Good day, everyone, welcome to the Credit Acceptance Corporation's first quarter 2018 earnings call. Today's call is being recorded. A webcast and transcript of today's earnings call will be made available on Credit Acceptance website. At this time, I would like to turn the call over to Credit Acceptance Senior Vice President and Treasurer, Doug Busk.
Thank you. Good morning, welcome to the Credit Acceptance Corporation first quarter 2018 earnings call. As you read our news release posted on the investor relations section of our website at creditacceptance.com, and as you listen to this conference call, please recognize that both contain forward-looking statements within the meaning of federal securities law. These forward-looking statements are subject to a number of risks and uncertainties, many of which are beyond our control and which could cause actual results to differ materially from such statements. These risks and uncertainties include those spelled out in the cautionary statement regarding forward-looking information included in the news release. Consider all forward-looking statements in light of those and other risks and uncertainties.
Additionally, I should mention that to comply with the SEC's Regulation G, please refer to the financial results section of our news release, which provides tables showing how non-GAAP measures reconcile to GAAP measures. At this time, Brett Roberts, our Chief Executive Officer, Ken Booth, our Chief Financial Officer, and I will take your questions.
Ladies and gentlemen, if you have a question or comment at this time, please press star then one on your telephone keypad. If your question has been answered or you wish to remove yourself from the queue, simply press the pound key. To prevent any background noise, we ask that you please mute your line after you ask your question. Again, to ask a question, please press star then one on your telephone keypad. Our first question or comment comes from the line of Moshe Orenbuch from Credit Suisse. Your line is open.
Great. Thanks. I've got a couple of questions. I guess one is just about the Purchase Program. In the past, you guys have said that there are certain requirements for dealers to be in that program. Are those requirements the same? Because that volume has kind of increased pretty significantly over the last year and a half and kind of continues to increase in most of the past few quarters. Has that changed at all? Is there anything that's different about that?
Nothing.
Nothing's changed.
Okay. Second thing is, in terms of the discussion, and we talked about this on the last call a little bit, is in terms of the discussion about CECL. Clearly, CECL would require you to take Purchase Credit Impaired loans, and kind of revalue them and set up a loan loss reserve and all the related disclosures. You talked about the fact that the impact could be material over the last couple of releases. This time you mentioned possibly going to fair value accounting. Could you maybe talk through the thought process of how the two of those alternatives might work?
Well, we're still assessing both alternatives, and our objective there would be to end up with accounting that most closely reflects the economic reality of our business, if possible. We're in the process of assessing both of those things. Once we have something material to report, we'll disclose it in our public filings. If neither of those methods lines up with the underlying economics of our business, we'll continue to include non-GAAP information in our press release to give shareholders better insight into how the business is actually performing.
I guess my question is, you did add that to the discussion. You must have some sense as to how it would present itself relative to your current presentation. We saw one of your competitors announce a change for at least the next 2 years, in terms of going to fair value accounting and the impact that had on their earnings. I guess any kind of thoughts you could offer there?
We're obviously working on it. We're working on it hard. We're not in a position to really disclose anything until we've completed our work and fully understand all the issues.
Yeah. I hate to keep coming back to this, it seems to me that if you think about your current accounting method, that you're kind of taking into account all of the expected losses. I guess it's just not clear why CECL would present a problem. In fact, I guess that's what I'm struggling with. I'm trying to understand what about it would be problematic that would make you think of doing some other methodology.
Yeah. Maybe we do end up doing CECL. Again, as we said in the Q, we're assessing both CECL and fair value, and when we have something material to report, we will.
Okay. Thank you.
Thank you. Our next question or comment comes from the line of David Scharf from JMP Securities. Your line is open.
Hi. Good morning. Thanks for taking my questions. A couple. One is a question on the network size and dealer count growth, which was quite substantial in the quarter. I'm wondering, is there any way, based on the investment in new salespeople over the past year and your history with how long it takes them to become productive in your mind, is there any sense you can give us for how we should think about the growth in the dealer network this year.
I think it's tough to say. The first quarter was a strong data point. The fourth quarter last year was also a strong data point. We've had two good quarters in a row. We expanded the sales force in hopes that we would generate more unit volume, so far it seems to be working out pretty well. Again, hard to forecast the future.
Got it. I know the active dealer metric obviously moves around quarter-to-quarter based on who actually participated in that quarter. Are you able to provide active and inactive, just the total number of dealers that are participating in your program today and kind of what the percentage growth is versus a year ago this time?
I think the active dealer number we provide is probably the most relevant number to look at. Those are obviously the ones that are participating if they're active. As you pointed out, it was a very strong quarter for active dealer growth.
Got it. Two other things. One is the average yield on the portfolio, just as we calculate, obviously came down from last quarter. I imagine that's a result of the recalibration, the allowances that were taken in the fourth quarter. Based on where the anticipated yields, you booked stuff in Q1 and just the trends you're expecting in the market this year. Should we expect average yield to pretty much remain at Q1 levels for the rest of the year, or do you see any other downward pressure there?
I think that depends on a lot of things. It depends on, first and foremost, it depends on loan performance. That's a considerable variable. It depends on the pricing we're able to garner on new originations. That will have a big impact as well. It's really tough to say. There are some big variables there. We disclose quite a bit of information about our yields and the loans we originate in our public filings, and that probably ought to give you enough information to make a reasonable estimate.
Got it. Lastly, I apologize, I'm going to repeat something Moshe had asked about maybe in a different way. Can you just help me understand how fair value accounting, from a revenue recognition standpoint, technically differs from level yield accounting that you employ now? Because it seems to be very similar.
Well, I think in substance, there's a difference between the yield or the discount rate you'd use. One is our current accounting is a function of what we paid for the loan, and the amount and timing of the amounts we expect to collect on the loan. The other discount rate incorporates kind of market elements, as determined by conceivably a third party. You have a big difference just in that alone.
Okay. We can follow up later. Thanks very much.
Thank you. Our next question or comment comes from the line of Jack Micenko from SIG. Your line is open.
Good morning. You talked about the 2015 and 2016 vintages causing some of the negative development we saw in the quarter. Not surprising given the trend throughout the industry in those over the years. As those vintages, I guess, come to age and then pay off, I think your 2014 is like 90% paid down. Do you expect increased volatility on the adjustment? Meaning, as you get closer to final and actual, will that number swing more, or have the adjustments, do you think, been adequate along the way, just given that vintage of loans has been lower performing than others?
Yeah, I think the history there is that in the early stages, it's more volatile. As the loans age, it gets less volatile.
Okay. That's helpful. Then, the New York, I know you probably can't say much. Is there anything different? I know you have other states talking about starter interrupt. Is that new development consistent with what other inquiries have been related to?
I think it's hard to compare at this point. It's very early. I think what we disclose is really what we know at this point. We had a call. The substance of the call is what's described in the Q. We're waiting for something in writing.
Okay. Thank you.
Thank you. Our next question or comment comes from the line of Vincent Caintic from Stephens. Your line is open.
Hey, thanks. Good morning, Doug. Just a few questions. On the spreads, I just saw it kind of tick down again. I'm just wondering where you think it can go and what you would be comfortable both relative with the growth that you are getting.
We don't really price to generate a specific spread. As we've talked about in prior calls, our pricing strategy is to try to maximize economic profit. We set our advance rate so that we, as much as possible, balance profit per unit times unit volume. Mix of business can determine what the spread is, but we really don't have a target there that we're shooting for.
Okay, got it. I guess from the unit growth perspective, also overall growth is certainly strong. This quarter, 18%. I guess, if you can give us a flavor, maybe broadly, where that's coming from and if anything has changed to drive that. I guess from maybe specifically on a dealer perspective, anything you're seeing there that's different maybe from the behavior of dealers. Seems like maybe same-store sales on the dealership part might be waning, which maybe, for example, might be maybe driving more engagement from the dealers. Kind of any thoughts on broadly what's driving growth and anything specific from the dealers.
Yeah. It was a strong quarter. We had increases in volume per dealer, increases in active dealers. Again, it continued the trend we saw in the fourth quarter. The expansion of the sales force is clearly helping. We're seeing salespeople that we hired as part of that expansion grow faster than the overall average, so we know that they're adding to the total. We're seeing a nice progression there as the salespeople age. All good things there. It was a very positive quarter from a volume perspective.
Okay, great. Nothing particularly different from the dealer side of things.
No. It can be really continuation of the trends we've seen. Strong growth in the Purchase Program. Solid growth in the Portfolio Program, less so than the purchase.
Okay, got it. Last one from me. I'm sorry, I'm going to have to ask another CECL question and my question's going to be even more basic than Moshe and David's question. If you could just really discuss what the alternatives are with CECL. What is fair value option accounting? Apologies for my ignorance, but if you could just explain it on basic terms.
CECL is an accounting methodology where as opposed to recognizing a loss when some event occurs, a certain amount of delinquency or repossession of a sale of a car, you anticipate that loss at the time you originate the loan and then book a loss up front. The flip side of that is, over time, cash equals accounting. You'd end up recording some loss at loan origination and then conceptually here, then recognizing more revenue over time. The fair value option is you're looking at coming up with an estimate of the forecasted cash flows that the portfolio would generate and you're basically calculating an exit price, which represents the fair value of the portfolio at that point. As I mentioned earlier, would include an estimate of a discount rate, which would represent the return associated with exiting the portfolio.
Okay, got it. Very helpful. Thanks so much.
Thank you. Our next question or comment comes from the line of Randy Heck from Goodnow Investment Group. Your line is open.
Thank you. Brett, the 18% unit volume growth or 33% dollar growth. Also, I see you had 25% volume growth in the month of April. How much of that is from the larger sales force versus perhaps an easing competitive environment?
That's a tough one, Randy. I think it's hard to break out the internal and the external factors. We can see the growth that came from the people that we've hired since the expansion started. In rough terms, they grew about twice as fast as the overall book did. That still leaves decent growth in the sales reps that have been here or were here before the expansion started. We're seeing faster growth from the new group, but strong growth from everywhere.
Okay. Second question. The adjustments to estimated collections. There was, I think, a $10 million reduction in estimated cash flow over the life of a $5 billion loan portfolio. $10 million less over the next three or four years. Would you consider that a rounding error given that it's $10 million on $5 billion?
Yeah, it's a rounding error. I think probably the right denominator to use is the future revenue that's embedded in the portfolio, the accretable yield we call it in the Q. That's about a $1.7 billion number. $10 million on $1.7 is still a very small percentage, and it's probably less meaningful if you look at it over a period of time. I think we had four positive quarters in a row before this quarter. If you take a six-month average, the number is basically zero. If you take a longer average than that, you start to get a small positive number. Your point's well taken. No matter how you look at it's pretty close to zero.
Okay. The third question I have, if I may. This regulatory stuff, you've got five or six states that have asked for information over the last up to four years ago, without any development that we can see. You've been regulated by the CFPB for the last, is it three years in August, I think? Most of that time under Richard Cordray's watch. Under Richard Cordray's watch, yet nothing's come of that. I assume you've been audited, too. I don't know if you can disclose that, by the CFPB. My point is, the CFPB presumably has rules that are similar to New York and pretty much every other state. I know there's some little differences, but by and large, the rules of fair lending and so on are the same or very similar. Is that a fair comment?
Yeah. There are state differences, but they're not huge differences. I think that maybe the main point here is we've got four years ago or in the last four years, as you point out, we have seven, eight, nine things that we've disclosed now, I think in the 24 years I was with the company before that, I don't think we had any. Clearly something's changed in the regulatory environment. We're under a lot of scrutiny. We have been for quite a while now. The regulators have a job to do. We respect that. It's their prerogative to ask questions and challenge the things that we're doing, and it's our job to operate in a highly compliant way. We take that seriously. What's disclosed in the Q is just where all those matters stand at this point.
As you said, if you want to generalize, we've been asked a lot of questions. We've provided a lot of answers, that's where it stands at this point.
Okay. Yes. Terrific. Just if I may, one last point. I want to say, once again, your letter to shareholders is terrific. For anyone that hasn't read it, you ought to. Also congratulations on 25 years of compounding earnings at north of 20%.
Thanks, Randy.
Well done.
Appreciate it.
Thank you. Our next question or comment comes from the line of John Hecht from Jefferies. Your line is open.
Morning. Thanks for taking my questions. Actually, most of my questions have been asked. I guess one question is, we've seen your average loan size grow, your term moving out. I know some of that's just predicated on continuing to increase the dealer purchase stuff. I'm wondering, is there a threshold where we might see some of those, either the term advance or the loan size increase slow down? Number one. The second question is, I guess it's kind of related to that, is just if you could comment on the overall competitive environment at this point in time as well.
Yeah. I think we talked about the competitive environment. Volume per dealer is the number to look at there. It was up this quarter. That could cause you to conclude that the environment was easier. At the same time, we've made a big investment in our sales force, which could also be driving that number. It's hard to break out what's internal and what's external there. In terms of the average term or the size of the loans, difficult to forecast that. We offer loan terms from 24 months up to 72 months. The average that's in the press release just reflects the mix. We offer kind of a broad array of alternatives there, and it's up to the dealers and customers to choose which alternative they like best. We've seen an increase in the average term. It's just a function of the mix.
Okay, thanks.
Thank you. Our next question or comment comes from the line of Kenneth Bruce from Bank of America Merrill Lynch. Your line is open.
Thank you. Good morning. My question relates to the ABS market. I noticed that there was a $500 million securitization completed in the first quarter. Could you talk about if there's been any changes to the terms of the ABS market relative to Credit Acceptance? We've heard that there's been a little bit of choppiness in the auto ABS market. Just wondering if that's impacting you at all.
The structure of our ABS hasn't changed in any meaningful way for a number of years. The market in subprime auto has been pretty good, really since about the first quarter of 2016. Obviously, some periods are a little bit better than others. It's been a pretty healthy market. Nothing really material to report there in terms of differences.
In either spreads or in depth of the book, have there been any changes in terms of the market itself? Maybe it's not necessarily reflected in structure, but is there any changes in pricing or depth in the buyers of the paper?
In our last deal, we issued at the tightest credit spreads we had in a number of years. That was offset by an increase in base rate. The all-in cost actually went up a bit.
The credit spreads obviously vary over time, but in terms of more recent history, they've been at the tighter end of the historical range. In terms of depth of the book, I'd say, over time, as people get more familiar with our program, the depth of the book has generally increased.
Okay, great. Thank you for your comment this morning. That was it.
Thank you. Again, ladies and gentlemen, if you have a question or comment at this time, please press star then one on your telephone keypad. We have a follow-up question from Mr. Moshe Orenbuch from Credit Suisse. Your line is open.
Great. Thanks. I just wanted to revisit the comment you made about the volatility going down as the securities, as you say, as the vintages age. While it's obviously true that as the vintages pay down, each one successively has a smaller impact on the total. I guess, hasn't it really happened that most of the 2014-2016 vintages, you've written them up in the first year and then kind of subsequently written them down after that? It seems like it's starting to happen on the 2017 vintage this quarter. You wrote them up during the quarters of 2017, and now ticked down again. I guess, maybe could you address that?
Yeah, we disclose it every quarter. You can certainly see the trend. I would probably just go back to the answer I gave Randy. The total for the quarter in dollar terms is minus $10.8 million. Is that a big number or a small number? I think the appropriate denominator to use is the accretable yield that's in the Portfolio, which is $1.7 billion. $10.8 million divided by $1.7 billion is a very small number. Again, if you look at that over more than one quarter, it gets even smaller. You can take that very small number and parse it by year or parse it over time. It still doesn't change the fact that it's a very small number.
That is a small number. That number is not discounted, correct? If there were changes to the timing like you exhibited in the fourth quarter, that wouldn't be encompassed in that change.
It's not discounted. If we discounted it would get even smaller.
No, I'm saying that the-
Discounting it doesn't make it larger.
If you look at the changes in the Q and the K you report what percentage of your loans actually have estimates that have changed to be better or worse than your original estimates. Those numbers through 2016 were roughly 50%, and at the end of 2017, they were 75. This quarter, it went down a little bit to 70 or so. That includes where there are changes both to the dollar amount, which is that $10-point whatever million that you were referring to, as well as the timing of those cash flows.
I guess that's my point is that it's not just the $10.6 million, it's also the timing of when that $1.7 billion would be realized.
Right. We talked about that last quarter. We did change the timing estimate last quarter. We didn't make any further changes this quarter.
Okay. Thank you.
Thank you. With no further questions in the queue, I would like to turn the conference back over to Mr. Busk for any additional or closing remarks.
We'd like to thank everyone for their support and for joining us on our conference call today. If you have any additional follow-up questions, please direct them to our investor relations mailbox at ir@creditacceptance.com. We look forward to talking to you again next quarter. Thank you.
Once again, this does conclude today's conference. We thank you for your participation. You may now disconnect. Everyone, have a wonderful day.