OneMain Holdings, Inc. (OMF) Earnings Call Transcript & Summary

Good morning, everyone. Thank you for joining us for this fireside chat with OneMain's CEO, Doug Shulman; and CFO, Micah Conrad. We have a number of prepared questions we'll be going through, but if anyone in the audience would like to ask a question, click on the Ask A Question button in the upper right-hand corner of your screen, and follow the prompts to submit your question. And we'll do our best to address it in the time we have today. We have also prepared a number of audience polling questions that we would encourage you to answer during the presentation, and we'll be publishing the results in our report summarizing the takeaways from the conference. With that out of the way, let's get to the discussion.

Doug and Micah, thank you for joining us. In terms of OneMain's strategy, can you recap what you did at the start of the pandemic, and how that's changed now? And also talk about how OneMain is positioned going forward?

Yes. Sure, Mark. Thanks for having us here. I appreciate it. So let me just talk a little bit about as the pandemic unfolded in March of 2020, what actions we took and then kind of where we've gone from there. So we had told the market, and we had prepared a playbook for a downturn. We have a tremendous amount of proprietary data, including what happens to a book like ours by customer, by collateral, by income, by sector of employment from the 2008, 2009 downturn. And so in March of 2020, we did 2 things, which were quite conservative. One is we implemented our '08, '09 credit pullback plan, just assuming that the worst could come. And if it didn't come, we could reverse that, but it was a no-regrets move for us. Second thing we did is we run a very conservative balance sheet with a long liquidity runway, and so we actually have a bunch of standby conduit lines. We never needed them, but we pulled them all down just in case the market really melted down further. And again, we said for a long time, we're going to be very aggressive and innovative when it comes to product, customer experience, innovation, digital, and we're going to be very conservative when it comes to our balance sheet and our credit. And so early on, we did major pullbacks, and we made sure we had a lot of liquidity. As the pandemic progressed, and we saw that especially that the government started putting in a lot of stimulus to support the economy, we started opening up our credit box. But we did it with a scalpel. And so we did it by geographic region and by industry. So into the summer and the fall of 2020, we were reopening our credit box. But we weren't reopening in specific geographic regions that were especially hard hit by both the pandemic and the industries. Take Nevada and Hawaii which are dependent on tourists, we opened up the credit box for industries like health services, where there was really never major unemployment. But we kept it quite tight for industries such as food service, travel, et cetera. And at this point, we're -- our credit box is largely -- it's very granular, and we adjust it on a monthly basis, but largely back to pre-pandemic levels. Equally importantly, in late March and early April, we sat down as a management team, and we basically said, look, the economy is going to be what the economy is. We're going to do everything we can to help our customers through this very difficult time. We put out a ton of Borrower's Assistance, we let people skip payments, et cetera. But we also said as the management team, let's not take our eye off the ball, and let's make sure we use this time and maybe a time where we have a little idle time because we're not booking as many loans to really double down on our long-term strategy. And so we actually accelerated investments in things like digital, analytics and product. Now a few things that happened during the pandemic. One is, in 2019, we built the infrastructure to originate loans digitally. And in 2020 by the middle of the year, half the loans we are originating weren't going through a branch. So we actually successfully made a huge pivot from solely a branch-based lender to a lender that allowed customers to book loans digitally without coming into a branch and going into a branch. And we actually recreated a lot of the hallmarks of our process, ability to pay underwriting, doing a budgeting, full income verification, securing titles on the card. And so today, we now are running about half of our loans. People don't come into a branch, and so we're now kind of positioned successfully as an omni-channel lender. The other thing we did is we invested last year and then another $100 million this year in things around product, technology, digital, analytics. And so we announced last year that we were going to launch a card. I'll talk about that a little later. We've now launched the card. We actually have credit cards in the hands of customers now. And so we built out a card product. We doubled down on our mission to improve the financial well-being of hard-working Americans. We sharpened our strategy to be the lender of choice, which means both loans and cards. So we're there to help customers through a broader range of their financial needs. And we also started really investing in helping our customers move to a better financial future. And so we did things like acquired Trim, which helps people with bill pay. And so if you kind of go back, just to sum up your question, we pulled the conservative levers at the beginning of the pandemic around credit and liquidity. We then doubled down on positioning for growth in the future. We heavily invested in our digital capabilities, which has been paying off because we stayed open all the way through the pandemic and made loans while others were retreating. And then we actually started moving towards not only a multichannel company, but a multiproduct company. It's very clear. People when they come to us, we're going to help them, meet a cash need, but we're also going to help them build a better financial future. So that's what we've been working on. We're pretty excited about the direction of the company.

Okay. Just a follow-up question, Doug, on the point about over half of the originations not going through one of your locations. Do you have a sense for how much of that is -- was kind of born of necessity and caution, and how much of that may be permanent behavioral changes by your customers, because I would think that the more digital experience is, more efficient way to originate a loan for you. Is that fair?

Yes. Look, in 2018, when I joined the company, we said, we're going to not just be a branch-based lender. Branches are always going to be super important to us. We have a lot of customers who really want to come in and have an in-person experience, but that we were going to build out a digital platform. I think the pandemic only accelerated that. I like to tell the story, my parents are in their 80s, they never ordered groceries online. They now, on a weekly basis, still go to the grocery store, but they get the things they -- every week, milk, Cheerios, chicken, bread, they keep ordering online. And so it's permanently changed behavior even for people who aren't digital natives. We -- in the early days of the pandemic, May, June, July of 2020, people didn't want to leave their houses. Our branches, we gave them the discretion to try to encourage people not to come in and close digitally. And so during that time, it was -- I would call it pandemic behavior. Obviously, we still aren't fully out of the pandemic, but I think people are willing to go into retail stores again, and we're still running 50% of our loans remotely. A lot of customers are just going to choose not to come in. Again, some people want to come in and have that personal experience. And so this was our strategy pre-pandemic, pandemic accelerated it. I think it's a permanent part of our business model now. And we've proven out that we can still have all the rigor of underwriting and budgeting and ability to pay and the personal service that we give people by doing it digitally with a phone call, with the ability to co-browse, where we can look at a computer with somebody, with the ability to do a 2-way video. And so we've used this time to really perfect a lot of the interaction channels that our customers want.

Great. Can you comment on the overall competitive environment? It seems that every lender is pivoted from a period of tightening to now trying to stimulate growth in loans.

Yes. Look, we do have the advantage of a national footprint for a non-prime lender. And so there's really no other national installment lender that has branches and digital capabilities. And so our positioning is quite good. With that said, we have a number of competitors, whether they're online competitors, regional competitors, who either do some or all of what we do. The one advantage we had is because of our super strong balance sheet, we never left the market. So in the summer of 2020, a lot of our competitors were out of the market because they relied on whole loan sales, that market had dried up, they just didn't have balance sheet. Since that time, really about for the last year, competition has been back. We think we picked up a couple of percentage points of market share because we stayed in the market, but also because we've been doing a lot of innovation around product size, product pricing, the analytics. It's kind of obvious when I talk about analytics that you use analytics, machine learning and artificial intelligence in credit and marketing, but we've really honed our analytics in our operations. And so we now have dynamic routing of applications to go to the branch or the call center that has the capacity. We now put to the top of the queue propensity to close based on income level, based on the geography you're in, based on how much time you spend on our website. And so we continue to hold that market share. I think competition is back a lot. It's hard to say how people have [ honed ] their credit box. We've remained pretty conservative. We continue to run a 20% return on equity of our loan portfolio, which gives us plenty of cushion in a downturn. But we don't take our market position or -- for granted, and we're always paranoid about competition. I think largely our observations is competitors have opened their credit box back to pre-pandemic levels, and there's a lot of demand in borrowing happening in the market.

Great. And then the next question is for Micah. You saw a strong loan demand and loan origination in the back half of the second quarter. Has that continued into 3Q? And what do you attribute the improving origination trend to?

Yes, that's right, Mark. We believe loan demand returned to 2019 levels right around middle of -- middle to late May. That continued into June as we reported on our quarterly call. And in Q3, we think loan demand is still operating right around 2019 levels, give or take, which is far stronger than where it was a year ago. As a reminder, in 2019, it was a very good year for us. So with that level of demand for our originations, our receivables grew that year by almost 14%. And as you know from our second quarter call, in 2021, we expect our receivables to grow 8% to 10%, assuming that demand continues through the end of the year, and that was after a first quarter in which the balance sheet fell down, reduced by about $600 million. So we feel good about where demand is. In terms of the drivers of the originations performance stimulus impacts, obviously, waning, the economy is recovering. Consumers are spending. And historically, we found when consumers feel good about the future, loan demand is relatively strong. As Doug mentioned, we've continued to adapt our credit box with the improving economy and also consumer balance sheets remaining strong, leveraging our years of experience with this consumer, and that certainly has also been a factor. And then the key initiatives that we talk about are also big contributors to our originations performance. That's loan and pricing optimization, new channel partners that we've developed, and some of the digital and operational enhancements that Doug also mentioned for enhancing pull-through and allowing us to do business with more of those customers that have elected to do business with us.

Okay. Got it. Switching gears, can you update us on your growth initiatives, specifically your expansion into cards, which, Doug, you alluded to a little earlier?

Sure. Look, let me start by being really clear about our future vision of the company. Our vision is to be the lender of choice to the near-prime customer. And so we're sticking with our core competencies of lending and our deep knowledge and proprietary data around the near-prime customer, but it really has 2 pieces of the strategy. One is to meet current needs. And that's really to meet our customers' mismatch between their savings and their income on the one hand and their expenses on the other. And so that's a loan and that now includes a card. The 2 biggest places people go for kind of cash shortfalls. But we're also super clear, we want to help our customers move to a better financial future. And when we help them move to a better financial future, and we're investing in that part of the strategy, we have 3 criteria. One is that it's a great product that it's actually helping the customer move forward. Second, though, is it gives us new proprietary data, which allows us to know more about our customers, loan more to our customers, but also target our customers for marketing more. And third is increase engagement. And this becomes a virtual circle, which is we give -- we help people with their cash needs. We then help them move up the financial ladder. In doing so, they get a great product, but we also get more proprietary data, which helps our underwriting and our marketing, and we get more engagement with our customers, which makes it more likely they'll do more business with us. The card is a perfect example of this. So one, we give people access to credit, who need access to credit. We have 12 million full applications that get filled out every year, and we only book about 1.5 million of those customers with loans because a lot of them either don't qualify or the loan is not the right product for them. Those are people who identify with our brand, give us proprietary data and personal financial data, and we now have a great product for them. So one is access to credit. Two, the whole card concept is built around the concept of reciprocity. Every 6 months, if you make an on-time payment for those 6 months, you'll either get a decrease in your interest rate or an increase in your line, and this will be forever. And that is the value proposition. So really helping people. If we get to a point where we can increase the line and the interest because of risk, we'll do something like points or a discount on the loan. But we're really talking about as you grow with us, we will share some of the economics with you. The card is digital first. So when you book a card -- when you get a card from us, you need to download the app, the card shows up in the mail, and you take a picture of the card, and so we now have an app that allows for more digital engagement. A card is a regular daily transactional product that marries our -- with our large episodic loan product. And so if you think about a lot more engagement with us and engagement through the app, we'll do gamification, you'll check your balances, you'll see if you want to get a decrease in interest rate after 6 months of payment. So it really helps us with kind of our digital first and our engagement. And then obviously, proprietary data. We're going to have data now on your spend data, which will allow us to have a much more granular view of credit with our own proprietary data, both for that customer, but also data sets that we can use for add to our large trough of proprietary data for other customers. So that's the card product. We think it's super synergistic with loans. The total addressable market of cards is about $400 billion in near-prime versus $80 billion for loans. So we think it's a market that we can grow into, and it averages everything from our direct mail programs, our bureau relationships, our turndown applicants, all of the current customers we have. In terms of progress, we now are in market. We have a limited number of cards in the hands of customers. We expect to have about 60,000 cards issued by the end of the year, which will be a nice sample set that we can then know kind of what are the response models? Are they working the way we thought? How is line usage happening? It will give us enough data that when we're 3 months and 6 months on book, we'll be able to see credit trends before we decide whether we'll accelerate. And so far, so good. We have a great team. We got to market very quickly. Cards are in market. Demand in the early days looks good. And we think from a diversifying our revenue streams, leveraging all of our core competencies, it's a great product for the company. More importantly, from a helping our customers, get access to credit, engage more with us, move to a better financial future, we think it's a great product for customers.

Great. Given that longer term, though, how should we think about the product mix of your portfolio? I mean, obviously, your core non-prime will probably be substantial part, but how should we think about the size and return expectations of some of your other initiatives?

Yes. I think, Mark, we -- certainly, our goal is to continue to focus on and grow our portfolio. We talk about secured versus unsecured mix. We think we're at a fairly optimal level for our secured. We're about 52% today. I think that will be around -- fluctuate around 50-50 going forward. Really, that can fluctuate based on our credit box and our end-customer product choice. And certainly, I mean, we do expect our installment loan portfolio to grow over time. We think that market we can -- we think we can grow our book as we laid out in our Investor Day several quarters ago, a couple of years ago now. We think that market, we can grow about 5% to 10% annually on average and over time. And so we do expect that will be a -- still remain a substantial portion of our balance sheet for the next few years. But as you've heard, we're also very excited about the card product. We think it's highly synergistic with our loan book, and we expect that to become a multibillion dollar receivables base for us over the coming years. And in terms of returns, we think the returns on that product will be similar to our current installment loan products. And as we've laid out in the future vision, we'll also look to add any products that we think will drive customer engagement and continued customer value, which we think will be a very much a long-term benefit for us as we both grow the card and the installment loan book.

Got it. Okay. Turning to credit now. What's the outlook for credit now that some of the payment holidays have been extended? And longer term, how should we think to credit performance into 2022? How long can credit really remain sub-normalized levels?

Yes. I think at this point, we generally expect to see credit normalization. And we've talked about that bunch over the last year or so. After each round of fiscal stimulus, we really saw the same thing happen. We saw demand dropped off, payments increased and delinquency levels dropped across the board and across all of our delinquency buckets. And then with each month elapsed after stimulus, we see delinquency levels trend back to normal. We saw that at the end of 2020 from early June until December until stimulus hit again in January of '21. We're seeing it again through into -- off of March levels of the last stimulus checks that went out. So we're continuing to see normalization there. Now consumer balance sheets are still healthy. Labor markets are tight. We're seeing some upward wage pressure, which is a positive consumers. And our 2020 originations also were underwritten with a much tighter credit box. So these -- all these items should really produce some short- and medium-term support for credit. Again, with that said, I think over the next coming quarters, we expect delinquency to start to migrate back towards pre-pandemic levels, which means that losses will follow that 180 days later, so it will start to normalize probably around the middle of 2022. Still a little early to make a call on full year '22 losses. But I think in general, we feel pretty good about the credit environment.

Okay. On the loss reserves, can you remind investors what kind of assumptions or loss expectations are embedded in your reserves?

Yes, sure. So generally speaking, we use historical roll rates and delinquency data applied against our current portfolio at each -- as a snapshot at each given quarter. Of course, the delinquency and loss data has been nothing but -- very much different than normal over the last 18 months. So we also adjust -- in our roll rates, we adjust our expectations for what we think will happen in the future, not what necessarily happened over the last 12 to 18 months. So for that, we leverage all of our historical data on the non-prime customer. As an example of that, as I just talked about the normalization we expect to occur, we will embed that in our projections, which end up reflected in our reserves. So that really forms the basis for our reserve position, which then, under CECL, we are required to apply in a future macroeconomic overlay. And so we use a number of economic sources for that including the broadly published numbers for Moody's Analytics. Our primary focus there is going to be on the unemployment rate, which has historically been highly correlated to our loss performance. At the end of the second quarter, unemployment rate was forecasted to be in the low 4s by year-end. So it is still above pre-COVID levels, but definitely trending downward over the last few quarters. So I would say we continue to take a prudently conservative approach to our reserves. There's still a number of uncertainties that remain in the environment, but we're adapting those expectations on a quarterly basis.

Understood. Moving to capital returns. You have, in the past, expressed preference for dividends over buybacks. Can you remind investors what the rationale is there, and where that stands today, and how might that evolve going forward?

Sure. So let me just kind of remind everyone our capital return strategy is -- our capital allocation strategy is, first, we're going to fund loans and, over time, cards and other lending products that meet our return thresholds of 20% ROE. And so that will be the first use of capital. Second is, we're going to invest in the long-term franchise. So we're going to invest in technology, digital and analytics. And we will selectively and opportunistically look at M&A like we acquired Trim and other companies. Finally, any access we're going to return to shareholders. So we started the capital return strategy in 2019. Until 2019, we basically paid down debt. And we're now, we think, in a very good leverage ratio for us. We started with a $1 regular dividend, which we have grown to $2.80 over just a 2-year period. We didn't do buybacks at the time because -- and our stated reason, and we debated this heavily at the board is, one, we wanted to bring income investors and value investors into the stock. And we want to attract kind of the new group of long-term shareholders. And second, we didn't want to take liquidity out of the market because at the time, the Apollo, Varde Group had just bought 40% of the shares. We had another long-term shareholder with 10% of the shares. So only 50% of the shares were traded, and we didn't have a lot of liquidity. As you know, Apollo and Varde have now sold from about 40% down to 13%. Our liquidity or our daily average trading volume has about doubled since the beginning of the year. And so what we've done is we've moved now less into special dividends and more into our regular dividend. We initiated at the beginning of this year a modest buyback program with $150 million, which we've been executing programmatically. Opportunistically, we actually did $100 million purchase during a secondary offering that happened in August. And so our board is going to continue to have discussions about this. I think that we diversified our capital return strategy, and I think you'll see that continue. I think buybacks now will be a permanent part of our capital return strategy. With that said though, our investors have gotten accustomed to a robust yield. So I think we'll always have a robust yield and will be, over time, balancing how much is going to be buybacks, how much will be regular dividends and how much will be special. I think they'll all be part of the formula in the near to medium term, and we will have a discussion about it at every board meeting.

Great. Turning to D.C. There are obviously 2 large pieces of legislation working their way through Congress, both the stimulus and the budget. Is there anything in either of them that could impact OneMain?

I think they're big enough that they'll impact the economy. I think the government pumped $6 trillion of stimulus into the economy over the last 18 months, which was 2 big effects that the past emergency legislation had. One is it certainly helped the credit environment for us and every other lender and while big stimulus checks were going out at a decreased loan demand. We don't anticipate these 2 new bills. However, they end up making their way through having major impact and certainly not the kind of impact especially on loan demand that the original -- that the emergency measures had. Look, I think the infrastructure bill, largely putting more money into the economy with the goal of jobs with some kind of government funding behind it, will be net positive for credit. How much, I don't think -- we're not underwriting to it. And the $3.5 trillion reconciliation/budget bill, first of all, you follow the puts and takes in the House and the Senate, like I do. I think -- unclear exactly what will happen with it. I think the tax increases will affect all businesses, but for sure, they're not going to disproportionately affect us. I think modestly some of the things to support the especially kind of working class middle-income Americans like the child tax credit and making that more permanent will be modestly positive for credit, but we don't think those bills will have major impact on the business any more than they'll have an impact on all businesses based on kind of taxing and spending.

Got it. Turning to the balance sheet, Micah, can you talk about your balance sheet and liquidity profile and discuss your current access to funding markets, and how available funding levels compared to pre-COVID levels?

Yes, sure. I mean we've had a lot of success in the funding markets this year. During the second quarter, we issued an ABS bond at a yield of 1.56%, which was our lowest issuance ever. We also issued our first social bond, which we're really proud of, a 6-year issuance at about 3.5% in June. And then last month, we issued unsecured bond, about 7-year issuance at just under 4%. So really, really been happy with the outcomes of those transactions and the funding year. Relative to pre-COVID levels, I would call it around, for the unsecured piece, about 5% or so. We issued a 10-year back in May of '19. That's the last one really pre-COVID, which was at [ 5 3/8 ]. So definitely at rates that are good -- well, good portion below where we were pre-COVID levels. But I think some of that's also just continued improvement in our balance sheet, not just the economic environment. But we've also seen a strong interest this year as you know in our whole loan program, which is another committed source of funding. And I think for a good reason, we have a lot of confidence in our balance sheet. As we mentioned earlier, even in very challenged markets in the second quarter of 2020, we issued in both the ABS and the unsecured markets. We also successfully drew down half of our conduit lines, as Doug had mentioned earlier, which were paid down by the end of June that year and remain undrawn today. And so supported by those conduit lines and operational cash flow, we always maintain a 24-month minimum liquidity runway. And we are comfortably well beyond that today. Our balance sheet is, I think, stronger than ever. And just over the last month, we were pleased to see Moody's recognize that and upgraded us to BB flat.

Yes. That's great context. Just a follow-up question on that. I mean, the last several quarters, you've operated kind of below the midpoint of your target leverage range. Despite this, both the breadth and cost of access during a very challenging time, does that give you any comfort that it may be migrating at least up towards the higher end of that range? Maybe carrying a little more leverage and reducing some of the capital or returning a little bit more capital to shareholders?

I mean I think we operate within the range. And that's always the way we've kind of framed it. And even before CECL, we were in the 5 to 7x pre-CECL context, now the 4 to 6x incorporating the impacts from CECL. I think trying to put a spot point target on where we're going to be in that range is sort of difficult. We're very fortunate to create a lot of capital, and then we have a strong capital return program. So I think the best way to think about this is we're going to continue to operate in that range. We're going to move up and down, certainly depending on the environment, but also depending on the quarter in which we are evaluating these enhanced or special dividends once in the first and third quarter.

Okay. Great. Yes, I meant to say you've been below the midpoint of the range, it's pretty conservative. But moving on to the next question. Have you seen any impact on loan demand or consumer payment behavior from the expanded child tax credit?

Nothing to speak of. Remember that base of child tax credit, it's much, much smaller than those who received stimulus and the absolute dollars being dispensed are also a lot lower. So certainly, I'm sure the child tax credit will be helpful for our consumers. We don't expect there to be a meaningful impact on our business.

Okay. That's helpful. We were in a period last year where lenders were bracing for higher loss expectations. So a period now where losses are sub normalized across the board, how should investors think about loan pricing and returns going forward?

Yes. Certainly, our recent earnings are supported by the lower-than-expected losses that we are seeing this year. We've reduced our expectations for full year losses a couple of times this year because of the impact of stimulus and the unknowns there. But again, we do expect that to normalize over time. As you know, we underwrite to a targeted risk-adjusted return, not specifically a loss level. So we are looking for a minimum hurdle of 20% ROTCE at the loan level. We -- I think we -- you should expect us to continue to pursue that strategy of booking every loan that meets those risk-adjusted return targets. And that's going to include all the pricing dynamics and losses that we expect at a given time. Those are key, obviously, key components of those returns.

Okay. Great. And then one last question for Doug. Can you talk about your Trim acquisition and the strategic rationale there?

Yes. Look, back to our strategy, which is to meet current needs when customers need access to credit, but also help them move to a better financial future. Trim fits squarely there. Trim is a fintech company that allows people to sign up digitally, negotiate bills like an Internet service, phone service, TV service, negotiate bills lower. On average, a customer saves just under $100 in those negotiations. But then people can also sign up for subscription monitoring that will look at subscriptions that customers have every month and give suggestions to saving money on your budget. So an example is, it might pop up on your app and say, "Hey, you've got Hulu, Netflix and Disney+. Did you know Disney+ just added these kinds of features? Would you like to cancel one of them and save money on bills?" And so Trim increases digital engagement. They got a great digital engineering and product team that we now brought into the fold. Second is it helps our customers, both the customers Trim already had as well as we'll make it available to all of our customers, save money on bills. So you get a loan or a card with us, and you can actually save money on bills. And then as we do subscription monitoring, we also get access to proprietary data. So we'll see flows of subscriptions. We'll see how people are spending. We'll incorporate that into on our credit model. So Trim is a great example strategically of our vision: deeper customer relationships, more engagement, digital engagement, which adds to our in-person engagement and proprietary data all which makes it more likely that a customer will do more business with us. And so that's the Trim acquisition. We're integrating it now. By the end of the year, our goal is to start offering it to all of our customers, and it gives us a whole new set of capabilities, but it also kind of helps put another product in our suite helping our customers improve their finances.

Okay, great. Well, we are out of time, but I'd like to thank you both for all of your time and insights. We really appreciate it.

Thanks, Mark. Thanks for having us here.

Appreciate it.

Thanks.