Bread Financial Holdings, Inc. (BFH) Earnings Call Transcript & Summary

All right. Good morning, everybody, and thank you again for joining us at the Wolfe Fintech Forum, the second day of our 3-day conference. We're really happy to have Alliance Data with us this morning, which is a company I've covered for, I think, for 12 or 13 years at this point. But from our perspective, it's definitely a name with a good pulse on what's happening in the market around obviously consumer behaviors. It's also made a big transition more digitally and continuing to do so over the last, really, a couple of years at this point. And I think that's showing some fruit now, especially in this pandemic. And we're going to spend some time talking about that right now. So with that, I just want to start off by thanking you guys for joining us. We have Val, who's the Chief Commercial Officer; and Tim, who's the CFO of the company on the line with us as well. But guys, thank you for joining.

Good morning, Darrin, and thank you for hosting Alliance Data again this year. So yes, I think...

Sorry. I was just going to say, I also have Scott from -- who works with me covering Alliance. He's going to -- so he and I are both going to moderate this.

But Val, why don't you just -- yes, maybe just start off with talking about some of the trends you're seeing in the market given, I think, everyone's really just focused on how things are playing out with the consumer and maybe give us a sense of a breakdown between the physical point of sale, the brick-and-mortar and maybe what you're seeing digitally as well.

Sure. Happy to do that. Yes, I think the way consumers shop and pay has shifted pretty dramatically in recent years, really creating a boom in digital payments. The pandemic has really driven recent consumer behavior, so accelerating the digital shopping. We see digital sales remaining strong through 2021 and beyond. We also see pent-up demand and a consumer who is looking to reengage in an omnichannel experience. In 2020, we saw many of our brands invest in digital and omnichannel capabilities and technologies. You saw the ability to shop online, pick up in-store, shop in-store and order the right size or color from another store, mobile browsing, shopping and curbside. And so the omnichannel of yesterday is not the omnichannel of today. Today, we see consumers expect a really seamless engagement across their channel of choice in different parts of the shopping journey occurring in different channels and at a time of their choosing. As the economy reopens, consumers regain broader access to the physical channel, we'll see sales grow not just digitally, but across channels. I think since the weather disruption in Texas and with the vaccine rollout accelerating, consumer confidence has been increasing, and physical channels are slowly starting to see an uptick in foot traffic, particularly in some of the diverse verticals that we have across all essential categories. We've really started to see some of the application volumes start to pick up week over week.

Good.

Our investments in digital, from Bread's leading technology payments platform to our expanded enhanced digital product suite that now includes installments, split pay, offer personalization, digital wallets, omnichannel servicing, we now have more than 70% of our cardholders pay their bills digitally. We've really been focusing on that end-to-end customer journey and ecosystem to deliver that seamless omnichannel experience that we see in the marketplace and that our brands and consumers are now demanding.

When we think about the mix, I mean, I think you had over 40% of total credit sales coming from digital last time you guys talked very publicly. It just -- I mean, it's a remarkable transition that ADS has made over the last several quarters, really last couple of years. I mean just touch on that for a minute. Do you see that being something sticky or sustainable? Obviously, as people get out in the world and physical shopping picks up again, it's inevitably going to change. But in terms of the absolute dollar amount of what you're seeing online, do you feel like that position is there to stay?

Yes. It's a great question. I do think through the last year, that adoption of digital and the engagement across the generation in that digital mode is going to be here to stay. And so where before it was predominantly the Gen Zs, the millennials who were engaged in the digital channel, we've seen a huge adoption even in the baby boomer population, and I don't anticipate that, that adoption is going to change. People have gotten comfortable with it. It's very convenient. It provides a lot of choice. And so I do see that baseline staying, and then as the other channels open up, incrementality coming above across those other channels.

If we just touch for a minute on your business plans, Val, I mean, you guys talked about the recover, rebuild, regrow action plan. I think it was last year, you really kind of pushed on it. You launched that. Just help us understand. The recover part of the plan has obviously been pretty well completed at this point, I think, and we see some evidence of that in the stock. Tim has the same as well. But if you can discuss where -- what we can expect from the rebuild and regrow parts of the plan at this point, I think a lot of investors would appreciate that as well.

Sure. I'd be happy to do that. So you're right, we completed the recover phase, which really included that recession-readiness plan, associate safety and health, rightsizing the expense base was a big part of that and disciplined risk management. So the rebuild part really is positioning the company for sustained profitable growth and long-term shareholder value. So we've expanded digital offerings, and we'll talk a little bit about our Enhanced Digital Suite. It does provide a collection of online marketing and credit applications. And in 2021, we're going to invest an incremental $100 million in additional digital capabilities. A majority of that will be going to Bread and making sure that we scale and continue to invest in those capabilities for further growth. In addition, we'll continue to invest in technology, and you saw with the outsourcing of our core processing platform to Pfizer, the Pfizer platform will allow us to improve our partner conversions, speed to market, including the ability to quickly and seamlessly add new partners as well as new products and capabilities. And the platform enables efficient integration, so use of mobile wallets, virtual accounts while supporting our data and analytic capabilities and improving operational efficiency. The capital expenditure savings from these activities will be deployed to fund future growth. So we've been investing in data and analytics, including machine learning, artificial intelligence. Last year, we actually automated more than 30 manual processes across the organization. We continue to introduce intelligent automation and to drive operational improvement. ADS is actually now ranked in the top 5% nationally in terms of robotic process automation and bot usage. So as we shift to regrow, we'll do so with a very maniacal focus on responsible economics and have it aligned against the economic recovery. With the acquisition of Bread, we've got an opportunity to expand our product offerings with firm brands. We provide additional payment options that meet the needs of a very diverse customer base, organically growing sales by increasing that top-of-funnel conversion rate. Similarly, we can offer Bread merchants private label or co-brand, again, providing a more robust product offering relevant to a wider base of customers. The appeal and differentiation of our product suites, one that can be white-labeled to drive loyalty and engagement to the brand, provides a very competitive advantage that resonates both with our existing clients as well with potential prospects. And growth in strategic partnerships like the one we have at the Royal Bank of Canada really provide us a diversified profitable revenue stream. So all of these are really lending themselves to provide that sustained profitable growth over the long term.

Great. No, that's very interesting now. And then kind of staying on the topic of digital here. I think you touched on the 3 main initiatives you guys have undertaken, being the acquisition of Bread, partnership with Pfizer and the Enhanced Digital Suite. And while we'll get to Bread in a bit, can you maybe give some more color on some of the features of the Enhanced Digital Suite and maybe talk about how your retail partners and customers are responding to it?

Sure. Yes. Digital has certainly been an important area of focus for us, Scott. And last year, we directed resources to support our retail partners' needs by developing more robust digital shopping experience that increase awareness of payment options early in the purchase journey, gave customers' confidence in their buying power and remove friction from that process. The Enhanced Digital Suite allowed us to do that. It's a bundled offer of marketing and credit applications, and it creates a very seamless, intuitive process for customers to adopt a platform or payment option. It includes dynamic real-time offer messaging that brings credit to the forefront of their shopping journey and messages that can be driven off of a variety of elements, including things like product, price, loyalty member status, redemption history and other elements that really create an opportunity to drive personalization at scale. It also includes secure application features, and it lets customers apply for credit without leaving a brand's website, also allowing for a presale of the application. And what we found is when presale occurs, application completion rates almost doubled. So it's an important part of the feature. Enhanced Digital Suite was also designed to really provide a fast, simple integration to get up and running very quickly so our merchants could capitalize on e-commerce growth. As a single SDK or software development kit, so it integrates fast and easy. It's secure, and it allows customers to immediately use their account with a digital shopping pass. Equally important, the marketing placement has the look and feel of the existing partner branding. The content is both compliant and customer-friendly. And the brands are able to offer real-time prescreen, apply and buy, as well as quarterback capability into a physical location through frictionless mobile, which allows the customer to scan the QR code on their phone. It pops up the application. They can apply. They receive a temporary digital shopping pass, which includes a QR code that can be scanned at checkout. So we have dozens of brands today that utilize this feature. It significantly reduces the abandonment rate, and we've seen a lift of 30% for the average first purchase. Probably, not surprisingly, our brands have responded very favorably to this capability and data that we've rolled out.

That's great. And sort of following up on that with the brands, you noted adding like 60-plus online merchants in the prior quarter. How is that number compared to quarters before that? And do you think -- I mean, you touched on it at the Enhanced Digital Suite. Do you think it's helped accelerate sort of those online merchant ads relative to prior quarters?

Yes. Great question, Scott. So the Enhanced Digital Suite certainly appeal to digitally native and omnichannel brand. However, the majority of the 60-plus adds were small and midsized merchants from the Bread pipeline. So Bread is a fast-growing pipeline. We've got a lot of very actively engaged prospects. In fact, we have the Bread payment platform, it's scalable, nimble, and it allows merchants, in many cases, to be live in a matter of days, so you can quickly grow and add to the base. Today, we have more than 500 merchants on Bread, a very robust pipeline, and we continue to expect to see growth there. It's very diversified. So as we look across the prospect universe, it's diversified in verticals, including home, electronics, sporting goods, jewelry, health, just to name a few. In addition, we recently announced the launch of Famous Footwear, who will launch with the Enhanced Digital Suite across all of their channels, making that offer to their 22 million loyalty programs in a very, again, personalized, scalable way. So EDS was key for our existing partners to really evolve during that digital environment.

Great, great. And sort of moving on to Bread and talking about the BNPL space as a whole, which has been sort of a hot topic within our space. I mean you touched on how the rollout is going, and it sounds like retailers have been very receptive to it. But can you maybe talk about how you view Bread competing in the BNPL space given that it's become relatively crowded over the last 12 to 18 months would be great.

Sure. So very excited to talk about, Bread. Really since closing on the transaction in last year, December, there's been a lot of interest from our existing brand partners in Bread's capabilities and products. Split pay or buy now, pay later has been of particular interest to our soft-line merchants, those in beauty, apparel and pet. While installment lending has really been top of mind for many of our bigger-ticket clients, including those at home furnishings, jewelry, health and sporting goods. Bread offers uniquely a white-label solution that really matches our go-to-market approach with our brand partners. So this means that the product can be branded with our partners' names, which carries a lot of equity with their customers who come to their site to shop. This is unique to Bread, and it really distinguishes the offering. In addition to being the only white-label provider, we're also the only provider who is primarily focused on deeply integrating with the merchants and partners. Why is that important? Because it allows the customer to stay on the merchant's site throughout the shopping journey rather than being redirected to a third-party site, again, an important distinction because many third-party sites for most other merchant offers and their #1 priority is having their apps downloaded because they want to change the entry point of the shopping journey. So long term, they want to disintermediate the merchants and have consumers go to their apps first for purchasing. Our #1 priority is sales conversion for our brand and long-term loyalty. The beauty of the expanded product suite is that our brand has the ability to offer a payment option that meets the needs of a very wide variety of consumer segments and to do so in a coordinated, thoughtful approach that allows our brands to manage the product mix as well as manage and optimize profitability. They will offer a unified application process across products on the Bread platform. This really revolutionizes the credit experience by removing friction in the application process and really puts us on an equal playing field with many of the fintechs where they have won with their seamless experience for the consumer. The products will serve across the entire generational spectrum. And by using data to offer the right product, we increase sales conversion and maximize profit for the merchant and ADS while providing value and choice to the consumer. If we only offered one product like many of our competitors, we would be missing 40% of our customers' preferred payment method. So you take the widest product offering, plus the exceptional customer experience, and you get that higher conversion and higher average order value and higher profit. So we're working with several existing ADS merchants today to make sure we strike a healthy balance of launching large, medium- and mid-term merchants throughout the year, and we're targeting March to April for our first client to be wide.

That's great. That's great. And kind of continuing on the Bread topic. During the fourth quarter, you announced a partnership with RBC to provide Bread's payment solutions to RBC merchants. Can you maybe just discuss how that partnership is going to work and maybe go into detail about some other types of partnerships we'll see with the Bread products?

Sure. So we're very excited about that strategic partnership with the Royal Bank of Canada. Royal Bank of Canada is really leveraging Bread's white-label digital platform that we just talked about to expand its payment offerings for Canadian merchants. So as more consumers turn to online shopping, RBC now offers a very transparent and convenient way for participating retailers and merchants to offer installment lending in Canada. The consumers clicked on the pay plan button. It's an end-to-end solution. It comes up very easy, fast and easy integration. It has a very frictionless user experience design with it. We're pretty thrilled to work with RBC to expand our reach. We know that through this strategic alliance, we will have thousands of RBC merchants increase their e-commerce sales and profit. And as merchants are added to the platform, we earn a technology servicing and marketing fee per customer transaction. So the more it scales, the more we earn, really generating revenue with every part of it. So RBC is an ideal partner to expand our reach in Canada and build our platform provider business. Given that they are Canada's largest bank, the opportunity at scale is pretty exciting. Other areas of growth do include partnerships with small- to medium-sized merchants. Bread continues to onboard partners. We talked about that earlier. We talked about expanding our product suite, and there are other additional strategic opportunities. These opportunities can be both where ADS underwrites and owns the account receivables and opportunities where we only provide the platform and do not hold the AR, and therefore, there's no loss exposure like to the RBC partnership. A key reason we acquired Bread was the quality and versatility of Bread leading payment platform. This platform can be deployed and leveraged in various ways and really opens connections to new points of distribution and scalable growth for us.

Got it. Got it. Well, yes, it's a very interesting product, and we're excited to watch it grow. And sort of switching gears here and looking at credit.

If I just come in just a moment. I'm sorry. Just on BNPL, given how many questions we've gotten on it. Val, let me just hone in on that a little more, I mean, in terms of your client base and your customer base wanting to adopt that buy now, pay later, a, how much overlap do you see with them taking on other BNPL offerings already? Are there cases where we're going to start seeing several different kind of buttons at checkout from others as well as potentially what you guys can do with your customer base? And then secondly, go-to-market. I mean when you think about your customers that you've known for some time, I mean, you're offering them already a digital solution separate from this also, right? And so how do you guys go to market to your clients and talk about digital? Is it a package deal? Or is it really 2 separate and distinct offerings?

Yes. So great questions. So we will be coming into market as a unified front-end application flow. So when I talked earlier about that single software development kit, it will have all products contained in it. That includes buy now, pay later, installment lending, co-brand and private label. So that is a onetime integration into the merchant that then allows them to really optimize that product mix based on a number of different types of criteria. So it could be where Scott is a longtime loyalty member and he's been consistently redeeming. And so a program is the appropriate product for Scott. It could be that, Darrin, you consistently check out with the debit card, and it's something that you may well be more inclined to buy now, pay later products. And so it allows different inputs within that single integration to apply a host of different products, which is a pretty unique versus, to your point, where many of the competitors are, which is multiple buttons at a point of sale. And so how does the merchant really optimize their profitability and use the data across those different types of payment products to drive their business forward. So having a unified app is critical, and that's what we will be coming out with. And that's when I talked about launching late March, early April with the client, that's what we'll be launching with so that you have access to all the products and can really drive it for what makes sense for your business and for the customer.

All right. Nothing else. Thank you.

Sure.

Okay. Yes, now so we can switch gears to, I guess, credit now. We've seen credit obviously outperform expectations relative to what was expected at the beginning of the pandemic about 12 months ago. And I think ADS recently noted that for the first quarter, you're expecting charge-offs to come in below your original expectation of around 6%. And so can you talk about what you're seeing from a credit perspective from the start of the year and then also discuss what steps you're taking to ensure that the credit profile of your customers is stronger coming out of the pandemic than it was going into it?

Sure. So look, I think credit performance across the industry has really benefited from what has been an unprecedented government stimulus aid. This was most recently evident in our January credit metrics, which included a very favorable impact from the $600 stimulus payment. What we've seen has really been more of a sales recession than it has been a payment recession. So consumer payment behavior remained strong. And part of that, we have continued to optimize our underwriting process. We have well-established risk appetite metrics, and we leverage multiple scores and decades of consumer data and behaviors to optimize that profitability. We have an opportunity with Bread to leverage that expertise and provide full-spectrum lending. At year-end, 86% of Bread's receivables were about [ 6 50 ], and correspondingly, losses were low. A key advantage of our underwriting strength is the opportunity to lend on a more full-spectrum basis. This drives additional sales for our partners and higher profitability for us. The strength in the models and underwriting expertise has actually been a pretty nice surprise since I joined ADS 8 months ago. It is a differentiator in the market. So working with Tammy, who heads the credit and operation, we really had an opportunity to drive incremental sales and capture a larger share of interested consumers.

Great, great. And sort of you touched on government aid and consumers sort of saving and paying down more debt. So with another stimulus package and discussion right now, how do you see -- do you see any different impacts from this one on ADS? I mean it could continue to be a positive for credit, but is there a chance that we could see this new stimulus package have a positive effect on spending given that consumers have been saving more and paying down debt over the last year?

Yes. So we do anticipate that the payment rate is going to stay strong, and that was already contemplated in our earlier guidance, but additional stimulus could lead to some upside in credit performance. I think we're keeping a very close eye on additional macroeconomic factors, so things like unemployment, tax payment, eviction moratorium, student loans, and very importantly, the vaccine rollout. So approximately 15% of the U.S. population has now received at least one shot. And if the stimulus comes at a point when consumers feel comfortable enough to start to ramp up spending and reengage in some of those key discretionary categories like travel and entertainment and dining, then the stimulus could really drive incremental sales and account receivable benefits. We do see pent-up demand. Consumers are eager to engage in day-to-day activity that they've been missing. They want to travel to see family. They want to dine with friends. Frankly, they want to shop in a 3D environment and experience the ambience of that. So there is an opportunity for upside there.

Great, great. And then lastly, moving on to your retail partners. Are you seeing anything in the environment, any potential for additional bankruptcies currently? And then sort of building off that, can you talk about how the general-purpose Comenity Card is being deployed and how ADS uses that to retain receivables in the event of a retailer bankruptcy?

Yes. One thing the pandemic did was accelerated bankruptcy for our partners who were facing some financial trouble. So the majority of our ADS partners who filed for Chapter 11 bankruptcy in 2020 have emerged from bankruptcy. They're stronger, leaner, more focused on the customer experience, and we're pretty confident we can continue to drive sales at those brands. We don't currently see any significant concerns or exposure. I think the Comenity Rewards Mastercard, which we launched last fall, really allows us to retain card member relationships and broaden engagement with a general-purpose card for cardholders whose existing merchant relationships no longer fit and where there is a file that wasn't sold to a new issuer. So using data and analytics to develop propensity and response models, we can now offer the Comenity Card to those who have a likelihood to engage and fit within our risk appetite framework. This approach has served us pretty well. We continue to see strong activation rates, very good cross-category shopping, especially among the millennial base. And the portfolio of strong credit quality. So we started to test the dollar transfers as well as credit line increase program.

Great, great. And then I guess we can bring Tim in for this one, sort of talking about capital allocation strategy. So capital levels remain strong with your CET1 ratio at the bank level being 18.4% at the end of last quarter. Can you maybe discuss your plans and priorities for capital allocation as we go through the year? And then if credit does remain stable and allows for the potential of a reserve release, is the company planning on -- how is the company planning on deploying that freed up capital?

Sure. So our plan with our capital has not changed. First and foremost, we want to make sure that we, from a finance perspective, make sure there's plenty of money for Ralph and Val to invest back in the business, obviously do all the things that Val's talked about, and we talked about investing back. So clearly, we want to continue to focus on driving the business. Next, obviously, managing all our expectations and obligations at the corporate level, our corporate dividend, debt payments but also making sure we strengthen the corporate balance sheet. Right now, for instance, our TCE to TA ratios are not in line with our peers. We would like to get that in line with our peers. At the end of that, once we've got those all taken care of, we will start focusing on any type of shareholder returns, but we want to obviously make sure first, it goes -- money goes back into supporting the business; two, we strengthen the corporate balance sheet; and then we'll look at shareholder returns. As we get into the credit environment, and obviously Val talked about that, what our expectation would be over the course of the year, if we continue to see good credit performance, of course, there would be some opportunities to pay allowance and improved earnings, but that would just go right back into the same conversation, like the capital conversation once we shore up our equity more, shore up obviously the balance sheet a little bit more. And then once those are in line, even with the strong quarter, we're going to work our way through a strong quarter before we start for -- or a year before we start giving money back in the form of a share repurchase or an increase in dividend.

Got it, got it. Thank you, Tim. I guess sort of one additional question here, I just wanted to just come up with investors. Maybe -- can you just, maybe either Val or Tim, shed some color on maybe the impact of sort of the weather that we saw in the South over the last few months and maybe the impact on retail spending as well as credit and how it maybe correlates to sort of other natural disasters that we've seen in the past.

Sure. Tim, I'm happy to start and then turn it over to you. So we did see an impact as that weather really ripped through Texas and in other parts of the U.S., spending and applications slowed down, which was probably not a surprise and very consistent with other types of big natural disasters. So I talked earlier about seeing that application volume start to increase week over week. Coming out of that weather that hit Texas, we did see a lift there, and we continue to kind of see that progress. And I think as both -- one is the weather, the other I talked about is that vaccine rollout. And I think the combination of people wanting to come out from this year of hibernation, feeling more confident, the vaccine rollout is starting to increase, 15% of consumers now having at least one shot, there's an opportunity for some pent-up demand to come back into the market.

Guys, I'm getting a few e-mails, just questions. One of them is just if you can highlight some of the -- like more color on differentiation on your digital capability versus, first of all, other credit card or private-label offerings. We've seen Synchrony and seen some others partner, whether it's Sezzle or other buy now, pay later also. And so just if you can give us a sense of if you think your offerings are truly differentiated enough to win share. There's another question I got about LoyaltyOne after, but why don't we just start with that if you can?

Sure. I mean the short answer is yes. I mean we have a very clearly differentiated offer. So I think what I went through earlier, we are the only one that offers a white-label, installment-lending, buy now, pay later capability, branded with the brand, these are consumers -- I just talked about one of the brands we're launching, 22 million loyalty members. People are loyal to the brand. We have the ability to brand our buy now, pay later, installment lending. I think the second piece is equally important. It is not a stand-alone product. So when I talked about that one SDK that allows one integration that has access to all the products that you can drive products out of different types of data elements, pricing, product, loyalty element, so it allows the merchant to really optimize both the product offering and the profitability of those products while allowing consumer choice. There is nobody else in the industry that does that. And I think you made the point yourself earlier on the call, many merchants are stuck with 3 or 4 buttons. Here, we offer one. And not only is it one, but it allows the merchant control over how to manage that one. And so yes, we feel very good about our distinctive position in the market.

If you can give us an update on LoyaltyOne, just whether it's trends or strategy or any intentions on that, I think it'd be great to hear a quick update there since we really focused on the card side of the business primarily.

Tim, is that...

Do you want me to take that?

Yes. Thank you.

Yes. Sure. So the trends in LoyaltyOne, mostly AIR MILES, we'll start. The trends there continue to have some pressure on rebounding given the Canadian economy is fairly locked down. We don't expect a whole lot of growth out of Canada, but they have done a nice job of shifting from the travel-related products to more home-improvement or stay-at-home products. So we are seeing a stability in that business, just not a big rebound at this point. As you get into brand loyalty over in Europe, they actually are seeing a little bit of a rebound. So we are seeing some programs come back for the grocery stores. But again, nothing -- no real strong growth, just a nice stabilization for those 2 businesses.

And Tim, this client is just trying to figure out your strategic -- what's the latest messaging from the company on strategy around the business segment?

Yes. I'd say it hasn't changed. We'll continue to look at that segment, either in part or in total, and determine if we think that fits. And then, of course, we will see if we think it's economic. We don't have to sell it. We -- there's certainly some opportunities, especially with the RBC relationship, and we start having some of the products start migrating from the card services across the border, there may be a strategic fit. Conversely, it -- they make money, decent businesses for us, they're well-run, we don't have to sell them. So kind of go back to we just don't have to do anything this quarter with those businesses. And we continue to keep our eye on them and then see if we can't move the businesses forward.

Very good. All right, guys. Well, we're out of time. There's -- I know there's another 1 or 2 questions, but we'll have to follow up on those. So thank you guys very much, Val, Tim. Appreciate your time. Everyone that's in the room, the next one is with Adyen CFO, starting in 5 minutes at 10 a.m., Eastern. But thank you again, Val, Tim. Be safe, and we'll be in touch again shortly and look forward to seeing your progression.

Great. Thanks a lot, Darrin. Appreciate you having us.

Thanks, guys. Thanks. Bye-bye.

Thanks. Take care.