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

So welcome back, everyone, and we're very glad to be here with OneMain. OneMain is the largest nonprime installment lender in the United States, kind of omnichannel, able to originate both branch and online and has been expanding into auto as well. We've got Doug Shulman, the Chairman and CEO. And we've also got Jenny Osterhout, the CFO of the company with us.

So with that, we'll kind of jump right in. Doug, can you give us just a little bit of a backdrop, your current view on the health of the consumer. It's been an issue that I think has been really different than other past cycles and how you're looking at that underlying health of the consumer.

Yes. Hi Moshe, good to see you. The -- look, I talk about the state of the consumers. There's a whole set of cross currents, right? On the positive side, unemployment is low, meaning people have jobs. There's been good wage growth. And we just in the first half of this year for an average consumer who make $60,000 to $100,000, the cumulative wage growth has now reached and is equal to the cumulative inflation. And so we hit this inflection point for the first time since inflation really started to ramp up a couple of years ago. And inflation has slowed year-over-year. Those are all on the positive side. On the negative side are the obvious that the cumulative inflation, even though we're down to, what, 3%, some depends on the month, it's still been over 20% for the last couple of years, and it's not coming down. So prices are higher. And then interest rates, someone has a mortgage on a car loan, et cetera, I mean, interest rates have gone up. And so those are drags. I think on paper, the consumer is doing fine and doing even well. And so one data point is for our customers who we booked loans on the last quarter, their net disposable income, which is how we underwrite, we underwrite to wages, minus taxes, minus all their expenses. So how much cushion do they have to pay the loan is higher now any credit band than it was in 2019. And the math is pretty straightforward on that, which is wages have gone up around 25%. The cost of everyday goods have gone up somewhere in the 20% to 25%. But since wages are higher than the cost of goods, that number has gotten higher. The other number has gone up, but the gap is there. So on paper, they're doing well. But I think all consumers, you see in the polling, you see in the presidential election is people don't feel great. They feel stressed. The psychological toll of half dozen eggs cost $2.60 in a few years ago, and now it costs $5 or a dozen eggs. It's just people feel like things cost more and they're juggling. And so I think the consumer -- and then you talk -- you look at the data the banks have, they're seeing plenty of spending happening, et cetera. So the data would say the consumer is actually doing pretty well and is stable. I think emotionally, though, people are cautious.

And could you talk just for a moment about what OneMain has done from an origination, from a product standpoint, to kind of respond to that environment?

Yes. I mean, look, the last couple of years, we -- back in mid-2022 when we started seeing strain on our customer base and the customers we serve, we significantly tightened the credit box. And we've been tuning it some since then, but it's been net even further tightening. Now when you say tightening the credit box, it happens across hundreds of segments, different micro things. But some of the big things we've done is we've reduced loan size for certain segments, so that they had more affordable monthly payments. For people that were renewing and trying to like go from a smaller loan to a bigger loan, even if they qualify, that loan would be smaller. Some of -- about half of the tightening is increased pricing. And so we increased the price. It lowered demand some, but it was more -- it was more profitable. Some of the tightening was we used to say you could get an unsecured loan for 20% -- or I'm sorry, you could get an unsecured loan for 25%, you can get a loan secured with your auto for 21%, and you can get either depending on your choice. For a number of customers, we've taken away the unsecured loan choice because we know the credit when you have security is losses are lower. And then for some customers, we just said, okay, they don't meet our risk profile at all. We've been quite disciplined. I mean, at the margins, our loans need to make 20% return on equity. Back in 2022, what we said is we've got a set of models, we predict how those loans will pay to make sure that we will get our 20% return. We said we're going to assume 30% more, and we're going to add a stress factor, which is 30% higher losses than our models would tell us. And we're only going to make loans if they meet our hurdles with a 30% stress factor. We have not relaxed that stress factor yet. And so we've done it across credit cards, auto lending and installment lending. And then we've tweaked -- with credit cards, we move more people to the fee card, which covers high losses. So we've done a number of things. The net effect, as you mentioned, has been -- it's -- we've had less originations, but we're super confident and like the performance of the things -- of the loans we've been originating since 2022.

So maybe, Jenny, to kind of flesh that out a little bit, could you talk a little bit about how the seasoning of that your front book the loans originated since 2022 have performed and what that means for the credit losses going forward?

Yes. So if we look, our front book is now about 70% of our receivables and 50% of our delinquent receivables at the end of the first quarter. That's compared to a pre-COVID benchmark of 80% of receivables and 65% of delinquent receivables. So that matters because if you think about newer receivables, so think about receivables booked in the last 2 quarters, usually have about 1% delinquency rate, whereas those older receivables can carry about 4% plus. So you're naturally, you're putting pressure on your delinquency rate. And in the first quarter, this impacted our delinquency rate by about 20 basis points compared to prior year. And if I look forward that front book will probably be about 75% of our receivables midyear, and we would expect for that -- what we've been calling [ road map ] that 20 basis points to continue to be an impact. But as Doug said, we really like the positions that we have in terms of where our credit is. We really like our front book. It continues to perform in line with the performance that we expect and as we put more of that front book on, we expect performance to improve, but it's really about how much we put on, how the back book performs, what the competitor dynamics are in terms of when and how this all plays out.

Maybe just to take that one step further, you've got a long-term target, I think, it's still of a 6% to 7% loss. You talk about how that is over what kind of time frame do you think it will to get there in a stable economy?

Again, I think it will really depend on those factors that I just mentioned. I mean growth it's how much can you grow. It's how the credit environment is performing, which right now, we have a very tight credit box. And so the 2 are sort of playing against each other in terms of how quickly you can get to your 6% to 7% loss, right? So I think it's really -- I'd say it's in the next couple of years. But as -- the longer that this environment continues to stay out, the longer that it gets kicked out. But I think we're very committed to making sure we like what we put on our book. And so I feel like as long as we like our front book, and that's what makes us confident that eventually we will get there.

Maybe just talk, Jenny, if you talk just a little bit about the reserve level kind of as you think about that for 2024 and perhaps longer term.

Yes. I mean, so in the first quarter, we were at 11.6% in terms of our coverage ratio. We've said it before. We're very comfortable with that level of reserves. I think there are 2 things to mention. One, Foursight coming on. That, while it has lower loss content, it really has minimal impact to our overall reserve level because you were talking about a $1 billion book on an overall $22.5 billion book. So that shouldn't -- you should not expect for that to have large impact. And you should expect for our reserves this quarter to remain about 11.6%. And I would expect that for the coming quarters, unless there is a large change in either the performance that we're seeing or a large change in the macro environment. So at some point in the foreseeable future could our reserve rate come down? Yes. Will it come down to day 1 CECL levels? I would not expect for it to come all the way back down to day 1, CECL. And as we grow the card book, that will have some impact on our reserve rate. So you would expect for it to normalize below where we are today, but above day 1 CECL.

Got you. Doug, one of the -- one of the metrics or KPIs that you've kind of championed is the idea of capital generation. Can you talk a little bit about given what you're seeing in terms of growth right now, how you're thinking about that capital generation and the use of it in your businesses internally, capital return, you did actually increased the dividend in the first quarter, but kind of talk about that -- all of that in this current environment.

Yes. Look, we manage -- I mean, I think of it as cash on cash because reserves, we put it on, we put on a reserve, it comes out at the end. I think of that as a metric that is kind of interesting around EPS, but we manage to capital generation. We look at the company, capital generation per share. That is the metric that internally in our board uses, which is really how much money are we actually making when we strip it all out. We're obviously, given the credit environment, generating less capital now than we did before, but we actually still generate a lot of capital. I mean, we're a very profitable company. We then use it to invest in what we think is the highest return, best use of capital rewarding our shareholders. So I'll give you the framework. I mean it's not wildly different in this environment than it's going to be in any environment, which is our top priority is running a great company that outperforms and give the shareholders a really good return over the medium and long run. And that means investing in products that are going to position us well competitively, investing in customer experience so that we achieve our goal of being the lender of choice to the nonprime consumer, and they trust us and they keep coming back to us. And really providing great value to customers. To get there, we invest in our products, we invest in our employees and just having the best executive team, world-class middle management, world-class frontline employees. We invest in technology, we invest in digital, we invest a lot in analytics and our data science team. That's always going to be our top priority. Now when you're making less money, we're also disciplined operators, and we don't just overspend, but we spend on that. We spend money on every loan that meets our return threshold. Right now, we're making less loans than we would in a more benign credit environment. And so we don't need as much capital for growth. Our dividend, we're committed to having a very healthy yield for our dividend, and we view it as sacrosanct. It's a guaranteed number our investors are going to get. They can deploy that capital, how they want it, puts a floor on their return to an extent. And then we have buybacks is the last lever that we'll pull, and we'll pull it depending on the amount of excess capital after we're investing in the business and loans and the dividend, what's left over generally is where we look to use buybacks. There's less excess capital right now. And so we're doing less buybacks as the excess capital grows I'd assume -- I would assume, depending on the overall market environment, but that's how we think about deployment of capital.

Jenny, one of the hallmarks for 1 million has been a very well-developed funding base. Could you talk a little bit about what you're doing? I know that you did a transaction just a couple of weeks ago. Just talk a little bit about that and the impact on interest expense near and intermediate term?

Yes. So just if I step -- we've been very busy. But if I step away back, we ended the fourth quarter, and we came into the year in great shape from a liquidity perspective. Just -- so we issued $2.5 billion in debt in the second half of last year, and we redeemed our March '24 outstanding unsecured debt at the beginning of the year. And so then this quarter, if you look at -- in April, we issued a revolving ABS of $1.1 billion that was 7 years. And then in May, we did a 7-year, $750 million unsecured bond that allows us to then fully redeem our March 2025 unsecured maturity. So we've really extended our laddered maturities, and we now have no unsecured maturities until March 2026. So one way to think about this is that we've raised about half of the funding that we need through Q1 of 2025, which really gives us a lot of spots to pick -- to be flexible and pick what we want to issue for the remainder of the year. In terms of interest expense, obviously, after this considerable funding activity, we've had a lot of cash on hand until we redeem this bond, we'll redeem it next week. And so I could see Q2 interest expense being impacted slightly, but we still expect to end the year at 5.2% and remember, we're making over 5.3% on that cash. So we believe it's a decent economic trade for us to have sort of the safety and the flexibility in our funding strategy. Our funding strategy is all about this approach of cushioning. Cushioning the -- using our flexibility to cushion the impact of rising rates on our interest expense.

Got it. Doug, you alluded to the expansion into the auto business. Could you talk a little bit more about the purchase of Foursight? What that brings to OneMain and your vision for that business over the next kind of 3 to 5 years?

Yes. Look, we -- let me step away back. So first of all, in the nonprime space, which we define as FICO scores, even though we don't underwrite to FICO, of 550 to 700. The personal loan market, which is where we've traditionally been, is about $100 billion total market in nonprime. The auto lending market is about $600 billion. So one, it is a very big market that has a vector for growth. Two is we -- any time we start investing in an adjacent business, a business that's been smaller for a while, and we decided we want to expand into it, we ask ourselves what's our right to play because we're not just going to go invest in any business. We can take shareholder capital and make an equity investment in the business if we don't have any special competitive advantage. We've been doing auto for a long time. So we have a lot of auto DNA. We've been doing it through our personal loan business, people apply for a personal loan, and we basically refi their auto. But that's half of our personal loan portfolio is secured with an auto. So we know how to price collateral, put a lien on collateral in all the states that we operate, do all the servicing of collateral, do collateral management and repossess cars, if needed. And we have -- we've recruited teams from the auto business. And so we, a couple of years ago, started this our own direct auto business with that team leveraging the infrastructure. And we built that to about a $900 billion portfolio. We've been very focused on independent mom-and-pop auto dealers because we haven't broken into franchise, which takes a different skill set. We deliberately went out and said we think we could grow this from $900 million if we did an acquisition, so we now have a couple of billion dollars on, I think, over 3 to 5 years, we're in no rush. I've been very clear, growth is an outcome. But I could see this being a $5 billion in the longer-term $10 billion portfolio would be not a lot of -- $6 billion would be 1% market share. We have 20% market share in personal lending. We think this is a nice addition, auto to our portfolio of products for a couple of reasons. One, it's a new distribution channel. It's someone walks into an auto dealer to get a loan from us as opposed to us doing our direct marketing that we usually do. We also like the risk-adjusted returns, auto in and of itself, but then as part of our broader portfolio. For our broader portfolio, it's going to be a lower yielding. So it will have lower APRs and yields, but it also will have lower loss content. We'll have lower OpEx overall because we're not doing all of the work and we can leverage the synergies. And it's a very deep capital market. And so over time, we should be able with our strengths of our funding program, the auto should be a lower cost of capital in general than our other products. So that means like company-wide, there's great cost synergies, but it also reduces the company's volatility loss broadly because it's a lower loss content. And so it's a big market where we already have expertise, can use our shared cost base. And so we like it in the portfolio. Foursight. Specifically, the reason we like Foursight, we looked at some $1 billion price tickets, $0.5 billion price tickets and Foursight was just over $100 million. So one is very digestible. Of the teams we've seen out there that we looked at, it had the most cultural fit, which is really rigorous about data, runs a clean operation, ethically does the right things, great disclosure, no funny games with compliance, like takes very seriously the customer dedication to the customer. The CEO Foursight, Mark Miller, is going to run our overall auto business. So we got a great auto leader. It had really good technology that we think we can scale and use as we grow. We looked at some other technology just that wasn't scalable, kind of we didn't like the architecture of. We get a franchise dealer network, so -- and a franchise dealer sales team who knows how to engage franchise dealers. We get auto models that are 11 years old. So auto models and data, we got longer tested model. So we think it really complements us and it gives us a really built-for-purpose auto platform that we can scale. But again, I view this as platform can scale when we think the time is right. I think right now in this credit environment, we're being quite cautious. So we're not in a rush, but I think over the long run, it will be a nice addition to our risk-adjusted return profile. It will be a nice growth vector, and I think it can be a very substantial business for us.

Okay. Probably should have mentioned this before, but if there are any questions from the audience, e-mail me, mosche.orenbuch@tdsecurities, or I think there's a link that should be on your screens that would probably be easier. And Jenny, one of the things that Doug had mentioned a few moments ago was investing but also kind of keeping in mind the current economic environment. Just talk a little bit about that OneMain's ability to achieve kind of positive operating leverage, operating efficiency. It's been a hallmark of the company for quite some time, and how you're seeing that in the current environment?

Yes. So our operating ratio, which is expense over average managed receivables is, we've said it will be about 6.7% for the full year. And if you think about that, that comes from 7% for the full year last year and 7.5% in full year 2019. So really, we've been very focused on this. And I think a lot of that comes from 2 things. One, both good discipline in terms of how we manage expenses in any environment. We really focus on where do we need this then? So we focused on where can we find efficiencies either from our digital capabilities or where can we find those efficiencies? And then where do we need to then reinvest, whether it's in new products or it's in new capabilities, analytics. And then the second piece is, obviously, it really reflects this great operating leverage that's inherent in our business that allows us to grow the customer base with minimal impact to our fixed cost base. And our marginal -- you can see this because our marginal operating leverage is about 3% as compared to that overall operating leverage of 6.7%. And if I look forward, as we looked at these new products, we would expect us to continue. Both our new products will have operating ratios, equal to or lower than our overall OpEx now. We're really looking at how can we continue to drive that operating leverage in the business. But again, invest where you need to invest.

We only have a couple of minutes left. But Doug, you did talk about the auto business. The other kind of significant area of expansion, perhaps a little more slowly is credit card. Talk about how you're kind of seeing that in the current kind of environment where credit has been a little challenged. You've got this whole late fee thing, which, by the way, could have some positive implications for the core business, but talk about how you're managing the card business in today's environment.

Yes. I mean, look, we've -- our card business is small, under 400 million of receivables, and it's new. So -- and about 3 years ago, as we -- a little over 3 years ago is when we launched it. And so we are doing what we said we were going to do, which is we were going to be cautious, we were going to be very deliberate. So we went out and booked a bunch of accounts. They were on purpose test accounts, testing value proposition, marketing, lines, different credit segments, different fee structures. We did that for over a year just to get all reads on credit, uptake, line usage, et cetera. We then started when I was pretty small scaling of really profitable segments. Midway through that, we like -- our credit results were pretty good. But we started seeing in the industry data some real strain coming. And so we decided qualitatively just because we're taking a cautious, measured approach is to put the 30% strain on our cards to move a lot of people from our no fee higher line cards, which could be 1,500 to 2,000, to fee cards, which -- annual fee cards, which have $500 to $700 lines to start with. So it's lower risk, more loss coverage with an annual fee, so you can afford in a return profile to make that happen. That obviously slowed down growth, not necessarily in the absolute number of cards, but in the volume of exposure we have because it was lower lines. And now we are keeping the same discipline I talked about in our loan book, which is what we're seeing and the data we have on the segments we're underwriting, we have models. We're assuming that -- what we're saying is we're not assuming it's going to get worse, but even if losses are 30% higher than our models would tell us, we're still going to make our 20% ROE. What that's done is just like it slowed down our loan growth, it slowed down our card book on purpose. And so that -- and we're managing it. And so now the main lever we're managing is credit, but we're also like working on unit cost, marketing, product, servicing. We got a dedicated bank line around cards that we're using for backup liquidity just like we do. And so we're building out all the infrastructure. So when we feel confident to scale, we're going to be ready to scale. So we're managing it in the environment. We're really managing auto card loans very similarly, which is start with the box, and we're only going to book customers that we think can repay us within our margin of error that gets us our returns. And that will be what it is because we're never going to chase growth. And then from there, run a great product, get great customer experience, get operating leverage, be the best in the market, so customers are going to want to come to us. And so that's -- we're really pretty consistent around that.

Great. We're getting messages that were past in time. I've got other questions. But I think we'll have to leave it there to just keep us on track, but I do want to thank you, both Doug and Jenny for being with us today and for helping make our conference what it is. So thanks so much.

Thanks so much for having us. It's good to see you, Moshe.

Good to see you too.