LendingClub Corporation (LC) Earnings Call Transcript & Summary

Hi, I'm Arren Cyganovich. I'm the Consumer Finance Analyst at Citi. I'm here with Pete Christiansen. He is on our fintech team in research at Citi, and we are pleased to have and welcome LendingClub's CEO, Scott Sanborn, and CFO, Tom Casey. Gentlemen, thanks for joining us today for the conference.

Morning. Thanks for having us.

So I'll just start off on the questions here. LendingClub has driven really strong revenue and earnings growth since the first quarter of this year. And your economics seem to have transformed since you've completed the Radius Bank acquisition. Can you tell me about the evolution of your company since you've completed your IPO in 2014 primarily as a P2P lender at that time?

I don't know how long you have Arren. I'll keep it short. So yes, when we started out with the idea of really disrupting retail banking and using technology, using data to increase access to credit to lower the cost of credit and to improve the experience or -- that thesis worked. We've grown to become the largest unsecured lender in the country. When I joined the company in 2010, we were doing about $10 million in loan volume a month. We're currently doing about $1 billion a month. Our initial funding model was a marketplace model, which is we essentially connect with an ecosystem of funders. We work with dozens of banks. We work with 7 of the 10 largest asset managers. We work with funds and other investment vehicles. and they all take a position on the risk spectrum, and it allows us to both approve a broad range of people, which drives sufficient marketing and also allows us to be really inclusive in -- with the brand. What's driving the results this year is we added to that mix. We added a bank charter with our acquisition of Radius. So that has really transformed the economics in that we've knocked out a bunch of costs, the cost of working with third-party issuing banks, warehouse lines, and we've added a new revenue stream, which is interest income coming off of a portion of loans that we now keep on our balance sheet. And those loans earn about 3x as much as the loans we sell. So we still use the marketplace model that's driving down the cost of credit. But we're adding this new recurring revenue stream into the mix. So that's a big change this year. Another thing you're seeing this year is that in 2019, we actually significantly overhauled the cost structure of the business. We relocated a bunch of employees to lower-cost locations. We restructured the org. You didn't get to see that because COVID hit in 2020. And so the real benefits of that lowered cost bases weren't visible until post-COVID as we've ramped back up originations, you're starting to see the operating leverage come through. The only other thing I'd add is, of course, when you look at year-over-year, keep in mind, last year was COVID. So you're really looking at more kind of sequential growth rates right now to understand the trajectory of the business.

Got it. That's helpful. What are your competitive advantages? And how do you think about those in the context of the emerging neobanks and nonbank financials?

Yes, they're pretty significant. When you look at our business, we've got a couple of things that are very, very hard to do today. One is we have a significant data advantage. We made our first loan in 2007. We're getting close to $70 billion in loans issued. That provides an enormous amount of data. We've got over 150 billion cells of data across 200 attributes that powers all of our models, marketing, targeting, underwriting, pricing, servicing and it's visible in our results. We've talked about the fact that we've got amongst the lowest marketing acquisition costs in the industry, lowest fraud rates in the industry and relative to our peers, also significantly lower delinquency rates. So that data set is very, very real over a long period of time. The second thing we have is a large and growing member base, right? We have customers who got introduced to LendingClub. And the way they get introduced to us is we reached out and said, hey, let us save you money. We're going to make it really easy for you to save money. We're going to lower the cost of your credit, that's delivered really high NPS scores. We're roughly around 80 NPS score. And those customers come back, about half of them come back within 5 years to do business with us again. And that -- those repeat customers are both coming in at a lower cost. They are also future lower risk, right? So their performance is also better. So that's a second key advantage. And then the third is really the structural advantage of our vertically integrated model, right? We've got the growth rate of a fintech, but we now have the earnings and the resiliency of a bank.

Got it. And when we think about the growth drivers in the next few years, are there any specific markets or products that you would highlight in terms of your growth plans?

Yes. I mean, I guess starting with our core, which -- our core business is unsecured personal loans. The primary not the exclusive use case is effectively going after the $1 trillion in outstanding revolving credit card debt. And there, we have a very simple value proposition, which is if you didn't pay off your credit card last month, which about half of all Americans do not, you have a loan, it's not a very good one. It's a floating rate. It's a high rate to pay for all your rewards. And it has a negative impact on your FICO score. Do this instead with LendingClub, we're going to lower your rate, on average, 400 basis points. For 80% of the customers, the process is fully automated to get your money the next day. And for most people, their FICO score goes up by about 30 basis points when they do this. So that's the core market. And as I mentioned, we're doing about $1 billion a month in origination and there's getting close to $1 trillion in outstanding credit card debt. So we -- there's continue to be real opportunity to penetrate that market, grow awareness of this as a solution and then also to expand the use cases, as we've made credit so simple to access and low cost to access we do see an expansion in the use cases where people are saying, hey, why click something on my credit card in the first place? Why don't I just go straight to an installment loan and put it on an installment loan. It's -- I don't get tracked in the revolving hamster wheel of credit card debt and its lower cost. So that's a core growth area. And keep in mind, with the addition of the bank, our revenue growth now outstrips our loan origination growth, right? Because as we add loans to the balance sheet, those loans are -- we're earning 3x more on the loans we hold than on the loans we sell. And so as we build the balance sheet, our revenue growth is outstripping originations growth. So that's one. Two, we talked last quarter about another market that we are beginning to go after, which is auto refinance. Similar to credit card, we're going after a structural inefficiency. In this case, inefficiency is if you bought your car from a used car dealer, you paid more than your risk would indicate you needed to because the dealer has marked up your loan, and that is opaque to you, the customer. And you drive off a lot paying more than you should have. So a very similar value proposition. We reach out to you and say, hey, Arren, keep driving the same car you're driving, pay your loan off on the same duration you've paid it off, but lower your monthly payment by $80 a month, and we're trying to make it as easy as possible to do that. And we estimate that, that market -- addressable market is about $300 billion. And we're just getting started. Most consumers don't even know that this is an option. They know they can refinance their house. But for most people, their second largest expense after housing is actually their auto loan. That's true for our customers. So that's the second market we're going after. And then the third is we've got our own version of Buy Now, Pay Later, which is more in the sweet spot of LendingClub, which is an underwritten product to prime consumers for the use of elective medical. So these are big-ticket purchases that aren't covered by insurance. Think about things like fertility treatments, teeth implants, braces for your kids, these procedures cost anywhere from $5,000 to $25,000. And that's a program we have today. We work with issuing banks. We're in the process of pulling that into the bank. So lots of opportunities for LendingClub to deliver kind of sustained growth in revenue and earnings.

Thank you, Scott. As a parent, who just recently spent money on braces, I certainly appreciate that value prop that you're delivering for sure. And I think that was really interesting context on how you're delivering for your underlying consumers. But how should we think about your existing customer base, digging a bit more deeply here? And where are you targeting and how you've really driven the customer acquisition strategy around this target area? And perhaps I'm going to extend it a little bit more as COVID has evolved, we certainly become a lot more digital. How is that also influencing your go-to-market strategy, customer acquisition strategy?

Yes. So let's talk a little bit about who our customer is because it versus some of the other fintechs out there, it might surprise you. One, I'll say, I'm going to give you averages, but averages can be misleading. We serve a very broad range of customers. If you have an 800 FICO, we have a great product for you. It's typically funded by a bank, including LendingClub bank. If you're a 600 FICO, we have a great product for you. It's likely funded by an asset manager. So we serve a broad range of people. But on average, our customers are banked, right? 100% of our customers have bank accounts. 99% of them have credit cards. 2/3 of them have auto loans. So these are creditworthy banked customers with pretty high income. So you're talking about an average income of about $90,000. So they are being served by the banking industry today. They're just not being well served, right, because of some of the structural inefficiencies that I talked about. And also just because of the way the typical model, the banking model has worked, which has resulted in your existing customers pay more for credit and they get paid less on their deposits than new customers. That's the way that model has evolved for rational reasons, but it doesn't feel that rational if you're the customer. So we're turning that on its head. We're building a brand around a bank that has your back, a bank that is acting in your interest. If it is an existing customer, you have lower credit risk, you're going to pay a lower rate, right? We're rewarding you for your business. So strong average credit profile for the customer, you're talking FICO scores of somewhere between 700 and 710, again, on average. The bank balance sheet is a bit higher than that. And we use a really broad range of marketing vehicles to reach people. We are primarily a direct response marketer right now. and we are incredibly data-driven, right? Everything we do is powered by models, that's looking at what channel you come in, what's the credit profile you have what's the behavior that you are exhibiting as you interact with us. And we use that to drive our acquisition strategy across the multiple channels. When you think about what's COVID changed and how has that changed things, certainly, it's driven more and more people online to be comfortable online. I mean, here we are doing it virtually. So that's certainly -- we expect a tailwind for us, most notably a tailwind, something we haven't even talked about because we're not yet focused on that is as we push into banking services, right? We can now move beyond helping customers with their lending and help them with their spending and their savings. And you've certainly seen 5 years of evolution packed into about 6 months of COVID with people beginning to value a convenient mobile app over the location of their bank branch, right? Banking has really become something you do as opposed to a place you go. And so as we look ahead more next year, once we're done pulling all of our lending products into the bank, and start to think about actually helping people with their core banking services, then we think that the tailwind provided by COVID will be a real boost.

Has that though influenced the degree to what you -- to how you rely on like affiliate marketing channels versus just your direct mail approach. In terms of the go-to-market, how is that nuance, I guess?

No. I mean, for us, we were born online, we were born purely digital as a tech company. And so we've remained there. It's more in a way, the mountain is coming to us, right, which is our behavior is shifting online, which happens to be where we are. And we don't have 1,000 branches that we're supporting and all of the costs that go along with them.

No, that's for sure. No, that's great color. And then I'd love to hear your views on where we are in consumer credit today. We are exiting -- hopefully exiting the pandemic. We still have some labor shortages and certainly supply chain issues. But the consumer balance sheet is still fairly strong. What are you guys seeing in terms of loan demand? And how do you expect that to trend? Should we expect normalization to become more and more the case as we progress over the next 2, 3 quarters?

Yes. I mean you are correct. I think we came into this recession with consumers having by historic standards, really strong balance sheets in terms of things like their debt in relation to their income. That was then supported by significant government activity in the form of unemployment benefits and checks. Consumer spending also got curtailed. Some of it because it wasn't available options, right? Travel weren't available, options going out to restaurants were available, but also consumer choice. We saw consumers themselves behaving very, very prudently things like paying down their debt, avoiding large expenses. And so all in all, I mean, credit as a whole has held up incredibly well. I'd say we were really pleased our category within credit held up and really showed its place in the payment hierarchy, which came up quite positive. And LendingClub within that, we feel, came out -- versus our peer set, we came out really, really ahead of the game. So that's great. As we look at what's happening now, we're starting to see -- consumer demand right now remains below pre-COVID levels. But it has been recovering, and we expect that to continue to be the case. I mean you're starting to see consumer spending on credit cards pick back up. You're starting to see the early signs of balances pick back up. So on the demand side, that's obviously a precursor showing you that I think consumer behavior is not, in that case, forever altered. We do anticipate spending and demand to pick up. In terms of performance, we also expect it to normalize. We have been underwriting and pricing. We pulled back significantly during COVID, both due to the fact that we were just in prep mode to be approved for the bank, but also because we wanted to make sure we could serve our members. So we were there for the people who were our core customers. But as we've come back to the market, we've seen credit -- demand for the credit picking back up. We've been underwriting from the beginning as if things will return back to normal. We've been pricing as if things will return back to normal, back to pre-COVID. So we have not been trying to factor in an extended period of rainbows and butterflies because government support is ending, payment holidays are ending. So we do anticipate things will be normalizing. And you're starting to see that. It hasn't shown up yet in our portfolio, but you are starting to see that in some of the loan books that are out there.

No, that's helpful. Great color. One last one before I hand it back to Arren. Competitive dynamics. Who do you see yourself competing with on a daily basis and who are you trying to win market share from? And I guess, love to know, are you seeing competition between yourselves and traditional banks, credit card companies or the more of the fintech, neobank kind of side of the market?

Yes. The short answer is yes. But if you -- for a bit more color here, who are we really competing with? Who are we taking customers from? We're taking customers from traditional lenders. And we're typically taking the most profitable customers, right? The most profitable customer for a credit card company is somebody who is carrying a balance for 20 years and paying a 21% interest rate. So we're taking those customers out, lowering their rate. Same thing in auto lending, right? Your most profitable customers are the ones who are paying a high rate and staying current. So that's who we're going after traditional credit card companies, traditional auto lenders. That's who we're stealing customers from and who we're competing with to get them is everyone. On the high end of the book, we're competing with banks, whether that's Wells Fargo or Citi or Discover. And then on the lower end, you've got specialty finance companies, and you've got some of the fintechs. And that's why going back to some of our advantages, we -- say yes to that full spectrum of people. We have a good product for that full spectrum of people. So our #1 expense marketing is more efficient. And then off of the loans we book, we're generating more revenue, right? Because we have both the marketplace model and we've got the bank balance sheet model. So that -- we're competing very effectively. That's how you've seen the results of this year, we went from not -- effectively not being in the market, really not doing any marketing to turning back on our marketing and immediately gaining significant share over the last couple of quarters.

Thank you, that's good color.

Great, Pete. When we think about the LendingClub ecosystem, you've got to throw ecosystem in there because it's a fintech conference. What are the cross-sell opportunities once they get on the platform? You kind of mentioned some of the new products that you're bringing on. Do you have the ability to use kind of repeat business and lower that customer acquisition?

Yes. Look, I'll start with cross-sell, obviously, can be a dirty word, but the principle of providing more value to our members by moving beyond the initial problem we help them solve is very much a part of our future. We're really just at the early stages right now. So step one, we mentioned we're acquiring at scale -- efficiently at scale, really satisfied customers. Half of those customers are coming back just to do repeat business with us off of the unsecured loan. But 83% of those customers say they want to do more with us. So moving from, let's call it, more of a single product focus to a multiproduct focus, and over time, moving just from lending to helping with spending and savings. That will be the path we're on over the next 5 years, right, which is the ability to integrate these experiences and say the example I gave you, hey, Arren, I'm saving you $80 a month off your car loan. Can I take -- do you want me to lower your payment by $80 or should I take half of that and put it into a savings account for you? And when your loans paid off, you'll actually have savings, right? Or hey, I'm offer you're approved for a personal loan because you're going to put a balcony on the back of your house. Do you want me to deposit that into a LendingClub checking account? If you do, I'll give you cash back rewards that will lower the cost of your loan over time, right? So that -- none of that exists today, right? But that's where we want to go. In order to get there, as we talked about in the last earnings call, we're going to be investing in the data and technology platform that allows us to do that. But that is, we believe, a really exciting part of the future, which is helping make -- helping our members make the right financial decisions, make it easy to make the right financial decisions and to give them an integrated view across their lending, their spending and their savings.

Okay. And then just kind of shifting over to -- you mentioned Buy Now, Pay Later. It sounds like you're using it on a fairly narrow vertical. What's your thoughts on the usefulness of that product? And do you have any kind of plans to expand beyond that kind of health care-focused section in the future?

Yes. I guess, I'll distinguish the kind of credit underwritten large balance installment loans, which is kind of what we're doing and just talk about more of the paying for small purchases. Yes. I mean, obviously, that product, I'm a former -- I'm a reformed e-commerce guy myself. And so I have been around the layaway and store credit product for quite some time. I think what's new about it is the ubiquity of it, right, and the ease of it. And what's great is obviously that it allows customers to easily afford the purchases they want to make. And we're seeing good growth there. Now obviously, a very small base right now, it's growing quickly, but still a small base compared to the other payment mechanisms. I think the watch out there, of course, is if customers have got different Buy Now, Pay Later products on multiple different platforms. Do they have a view of their total obligations of their total debt load? Is all of this being reported to the bureaus, so that other people can accurately assess the burden that people are carrying? And the who people understand, given that in not all cases, are these even viewed as a loan, right? And what are the disclosures given to the consumer, they even understand the terms of it? And what happens if they don't pay in for and it converts to a high interest loan? So there's -- I think there's a lot of questions that I think will get sorted out through a combination of the industry pulling together and potentially some government actions. Our view on it right now is we're -- as I mentioned, we're playing in the underwritten space, bigger tickets. We view this as, for the people who aren't just paying in 4, but coming out the other side, we view it as a yet another higher cost form of debt that we will have the ability to lower on behalf of our customers and help them manage their overall obligations. And as we move to try and get ourselves into that banking relationship, it will be a thing we can help them keep an eye on and manage.

Got it. So talking about the bank, you brought up some of the benefits of the bank. What was it about the Radius that you felt was a good fit for LendingClub? And some of the benefits of being a bank for a nonbank you've kind of talked about, what are some of the challenges also from going through that? Are there some limitations that the regulators have put on your banking franchise?

So I guess I'll start first with why a bank and then maybe I'll talk a little bit about why rate. So why a bank? When we were at the scale that we were at with almost half of our loans sold to banks, we were held to bank standards, right? Banks are required due to the Bank Services Act to treat us as an extension of themselves. So we had -- on an average year, we probably had a bank examination a week coming in to evaluate us against BSA, AML, data security and privacy, you name it. So we had a lot of the costs of the control infrastructure you would need to have as a bank. But we didn't have any of the benefits of low-cost funding, resilient funding and, frankly, regulatory clarity, right? We're dealing with both the federal regulatory environment through our issuing bank partners, but also the state AGs and all the rest. So we kind of felt like, look, we've got quite a bit of the pain without a lot of benefit. And we felt like a bank financial benefits were clear, knocking out costs, adding revenue, let's say, the strategic benefits were clear, we can do more for our members than we're doing today and then also some real structural benefits, right? Just having a recurring revenue stream in addition to the origination fee-based revenue stream, we thought really improved the overall model. So we felt like we wanted -- a bank would clearly, clearly enhance the model. And then you have 2 options, right, apply de novo or buy. Applying de novo, there are not a lot of successful examples of fintech is getting bank charters through de novo applications. And those that have the processes have been 3-plus years and according to public statements, $100 million plus. And so we looked at the buy route and then you say, okay, we need to find somebody who is ideally a cultural fit is for sale is a price we can afford and brings capabilities that we lacked. We were -- we felt very good about our control and compliance infrastructure on lending, but we didn't -- we weren't doing deposits. So Radius was really a perfect match, right? They had already made the transformation to digital. They had closed down their branch network, but for one, had launched a multi-award-winning direct-to-consumer rewards checking product that was completely on brand for us, right? We're going to reward you for spending money you have as opposed to reward you for spending money you don't have. And they brought with them $2.5 billion in deposits and a core income-generating loan book that we could add to the mix. So it really felt like a perfect match, and we were able to get that deal approved in 11 months. So that -- I think that has worked out really well. And if you look at what we paid for it, and you look at our results to date, I mean, we're 2 quarters into being a bank, and we've pretty much covered the cost of the deal already from here. In terms of what about the regulatory environment and what's changed, I'd say a lot less than you would think. And certainly being directly supervised that's a new muscle, right? And that's a new thing for us. But I wouldn't -- it's hard not to appreciate the benefit of regulatory clarity that we have now. For our innovation road map, we know who to ask. It's clear, right? We have 1 regulator we can go to, and we can have a discussion with as opposed to go to our issuing bank. We can't go to their regulator. But if we're issuing banks good with it, does that mean all the states are good with it, too, we're not sure. And it may depend on what administration is in the White House. So the benefit of having a prudential regulator that we can engage directly with in many ways, we think will accelerate our innovation road map. And having the bank balance sheet does the same. We talked about auto. We've had that product for a couple of years, but convincing investors to buy a product with a short track record when you're not buying it yourself, pretty hard. Telling investors, I'm buying this, do you want some is a lot easier. And so that's part of the reason why, as we pulled the auto into the bank, we have small base, but we had a record quarter, and we expect to grow it from here.

On -- you're creating a decent amount of excess capital on the balance sheet. Could you talk a little bit about your priorities deploying excess capital and what not M&A opportunities are in the hopper as well?

Yes. Tom, do you want to take that?

Yes, let me take that one. Thanks, Arren. You're right. We had about 18% CET1 at the bank and about 23% at the holding company. Just remind everybody that when we acquired the bank, we actually primed the pump by contributing about $250 million of cash down to the bank. And so what you're seeing is that we're already starting to deploy that capital in additional loans. We're holding anywhere between 15% and 25%. We've been averaging around 20% for the year where we're holding high-quality prime loans on our balance sheet and selling the rest of the market, so generating 2 revenue streams: one, the recurring high-margin returning personal loans and then selling a piece of it. With that priming the pump though, we've also been actually generating GAAP earnings. So in the second quarter, we earned about $9.5 million. And then in the third quarter, we were about $27 million. So you can see that we're also starting to generate our own capital. So the combination of the original capital we put in plus the additional capital that we're earning is allowing us to create this flywheel effect of being able to fund our own balance sheet growth through internal net income earnings as well as priming the pump that I mentioned. You'll continue to see us do that with our capital. As I said, we're well above our minimums that we put in place with the regulators at 11%. And you'll see us continue to do that. It will put some -- it does put some short-term drag on our earnings because we're taking the credit costs upfront with CECL. But the predictable earnings stream of earning 3x as much as a loan we hold versus the loan we sell, we're clearly motivated to do that. At the same time, we want to keep a very robust marketplace. We have -- we're oversubscribed on our investor side. And we want to make sure that's vibrant. So we don't want to create too much of a pressure point where we don't have enough inventory to sell and keep that marketplace vibrant. And so you'll see us continuing to balance that dynamic between putting loans on our books, eating our own cooking, pari-passu, we're not cherry picking loans. We're sharing the same returns as we've given to our investors. Now we do generate additional -- slightly higher returns because we also earn the fee that offsets some of our cost to acquire a customer. But as Scott mentioned, we're about the lowest in the industry, probably the lowest in our peer set. And so we get that additional margin as well because of our efficiency and marketing. So we feel like between the growth in personal loans or some of the additional products, Scott mentioned with auto now coming onto the balance sheet. And then now in the fourth quarter, we're going to be moving our last business the Buy Now, Pay Later, the purchase finance is now going to be in the bank as well. That was the last piece of our business that is going to be part of the issuing bank. And so we feel very good about our ability to generate large amounts of consumer loans and have the flexibility to add loans or not, depending on our capital position and where the market is. So as I think Scott mentioned, we really have the best of both worlds in how we use the balance sheet now compared to where we were in the past where we were always a price taker. Now we actually can set price and participate in that revenue stream.

Tom, anything you'd add about ROE and how we're thinking about that?

Yes. So our ROEs are already significantly in the highest tiers the returns for the company, we're already about 14%, 13.8%, just the mid-quarter. We think those numbers can go higher. But at the same time, we want to reinvest quite a bit back into the business. When you're generating this kind of high-return product, the returns for the total company are already at kind of the top-tier returns. And so you're going to see us continue to reinvest back in the business in areas like technology to continue to drive some of the product road map that Scott mentioned. You'll see us continue to drive investments in growing our new customer base. And then you'll also see us continue to put capital to work, which, again, drives down our short-term earnings, but creates this very powerful recurring revenue stream that we think can again, further fund our growth. So it's really well positioned. We're excited about how fast we're able to turn to a profit. And that's the real balancing act between nice strong revenue growth, but also maintaining a high level of profitability, which, again, funds our balance sheet to continue that flywheel.

That's great. Thanks Tom for that. And thank you, Scott, for participating in Citi FinTech 11, fascinating discussion. We must have you back, but thanks again for participating. Thank you.

Thanks for having us.

Thanks, everyone.

Thank you.