Item 7. Management’s Discussion and Analysis
of Financial Condition and Results of Operations
The following discussion and
analysis should be read in conjunction with our consolidated financial statements and notes thereto and other information included or
incorporated by reference herein.
Overview
We are a specialty finance
company. Our business is to purchase and service retail automobile contracts originated primarily by franchised automobile dealers and,
to a lesser extent, by select independent dealers in the United States in the sale of new and used automobiles, light trucks and passenger
vans. Through our automobile contract purchases, we provide indirect financing to the customers of dealers who have limited credit histories
or past credit problems, who we refer to as sub-prime customers. We serve as an alternative source of financing for dealers, facilitating
sales to customers who otherwise might not be able to obtain financing from traditional sources, such as commercial banks, credit unions
and the captive finance companies affiliated with major automobile manufacturers. In addition to purchasing installment purchase contracts
directly from dealers, we also originate vehicle purchase money loans by lending directly to consumers and have (i) acquired installment
purchase contracts in four merger and acquisition transactions, and (ii) purchased immaterial amounts of vehicle purchase money loans
from non-affiliated lenders. In this report, we refer to all of such contracts and loans as "automobile contracts."
We were incorporated and began
our operations in March 1991. From inception through December 31, 2021, we have originated a total of approximately $18.1 billion of automobile
contracts, primarily by purchasing retail installment sales contracts from dealers, and to a lesser degree, by originating loans secured
by automobiles directly with consumers. In addition, we acquired a total of approximately $822.3 million of automobile contracts in mergers
and acquisitions in 2002, 2003, 2004 and 2011. Contract purchase volumes and managed portfolio levels for the five years ended December
31, 2021 are shown in the table below. Managed portfolio comprises both contracts we owned and those we were servicing for third parties.
Contract Purchases and Outstanding Managed Portfolio |
| |
$ in
thousands |
Year | |
Contracts Purchased in Period | |
Managed Portfolio at Period End |
2017 | |
$ | 859,069 | | |
$ | 2,333,530 | |
2018 | |
| 902,416 | | |
| 2,380,847 | |
2019 | |
| 1,002,782 | | |
| 2,416,042 | |
2020 | |
| 742,584 | | |
| 2,174,972 | |
2021 | |
| 1,146,321 | | |
| 2,249,069 | |
Our principal executive offices are in Las Vegas,
Nevada. Most of our operational and administrative functions take place in Irvine, California. Credit and underwriting functions are performed
primarily in our California branch with certain of these functions also performed in our Florida and Nevada branches. We service our automobile
contracts from our California, Nevada, Virginia, Florida and Illinois branches.
Coronavirus Pandemic
In December 2019, a new strain
of coronavirus (the “COVID-19 virus”) originated in Wuhan, China. Since its discovery, the COVID-19 virus has spread throughout
the world, and the outbreak has been declared to be a pandemic by the World Health Organization. We refer from time to time in this report
to the outbreak and spread of the COVID-19 virus as “the pandemic.” In March 2020 at the outset of the pandemic we complied
with government mandated shutdown orders in the five locations we operate by arranging for many of our staff to work from home and invoking
various safety protocols for workers who remained in our offices. In April 2020, we laid off approximately 100 workers, or about 10% of
our workforce, throughout our offices because of significant reductions in new contract originations. As of December 31, 2021, most of
our staff were working without a significant impact from the pandemic.
The pandemic itself, if sufficient numbers of
people were to be afflicted, could cause obligors under our automobile contracts to be unable to pay their contractual obligations. As
the future course of the COVID-19 pandemic is as yet unknown, its direct effect on future obligor payments is likewise uncertain.
The mandatory shutdown of
large portions of the United States economy pursuant to emergency restrictions has impaired and will impair the ability of obligors under
our automobile contracts to pay their contractual obligations. The extent to which that ability will be impaired, and the extent to which
public ameliorative measures such as stimulus payments and enhanced unemployment benefits may restore such ability, cannot be estimated.
Other effects of the pandemic on our operations is referred to throughout this report.
The programs we offer to dealers
and consumers are intended to serve a wide range of sub-prime customers, primarily through franchised new car dealers. We originate automobile
contracts with the intention of financing them on a long-term basis through securitizations. Securitizations are transactions in which
we sell a specified pool of contracts to a special purpose subsidiary of ours, which in turn issues asset-backed securities to fund the
purchase of the pool of contracts from us.
Securitization and Warehouse Credit Facilities
Throughout the period for which information is
presented in this report, we have purchased automobile contracts with the intention of financing them on a long-term basis through securitizations,
and on an interim basis through warehouse credit facilities. All such financings have involved identification of specific automobile contracts,
sale of those automobile contracts (and associated rights) to one of our special-purpose subsidiaries, and issuance of asset-backed securities
to be purchased by institutional investors. Depending on the structure, these transactions may be accounted for under generally accepted
accounting principles as sales of the automobile contracts or as secured financings. All of our active securitizations are structured
as secured financings.
When structured to be treated as a secured financing
for accounting purposes, the subsidiary is consolidated with us. Accordingly, the sold automobile contracts and the related debt appear
as assets and liabilities, respectively, on our consolidated balance sheet. We then periodically (i) recognize interest and fee income
on the contracts, and (ii) recognize interest expense on the securities issued in the transaction. For automobile contracts acquired before
2018, we also periodically record as expense a provision for credit losses on the contracts; for automobile contracts acquired after 2017
we take account of estimated credit losses in our computation of a level yield used to determine recognition of interest on the contracts.
Since 1994 we have conducted
91 term securitizations of automobile contracts that we originated under our regular programs. As of December 31, 2021, 19 of those securitizations
are active and all are structured as secured financings. We generally conduct our securitizations on a quarterly basis, near the beginning
of each calendar quarter, resulting in four securitizations per calendar year. However, we completed only three securitizations in 2020.
In April 2020 we postponed our planned securitization due to the onset of the pandemic and the effective closure of the capital markets
in which our securitizations are executed. Subsequently we successfully completed securitizations in June and September 2020.
Our history of term securitizations, over the most
recent ten years, is summarized in the table below:
Recent Asset-Backed Term Securitizations |
| |
$ in
thousands |
Period | |
Number of Term Securitizations | |
Amount of Receivables |
2012 | |
| 4 | | |
$ | 603,500 | |
2013 | |
| 4 | | |
| 778,000 | |
2014 | |
| 4 | | |
| 923,000 | |
2015 | |
| 3 | | |
| 795,000 | |
2016 | |
| 4 | | |
| 1,214,997 | |
2017 | |
| 4 | | |
| 870,000 | |
2018 | |
| 4 | | |
| 883,452 | |
2019 | |
| 4 | | |
| 1,014,124 | |
2020 | |
| 3 | | |
| 741,867 | |
2021 | |
| 4 | | |
| 1,145,002 | |
Generally, prior to a securitization
transaction we fund our automobile contract acquisitions primarily with proceeds from warehouse credit facilities. Our current short-term
funding capacity is $200 million, comprising two credit facilities. The first $100 million credit facility was established in May 2012.
This facility was most recently renewed in December 2020, extending the revolving period to December 2022, with an optional amortization
period through December 2023. In November 2015, we entered into another $100 million facility. This facility was most recently renewed
in February 2022, extending the revolving period to January 2024, followed by an amortization period to January 2028.
We previously had a third $100
million facility. This facility was established in April 2015 and was renewed in April 2017 and again in February 2019, extending the
revolving period to February 2021. We repaid this facility in full at its maturity in 2021.
In a securitization and in
our warehouse credit facilities, we are required to make certain representations and warranties, which are generally similar to the representations
and warranties made by dealers in connection with our purchase of the automobile contracts. If we breach any of our representations or
warranties, we will be obligated to repurchase the automobile contract at a price equal to the principal balance plus accrued and unpaid
interest. We may then be entitled under the terms of our dealer agreement to require the selling dealer to repurchase the contract at
a price equal to our purchase price, less any principal payments made by the customer. Subject to any recourse against dealers, we will
bear the risk of loss on repossession and resale of vehicles under automobile contracts that we repurchase.
In a securitization, the related
special purpose subsidiary may be unable to release excess cash to us if the credit performance of the securitized automobile contracts
falls short of pre-determined standards. Such releases represent a material portion of the cash that we use to fund our operations. An
unexpected deterioration in the performance of securitized automobile contracts could therefore have a material adverse effect on both
our liquidity and results of operations.
Critical Accounting Policies
We believe that our accounting
policies related to (a) Finance Receivables at Fair Value, (b) Allowance for Finance Credit Losses, (c) Term Securitizations, (d) Accrual for Contingent Liabilities and (e) Income Taxes are the most critical
to understanding and evaluating our reported financial results. Such policies are described below.
Allowance for Finance Credit Losses
In order to estimate an appropriate
allowance for losses incurred on finance receivables, we use a loss allowance methodology commonly referred to as "static
pooling," which stratifies our finance receivable portfolio into
separately identified pools based on the period of origination. Using analytical and formula driven techniques, we estimate an allowance
for finance credit losses, which we believe is adequate for probable incurred credit losses that can be reasonably estimated in our portfolio
of automobile contracts. Net losses incurred on finance receivables are charged to the allowance. We evaluate the adequacy of the allowance
by examining current delinquencies, the characteristics of the portfolio, prospective liquidation values of the underlying collateral
and general economic and market conditions. As circumstances change, our level of provisioning and/or allowance may change as well. Receivables
acquired after 2017, are accounted for using fair value and will have no allowance for finance credit losses in accordance with the fair
value method of accounting for finance receivables.
Broad economic factors such
as recession and significant changes in unemployment levels influence the credit performance of our portfolio, as does the weighted average
age of the receivables at any given time. Our internal credit performance data consistently show that new receivables have lower levels
of delinquency and losses early in their lives, with delinquencies increasing throughout their lives and incremental losses gradually
increasing to a peak around 18 months, after which they gradually decrease.
The credit performance of
our portfolio is also significantly influenced by our underwriting guidelines and credit criteria we use when evaluating contracts for
purchase from dealers. We regularly evaluate our portfolio credit performance and modify our purchase criteria to maximize the credit
performance of our portfolio, while maintaining competitive programs and levels of service for our dealers.
We generally do not lower
the contractual interest rate or waive or forgive principal when our borrowers incur financial difficulty on either a temporary or permanent
basis. An exception to this policy is when a court order mandates the terms of the contract to be modified, such as in a Chapter 13 bankruptcy
proceeding. In such cases, which represent an immaterial portion of our portfolio of finance receivables, we have estimated the amount
of impairment that results from such modification and established an appropriate allowance within our Allowance for Finance Credit Losses.
Effective
January 1, 2020, the Company adopted Accounting Standards Codification ("ASC") 326, which changes the criteria under which credit
losses on financial instruments (such as the Company’s finance receivables) are measured. ASC 326 introduced a new credit reserving
model known as the Current Expected Credit Loss (“CECL”) model, which replaces the incurred loss impairment methodology previously
used under U.S. GAAP with a methodology that records currently the expected lifetime credit losses on financial instruments. The adoption
of CECL required that we establish an allowance for the remaining expected lifetime credit losses on the portion of the Company’s
receivable portfolio for which the Company was not already using fair value accounting. We refer to that portion, which is those receivables
that were originated prior to January 2018, as our “legacy portfolio”. To comply with CECL, the Company recorded an addition
to its allowance for finance credit losses of $127.0 million.
At the onset of the pandemic in March 2020, Government
mandated shutdowns of large portions of the United States economy impaired and will likely continue to impair the ability of obligors
under our automobile contracts to make their monthly payments. The extent to which that ability will be impaired, and the extent to which
public ameliorative measures such as stimulus payments and enhanced unemployment benefits may restore such ability, cannot be estimated.
During the twelve-month period
ended December 31, 2021, we recorded a reduction to provision for finance credit losses in the amount of $14.6 million. The reserve decrease
was primarily due to a decrease in lifetime expected credit losses resulting from improved credit performance.
Finance Receivables Measured at Fair Value
Effective January 1, 2018,
we adopted the fair value method of accounting for finance receivables acquired on or after that date. For each finance receivable acquired
after 2017, we consider the price paid on the purchase date as the fair value for such receivable. We estimate the cash to be received
in the future with respect to such receivables, based on our experience with similar receivables acquired in the past. We then compute
the internal rate of return that results in the present value of those estimated cash receipts being equal to the purchase date fair value.
Thereafter, we recognize interest income on such receivables on a level yield basis using that internal rate of return as the applicable
interest rate. Cash received with respect to such receivables is applied first against such interest income, and then to reduce the recorded
value of the receivables.
We re-evaluate the fair value
of such receivables at the close of each measurement period. If the reevaluation were to yield a value materially different from the recoded
value, an adjustment would be required. In the twelve-month period ended December 31, 2021, the Company considered the effect of the pandemic
on the portfolio of finance receivables carried at fair value and recorded a mark down to that portfolio of $4.4 million. The mark down
is reflected as a reduction in revenue.
Anticipated credit losses
are included in our estimation of cash to be received with respect to receivables. Because such credit losses are included in our
computation of the appropriate level yield, we do not thereafter make periodic provision for credit losses, as our best estimate of the
lifetime aggregate of credit losses is included in that initial computation. Also because we include anticipated credit losses in our
computation of the level yield, the computed level yield is materially lower than the average contractual rate applicable to the receivables.
Because our initial recorded value is fixed as the price we pay for the receivable, rather than as the contractual principal balance,
we do not record acquisition fees as an amortizing asset related to the receivables, nor do we capitalize costs of acquiring the receivables.
Rather we recognize the costs of acquisition as expenses in the period incurred.
Term Securitizations
Our term securitization structure has generally
been as follows:
We sell automobile contracts
we acquire to a wholly-owned special purpose subsidiary, which has been established for the limited purpose of buying and reselling our
automobile contracts. The special-purpose subsidiary then transfers the same automobile contracts to another entity, typically a statutory
trust. The trust issues interest-bearing asset-backed securities, in a principal amount equal to or less than the aggregate principal
balance of the automobile contracts. We typically sell these automobile contracts to the trust at face value and without recourse, except
that representations and warranties similar to those provided by the dealer to us are provided by us to the trust. One or more investors
purchase the asset-backed securities issued by the trust; the proceeds from the sale of the asset-backed securities are then used to purchase
the automobile contracts from us. We may retain or sell subordinated asset-backed securities issued by the trust or by a related entity.
We structure our securitizations
to include internal credit enhancement for the benefit the investors (i) in the form of an initial cash deposit to an account (“spread
account”) held by the trust, (ii) in the form of overcollateralization of the senior asset-backed securities, where the principal
balance of the senior asset-backed securities issued is less than the principal balance of the automobile contracts, (iii) in the form
of subordinated asset-backed securities, or (iv) some combination of such internal credit enhancements. The agreements governing the
securitization transactions require that the initial level of internal credit enhancement be supplemented by a portion of collections
from the automobile contracts until the level of internal credit enhancement reaches specified levels, which are then maintained. The
specified levels are generally computed as a percentage of the principal amount remaining unpaid under the related automobile contracts.
The specified levels at which the internal credit enhancement is to be maintained will vary depending on the performance of the portfolios
of automobile contracts held by the trusts and on other conditions, and may also be varied by agreement among us, our special purpose
subsidiary, the insurance company, if any, and the trustee. Such levels have increased and decreased from time to time based on performance
of the various portfolios, and have also varied from one transaction to another. The agreements governing the securitizations generally
grant us the option to repurchase the sold automobile contracts from the trust when the aggregate outstanding balance of the automobile
contracts has amortized to a specified percentage of the initial aggregate balance.
Upon each transfer of automobile
contracts in a transaction structured as a secured financing for financial accounting purposes, we retain on our consolidated balance
sheet the related automobile contracts as assets and record the asset-backed notes or loans issued in the transaction as indebtedness.
We receive periodic base servicing
fees for the servicing and collection of the automobile contracts. Under our securitization structures treated as secured financings for
financial accounting purposes, such servicing fees are included in interest income from the automobile contracts. In addition, we are
entitled to the cash flows from the trusts that represent collections on the automobile contracts in excess of the amounts required to
pay principal and interest on the asset-backed securities, base servicing fees, and certain other fees and expenses (such as trustee and
custodial fees). Required principal payments on the asset-backed notes are generally defined as the payments sufficient to keep the principal
balance of such notes equal to the aggregate principal balance of the related automobile contracts (excluding those automobile contracts
that have been charged off), or a pre-determined percentage of such balance. Where that percentage is less than 100%, the related securitization
agreements require accelerated payment of principal until the principal balance of the asset-backed securities is reduced to the specified
percentage. Such accelerated principal payment is said to create overcollateralization of the asset-backed notes.
If the amount of cash required
for payment of fees, expenses, interest and principal on the senior asset-backed notes exceeds the amount collected during the collection
period, the shortfall is withdrawn from the spread account, if any. If the cash collected during the period exceeds the amount necessary
for the above allocations plus required principal payments on the subordinated asset-backed notes, and there is no shortfall in the related
spread account or the required overcollateralization level, the excess is released to us. If the spread account and overcollateralization
is not at the required level, then the excess cash collected is retained in the trust until the specified level is achieved. Although
spread account balances are held by the trusts on behalf of our special-purpose subsidiaries as the owner of the residual interests (in
the case of securitization transactions structured as sales for financial accounting purposes) or the trusts (in the case of securitization
transactions structured as secured financings for financial accounting purposes), we are restricted in use of the cash in the spread accounts.
Cash held in the various spread accounts is invested in high quality, liquid investment securities, as specified in the securitization
agreements. The interest rate payable on the automobile contracts is significantly greater than the interest rate on the asset-backed
notes. As a result, the residual interests described above historically have been a significant asset of ours.
In all of our term securitizations
and warehouse credit facilities, whether treated as secured financings or as sales, we have sold the automobile contracts (through a subsidiary)
to the securitization entity. The difference between the two structures is that in securitizations that are treated as secured financings
we report the assets and liabilities of the securitization trust on our consolidated balance sheet. Under both structures, recourse to
us by holders of the asset-backed securities and by the trust, for failure of the automobile contract obligors to make payments on a timely
basis, is limited to the automobile contracts included in the securitizations or warehouse credit facilities, the spread accounts and
our retained interests in the respective trusts.
Accrual for Contingent Liabilities
We are routinely involved
in various legal proceedings resulting from our consumer finance activities and practices, both continuing and discontinued. Our legal
counsel has advised us on such matters where, based on information available at the time of this report, there is an indication that it
is both probable that a liability has been incurred and the amount of the loss can be reasonably determined.
We have recorded a liability
as of December 31, 2021, which represents our best estimate of probable incurred losses for legal contingencies at that date. The amount
of losses that may ultimately be incurred cannot be estimated with certainty. However, based on such information as is available to us,
we believe that the range of reasonably possible losses for the legal proceedings and contingencies described or referenced above, as
of December 31, 2021, and in excess of the liability we have recorded, does not exceed $11.3 million.
Accordingly, we believe that
the ultimate resolution of such legal proceedings and contingencies, after taking into account our current litigation reserves, should
not have a material adverse effect on our consolidated financial condition. We note, however, that in light of the uncertainties inherent
in contested proceedings, there can be no assurance that the ultimate resolution of these matters will not significantly exceed the reserves
we have accrued; as a result, the outcome of a particular matter may be material to our operating results for a particular period, depending
on, among other factors, the size of the loss or liability imposed and the level of our income for that period.
Income Taxes
We account for income taxes
under the asset and liability method, which requires the recognition of deferred tax assets and liabilities for the expected future tax
consequences of events that have been included in the financial statements. Under this method, deferred tax assets and liabilities are
determined based on the differences between the financial statements and tax basis of assets and liabilities using enacted tax rates in
effect for the year in which the differences are expected to reverse. The effect of a change in tax rates on deferred tax assets and liabilities
is recognized in income in the period that includes the enactment date.
Deferred tax assets are recognized
subject to management’s judgment that realization is more likely than not. A valuation allowance is recognized for a deferred tax
asset if, based on the weight of the available evidence, it is more likely than not that some portion of the deferred tax asset will not
be realized. In making such judgements, significant weight is given to evidence that can be objectively verified.
In determining the possible
future realization of deferred tax assets, we have considered future taxable income from the following sources: (a) reversal of taxable
temporary differences; and (b) forecasted future net earnings from operations. Based upon those considerations, we have concluded that
it is more likely than not that the U.S. and state net operating loss carryforward periods provide enough time to utilize the deferred
tax assets pertaining to the existing net operating loss carryforwards and any net operating loss that would be created by the reversal
of the future net deductions which have not yet been taken on a tax return. Our estimates of taxable income are forward-looking statements,
and there can be no assurance that our estimates of such taxable income will be correct. Factors discussed under "Risk Factors,"
and in particular under the subheading "Risk Factors -- Forward-Looking Statements" may affect whether such projections prove
to be correct.
We recognize interest and
penalties related to unrecognized tax benefits within the income tax expense line in the accompanying consolidated statements of operations.
Accrued interest and penalties are included within the related tax liability line in the consolidated balance sheets.
Uncertainty of Capital Markets and General Economic Conditions
We depend upon the availability
of warehouse credit facilities and access to long-term financing through the issuance of asset-backed securities collateralized by our
automobile contracts. Since 1994, we have completed 91 term securitizations of approximately $16.2 billion in contracts. We generally
conduct our securitizations on a quarterly basis, near the beginning of each calendar quarter, resulting in four securitizations per calendar
year. However, we completed only three securitizations in 2020. In April 2020 we postponed our planned securitization due to the onset
of the pandemic and the effective closure of the capital markets in which our securitizations are executed. Subsequently, we successfully
completed securitizations in June and September 2020 and four securitizations in 2021.
Financial Covenants
Certain of our securitization
transactions and our warehouse credit facilities contain various financial covenants requiring certain minimum financial ratios and results.
Such covenants include maintaining minimum levels of liquidity and net worth and not exceeding maximum leverage levels. In addition, certain
securitization and non-securitization related debt contain cross-default provisions that would allow certain creditors to declare a default
if a default occurred under a different facility. As of December 31, 2021 we were in compliance with all such financial covenants.
Results of Operations
Comparison of Operating Results for the year ended December 31,
2021 with the year ended December 31, 2020
Revenues. During
the year ended December 31, 2021, our revenues were $267.8 million, a decrease of $3.4 million, or 1.2%, from the prior year revenues
of $271.2 million. The primary reason for the decrease in revenues is a decrease in interest income. Interest income for the year ended
December 31, 2021 decreased $28.7 million, or 9.7%, to $266.3 million from $295.0 million in the prior year. The primary reason for the
decrease in interest income is the continued runoff of our legacy portfolio of finance receivables originated prior to January 2018, which
accrued interest at an average of 20.2%, which is offset only in part by the increase in our portfolio of receivables measured at fair
value, which are those originated since January 2018. The interest yield on receivables measured at fair value is reduced to take account
of expected losses and is therefore less than the yield on other finance receivables. The table below shows the outstanding and average
balances of our portfolio held by consolidated subsidiaries for the year months ended December 31, 2021 and 2020:
| |
Year
Ended December 31, |
| |
2021 | |
2020 |
| |
(Dollars in thousands) |
| |
Average | |
| |
Interest | |
Average | |
| |
Interest |
| |
Balance | |
Interest | |
Yield | |
Balance | |
Interest | |
Yield |
Interest Earning Assets | |
| | | |
| | | |
| | |
| | | |
| | |
Finance receivables | |
$ | 345,021 | | |
$ | 69,805 | | |
| 20.2% | |
$ | 684,259 | | |
$ | 126,716 | | |
18.5% |
Finance receivables measured at fair value | |
| 1,802,590 | | |
| 196,461 | | |
| 10.9% | |
| 1,631,491 | | |
| 168,266 | | |
10.3% |
Total | |
$ | 2,147,611 | | |
$ | 266,266 | | |
| 12.4% | |
$ | 2,315,750 | | |
$ | 294,982 | | |
12.7% |
Revenues for the year ended December 31, 2021 and 2020 are net of mark downs
of $4.4 million and $29.5 million, respectively, to the recorded value of the finance receivables measured at fair value. The mark down
is an estimate based on our evaluation of the appropriate fair value and future earnings rate of existing receivables compared to recently
acquired receivables and our assessment of potential additional future net losses arising from the pandemic.
Other income was $6.0 million
for the year ended December 31, 2021 compared to $5.7 million for the year ended December 31, 2020.
Expenses. Our operating expenses
consist largely of interest expense, provision for credit losses, employee costs, sales and general and administrative expenses. Provision
for credit losses is affected by the balance and credit performance of our portfolio of finance receivables (other than our portfolio
of finance receivables measured at fair value, as to which expected credit losses have the effect of reducing the interest rate applicable
to such receivables). Interest expense is significantly affected by the volume of automobile contracts we purchased during the trailing
12-month period and the use of our warehouse facilities and asset-backed securitizations to finance those contracts. Employee costs
and general and administrative expenses are incurred as applications and automobile contracts are received, processed and serviced. Factors
that affect margins and net income include changes in the automobile and automobile finance market environments, and macroeconomic factors
such as interest rates and changes in the unemployment level.
Employee costs include base
salaries, commissions and bonuses paid to employees, and certain expenses related to the accounting treatment of outstanding stock options,
and are one of our most significant operating expenses. These costs (other than those relating to stock options) generally fluctuate with
the level of applications and automobile contracts processed and serviced.
Other operating expenses consist
largely of facilities expenses, telephone and other communication services, credit services, computer services, sales and advertising
expenses, and depreciation and amortization.
Total operating expenses were
$202.1 million for the year ended December 31, 2021, compared to $251.0 million for the prior year, a decrease of $49.0 million, or 19.5%.
The decrease is primarily due to a decreases in interest expense and provisions for credit losses.
Employee costs increased by
$336,000 or 0.4%, to $80.5 million during the year ended December 31, 2021, representing 39.9% of total operating expenses, from $80.2
million for the prior year, or 31.9% of total operating expenses. Employee costs for 2021 include approximately $8.0 million for the establishment
of a bonus pool for a segment of employees we classify as Managers.
The table below summarizes our
employees by category as well as contract purchases and units in our managed portfolio as of, and for the years ended, December 31, 2021
and 2020:
| |
December 31, 2021 | |
December 31, 2020 |
| |
Amount | |
Amount |
| |
($ in millions) |
Contracts purchased (dollars) | |
$ | 1,146.3 | | |
$ | 742.6 | |
Contracts purchased (units) | |
| 54,317 | | |
| 39,887 | |
Managed portfolio outstanding (dollars) | |
$ | 2,249.1 | | |
$ | 2,175.0 | |
Managed portfolio outstanding (units) | |
| 156,280 | | |
| 163,177 | |
| |
| | | |
| | |
Number of Originations staff | |
| 170 | | |
| 157 | |
Number of Marketing staff | |
| 105 | | |
| 96 | |
Number of Servicing staff | |
| 388 | | |
| 460 | |
Number of other staff | |
| 76 | | |
| 74 | |
Total number of employees | |
| 739 | | |
| 787 | |
General and administrative expenses
include costs associated with purchasing and servicing our portfolio of finance receivables, including expenses for facilities, credit
services, and telecommunications. General and administrative expenses were $34.6 million, an increase of $2.6 million, or 8.2%, compared
to the previous year and represented 17.1% of total operating expenses.
Interest expense for the year
ended December 31, 2021 decreased by $26.1 million to $75.2 million, or 25.8%, compared to $101.3 million in the previous year. Interest
expense represented 37.2% of total operating expenses in 2021. The primary reason for the decrease in interest expense is the decrease
in securitzation trust debt interest.
Interest on securitization trust
debt decreased by $23.6 million, or 26.9%, for the year ended December 31, 2021 compared to the prior year. The average balance of securitization
trust debt decreased 9.8% to $1,819.9 million for the year ended December 31, 2021 compared to $2,017.2 million for the year ended December
31, 2020. The blended interest rates on new term securitizations have generally decreased since 2019 and have stayed relatively low in
2021 despite trending upward throughout the year. For any particular quarterly securitization transaction, the blended cost of funds is
ultimately the result of many factors including the market interest rates for benchmark swaps of various maturities against which our
bonds are priced and the margin over those benchmarks that investors are willing to accept, which in turn, is influenced by investor demand
for our bonds at the time of the securitization. These and other factors have resulted in fluctuations in our securitization trust debt
interest costs. The blended interest rates of our recent securitizations are summarized in the table below:
Blended Cost of Funds on Recent Asset-Backed Term Securitizations |
Period |
|
Blended Cost of Funds |
January 2018 |
|
3.46% |
April 2018 |
|
3.98% |
July 2018 |
|
4.18% |
October 2018 |
|
4.25% |
January 2019 |
|
4.22% |
April 2019 |
|
3.95% |
July 2019 |
|
3.36% |
October 2019 |
|
2.95% |
January 2020 |
|
3.08% |
June 2020 |
|
4.09% |
September 2020 |
|
2.39% |
January 2021 |
|
1.11% |
April 2021 |
|
1.65% |
July 2021 |
|
1.55% |
October 2021 |
|
2.09% |
The annualized average rate
on our securitization trust debt was 3.5% for the year ended December 31, 2021 compared with 4.4% for 2020. The annualized average rate
is influenced by the manner in which the underlying securitization trust bonds are repaid. The rate tends to increase over time on any
particular securitization since the structures of our securitization trusts generally provide for sequential repayment of the shorter
term, lower interest rate bonds before the longer term, higher interest rate bonds.
Interest expense on warehouse
lines of credit decreased by $3.2 million, or 42.1% for the year ended December 31, 2021 compared to the prior year. The decrease was
primarily due to the lower utilization of our credit lines during the year. The average balance of our warehouse debt was $51.3 million
during 2021 compared to $92.5 million in 2020.
Interest expense on residual
interest financing was $3.8 million in the year ended December 31, 2021 compared to $3.5 million in the prior year as the average balance
has increased.
Interest expense on our subordinated
renewable notes increased by $466,000, or 21.4%, for the year ended December 31, 2021 compared to the prior year. The average balance
of the notes increased from $19.3 million in the prior year to $25.3 million for the year ended December 31, 2021. The average interest
rate on our subordinated notes decreased to 10.5% for the year ended December 31, 2021 from 11.2% for the year ended December 31, 2020.
The following table presents
the components of interest income and interest expense and a net interest yield analysis for the years ended December 31, 2021 and 2020:
| |
2021 | |
2020 |
| |
(Dollars in thousands) |
| |
| |
| |
Annualized | |
| |
| |
Annualized |
| |
Average | |
| |
Average | |
Average | |
| |
Average |
| |
Balance
(1) | |
Interest | |
Yield/Rate | |
Balance
(1) | |
Interest | |
Yield/Rate |
Interest Earning Assets | |
| | | |
| | | |
| | |
| | | |
| |
|
| |
Finance receivables gross (2) | |
$ | 345,021 | | |
$ | 69,805 | | |
20.2 | % | |
$ | 684,259 | | |
$ | 126,716 | | |
18.5% |
Finance receivables at fair value | |
| 1,802,590 | | |
| 196,461 | | |
10.9 | % | |
| 1,631,491 | | |
| 168,266 | | |
10.3% |
| |
| 2,147,611 | | |
| 266,266 | | |
12.4 | % | |
| 2,315,750 | | |
| 294,982 | | |
12.7% |
| |
| | | |
| | | |
| | |
| | | |
| | |
|
|
Interest Bearing Liabilities | |
| | | |
| | | |
| | |
| | | |
| | |
|
|
Warehouse lines of credit | |
$ | 51,313 | | |
| 4,448 | | |
8.7 | % | |
$ | 92,481 | | |
| 7,678 | | |
8.3% |
Residual interest financing | |
| 42,692 | | |
| 3,763 | | |
8.8 | % | |
| 34,906 | | |
| 3,454 | | |
9.9% |
Securitization trust debt | |
| 1,819,914 | | |
| 64,387 | | |
3.5 | % | |
| 2,017,152 | | |
| 88,031 | | |
4.4% |
Subordinated renewable notes | |
| 25,270 | | |
| 2,641 | | |
10.5 | % | |
| 19,340 | | |
| 2,175 | | |
11.2% |
| |
$ | 1,939,189 | | |
| 75,239 | | |
3.9 | % | |
$ | 2,163,879 | | |
| 101,338 | | |
4.7% |
| |
| | | |
| | | |
| | |
| | | |
| | |
|
|
Net interest income/spread | |
| | | |
$ | 191,027 | | |
| | |
| | | |
$ | 193,644 | |
|
|
Net interest margin (3) | |
| | | |
| | | |
8.9 | % | |
| | | |
| | | |
8.4% |
Ratio of average interest earning assets to average interest bearing liabilities | |
| 111 | % | |
| | | |
| | |
| 107 | % | |
| | |
|
|
_________________________
| (1) | Average balances are based on month
end balances except for warehouse lines of credit, which are based on daily balances. |
| (2) | Net of deferred fees and direct costs. |
| (3) | Net interest income divided by average
interest earning assets. |
| Year
Ended December 31, 2021 |
|
|
|
|
|
|
|
|
|
|
|
| Compared
to December 31, 2020 |
|
|
|
|
|
|
|
|
|
|
|
| |
Total | |
Change Due | |
Change Due |
|
|
|
|
|
|
|
|
|
|
|
| |
Change | |
to Volume | |
to Rate |
|
|
|
|
|
|
|
|
|
|
|
Interest Earning Assets | |
(In thousands) |
|
|
|
|
|
|
|
|
|
|
|
Finance receivables gross | |
$ | (56,911 | ) | |
$ | (62,823 | ) | |
$ | 5,912 | |
|
|
|
|
|
|
|
|
|
|
|
Finance receivables at fair value | |
| 28,195 | | |
| 17,647 | | |
| 10,548 | |
|
|
|
|
|
|
|
|
|
|
|
| |
| (28,716 | ) | |
| (45,176 | ) | |
| 16,460 | |
|
|
|
|
|
|
|
|
|
|
|
Interest Bearing Liabilities | |
| | | |
| | | |
| | |
|
|
|
|
|
|
|
|
|
|
|
Warehouse lines of credit | |
| (3,230 | ) | |
| (3,418 | ) | |
| 188 | |
|
|
|
|
|
|
|
|
|
|
|
Residual interest financing | |
| 309 | | |
| 770 | | |
| (461 | ) |
|
|
|
|
|
|
|
|
|
|
|
Securitization trust debt | |
| (23,644 | ) | |
| (8,608 | ) | |
| (15,036 | ) |
|
|
|
|
|
|
|
|
|
|
|
Subordinated renewable notes | |
| 466 | | |
| 667 | | |
| (201 | ) |
|
|
|
|
|
|
|
|
|
|
|
| |
| (26,099 | ) | |
| (10,589 | ) | |
| (15,510 | ) |
|
|
|
|
|
|
|
|
|
|
|
| |
| | | |
| | | |
| | |
|
|
|
|
|
|
|
|
|
|
|
Net interest income/spread | |
$ | (2,617 | ) | |
$ | (34,587 | ) | |
$ | 31,970 | |
|
|
|
|
|
|
|
|
|
|
|
The reduction in the annualized yield on our finance
receivables for the year ended December 31, 2021 compared to the prior year period is the result of the lower interest yield on the receivables
measured at fair value. The interest yield on receivables measured at fair value is reduced to take account of expected losses and is
therefore less than the yield on other finance receivables. The average balance of these receivables was $1,802.6 million for the twelve
months ended December 31, 2021 compared to $1,631.5 million in the prior year period.
Effective January 1, 2020,
the Company adopted Accounting Standards Codification Topic 326 - Financial Instruments - Credit Losses: Measurement of Credit Losses
on Financial Instruments. The amendment introduces a new credit reserving model known as the Current Expected Credit Loss model, generally
referred to as CECL. Adoption of CECL required the establishment of an allowance for the remaining expected lifetime credit losses on
the portion of the Company’s receivable portfolio that was originated prior to January 2018. To comply with CECL, the Company recorded
an addition to its allowance for finance credit losses of $127.0 million. In accordance with the rules for adopting CECL, the offset to
the addition to the allowance for finance credit losses was a tax affected reduction to retained earnings using the modified retrospective
method.
For the year ended December 31, 2021, we recorded
a reduction to provision for credit losses on finance receivables in the amount of $14.6 million. The reserve decrease was primarily due
to a decrease in lifetime expected credit losses resulting from improved credit performance. In the prior year period, we recorded an
increase to provision for credit losses for $14.1 million. That provision represented our estimate in 2020 of additional forecasted losses
that might be incurred as a result of the pandemic on our portfolio of finance receivables. Such losses were not considered in our initial
estimate of remaining lifetime losses that we recorded upon our adoption of CECL in January 2020.
The allowance applies only to
our finance receivables originated through December 2017, which we refer to as our legacy portfolio. Finance receivables that we
have originated since January 2018 are accounted for at fair value. Under the fair value method of accounting, we recognize interest income
net of expected credit losses. Thus, no provision for credit loss expense is recorded for finance receivables measured at fair value.
Sales expense consists primarily
of commission-based compensation paid to our employee sales representatives. Our sales representatives earn a salary plus commissions
based on volume of contract purchases and sales of ancillary products and services that we offer our dealers, such as training programs,
internet lead sales, and direct mail products. Sales expense increased by $2.7 million to $16.9 million during the year ended December
31, 2021 and represented 8.4% of total operating expenses. We purchased $1,146.3 million of new contracts during the year ended December
31, 2021 compared to $742.6 million in the prior year period. In our second quarter of 2020, we experienced a significant reduction in
contract purchases due to the pandemic and partial shutdown of the economy. Since then, our contract purchase volumes have gradually increased
to pre-pandemic levels.
Occupancy expenses increased
by $294,000 or 4.0%, to $7.7 million compared to $7.4 million in the previous year and represented 3.8% of total operating expenses.
Depreciation and amortization
expenses decreased by $109,000 or 6.1%, to $1.7 million compared to $1.8 million in the previous year and represented 0.8% of total operating
expenses.
Income tax expense was $18.2
million in 2021 compared to an income tax benefit of $1.6 million for 2020. On March 27, 2020, the Coronavirus Aid, Relief and Economic
Security (“CARES”) Act was passed into law, providing wide ranging economic relief for individuals and businesses. One component
of the CARES Act provides the Company with an opportunity to carry back net operating losses (“NOLs”) arising from 2018, 2019
and 2020 to the prior five tax years. The Company has previously valued its NOLs at the federal corporate income tax rate of 21%. However,
the CARES Act provides for NOL carryback claims to be calculated based on a rate of 35%, which was the federal corporate tax rate in effect
for the carryback years. The result of the revaluation of NOLs and other tax adjustments is a net tax benefit of $680,000 and $8.8 million
for 2021 and 2020, respectively. Excluding the tax benefit, income tax expense for 2021 would have been $18.9 million, representing an
effective income tax rate of 29%. For 2020, income tax expense would have been $7.2 million for an effective tax rate of 36%.
Comparison of Operating Results for the year ended December 31,
2020 with the year ended December 31, 2019
Revenues. During
the year ended December 31, 2020, our revenues were $271.2 million, a decrease of $74.6 million, or 21.6%, from the prior year revenues
of $345.8 million. The primary reason for the decrease in revenues is a decrease in interest income and a mark down to the recorded value
of the portion of the receivables portfolio accounted for at fair value. Interest income for the year ended December 31, 2020 decreased
$42.1 million, or 12.5%, to $295.0 million from $337.1 million in the prior year. The primary reason for the decrease in interest income
is the continued runoff of our portfolio of finance receivables originated prior to January 2018, which accrued interest at an average
of 18.5%, which is offset only in part by the increase in our portfolio of receivables measured at fair value, which are those originated
since January 2018. The interest yield on receivables measured at fair value is reduced to take account of expected losses and is therefore
less than the yield on other finance receivables. The table below shows the outstanding and average balances of our portfolio held by
consolidated subsidiaries for the year months ended December 31, 2020 and 2019:
| |
Year
Ended December 31, |
| |
2020 | |
2019 |
| |
(Dollars in thousands) |
| |
Average | |
| |
Interest | |
Average | |
| |
Interest |
| |
Balance | |
Interest | |
Yield | |
Balance | |
Interest | |
Yield |
Interest Earning Assets | |
| | | |
| | | |
| | |
| | | |
| | | |
| |
Finance receivables | |
$ | 684,259 | | |
$ | 126,716 | | |
| 18.5% | |
$ | 1,192,484 | | |
$ | 214,037 | | |
| 17.9% |
Finance receivables measured at fair value | |
| 1,631,491 | | |
| 168,266 | | |
| 10.3% | |
| 1,212,226 | | |
| 123,059 | | |
| 10.2% |
Total | |
$ | 2,315,750 | | |
$ | 294,982 | | |
| 12.7% | |
$ | 2,404,710 | | |
$ | 337,096 | | |
| 14.0% |
Revenues for the year ended December 31, 2020 include a $29.5 million mark
down to the recorded value of the finance receivables measured at fair value. The mark down is an estimate based on our evaluation of
the appropriate fair value and future earnings rate of existing receivables compared to recently acquired receivables and our assessment
of potential additional future net losses arising from the pandemic.
Other income decreased by $3.0
million, or 34.4%, to $5.7 million in the year ended December 31, 2020 from $8.7 million in the prior year. The decrease in other income
generally resulted from a decrease of $1.3 million in revenues associated with direct mail and other related products and services that
we offer to our dealers and a decrease of $1.0 million in payments from third-party providers of convenience fees paid by our customers
for web based and other electronic payments.
Expenses. Our operating expenses
consist largely of interest expense, provision for credit losses, employee costs, sales and general and administrative expenses. Provision
for credit losses is affected by the balance and credit performance of our portfolio of finance receivables (other than our portfolio
of finance receivables measured at fair value, as to which expected credit losses have the effect of reducing the interest rate applicable
to such receivables). Interest expense is significantly affected by the volume of automobile contracts we purchased during the trailing
12-month period and the use of our warehouse facilities and asset-backed securitizations to finance those contracts. Employee costs
and general and administrative expenses are incurred as applications and automobile contracts are received, processed and serviced. Factors
that affect margins and net income include changes in the automobile and automobile finance market environments, and macroeconomic factors
such as interest rates and changes in the unemployment level.
Employee costs include base
salaries, commissions and bonuses paid to employees, and certain expenses related to the accounting treatment of outstanding stock options,
and are one of our most significant operating expenses. These costs (other than those relating to stock options) generally fluctuate with
the level of applications and automobile contracts processed and serviced.
Other operating expenses consist
largely of facilities expenses, telephone and other communication services, credit services, computer services, sales and advertising
expenses, and depreciation and amortization.
Total operating expenses were
$251.0 million for the year ended December 31, 2020, compared to $336.6 million for the prior year, a decrease of $85.6 million, or 25.4%.
The decrease is primarily due to a decrease in provision for credit losses and interest expense.
Employee costs decreased by
$679,000 or 0.8%, to $80.2 million during the year ended December 31, 2020, representing 31.9% of total operating expenses, from $80.9
million for the prior year, or 24.0% of total operating expenses. In the first quarter of 2020, prior to the onset of the pandemic, our
employee costs were greater than in the first quarter of 2019. Those increases have been partially offset by decreases since the first
quarter of 2020, which are the result of staff reductions due in part to the fact that our contract purchases have not returned to pre-pandemic
levels. If our contract purchase volumes remain at current levels, we expect lower employee costs in future periods.
The table below summarizes our
employees by category as well as contract purchases and units in our managed portfolio as of, and for the years ended, December 31, 2021
and 2020:
| |
December 31, 2021 | |
December 31, 2020 |
| |
Amount | |
Amount |
| |
($ in millions) |
Contracts purchased (dollars) | |
$ | 1,146.3 | | |
$ | 742.6 | |
Contracts purchased (units) | |
| 54,317 | | |
| 39,887 | |
Managed portfolio outstanding (dollars) | |
$ | 2,249.1 | | |
$ | 2,175.0 | |
Managed portfolio outstanding (units) | |
| 156,280 | | |
| 163,177 | |
| |
| | | |
| | |
Number of Originations staff | |
| 170 | | |
| 157 | |
Number of Marketing staff | |
| 105 | | |
| 96 | |
Number of Servicing staff | |
| 388 | | |
| 460 | |
Number of other staff | |
| 76 | | |
| 74 | |
Total number of employees | |
| 739 | | |
| 787 | |
General and administrative expenses
include costs associated with purchasing and servicing our portfolio of finance receivables, including expenses for facilities, credit
services, and telecommunications. General and administrative expenses were $32.0 million, a decrease of $1.0 million, or 3.1%, compared
to the previous year and represented 12.7% of total operating expenses.
Interest expense for the year
ended December 31, 2020 decreased by $9.2 million to $101.3 million, or 8.3%, compared to $110.5 million in the previous year. Interest
expense represented 40.4% of total operating expenses in 2020.
Interest on securitization trust
debt decreased by $8.8 million, or 9.1%, for the year ended December 31, 2020 compared to the prior year. The average balance of securitization
trust debt decreased 7.5% to $2,017.2 million for the year ended December 31, 2020 compared to $2,181.5 million for the year ended December
31, 2019. The blended interest rates on new term securitizations have generally increased in 2017 and 2018 before declining in 2019 and
2020. For any particular quarterly securitization transaction, the blended cost of funds is ultimately the result of many factors including
the market interest rates for benchmark swaps of various maturities against which our bonds are priced and the margin over those benchmarks
that investors are willing to accept, which in turn, is influenced by investor demand for our bonds at the time of the securitization.
These and other factors have resulted in fluctuations in our securitization trust debt interest costs. The blended interest rates of our
recent securitizations are summarized in the table below:
Blended Cost of Funds on Recent Asset-Backed Term Securitizations |
Period |
|
Blended Cost of Funds |
January 2017 |
|
3.91% |
April 2017 |
|
3.45% |
July 2017 |
|
3.52% |
October 2017 |
|
3.39% |
January 2018 |
|
3.46% |
April 2018 |
|
3.98% |
July 2018 |
|
4.18% |
October 2018 |
|
4.25% |
January 2019 |
|
4.22% |
April 2019 |
|
3.95% |
July 2019 |
|
3.36% |
October 2019 |
|
2.95% |
January 2020 |
|
3.08% |
June 2020 |
|
4.09% |
September 2020 |
|
2.39% |
The annualized average rate
on our securitization trust debt was 4.4% for the year ended December 31, 2020 and 2019. The annualized average rate is influenced by
the manner in which the underlying securitization trust bonds are repaid. The rate tends to increase over time on any particular securitization
since the structures of our securitization trusts generally provide for sequential repayment of the shorter term, lower interest rate
bonds before the longer term, higher interest rate bonds.
Interest expense on warehouse
lines of credit decreased by $724,000, or 8.6% for the year ended December 31, 2020 compared to the prior year. The average rate on the
debt was 8.3% in 2020 compared to 9.7% in the prior year while the average balance of the warehouse debt increased to $92.5 million from
$86.2 million.
Interest expense on residual
interest financing was $3.5 million in the year ended December 31, 2020 compared to $3.8 million in the prior year as the average balance
has decreased.
Interest expense on our subordinated
renewable notes increased by $741,000, or 51.7%, for the year ended December 31, 2020 compared to the prior year. The average balance
of the notes increased from $15.0 million in the prior year to $19.3 million for the year ended December 31, 2020. The average interest
rate on our subordinated notes increased to 11.2% for the year ended December 31, 2020 from 9.6% for the year ended December 31, 2019.
The following table presents
the components of interest income and interest expense and a net interest yield analysis for the years ended December 31, 2020 and 2019:
| |
Year
Ended December 31, | |
| |
2020 | | |
2019 | |
| |
(Dollars in thousands) | |
| |
| | |
| | |
Annualized | | |
| | |
| | |
Annualized | |
| |
Average | | |
| | |
Average | | |
Average | | |
| | |
Average | |
| |
Balance
(1) | | |
Interest | | |
Yield/Rate | | |
Balance
(1) | | |
Interest | | |
Yield/Rate | |
Interest
Earning Assets | |
| | | |
| | | |
| | | |
| | | |
| | | |
| | |
Finance receivables gross (2) | |
$ | 684,259 | | |
$ | 126,716 | | |
| 18.5% | | |
$ | 1,157,910 | | |
$ | 214,037 | | |
| 18.5% | |
Finance receivables at fair
value | |
| 1,631,491 | | |
| 168,266 | | |
| 10.3% | | |
| 1,212,226 | | |
| 123,059 | | |
| 10.2% | |
| |
| 2,315,750 | | |
| 294,982 | | |
| 12.7% | | |
| 2,370,136 | | |
| 337,096 | | |
| 14.2% | |
| |
| | | |
| | | |
| | | |
| | | |
| | | |
| | |
Interest
Bearing Liabilities | |
| $ | | |
| | | |
| | | |
| | | |
| | | |
| | |
Warehouse lines of credit | |
$ | 92,481 | | |
| 7,678 | | |
| 8.3% | | |
$ | 86,200 | | |
| 8,402 | | |
| 9.7% | |
Residual interest financing | |
| 34,906 | | |
| 3,454 | | |
| 9.9% | | |
| 40,000 | | |
| 3,822 | | |
| 9.6% | |
Securitization trust debt | |
| 2,017,152 | | |
| 88,031 | | |
| 4.4% | | |
| 2,181,545 | | |
| 96,870 | | |
| 4.4% | |
Subordinated renewable notes | |
| 19,340 | | |
| 2,175 | | |
| 11.2% | | |
| 14,982 | | |
| 1,434 | | |
| 9.6% | |
| |
$ | 2,163,879 | | |
| 101,338 | | |
| 4.7% | | |
$ | 2,322,727 | | |
| 110,528 | | |
| 4.8% | |
| |
| $ | | |
| | | |
| | | |
| | | |
| | | |
| | |
Net interest income/spread | |
| | | |
$ | 193,644 | | |
| | | |
| | | |
$ | 226,568 | | |
| | |
Net interest margin (3) | |
| $ | | |
| | | |
| 8.4% | | |
| | | |
| | | |
| 9.6% | |
| |
| | | |
| | | |
| | | |
| | | |
| | | |
| | |
Ratio of average interest earning assets to average interest bearing
liabilities | |
| 107% | | |
| | | |
| | | |
| 102% | | |
| | | |
| | |
___________________
| (1) | Average balances are based on month
end balances except for warehouse lines of credit, which are based on daily balances. |
| (2) | Net of deferred fees and direct costs. |
| (3) | Net interest income divided by average
interest earning assets. |
| |
Year Ended December 31, 2020 | |
|
|
|
|
|
|
|
|
|
|
|
| |
Compared
to December 31, 2019 | |
|
|
|
|
|
|
|
|
|
|
|
| |
Total | | |
Change Due | | |
Change Due | |
|
|
|
|
|
|
|
|
|
|
|
| |
Change | | |
to Volume | | |
to Rate | |
|
|
|
|
|
|
|
|
|
|
|
Interest Earning Assets | |
(In thousands) | |
|
|
|
|
|
|
|
|
|
|
|
Finance receivables gross | |
$ | (87,321 | ) | |
$ | (87,553 | ) | |
$ | 232 | |
|
|
|
|
|
|
|
|
|
|
|
Finance receivables at fair value | |
| 45,207 | | |
| 42,562 | | |
| 2,645 | |
|
|
|
|
|
|
|
|
|
|
|
| |
| (42,114 | ) | |
| (44,991 | ) | |
| 2,877 | |
|
|
|
|
|
|
|
|
|
|
|
Interest Bearing Liabilities | |
| | | |
| | | |
| | |
|
|
|
|
|
|
|
|
|
|
|
Warehouse lines of credit | |
| (724 | ) | |
| 612 | | |
| (1,336 | ) |
|
|
|
|
|
|
|
|
|
|
|
Residual interest financing | |
| (368 | ) | |
| (487 | ) | |
| 119 | |
|
|
|
|
|
|
|
|
|
|
|
Securitization trust debt | |
| (8,839 | ) | |
| (7,300 | ) | |
| (1,539 | ) |
|
|
|
|
|
|
|
|
|
|
|
Subordinated renewable notes | |
| 741 | | |
| 417 | | |
| 324 | |
|
|
|
|
|
|
|
|
|
|
|
| |
| (9,190 | ) | |
| (6,758 | ) | |
| (2,432 | ) |
|
|
|
|
|
|
|
|
|
|
|
| |
| | | |
| | | |
| | |
|
|
|
|
|
|
|
|
|
|
|
Net interest income/spread | |
$ | (32,924 | ) | |
$ | (38,233 | ) | |
$ | 5,309 | |
|
|
|
|
|
|
|
|
|
|
|
The reduction in the annualized yield on our finance
receivables for the year ended December 31, 2020 compared to the prior year period is the result of the lower interest yield on the receivables
measured at fair value. The interest yield on receivables measured at fair value is reduced to take account of expected losses and is
therefore less than the yield on other finance receivables. The average balance of these receivables was $1,631.5 million for the twelve
months ended December 31, 2020 compared to $1,212.2 million in the prior year period.
Effective January 1, 2020,
the Company adopted Accounting Standards Codification Topic 326 - Financial Instruments - Credit Losses: Measurement of Credit Losses
on Financial Instruments. The amendment introduces a new credit reserving model known as the Current Expected Credit Loss model, generally
referred to as CECL. Adoption of CECL required the establishment of an allowance for the remaining expected lifetime credit losses on
the portion of the Company’s receivable portfolio that was originated prior to January 2018. To comply with CECL, the Company recorded
an addition to its allowance for finance credit losses of $127.0 million. In accordance with the rules for adopting CECL, the offset to
the addition to the allowance for finance credit losses was a tax affected reduction to retained earnings using the modified retrospective
method.
Provision for credit losses was $14.1 million
for the year ended December 31, 2020. The provision represents our estimate of additional losses that may be incurred on the portfolio
of finance receivables resulting from the pandemic. Such losses were not considered in our initial estimate of remaining lifetime losses
that we recorded with the adoption of CECL in January 2020. In the prior year period, prior to the adoption of CECL, provision for credit
losses was $85.8 million.
The allowance applies only to
our finance receivables originated through December 2017, which we refer to as our legacy portfolio. Finance receivables that we
have originated since January 2018 are accounted for at fair value. Under the fair value method of accounting, we recognize interest income
net of expected credit losses. Thus, no provision for credit loss expense is recorded for finance receivables measured at fair value.
Sales expense consists primarily
of commission-based compensation paid to our employee sales representatives. Our sales representatives earn a salary plus commissions
based on volume of contract purchases and sales of ancillary products and services that we offer our dealers, such as training programs,
internet lead sales, and direct mail products. Sales expense decreased by $3.7 million to $14.2 million during the year ended December
31, 2020 and represented 5.7% of total operating expenses. We purchased $742.6 million of new contracts during the year ended December
31, 2020 compared to $1,002.8 million in the prior year period. In our second quarter of 2020, we experienced a significant reduction
in contract purchases due to the pandemic and partial shutdown of the economy. Subsequently, our contract purchase volumes have increased
but have not recovered to pre-pandemic levels.
Occupancy expenses decreased
by $66,000 or 0.9%, to $7.4 million compared to $7.5 million in the previous year and represented 3.0% of total operating expenses.
Depreciation and amortization
expenses increased by $709,000 or 65.9%, to $1.8 million compared to $1.1 million in the previous year and represented 0.6% of total operating
expenses.
Income tax benefit was $1.6
million for the year ended December 31, 2020, which includes an $8.8 million tax benefit. On March 27, 2020, the Coronavirus Aid, Relief
and Economic Security (“CARES”) Act was passed into law, providing wide ranging economic relief for individuals and businesses.
One component of the CARES Act provides the Company with an opportunity to carry back net operating losses (“NOLs”) arising
from 2018, 2019 and 2020 to the prior five tax years. The Company has previously valued its NOLs at the federal corporate income tax rate
of 21%. However, the CARES Act provides for NOL carryback claims to be calculated based on a rate of 35%, which was the federal corporate
tax rate in effect for the carryback years. The result of the revaluation of NOLs and other tax adjustments is a net tax benefit of $8.8
million. Excluding the tax benefit, income tax expense would have been $7.2 million, representing an effective income tax rate of 36%.
For the prior year period, income tax expense was $3.8 million, which represents an effective income tax rate of 41%.
Liquidity and Capital Resources
Liquidity
Our business requires substantial
cash to support our purchases of automobile contracts and other operating activities. Our primary sources of cash have been cash flows
from the proceeds from term securitization transactions and other sales of automobile contracts, amounts borrowed under various revolving
credit facilities (also sometimes known as warehouse credit facilities), customer payments of principal and interest on finance receivables,
fees for origination of automobile contracts, and releases of cash from securitization transactions and their related spread accounts.
Our primary uses of cash have been the purchases of automobile contracts, repayment of amounts borrowed under lines of credit, securitization
transactions and otherwise, operating expenses such as employee, interest, occupancy expenses and other general and administrative expenses,
the establishment of spread accounts and initial overcollateralization, if any, the increase of credit enhancement to required levels
in securitization transactions, and income taxes. There can be no assurance that internally generated cash will be sufficient to meet
our cash demands. The sufficiency of internally generated cash will depend on the performance of securitized pools (which determines the
level of releases from those pools and their related spread accounts), the rate of expansion or contraction in our managed portfolio,
and the terms upon which we are able to acquire and borrow against automobile contracts.
Net cash provided by operating
activities for the years ended December 31, 2021, 2020 and 2019 was $198.2 million, $238.8 million and $216.8 million, respectively. Net
cash from operating activities is generally provided by net income from operations adjusted for significant non-cash items such as our
provision for credit losses and interest accretion on fair value receivables.
Net cash used in investing
activities for the year ended December 31, 2021 was $115.4 million. This compares to net cash provided by investing activities of $93.0
million for the year ended December 31, 2020. Net cash used in investing activities for the years ended December 31, 2019 was $229.4 million.
Cash provided by investing activities primarily results from principal payments and other proceeds received on finance receivables. Cash
used in investing activities generally relates to purchases of automobile contracts. Purchases of finance receivables were $1,107.5 million
(includes acquisition fees paid), $739.7 million and $1,004.2 million in 2021, 2020 and 2019, respectively.
Net cash used in financing
activities for the year ended December 31, 2021 and 2020 was $50.4 million and $328.5 million, respectively. Net cash provided by financing
activities for the years ended December 31, 2019 was $23.3 million. Cash used or provided by financing activities is primarily related
to the issuance of securitization trust debt, reduced by the amount of repayment of securitization trust debt and net proceeds or repayments
on our warehouse lines of credit and other debt. We issued $1,110.7 million in new securitization trust debt in 2021 compared to $714.5
million in 2020 and $1,000.5 million in 2019. Repayments of securitization debt were $1,153.1 million, $1,010.0 million and $966.1 million
in 2021, 2020 and 2019, respectively.
We purchase automobile contracts
from dealers for a cash price approximately equal to their principal amount, adjusted for an acquisition fee which may either increase
or decrease the automobile contract purchase price. Those automobile contracts generate cash flow, however, over a period of years. We
have been dependent on warehouse credit facilities to purchase automobile contracts and our securitization transactions for long term
financing of our contracts. In addition, we have accessed other sources, such as residual financings and subordinated debt in order to
finance our continuing operations.
The acquisition of automobile
contracts for subsequent financing in securitization transactions, and the need to fund spread accounts and initial overcollateralization,
if any, and increase credit enhancement levels when those transactions take place, results in a continuing need for capital. The amount
of capital required is most heavily dependent on the rate of our automobile contract purchases, the required level of initial credit enhancement
in securitizations, and the extent to which the previously established trusts and their related spread accounts either release cash to
us or capture cash from collections on securitized automobile contracts. Of those, the factor most subject to our control is the rate
at which we purchase automobile contracts.
We are and may in the future
be limited in our ability to purchase automobile contracts due to limits on our capital. As of December 31, 2021, we had unrestricted
cash of $29.9 million and $94.0 million aggregate available borrowings under our two warehouse credit facilities (assuming the availability
of sufficient eligible collateral). As of December 31, 2021, we had approximately $71.3 million of such eligible collateral. During 2021,
we completed four securitizations aggregating $1,110.7 million of notes sold. Our plans to manage our liquidity include maintaining our
rate of automobile contract purchases at a level that matches our available capital, and, as appropriate, minimizing our operating costs.
If we are unable to complete such securitizations, we may be unable to increase our rate of automobile contract purchases, in which case
our interest income and other portfolio related income could decrease.
Our liquidity will also be
affected by releases of cash from the trusts established with our securitizations. While the specific terms and mechanics of each spread
account vary among transactions, our securitization agreements generally provide that we will receive excess cash flows, if any, only
if the amount of credit enhancement has reached specified levels and the delinquency or net losses related to the automobile contracts
in the pool are below certain predetermined levels. In the event delinquencies or net losses on the automobile contracts exceed such levels,
the terms of the securitization may require increased credit enhancement to be accumulated for the particular pool. There can be no assurance
that collections from the related trusts will continue to generate sufficient cash.
Our warehouse credit facilities
contain various financial covenants requiring certain minimum financial ratios and results. Such covenants include maintaining minimum
levels of liquidity and net worth and not exceeding maximum leverage levels. In addition, certain of our debt agreements other than our
term securitizations contain cross-default provisions. Such cross-default provisions would allow the respective creditors to declare a
default if an event of default occurred with respect to other indebtedness of ours, but only if such other event of default were to be
accompanied by acceleration of such other indebtedness. As of December 31, 2021, we were in compliance with all such financial covenants.
We currently have and will
continue to have a substantial amount of indebtedness. At December 31, 2021, we had approximately $1,945.7 million of debt outstanding.
Such debt consisted primarily of $1,760.0 million of securitization trust debt, and also included $105.6 million of warehouse lines of
credit, $53.7 million of residual interest financing debt and $26.4 million in subordinated renewable notes. We are also currently offering
the subordinated renewable notes to the public on a continuous basis, and such notes have maturities that range from three months to five
years.
Although we believe we are
able to service and repay our debt, there is no assurance that we will be able to do so. If our plans for future operations do not generate
sufficient cash flows and earnings, our ability to make required payments on our debt would be impaired. If we fail to pay our indebtedness
when due, it could have a material adverse effect on us and may require us to issue additional debt or equity securities.
Contractual Obligations
The following table summarizes
our material contractual obligations as of December 31, 2021 (dollars in thousands):
| |
Payment Due by Period (1) |
| |
| | | |
| Less than | | |
| 2 to 3 | | |
| 4 to 5 | | |
| More than | |
| |
| Total | | |
| 1 Year | | |
| Years | | |
| Years | | |
| 5 Years | |
Long Term Debt (2) | |
$ | 26,459 | | |
$ | 12,002 | | |
$ | 7,216 | | |
$ | 5,672 | | |
$ | 1,569 | |
Operating and Finance Leases | |
$ | 12,867 | | |
$ | 7,484 | | |
$ | 2,918 | | |
$ | 1,305 | | |
$ | 1,160 | |
___________________
| (1) | Securitization trust debt, in the aggregate amount of $1,760.0 million as of December 31, 2021, is omitted
from this table because it becomes due as and when the related receivables balance is reduced by payments and charge-offs. Expected payments,
which will depend on the performance of such receivables, as to which there can be no assurance, are $687.9 million in 2022, $621.2 million
in 2023, $150.6 million in 2024, $167.0 million in 2025, $92.1 million in 2026, and $41.2 million in 2027. |
| (2) | Long-term debt represents subordinated renewable notes. |
We anticipate
repaying debt due in 2022 with a combination of cash flows from operations and the potential issuance of new debt.
Warehouse Credit Facilities
The terms on which credit
has been available to us for purchase of automobile contracts have varied in recent years, as shown in the following summary of our warehouse
credit facilities:
Facility Established in
May 2012. On May 11, 2012, we entered into a $100 million one-year warehouse credit line with Citibank, N.A. The facility is structured
to allow us to fund a portion of the purchase price of automobile contracts by borrowing from a credit facility to our consolidated subsidiary
Page Eight Funding, LLC. The facility provides for effective advances up to 82.0% of eligible finance receivables. The loans under the
facility accrue interest at one-month LIBOR plus 3.00% per annum, with a minimum rate of 3.75% per annum. In December 2020, this facility
was amended to extend the revolving period to December 2022 and to include an amortization period through December 2023 for any receivables
pledged to the facility at the end of the revolving period. At December 31, 2021 there was $70.6 million outstanding under this facility.
Facility Established in
April 2015. On April 17, 2015, we entered into an additional $100 million one-year warehouse credit line with Fortress Investment
Group. The facility is structured to allow us to fund a portion of the purchase price of automobile contracts by borrowing from a credit
facility to our consolidated subsidiary Page Six Funding, LLC. The facility provides for effective advances up to 88.0% of eligible finance
receivables. The loans under the facility accrue interest at one-month LIBOR plus 5.50% per annum, with a minimum rate of 6.50% per annum.
In February 2019, this facility was amended to extend the revolving period to February 2021 followed by an amortization period through
February 2023. In February 2021, we repaid this facility in full at its maturity date and elected not to renew it.
Facility Established in
November 2015. On November 24, 2015, we entered into an additional $100 million one-year warehouse credit line with affiliates of
Credit Suisse Group and Ares Management LP. The facility is structured to allow us to fund a portion of the purchase price of automobile
contracts by borrowing from a credit facility to our consolidated subsidiary Page Nine Funding, LLC. The facility provides for effective
advances up to 88.0% of eligible finance receivables. The loans under the facility accrue interest at a commercial paper rate plus 4.00%
per annum, with a minimum rate of 5.00% per annum. At December 31, 2021 there was $35.4 million outstanding under this facility. In February
2022, this facility was amended to extend the revolving period to January 2024 followed by an amortization period through January 2028
for any receivables pledged to the facility at the end of the revolving period.
Capital Resources
Securitization trust debt
is repaid from collections on the related receivables, and becomes due in accordance with its terms as the principal amount of the related
receivables is reduced. Although the securitization trust debt also has alternative final maturity dates, those dates are significantly
later than the dates at which repayment of the related receivables is anticipated, and at no time in our history have any of our sponsored
asset-backed securities reached those alternative final maturities.
The acquisition of automobile
contracts for subsequent transfer in securitization transactions, and the need to fund spread accounts and initial overcollateralization,
if any, when those transactions take place, results in a continuing need for capital. The amount of capital required is most heavily dependent
on the rate of our automobile contract purchases, the required level of initial credit enhancement in securitizations, and the extent
to which the trusts and related spread accounts either release cash to us or capture cash from collections on securitized automobile contracts.
We plan to adjust our levels of automobile contract purchases and the related capital requirements to match anticipated releases of cash
from the trusts and related spread accounts.
Capitalization
Over the period from January
1, 2019 through December 31, 2021 we have managed our capitalization by issuing and refinancing debt as summarized in the following table:
| |
Year Ended December 31, |
| |
2021 | |
2020 | |
2019 |
| |
(Dollars in thousands) |
RESIDUAL INTEREST FINANCING: | |
| | | |
| | | |
| | |
Beginning balance | |
$ | 25,426 | | |
$ | 39,478 | | |
$ | 39,106 | |
Issuances | |
| 50,000 | | |
| – | | |
| – | |
Payments | |
| (21,265 | ) | |
| (14,424 | ) | |
| – | |
Capitalization of deferred financing costs | |
| (755 | ) | |
| – | | |
| – | |
Amortization of deferred financing costs | |
| 276 | | |
| 372 | | |
| 372 | |
Ending balance | |
$ | 53,682 | | |
$ | 25,426 | | |
$ | 39,478 | |
| |
| | | |
| | | |
| | |
SECURITIZATION TRUST DEBT: | |
| | | |
| | | |
| | |
Beginning balance | |
$ | 1,803,673 | | |
$ | 2,097,728 | | |
$ | 2,063,627 | |
Issuances | |
| 1,110,747 | | |
| 714,543 | | |
| 1,000,501 | |
Payments | |
| (1,153,114 | ) | |
| (1,009,988 | ) | |
| (966,144 | ) |
Capitalization of deferred financing costs | |
| (7,058 | ) | |
| (4,862 | ) | |
| (6,808 | ) |
Amortization of deferred financing costs | |
| 5,724 | | |
| 6,252 | | |
| 6,552 | |
Ending balance | |
$ | 1,759,972 | | |
$ | 1,803,673 | | |
$ | 2,097,728 | |
| |
| | | |
| | | |
| | |
SUBORDINATED RENEWABLE NOTES: | |
| | | |
| | | |
| | |
Beginning balance | |
$ | 21,323 | | |
$ | 17,534 | | |
$ | 17,290 | |
Issuances | |
| 12,298 | | |
| 6,750 | | |
| 5,764 | |
Payments | |
| (7,162 | ) | |
| (2,961 | ) | |
| (5,520 | ) |
Ending balance | |
$ | 26,459 | | |
$ | 21,323 | | |
$ | 17,534 | |
Residual Interest Financing. On
May 16, 2018, we completed a $40.0 million securitization of residual interests from previously issued securitizations. In this residual
interest financing transaction, qualified institutional buyers purchased $40.0 million of asset-backed notes secured by residual interests
in thirteen CPS securitizations consecutively conducted from September 2013 through December 2016, and an 80% interest in a CPS affiliate
that owns the residual interests in the four CPS securitizations conducted in 2017. The sold notes (“2018-1 Notes”), issued
by CPS Auto Securitization Trust 2018-1, consist of a single class with a coupon of 8.595%. At December 31, 2021 there was $4.3 million
outstanding under this facility.
On June 30, 2021, we completed
a $50 million securitization of residual interests from other previously issued securitizations. In this residual interest financing transaction,
qualified institutional buyers purchased $50.0 million of asset-backed notes secured by residual interests in eleven CPS securitizations
consecutively issued from January 2018 and September 2020. The sold notes (“2021-1 Notes”), issued by CPS Auto Securitization
Trust 2021-1, consist of a single class with a coupon of 7.86%. At December 31, 2021 there was $50.0 million outstanding under this facility.
The agreed valuation of the
collateral for the 2018-1 and 2021-1 Notes is the sum of the amounts on deposit in the underlying spread accounts for each related securitization
and the over-collateralization of each related securitization, which is the difference between the outstanding principal balances of the
related receivables less the principal balance of the outstanding notes issued in the related securitization. On each monthly payment
date, the 2018-1 Notes and the 2021-1 Notes are entitled to interest at the coupon rate and, if necessary, a principal payment necessary
to maintain a specified minimum collateral ratio.
Securitization Trust Debt.
Since 2011, we treated all 41 of our securitizations of automobile contracts as secured financings for financial accounting purposes,
and the asset-backed securities issued in such securitizations remain on our consolidated balance sheet as securitization trust debt.
We had $1,760.0 million of securitization trust debt outstanding at December 31, 2021.
Subordinated Renewable
Notes Debt. In June 2005, we began issuing registered subordinated renewable notes in an ongoing offering to the public.
Upon maturity, the notes are automatically renewed for the same term as the maturing notes, unless we repay the notes or the investor
notifies us within 15 days after the maturity date of his note that he wants it repaid. Renewed notes bear interest at the rate we are
offering at that time to other investors with similar note maturities. Based on the terms of the individual notes, interest payments may
be required monthly, quarterly, annually or upon maturity. At December 31, 2021 there were $26.4 million of such notes outstanding.
We must comply with certain
affirmative and negative covenants related to debt facilities, which require, among other things, that we maintain certain financial ratios
related to liquidity, net worth, capitalization, investments, acquisitions, restricted payments and certain dividend restrictions. In
addition, certain securitization and non-securitization related debt contain cross-default provisions that would allow certain creditors
to declare default if a default occurred under a different facility. As of December 31, 2021, we were in compliance with all such covenants.
Forward-looking Statements
This report on Form 10-K includes
certain "forward-looking statements". Forward-looking statements may be identified by the use of words such as "anticipates,"
"expects," "plans," "estimates," or words of like meaning. As to the specifically identified forward-looking
statements, factors that could affect charge-offs and recovery rates include unexpected exogenous events, such as a widespread plague
that might affect the ability or willingness of obligors to pay pursuant to the terms of contracts; mandates imposed in reaction to such
events, such as prohibitions of otherwise permissible activity, which might impair the obligation to perform contracts, or the abilty
of obligors to earn; changes in the general economic climate, which could affect the willingness or ability of obligors to pay pursuant
to the terms of contracts; changes in laws respecting consumer finance, which could affect our ability to enforce rights under contracts;
and changes in the market for used vehicles, which could affect the levels of recoveries upon sale of repossessed vehicles. Factors that
could affect our revenues in the current year include the levels of cash releases from existing pools of contracts, which would affect
our ability to purchase contracts, the terms on which we are able to finance such purchases, the willingness of dealers to sell contracts
to us on the terms that it offers, and the terms on which we are able to complete term securitizations once contracts are acquired. Factors
that could affect our expenses in the current year include competitive conditions in the market for qualified personnel, investor demand
for asset-backed securities and interest rates (which affect the rates that we pay on asset-backed securities issued in our securitizations).
The statements concerning structuring securitization transactions as secured financings and the effects of such structures on financial
items and on future profitability also are forward-looking statements. Any change to the structure of our securitization transaction could
cause such forward-looking statements to be inaccurate. Both the amount of the effect of the change in structure on our profitability
and the duration of the period in which our profitability would be affected by the change in securitization structure are estimates. The
accuracy of such estimates will be affected by the rate at which we purchase and sell contracts, any changes in that rate, the credit
performance of such contracts, the financial terms of future securitizations, any changes in such terms over time, and other factors that
generally affect our profitability.