broken lots of records. We had the most originations ever in a month, over $200 million in June. We also had the most rejections in a quarter with 548 in the second quarter; our portfolio went over $2.5 billion. So, all these years, we've been saying we needed to grow, and it's nice to say we're doing exactly what we've planned for several years in terms of growing our portfolio, the kind of loans we wanted to buy, and expanding our deal base. All these different things are going exactly the way we wanted them to and probably even exceeding our expectations. The results in terms of earnings are obviously very strong. We also accomplished a couple of good things, renewing both of our warehouse funds and upsizing them to $200 million each from $100 million. So, now we're in a position where we can continue to buy as much paper as we want while being mindful that we want to buy the right paper, not just a lot of it. There are many other highlights we can discuss, but we'll go through all of those after Jeff runs through the financials.

Jeffrey Fritz, CFO

Thank you, Brad. Welcome everyone. We'll begin with the revenues for the quarter, which were $82 million, marking a 10% increase over $74.4 million in our first quarter this year and a 23% increase over $66.8 million in the second quarter of 2021. The six-month revenues for this year totaled $156.4 million, a 20% increase over the first six months of 2021. As you know, we have the typical drivers of revenue; the legacy portfolio continues to shrink, currently at $152 million, representing only 6% of our total portfolio, and yielding in the high teens. It continues to perform strongly even as it winds down. The fair value portfolio is $2.4 billion, 94% of the total, yielding about 11.4%. This yield, on a fair value basis, is net of the related credit losses. The revenues for this quarter include a markup of the fair value portfolio of $4.7 million, which represents essentially the reversal of some COVID markdowns we took back in 2020. I think this primarily occurred in 2020 when we took markdowns on the fair value portfolio, but those COVID losses simply haven’t materialized. Also included in the revenue—though we haven't talked much about it in the past—is about $1.2 million for the quarter, representing revenue on our third-party portfolio, which has grown to about $100 million. This is a partner for whom we originate some receivables generated from our turndowns. That portfolio is not on our balance sheet; we have no credit risk, but we are earning nicely. As I mentioned, this quarter we earned $1.2 million in servicing and origination fees on that portfolio, and the program has really been quite successful. Moving to expenses, we recorded $47.8 million for the quarter, which is a slight 6% increase over our first quarter of $45 million, but a 10% decrease compared to $53 million in the second quarter of 2021. Total expenses for the first six months amount to $92.8 million, a decrease of 14% compared to the $108.1 million from the first six months of 2021. The expenses include a reversal of provision for credit losses on the CECL or legacy portfolio. So, this quarter, we reversed the allowance or reduced the allowance on the legacy portfolio by about $8 million. This portfolio continues to season out, and it simply hasn’t incurred as many credit losses as predicted. The loss provisions for the quarter really just mention that negative $8 million, which follows a $9.4 million reduction in the allowance or reversal of credit losses that we posted in the first quarter of this year. So, for the first six months, we've reduced the allowance on the legacy portfolio by $17.4 million, which has gone directly into the P&L. Pretax earnings for the quarter were $34.2 million, representing a 17% increase over the first quarter of this year, $29.3 million, and a 146% increase over last year's second quarter of $13.9 million. For the first six months of this year, pretax earnings reached $63.5 million, which is a 191% increase over last year's first six months of $21.8 million. Net income for the quarter stood at $25.3 million, a 20% increase over our first quarter this year of $21.1 million and a 161% increase over the $9.7 million in net income from last year’s second quarter. For the first six months, net income hit $46.4 million, a 211% increase over the $14.9 million posted in the first six months of 2021. Diluted earnings per share were $0.91 this quarter compared to $0.75 in our first quarter, representing a 21% sequential increase and a 133% increase compared to the $0.39 from the second quarter of 2021. Year-to-date, diluted earnings per share at $1.66 represents an 181% increase over the $0.59 in the first six months of 2021. Moving on to the balance sheet, we continue to have strong credit performance in the portfolio, contributing to a solid liquidity position. All trusts are performing well, credit enhancements are fully funded, leading to a great liquidity position for us. As I mentioned, the legacy portfolio is winding down, and though we've reversed a significant portion of the allowance this year to reflect better credit performance, the CECL allowance or legacy allowance is still at 24% of that dwindling legacy portfolio. Also, we have about $100 million on portfolio that we're servicing that's not reflected on the balance sheet. Not much change to the debt picture on the balance sheet. Brad mentioned that we've doubled the capacity of two warehouse lines from $100 million each to $200 million each, giving us plenty of warehouse capacity to take advantage of the marketplace and the growth we've experienced. Looking at some performance metrics, the net interest margin for the quarter was $63.3 million, representing a 9% increase over the first quarter of this year of $58 million and a 32% increase over the $47.8 million in NIM from the second quarter of 2021. For the first six months, the net interest margin amounted to $121.2 million, a 35% increase over the first six months of 2021. This growth is largely driven by a lower blended cost of funds on our ABS portfolio, which was only 3.1% this quarter compared to 3.7% a year ago. Although we are starting to see the pendulum on cost of funds swing back a little bit, we'll talk about that in a moment. Core operating expenses were $37 million for the quarter, down 3% from our first quarter of this year of $38 million and slightly up from $34 million in core operating expenses from the second quarter of last year. Year-to-date, core operating expenses stand at $75 million, up 10% from $68 million in the first six months of last year. Overall, we've seen a nominal increase in these core expenses, especially in light of the fact that we've grown the portfolio over 20%. We're also witnessing a doubling in quarterly originations volume compared to last year, indicating we are beginning to see operating leverage as the core operating expenses as a percent of the managed portfolio dropped to 6% in the second quarter, down from 6.7% in the first quarter and also down from 6.4% in the second quarter of 2021. We are indeed seeing better operating leverage as the portfolio grows. The pretax return on managed assets was 5.5% for the quarter, reflecting a 6% increase compared to our first quarter of this year, and a 112% increase over the 2.6% from last year's second quarter. This strong credit performance is attributed to the revenue growth resulting from portfolio expansion, as well as the reversal of provisions for credit losses in the legacy portfolios over the past six months. Delinquency ended June 30th this year at 9.7%, up from 8.5% in the March quarter and slightly up from 8.3% a year ago. We observe what we call seasonal softening in credit performance metrics, which is not unexpected this time of year, though we are still seeing strong performance on the overall credit losses. The annualized loss rate for the quarter was 3.57%, slightly up from 3.3% in the first quarter this year and 2.8% a year ago. Annualized net losses for the first six months are 2.3% to 2.4%, which is down compared to 4.4% from last year. Contributing significantly to this strong credit performance is the continued good returns at the auctions. Those levels have come down slightly; we recovered 56.7% of our loan balance in the second quarter this year, which is off a little from 61.4% in the first quarter, but very close to the 57.8% we realized in the second quarter of last year. This pendulum is likely to swing back a little from record highs seen just a few months ago, but we expect it to normalize slowly. Looking briefly at the ABS market, during the quarter, we completed our 2022 B securitization, where we observed somewhat higher spreads and benchmarks compared to the previous recent securitization. We had a blended yield of about 4.8% on those bonds, and our 2022 C transaction is currently in process. We are actually in the market with our bankers selling those bonds, and we are seeing strong demand across the cap structure, though with slightly wider spreads and benchmarks. We expect to.. And with that, I'll turn it back over to Brad.

Charles Bradley, CEO

All right, thank you, Jeff. Let’s go through a few of these points in a bit more detail. In terms of marketing, our focus has always been to grow the market and our dealer base, adding the reps we need. We have probably reached the right number of reps in the field. Although we occasionally lose and then add one, for the most part, that has remained flat. However, we have increased our funding dealer base by 50% year-over-year—from 2,000 dealers to 3,000 dealers. That will continue to be our focus, as we seek to achieve more penetration out of each dealer rather than just casting a wide net. This approach is far more effective, fostering relationship-building, which is working very well. Our scorecards are performing excellently in terms of originations; we are acquiring quality paper. Despite the financial support received during the pandemic, our paper performance remains strong. We attribute this to how selective we are about the paper we buy. We are meticulous about following underwriting protocols, which helps us avoid issues that others have historically faced. Likewise, in our collections, we've devoted considerable time over the past couple of years to developing scoring models throughout our collection department. This effort has really paid off in terms of efficiency, enabling us to achieve better leverage from our personnel and systems. Quite remarkably, thanks to technology advancements, we can handle more business now with comparatively fewer people. As we continue to grow, we are utilizing critical mass effectively, which will further enhance performance due to the size of our portfolio. Regarding delinquency, as Jeff mentioned, it did increase slightly, but we believe this is mostly seasonal and well within our expected ranges. We feel comfortable in this area. In terms of auctions, they have moderated slightly but will take significant time before manufacturers can produce enough cars to meet market demand. Eventually, that will happen, but we don’t foresee it within this year or next. This gives us a robust buffer in terms of credit performance when selling cars at auction. Observing the industry, there haven’t been many new entrants. In fact, it's been well over a year since any substantial new players have emerged—perhaps even three years since true game-changers appeared. This is healthy for the industry; we want stability rather than disruption. A clear example highlighting this is the Fintechs; numerous new firms are attempting to enter the market, thinking they can quickly build vast portfolios. The reality, however, is that success demands deep local dealership relationships. At the end of the day, it's a boots-on-the-ground operation. The second challenge is that many of their models emerged during the pandemic—arguably the best possible time for subprime borrowers receiving government support. It will be fascinating to observe how things unfold in the coming period. We know we outperform most Fintechs due to our operations and scale in managing essential relationships. Lastly, concerning the securitization market, I cannot stress enough its resilience despite the economy. As Jeff pointed out, we have a deal in the market that's performing exceptionally well. This continues, even amid downturns in various sectors and overall economic conditions; our market remains predictably strong. While prices have drifted a little, they are now settling within expected historical ranges for our industry's costs of funds, which we find encouraging. In summary, while the economy exhibits signs of sluggishness, particularly regarding supply chain nuances, we anticipate a soft landing. Unemployment remains our primary concern, but the current job market reflects more jobs available than unemployment. This is a protective factor in our favor. Many individuals may delay returning to work while awaiting additional benefits, but job options will be available when necessary. We believe this is crucial and particularly critical in today's economic climate, where individuals can secure new jobs when required. While we share the common dislike of inflation, essential expenditures like cars remain unavoidable. People may cut back elsewhere but will still need transportation. Throughout the Great Recession, the common notion was that people would cling to their homes instead of their cars, but we anticipated the opposite, and history validated our prediction. We maintain that belief today; the last thing people will forego is their car. So, that wraps it up for the quarter. We are thrilled with our results and how the company is running right now, as we are growing across all fronts. Thank you all for joining us, and we look forward to connecting with you next quarter.

Operator, Operator

Thank you. This concludes today's teleconference. A replay will be available beginning two hours from now for 12 months via the company's website. Please disconnect your lines at this time and have a wonderful day.