Enova International, Inc. Q1 FY2023 Earnings Call

Good afternoon and welcome to the Enova International First Quarter 2023 Earnings Conference Call. I would now like to turn the conference over to Lindsay Savarese of Investor Relations. Please go ahead.

Thank you, operator, and good afternoon, everyone. Enova released results for the first quarter 2023 ended March 31, 2023, this afternoon after market closed. If you did not receive a copy of our earnings press release, you may obtain it from the Investor Relations section of our website at ir.enova.com. With me on today's call are David Fisher, Chief Executive Officer; and Steve Cunningham, Chief Financial Officer. This call is being webcast and will be archived on the Investor Relations section of our website. Before I turn the call over to David, I'd like to note that today's discussion will contain forward-looking statements and, as such, is subject to risks and uncertainties. Actual results may differ materially as a result from various important risk factors, including those discussed in our earnings press release and in our annual report on Form 10-K, quarterly reports on Form 10-Q and current reports on Form 8-K. Please note that any forward-looking statements that are made on this call are based on assumptions as of today, and we undertake no obligation to update these statements as a result of new information or future events. In addition to U.S. GAAP reporting, Enova reports certain financial measures that do not conform to generally accepted accounting principles. We believe these non-GAAP measures enhance the understanding of our performance. Reconciliations between these GAAP and non-GAAP measures are included in the tables found in today's press release. As noted in our earnings release, we have posted supplemental financial information on the IR portion of our website. And with that, I'd like to turn the call over to David.

Thanks, and good afternoon, everyone. I appreciate you joining our call today. I'll start with an overview of our first quarter results, and then I'll discuss our strategy and outlook for 2023. After that, I'll turn the call over to Steve Cunningham, our CFO, who will discuss our financial results and outlook in more detail. We once again delivered strong results. Our balanced approach to growth, combined with our diversified product offerings, has enabled us to successfully navigate the current macroeconomic backdrop. Thanks to the skillful execution of our world-class team, we're able to generate more than $1 billion in originations for the sixth quarter in a row. Revenue in the first quarter of $483 million increased 25% year-over-year, demonstrating our ability to drive profitable growth while remaining focused on maintaining stable credit in this environment. Q1 revenue was flat sequentially due to normal first quarter seasonality. As a result of strong revenue growth and diligent credit management, adjusted EBITDA increased 19% year-over-year and 5% sequentially to $126 million, and adjusted EPS increased 7% year-over-year and 2% sequentially to $1.79. While demand is seasonally weakest in Q1, it remained relatively solid this year. Our customers across both consumer and small business are underserved by traditional banks, and they need access to capital during a variety of economic environments. That being said, in Q1, we prioritized remaining strong credit metrics as opposed to maximizing origination growth, especially early in the quarter. Our combined loan and finance receivables increased 28% year-over-year to $2.8 billion. Originations increased 2% year-over-year but were down 9% sequentially in line with typical Q1 seasonality. Marketing was very efficient in the quarter and decreased as a percentage of our total revenue to 17% from 24% last year, evidencing the solid demand I just mentioned. Similar to the past few quarters, the growth came from our SMB business and our consumer line of credit products, demonstrating the clear importance of having a diversified portfolio. Today, small business products represent 65% of our portfolio, up from 56% in Q1 of last year. SMB revenue increased 47% year-over-year and 1% sequentially. Given our strong brand presence, minimal competition, and diverse portfolio, we continue to see a long runway ahead to drive meaningful volume. Our consumer business has also performed well in Q1. Consumer revenue increased 13% year-over-year, was down 2% from a strong Q4, again, reflecting typical Q1 seasonality. In line with our expectations, a percentage of consumer installment loans in our portfolio decreased in Q1, while our line of credit products increased as a percentage of total consumer loans. We have continued to deemphasize our longer-term near-prime installment loans and have emphasized instead our shorter duration and smaller dollar line of credit consumer products, resulting in higher payment frequency and a relatively short duration of our portfolio. This gives us a more real-time view into credit performance. In addition, last year, we made the decision to wind down our short-term single-pay payday products. We made our final single-pay loan in Q2 of last year, and all single-pay loans had run off our books by the end of Q3. In Enova’s early years, single-pay loans were the large majority of our business. However, over the years, their significance dwindled largely due to customer preference for other products we offer. This move will allow us to simplify our operations and focus on our faster-growing products. Prior to discontinuance last year, they represented less than 2% of our total portfolio. Given how small of a contribution this product had on our overall results, exiting it has had no material impact on our business, as you can see from our results over the past few quarters. Turning to credit performance. Overall, credit was very good in the quarter and is looking even better heading into Q2 as we continue to successfully manage credit through numerous changes in the macroeconomic environment, leading to continued solid profitability. Net charge-offs were 8.2% in the first quarter, down from 8.8% last quarter. Notably, net charge-offs remained well below pre-COVID levels of 15.8% in Q1 of 2019 and 13.7% in Q1 of 2018 from a combination of mix shift and good credit management. To give added perspective on how we manage credit, over the past 5 years, we've been using a sophisticated recession-monitoring analysis to assess the macroeconomic environment. This is what led us to increase our ROE targets across all of our products during the back half of 2022 to strike a more prudent balance between growth and risk. In addition, our sophisticated machine learning models, combined with our experienced team, are continually making small operational changes to address areas of concern and take advantage of opportunities. We are literally making hundreds of small changes each quarter to optimize between originations and credit performance. It's important to understand that not all products move in unison. For example, in mid-2022, consumer defaults became elevated. Accordingly, we tightened our underwriting in late Q2 and into Q3 to bring these metrics back in line with our target. And the result was some of the strongest credit metrics we had ever seen by Q1. In contrast, credit metrics for the SMB portfolio lagged consumer by a quarter or two, as we saw much better than historical averages for most of 2022 in that business. However, late in the year, as we saw the impact on our credit metrics of the portfolio normalizing to historic levels, we tightened the small business models and increased our focus on collections to ensure strong credit performance and unit economics. Now, credit metrics across SMB look solid, although there will be a bit of a lag with net charge-offs into Q2, as Steve will discuss. Again, this demonstrates the importance of having a diversified portfolio, world-class machine learning algorithms, and a deep and experienced team. Looking forward, as a result of the current solid credit performance and strong demand we are observing, we believe there is opportunity to be moderately more aggressive with originations now, particularly on the consumer side. And in fact, volume has been quite strong so far in April. To wrap up, while other financial service companies have struggled to access liquidity in the current market environment, our solid balance sheet, more than $900 million of liquidity and proven ability to access the capital markets gives us the flexibility to continue to deliver on our commitment to drive long-term value for our shareholders. The macroeconomic environment was obviously noisy in Q1, but not at Enova. We had another strong quarter, again demonstrating that it's not an overly risky business, but instead one that can operate well in a variety of economic environments. This consistent and industry-leading performance, combined with our strong recent results and lackluster stock price, has made it more clear to us than ever that there's meaningful upside to our current share price and that we need to do more to unlock shareholder value. We are working with external advisers to gauge various alternatives. In addition, as you may have noticed, we are providing more insights about our business to show its strength. Last quarter, we discussed how large and stronger SMB business has become. And this quarter, we've discussed more about how we manage credit. We have not yet identified all the tactics we will take to unlock value, but we are confident that we have the right strategy, products, tech and analytics team and balance sheet in place to build on our success. With that, I would like to turn the call over to Steve, who will discuss our financial results and outlook in more detail. And following Steve's remarks, we'll be happy to answer any questions that you may have.

Thank you, David, and good afternoon, everyone. Over the past several years, the powerful combination of our flexible online-only business model, diversified product offerings, nimble machine learning-powered credit risk management capabilities, and solid balance sheet has allowed us to deliver consistent and differentiated financial results across a range of operating environments. This can again be seen in our solid top and bottom line financial results this quarter, reflecting our ability to adapt and pivot in this uncertain macroeconomic environment. Turning to our first quarter results. As expected, total company revenue was flat sequentially and rose 25% from the first quarter of 2022 to $483 million. The year-over-year increase in revenue was driven by the growth of total company combined loan and finance receivables balances, which, on an amortized basis, increased 28% from the end of the first quarter of 2022 to $2.8 billion at March 31. First quarter total company originations totaled $1.1 billion, up slightly from the same period a year ago and were driven by small business and our continued emphasis on originating shorter-duration and smaller-dollar line of credit consumer products as we continue to balance growth and risk across our businesses. Small business revenue increased 47% from the first quarter of 2022 to $194 million as small business receivables on an amortized basis ended the quarter at $1.8 billion or 48% higher than the end of the first quarter of last year. Small business originations of $770 million grew 17% from the first quarter a year ago. Revenue from our consumer businesses increased 13% from the first quarter of 2022 to $281 million as consumer receivables on an amortized basis ended the first quarter at $1 billion or 3% higher than the end of the first quarter of 2022. Consumer originations of $291 million were lower sequentially due to tax return seasonality and were lower compared to the prior year quarter due to our emphasis during the uncertain economic environment on originating shorter-duration and smaller-dollar line of credit consumer products while reducing exposure to longer-duration and larger-dollar near-prime consumer installment loans. As evidence of this, consumer line of credit receivables and originations in this quarter grew 57% and 53%, respectively, from the first quarter of 2022. Consumer demand for these products remains strong, and the mix shift supports our ability to adapt more quickly in an uncertain macroeconomic environment. Looking ahead, as is typical for the second quarter, we expect total company revenue to be flat sequentially and will depend upon the level, timing, and mix of originations growth during the quarter. Now turning to credit. The net revenue margin for the first quarter of 59% was on the high end of our expected range. Credit quality, which is the most significant driver of net revenue and portfolio fair value, remains solid. Credit metrics for the total company reflect strong consumer credit performance and the expected seasoning and normalization of our growing small business portfolio that we discussed last quarter. The total company ratio of net charge-offs as a percentage of average combined loan and finance receivables for the first quarter was 8.2% compared to 8.8% last quarter, and the small business net charge-off ratio was steady and the consumer net charge-off ratio declined more than 100 basis points. The percentage of total portfolio receivables past due 30 days or more was 7.1% at March 31 compared to 6.7% at the end of 2022, driven by the continued seasoning of recent growth in our small business portfolio, which was partially offset by improvements in the delinquency rate of our consumer portfolio. As discussed last quarter, the meaningful growth in our small business portfolio over the past year, credit metrics for that portfolio are settling at more normal levels as compared to the unsustainably low levels we experienced exiting the pandemic. With that normalization, we expect some quarter-to-quarter variability in small business credit metrics and net revenue margins in the near term, including temporarily falling above or below typical ranges, which can be especially evident in this uncertain macroeconomic environment where we could have slight quarter-to-quarter variations in growth and performance as we actively manage credit and our balanced approach to growth. Increased ROE targets across our portfolio that were implemented last year helped to ensure we have additional cushion in the profitability profile of our loans to protect against potential credit variability in market environments like we're in now. So even though our small business net revenue margin this quarter of 59% fell just below the low 60% to low 70% range that we would expect in a more normal operating environment, we still generated solid returns on the portfolio and delivered consolidated company results that were in line or better than our expectations. The lifetime of credit outlook for our small business portfolio continues to reflect stability at the end of the first quarter with the fair value premium as a percentage of principal of 108%, remaining consistent with levels reported over the past year. Now turning to consumer. Performance and credit metrics for our consumer portfolio remain solid and are reflecting the aforementioned mix shifts towards line of credit loans. Consistent with that shift, we've seen a meaningful increase in the fair value of our consumer portfolio as a percentage of principal over the past year, including 5 percentage points this quarter to 117%, reflecting seasoning of the portfolio and a better-than-expected outlook for consumer lifetime credit losses versus original expectations. As a result of the aforementioned trends in our small business and consumer portfolios, the fair value of the consolidated portfolio as a percentage of principal increased slightly to 111% at the end of the first quarter. Looking ahead with overall credit performance remaining relatively stable, we expect total company net revenue margin for the second quarter of 2023 to be around 60%. This future net revenue margin expectation will depend on portfolio payment performance and the level, timing, and mix of originations growth. Now, turning to expenses. Our operating costs this quarter reflect efficient marketing activities, the continued leverage inherent in our online-only model, and thoughtful expense management. Total operating expenses for the first quarter, including marketing, were $166 million or 34% of revenue compared to $168 million or 44% of revenue in the first quarter of 2022. Our marketing activities remain effective and efficient with marketing spend for the first quarter of $80 million or 17% of revenue compared to $93 million or 24% of revenue in the first quarter of 2022. We expect marketing expenses as a percentage of revenue to be near 20% in the near term but will depend upon the growth and mix of origination, especially for new customers. With growth in receivables and originations over the past year, operations and technology expenses for the first quarter increased to $49 million or 10% of revenue compared to $41 million or 11% of revenue in the first quarter of 2022. Given the significant variable component of this expense category, sequential increases in O&T costs should be expected in an environment where originations and receivables are growing and should range between 9% and 10% of total revenue. Our fixed costs continue to reflect our focus on operating efficiency and thoughtful expense management. General and administrative expenses for the first quarter increased to $37 million or 8% of revenue from $35 million or 9% of revenue in the first quarter of 2022. Excluding $2.5 million of one-time costs, mostly related to a lease termination, G&A expenses would have been flat compared to the first quarter of 2022. While there may be slight variations from quarter to quarter, we expect G&A expenses as a percentage of revenue to be around 8% in the near term. We recognized adjusted earnings, a non-GAAP measure, of $59 million or $1.79 per diluted share for the first quarter compared to $58 million or $1.67 per diluted share in the first quarter of the prior year. Our solid balance sheet and ample liquidity give us the financial flexibility to successfully navigate a range of operating environments and has allowed us to deliver on our commitment to driving long-term shareholder value through continued investments in our business as well as share repurchases and open market purchases and retirement of our senior notes. We ended the first quarter with $905 million of liquidity, including $304 million of cash and marketable securities and $601 million of available capacity on facilities. Our cost of funds for the first quarter was 7.8%, 190 basis points higher than the first quarter a year ago, primarily due to the 475 basis point increase in SOFR over the past year. Demonstrating our confidence in the continued strength of our business relative to our current valuation, during the first quarter, we acquired 375,000 shares at a cost of approximately $17 million. At March 31, we had $141 million remaining under our authorized share repurchase program. In addition, during the quarter, we also opportunistically purchased $44 million of our 2024 senior unsecured notes in the open market at a slight discount to par. Without a material improvement in that current high cost to refinance our senior notes due to market volatility, we expect to leverage our liquidity position and to continue to purchase and retire our 2024 notes over the next 16 months, leading up to their September 1, 2024, maturity. To wrap up, let me summarize our second quarter expectations. As is typical for the second quarter of the year, we expect revenue to be flat sequentially as we continue to focus on an origination strategy that balances growth and risk against the current macro environment. This should lead to stable credit, resulting in a total company net revenue margin of around 60%. In addition, we expect marketing expenses to be near 20% of revenue, O&T costs between 9% and 10% of revenue, and G&A costs of around 8% of revenue. These expectations should lead to an adjusted EBITDA margin in the mid-20% and flat to slightly higher adjusted EPS compared to the second quarter of 2022. Our second quarter expectations will depend upon customer payment rates and the level of timing and mix of originations growth. Barring a material change in the macroeconomic environment for the remainder of this year, we continue to expect originations for the full year 2023 to grow between 10% and 15% compared to 2022 as we maintain our focus on an origination strategy that balances growth and risk. As we discussed last quarter, the resulting growth in receivables, stable credit, and continued operating leverage should result in full year 2023 growth in both revenue and adjusted EPS compared to 2022 that is faster than our expected originations growth. Our expectations for the remainder of this year will depend upon the macroeconomic environment and the resulting impact on demand, customer payment rates, and the level, timing, and mix of originations growth. This quarter we continued to demonstrate that our balanced approach to growth is working. Our talented team, diversified product offerings, and financial flexibility have enabled us to consistently meet or exceed our expectations for growth and profitability despite uncertainty in the macro economy, and we remain confident that we are well-positioned to quickly adapt to the evolving macro environment. And with that, we'd be happy to take your questions.

And our first question will come from David Scharf of JMP Securities.

I guess right off the bat, David, I guess I'm probably obliged to ask if there's any kind of time frame you're able to communicate, either a target or benchmark for when you and the Board expect to kind of reach some sort of conclusion on the efforts to explore some opportunities for shareholder value?

Yes. Sure. So yes, we don't know. We're in the process. We're not in a rush. The company is in great shape. It isn't like one of those stressed situations where you have to get something done. We just think there's more value to be created. And look, there might be like an end or it might be ongoing. It might be a series of things we do over this year or next year, for years to come. That's something we're exploring. But the amount of value we're creating versus the amount of value that's reflected in the marketplace makes us confident that there is more to do. But again, given the stability of the company, the strength of the balance sheet, our originations trajectory, obviously, no rush whatsoever.

Got it. No, that's helpful. On the credit side, I'm curious about your unique position as both a small business and a direct-to-consumer lender. Do you gain any insights into layoff trends or employment trends through your SMB OnDeck platform that could be relevant to consumers? If so, does it still seem pretty stable?

Not really. We don't get a great sense of that. I mean we have a great sense of the health of small businesses generally. I would say we get a better sense of the health of the consumer from originating millions and millions of consumer loans. And especially as we've increasingly obtained electronic bank statement data from our customers as part of those originations, we get a very good sense of employment trends, changes in employment, changes in income. And I can say the consumer is still very, very strong. Unemployment rates are kind of at or near lows. Jobless claims have ticked up a bit, but they're still very, very, very low. Wages are still incredibly strong. So we're seeing a very healthy consumer. And as I mentioned in my calls, the strongest credit metrics we've ever had in Q1 of this year. And combined with very solid demand, it's making for a strong consumer business for us right now.

Got it. And then I'll wrap up with a quick question on marketing and customer acquisition. Obviously, we understand that 20% is more of a normalized level, it can fluctuate quarter-to-quarter. But is there anything in the competitive environment, and specifically, just competitors that don't have the access to funding or low-cost funding as you do? Is there anything about weakened competition that could lead that customer acquisition spend to be below 20% this year to be more efficient, if you will?

Yes, it's a balance. The competitive environment is certainly weak, as we saw in Q1. Our credit models were quite tight for most of the quarter due to our elevated return on equity targets that we’ve discussed over the past few quarters. Additionally, our marketing expenses as a percentage of revenue were much lower than they have been since acquiring OnDeck and since the pandemic. This weakened economic landscape certainly plays a role. On the other hand, with favorable credit metrics and entering a more seasonally promising period, we have the incentive to speed up originations, which I also mentioned. Accelerating originations can influence our metrics, as it's key to remember that we can either relax our credit standards to include more lower credit quality customers or increase our spending per customer to attract higher credit quality customers. We adjust these strategies based on our daily data, managing marketing expenditure and fine-tuning our credit metrics regularly. As Steve highlighted, in this balanced approach between risk and growth, we are cautious about loosening our credit models too much, which could lead us to increase marketing spending. The positive aspect is that with our very low marketing figure in Q1, we have ample room to increase spending while maintaining attractive returns on equity.

The next question comes from John Hecht of Jefferies.

Congratulations on another good quarter. My first question is regarding some recent small business data collection proposals that I've been monitoring. What are your overall thoughts on that? And does it have any operational impact on your team?

Yes, that is now a final rule. It will take effect in 2024, and I believe we will report for the first time in 2025. It’s not a significant issue for us, but that seems accurate. The requirements are similar to those in mortgage lending today, focusing on collecting demographic data and general rates. As an online lender, it's very simple for us to gather this information. Participation is voluntary for the customer. We just need to add a couple of fields to our application for them to complete if they choose, and then we will send the data to the CFPB. Overall, it doesn't present much of a burden for us.

That's helpful. You mentioned that credit is improving into the second quarter, even though tax refunds are down this year, significantly so. Is this improvement due to tightening, or is it related to the mix? You are actively managing credit risk in the markets, so I know it's part of the platform. I thought I heard that you are quite pleased with credit's performance, perhaps even better than expected. I'm interested in your perspective on what has led to this outcome.

Sure. Well, not better than expected. It performed well, but let me break it up into the two components because they were slightly different, which was part of the point I was trying to make when kind of going through how we manage credit. On the consumer side, credit was extremely strong all quarter. And almost from the very beginning of the quarter, we saw some of the strongest credit metrics we've really ever seen since in the consumer business. And yes, tax returns are down a little bit. But as I mentioned in the answer to David's question, the consumer, as far as we can see, is still very, very strong with the strong jobs market and strong wages. So that, combined with us not being super aggressive in terms of origination, that balanced approach to risk and growth, I think lots of those very, very good credit metrics, and that's continued so far into Q2. On the small business side, we did see a little bit of weakness in credit at the end of 2022. And we were very aggressive with the originations. So I'm sure that was part of it. And I do think businesses also got a bit skittish kind of around the end of the year and then into Q1. But again, our models work really, really well, and our team is incredibly good at their jobs. And again, by twisting and turning those dials and by the machine learning models adjusting, by the end of the quarter, small business credit was looking very solid again. So not all time great like on the consumer side, but certainly within a range we're very happy with.

Our next question will come from Vincent Caintic of Stephens.

First question also on small business. So we have this kind of big turmoil over the past, that's mid-March. And since then, we've heard of banks starting to tighten up on certain types of lending categories, and small business seems to be one of them. I'm sort of just wondering if you're hearing or seeing anything and how the competitive landscape is looking for you, and perhaps there might be some opportunities as others pull back from small business lending.

Our small business products are designed to appeal to businesses that typically do not qualify for traditional bank loans. There isn't a direct overlap, but as bank lending tightens, small businesses that would have previously secured loans from banks may find themselves in need of other financing options. We believe we could be a suitable choice for them. While we haven't observed a significant increase in demand yet, it's not surprising that businesses accustomed to borrowing from banks may take some time to transition to alternative lenders. However, the ongoing reduction in bank lending could create opportunities for our small business products as we move into the second quarter and the summer.

Could you discuss your funding availability and your thoughts on the capital structure? It's good to see you taking advantage of share repurchases, but I'd like to understand your access to funding markets and your overall capital structure strategy.

Yes. Sure. So I think our approach to financing hasn't really changed dramatically over time with our approach to securitization and a combination of facilities and term in the securitization markets as well as where we need term financing using it. So we're going to continue to be opportunistic, just like we have been over the past several years as we've been dealing with a range of operating environments. I would say if anything, after some of the banking noise calmed down earlier in March, we've seen opportunities in the financing markets continue to improve. So to the extent that we need to raise new money to fund growth, I feel like we'll continue to have access at economical levels that will allow us to continue to fund growth, but also to do some of the things we talked about, which include continuing our share repurchase program where it makes sense and continuing to retire the upcoming 2024 senior notes over the next year-plus.

The next question comes from John Rowan of Janney.

I guess I'm struggling to understand conceptually where you stand in the process of evaluating kind of strategic alternatives, if you will. Are you still in the idea generation phase? Or are you starting to look through actual proposals and eliminate potential options? I'm just trying to conceptually understand where we sit in kind of the process of unlocking shareholder value.

Yes. I mean I think we're kind of still doing both of those. I would say we're on the earliest side. And again, this isn't like the outcome is, hey, we're going to go sell the company, or where are we in the process of selling the company. This could take many, many different forms from M&A transactions to buyers and sellers to balance sheet restructurings and repositioning the business in different ways. So it takes lots of different forms. And because of that, we're talking to different kinds of advisers to figure it out. So we've heard some ideas that are interesting. We've heard some ideas that are not, and we'll continue to evaluate. And as I mentioned earlier, this may be a process that has a definitive outcome like we're going to do X, but it might also be something where we're going to do a whole series of things. So over the next couple of years, we're able to extract value better than we've been able to over the last couple of years.

Okay. And then just lastly, I understand you're buying debt at a slight discount to par. Are there any implications from credit rating agencies regarding buying back below par?

John, no, we're not buying it at levels that would raise the concerns that you would typically see that they would raise from buying back debt. It's just a touch below par. But still, the bonds are callable at par, so it's still an opportunistic buy for us. And we've been in dialogue with the agencies about our plan. This particular bond is pretty small in the scheme of things for Enova, and our liquidity position is very strong. So we're not in a situation where this is creating distress for us in any way. So I think we're in good shape to continue to take this on over the next year or so.

This concludes our question-and-answer session. I would like to turn the conference back over to David Fisher for any closing remarks.

Thank you, operator. Thank you, everyone, for joining our call today. We look forward to speaking with you again next quarter. Have a great evening.

The conference has now concluded. Thank you for attending today's presentation, and you may now disconnect.