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

Good afternoon, everyone. Thanks for joining us. We're very pleased to have the management of Bread Financial with us. Bread is a leading private label credit card issuer, who in recent years has added a number of co-branded proprietary programs to its base. We've got both CEO, Ralph Andretta, who joined -- before joining Bread was the head of U.S. Cards at Citi and had leadership positions in both Bank of America and American Express before that; and Perry Beberman, the CFO. He joined Bread from BofA and been part of the management team that BofA acquired with MBNA. So we'll do a fireside chat format. And if there are questions from the room, we can perhaps entertain those as well.

So maybe to start it off, Ralph, can you talk -- one of the objectives that you've had is when -- as you've kind of developed the management team was to become more like a bank. Can you talk about what you've already done and what's left to be done at this point?

Yes. So we started this transformation about 3 years ago. And in fact, I just reached my 3-year anniversary about 2 weeks ago, and remembering I joined then Alliance Data in February of 2020. And then in March of 2020, COVID hit. We had really 3 good weeks. But our objective was to focus our energies on where the profitability was. So we took a step back and said, we have these ancillary businesses, and our focus was we need to spin off and simplify our business because we were kind of a puzzle of many businesses, all unrelated by the way. There is no rhyme or reason why we bought such businesses. So we spun off 2 of the businesses and then focused on unsecured lending and building a team around that. Basically a management team, as you mentioned perry, and our management team comes from the big banks and as we move towards working here and to be more transparent with investors. That was another wrap on ADS. They weren't very transparent with investors, and they would surprise investors. So for us to be -- have metrics, be more transparent when we went to the investor community. Also building the balance sheet was very important. We had a balance sheet that was very anemic. We had high double leverage at the parent, a balance sheet that was just not a balance sheet that one would want to be comfortable with in unsecured lending. So we built the balance sheet over the last couple of years. And then we leaned heavily into digital, into digitizing our company from acquisitions through customer experience through collections and digitizing our company. It's been 3 years of focusing on this unsecured business. And we filled some product gaps too as well. So where we are today, we feel very good about the progress we've made. We've modernized our technology. We were homegrown legacy system. We're now in the cloud, which [Indiscernible] our technology. So we feel good about how we're moving forward. And we continue to add good talent to the organization.

Got it, okay.

Okay. We have no choice, but to discuss the topic of late fees and CFPB law and their analysis. But by and large, we support the ABA and what they're talking about in terms of good regulation, but being fair and judicious in the regulation and keeping competition up. This proposal does none of that. And I don't think it considers the cost to collect or all the things that one has to do as we move forward. So we've spent a bit of time internally gaming what might happen and how you might look at it. But at the end of the day, what will happen is the 80% who are on time will pay for the 20% that are not on time to increase APRs, maybe fees on cars and a variety of things. To me, it's interesting. If I got a speeding ticket, and it was $8, I would always speed. It wouldn't make a difference to me. So if you get a late -- if you make your payment late, and it's $8, it's inconsequential. But what is consequential is you're going to get reported to the bureau. And that has ongoing ramifications. And I think those are the unintended consequences that you might see from this late fee legislation. We've been talking to our partners. And clearly, we don't want to put the onus on the backs of all parties. That's not our intention, and we'll do everything we can not to do that. And at some point, you're going to look at raising fees, working with your partners, and then you're going to really reevaluate how you underwrite. And people that need credit may not be able to get it. So more to come. I think there's going to be -- we're in the kind of a common period now. I think there'll be some thoughts past that in terms of process and what's going to happen. For us, it's no impact in '23 and we're estimating what might be the impact going forward. But we're doing all the what-if scenarios at this point.

Got you. Kind of a somewhat confusing macro environment here. Coming into '23, we were prepared for a weaker economy. Employment has been stronger, unclear whether that's the way things are going to continue or not. But can you give us any sort of update on your thinking and the context also, I guess, you've kind of put out your numbers for the month of January at [indiscernible] so that you can probably kind of reference them in that process. So maybe talk a little bit about where things are and how it kind of impacts your views for '23.

I'll let Perry to take the start.

Yes. So as I think about '23, where we exited '22, the inflationary environment is remaining a little elevated we saw from this morning's report. And what we're seeing in terms of the impact to the consumer is what one would expect, right? That's creating a bit of a, I would say, a cold. The portfolio has a cold, meaning the Middle America is feeling it. It's not the same as when there's high unemployment or elevated employment where a few of the people are severely sick. This creates some pressure across the portfolio. So that's why as we've discussed in the past, the Fed is working its way with higher rates, trying to tamp down that inflation and get prices back under control, and that will help cure middle America. But with that, you're starting to see the announcements of pull back in jobs with a lot of companies announcing layoffs. But what's interesting with this is the small business job market remains really robust. So what happens with unemployment in the back part of the year, it's anybody's guess. I really wish I had that crystal ball to give us the answer for that. But what our guidance was indicating is -- what I'll say is the inflationary pressure is getting replaced a bit by what could be a little bit of rising unemployment in the back part of the year. For us, in particular, we're going -- as you reference the net credit loss number we posted today, we do expect it to increase sharply in February by over 100 basis points due to last July's transition item. And then again, we expect a couple of months to be uncharacteristically high in the second quarter related to similar things in the back part of '22. And then so we get that part of the -- behind us, then you're more so thinking about what's going on in the economy. And what we've said so far for what we think is going to happen, what we're seeing is that we should start to see some moderating loss rates in that back part of the year.

Got it. Okay. One of the other elements of your guidance for '23 was that reserve rates could increase by up to 100 basis points. Is that a function of changes in the economy from here? Is that a function of -- or I mean, let's leave it open to you. I mean, what is driving that thought?

Yes. You have 2 things that are going to drive it up in the immediate quarter. One is the BJ's portfolio going out. It currently is on the books with a lower than portfolio average reserve rate. So that leaves, expect a good piece of that increase to be just the math of that leaving. And then as well, you have transactors in the portfolio who pay off their accounts in the first quarter. They're out yet the losses that we were expecting from those accounts at the end of the year really still with you. So those are the 2 components. And then there was a smaller component that was, yes, they're just signaling if the economy continued to show signs of economic deterioration as had been happening all throughout '22, just signaling it could go higher from there a little bit. But that was our best thinking at the time when we gave that guidance.

Got you. So Ralph, we talked a little bit -- you talked a little bit about this just a moment ago with respect to your interaction with your partners. But when you think about where we are in the competitive environment in private label and co-brands, like what's -- I mean, what's going on from a competitive standpoint? Do you see issuers being more aggressive, more disciplined in bidding for these contracts? Are there any other portfolios that you're thinking about? Obviously, you've kind of had some fairly big movement, both in and out relatively recently. But where are we in that?

2021, I would say was a rational year to collect receivables. When we saw some -- and BJ's being one of them, a big move on BJ's in terms of wanting to get that portfolio to the point where it would have been irrational for us to continue to bid. I will point in 2021, and my team is sick of hearing this, but we went 20 in 1 in '21. We had 10 wins, 10 resigns and 1 loss. That's a good record. And '22 was similar. So we're winning portfolios more than obviously we're losing portfolios. If you look at our book, over 85% of our book now or receivables is secured through 2025 when you take out BJ's. So that's a good number and a good level of good recurring quality earnings as we move forward. And to be honest, one of the things I really love about this company and -- is that we can bid up and down spectrum. So AAA came in, we took that from Bank of America. The NFL, we got from Barclays. So those are -- we're competing with the big boys at that point. But also there's that middle market where we compete really, really strongly. And you can pick up those $100 million portfolios or grow those $100 million portfolios where the earnings are really good, the customization is minimal. And you sign kind of long-term deals with those guys. And you pick up 5 of those or 8 of those, it's almost $1 billion of really good earnings and really good returns with not a lot of heavy lifting in terms of execution. So that's -- I'd love to have -- how we bid up and down the spectrum. But I think competition is always going to be high in this portfolio. And when we look at something, we look at it and say, "Can we grow it, and can we grow it profitably?" Those are the important thing. Now we can put on portfolios, and we do it at very slim or minor economics, we're out of that business. Now we look at portfolios that are accretive to our overall portfolio, and that's what we go after.

And when you think about those areas of -- those kind of smaller or midsized partners and portfolios, are there any kind of themes there? Is it any specific type of retailer? Is there any kind of...

We've diversified our retailers and one of the verticals that's been terrific for us is Beauty. And that has stood the test of inflation. I think it will stand the test of a recession, which is terrific. So we have Ulta, Sephora, we have market share in that vertical. Another one for us is Jewelry as well. And that ebbs and flows with the economy, but that's a really good vertical for us. And now we've been moving more towards the digital verticals as well. So if you think about our acquisition of Bread, now called Bread Pay and our arrangement with Fiserv, we have over 200 -- I'm sorry, with Sezzle, we have over 200 merchants now that we're their installment loan partner. So we're seeing diversification across verticals and across types of products that we're delivering to the marketplace.

So maybe that's a good -- maybe we can kind of spend another minute on Bread Pay.

Sure.

How do you think about how much of your company that's going to represent in terms of receivables? Is it primarily -- are you getting primarily like paying for customers? Are they actual kind of installment loan customers? And how do you see that evolving over...

Yes. So we bought Bread at the end of 2020 because we certainly knew -- felt we had a product gap, certainly in BNPL and paying for an installment loan. And it was the shortest distance between 2 points to buy Bread. One of the first things we did is, we stepped back and said, "Now we've got to make this product compliant and regulatory compliant," which was the right thing to do at the right time. I don't see it as an overwhelmingly big part of our portfolio. I think it is a set of products in our product set. I think it will grow responsibly over time. The pay-in-four environment got a rational in '21 and '22. And you've seen that now with the valuation of Afterpay and Klarna and all of them where they paid these big bonuses and took -- and really for just some ice on glass.

Right.

What we did is, we took a step back from that. The real profitability in BNPL is an installment loan. And you have to grow that steadily with good underwriting, good collections and a variety of things. So I feel good about where we are. I always joke, we got a set of products, and we got a new name out of it.

Right, right. Okay. Maybe kind of, Perry, maybe you could -- if you think about your expectations for balanced growth, have you -- are you able to like parse it out between what's coming from the existing book and what's coming from sort of the new portfolio, some of the stuff that Ralph was talking about in terms of the potential to have -- how do you think about that, both for '23 and sort of in general? Like what's the normal way to think about it?

Yes. So when I think about what we're seeing in our portfolio, we obviously have really good growth this past year. We guided to the mid-single digits for 2023, and that's grown mid-single digits with the loss of BJ's happening in the first quarter. So if you were to normalize our guidance, that is if BJ's was still in there, you'd be looking at mid-teens growth. And that's really coming from things that Ralph commented on earlier. It's a diversified growth approach where we're getting that from de novo partners that we have put on last year, some really strong existing partners where we have renewed or refreshed the products, trying to grow the pie with them, leaning a little bit more on our proprietary products and the branded products with the cash Amex -- cashback 2% card with Amex. We can lean a little bit more on the installment loans. So it's going to come from across the spectrum of products that we have in place and being opportunistic. So there's a pipeline of new partners, but it's really what this company has been positioned to do is to opportunistically grow and I'll say, lever up or down based on the economic returns to make sure we're driving responsible growth.

So maybe talk about that Amex cashback product for a second because I think it's -- it will likely be a big portion of your proprietary product set. And I mean, what -- talk about the genesis of it and what your plans for it are over kind of a multiple year period?

Sure. Well, let's just -- I have a soft spot for Amex being [indiscernible]. And running on their network, you do a few things. One, the benefits are terrific from their network and really enjoy those benefits. But there's also a little bit of cache with the name and brand as well. For us, putting a 2% cash card in the market underwriting the way we do is beneficial to Amex because they can cast a wider net on acceptance and a variety of things. We -- that's good for them. But for us, it's -- every swipe is profitable. So where from an interchange perspective, so we're able to give that 2% to customers without degrading that economics because of the interchange we get from being on the American Express network. I think the portfolio has grown nicely. I think we'll continue to grow over a period of time. It's -- we're very focused on that portfolio being primarily digital. So you can acquire the card, put it in your wallet and begin spending within 30 seconds, which is kind of like Apple-ish type of card. And right now, we've seen -- and we've seen millenniums attracted to that portfolio, Gen-Xs and some baby boomers and were -- it's evolving nicely. And Amex has been very helpful in terms of collaborative marketing funds and a variety of things. So we're happy to do that. Happy to see it grow. We have a -- our first foray into direct-to-consumer was with a Mastercard portfolio. And that portfolio has 1 million customers in it. So that was as a save tool. And it just worked out well enough that we are -- we have almost 1 million customers in that portfolio now. So we expect that this again will be a nice part of our portfolio. And it just balances out our PLCC and co-brand. So we're diversifying our portfolio all around.

You mentioned the digital aspects of that Amex card. You also mentioned it kind of as part of the process of -- that you kind of adopted as you came in to the company. Maybe can you give us an update about how that process kind of sits across all of your products now? Like what point are you at in that?

So we like to say our model is mobile first, right? So we want to be where our customers want to be. So in this first quarter, we'll be launching our mobile app, never had them before. So a mobile app where people can look at their multiple accounts, pay their bills. And so I think for us, that's a good milestone. But prior to that, we would -- it was -- digital was an afterthought, not a primary thought here. So that's why we invested heavily. With our partners, we have -- we've implemented an enhanced digital suite. Now we have more than half of our partners now have this digital suite where they could pull down our capabilities, and it's easy, it's API-driven, you pull down the capabilities and products with our partners. So first, we had to put the right structure in place then have the right digital assets in place. And now we're starting to reap the benefits out. We have a virtual card where you can literally go into a store at point of sale and have an installment loan on a virtual card. So a lot of state-of-the-art things we're starting to do. And it's -- I always equated to when I lived in India is the first time I ever saw the real use of a mobile phone because they leapfrog like landline. So we're able to like leapfrog some competition because we're not -- we didn't have any legacy technology to replace.

Got it, okay. Shifting back to credit for a second. Perry, you laid out this idea that you've got a couple of kind of bumps in the early part of the year. When we kind of look at the data as it's coming out and obviously, probably have to wait fully to get past those points, but what are the things we should be looking for to see that you're tracking to your expectations? Like what is it that we'll be able to see from the outside?

I think once you get past the midway through the second quarter, then you'll see the normalized delinquency. And you can probably start to see some of the early-stage delinquency, obviously, leading into the second quarter. But we've got to get midway through that in order to have the conversion noise behind us. And then the actions we've taken around tightening credit underwriting on the margins, managing lines, the things you normally do as you deploy your recession [indiscernible] playbook should start to happen. And then hopefully, inflation continues to moderate through that period, which also will produce some relief for the consumers. Again, the question is really on the back part of the year, what then happens with unemployment. Do rates continue to remain -- I'm not talking cost of funds rate, like lending rates for consumers remain elevated, puts pressure on their auto loans and mortgages and then there's the other knock-on effects on the back part of the year into next year.

Right. And as you look across your portfolio, the -- any difference, whether it's kind of the general credit of the consumer or the type of card between a private label card or some of your proprietary cards, any difference in terms of the performance that you'd want to call out as being noteworthy?