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

All right. Good morning. Thank you for joining, everyone. My name is Terry Ma. I cover consumer finance at Barclays. I'm very pleased to have on stage Douglas Shulman, CEO of OneMain Financial. So welcome, Doug.

Thanks. Thanks for having me here.

Yes. So we'll jump right into it. I wanted to start with the economic environment and the health of the consumer, specifically OneMain's focus on nonprime consumer. How would you characterize the healthier borrower base?

Yes. No. Let me give my standard caveat, which is that we lend to individuals, right? Not to the broad consumer. And we're seeing plenty of individuals who can pay their loan back with us. And we kind of look at income, we look at expenses, we look by geography, we look by employment type. We have over 1,000 variables we look at. And so I'll give some -- I'll give you a sense of my view of the consumer, but the consumers we're booking today are in good shape. I think the consumer in general is fine, meaning the nonprime consumer. Our average customer makes about $70,000 a year. So if you look at people who make, call it, $40,000 to $150,000. Employment is good. And so even though you see everyone gets excited when they see an employment number tick up, 4.2% is very good employment and most people who want to get jobs can get jobs. Wages continue to move up at least as much as inflation. If you look at the cumulative effect of the big inflation in '21 and '22, it took a while for wages to catch up, but they're now caught up. And inflation seems under -- [ I was about to say ], you either should stay or go. I'll keep going. And tell me if we need to leave.

No, we're good.

I think -- so inflation, wages are keeping up with inflation. Obviously, everyone has an eye on that. Our internal data, we do a regular branch survey of our 1,400 branches. It's qualitative, but our branch managers and branch team members, it's been -- their report back in the conversations with customers is steady for the last 18 months. The customers are feeling actually a little bit better for the last 9 months. We also offer unemployment insurance, and we have not seen claims tick up. And so there's clearly still some uncertainty, mostly tariff-based uncertainty in the economy, but we're not seeing it show up in our book, and we like our credit results. And so I think all in all, I'd say the nonprime consumer is fine, not struggling, but it's not like they're doing way better than they were 18 months ago. I think it's been steady.

Okay. Got it. That's helpful color. Is there any additional color you can give on kind of what you're seeing in borrowers with student loans since Fed collection started in May? And how are you kind of managing that risk?

Yes. Look, we've been super focused on this. October 2023 is when the federal government ended deferments broadly, and then there were a bunch of exceptions. And so we've been super focused on this and just watching our book. We've seen no significant difference throughout the course of our underwriting since we've been focused. We didn't see it then. We haven't seen it since May. Keep in mind, even when student loans got deferred at the beginning of the pandemic, we assumed people had to pay. So the way we underwrite is you make a certain amount of money, you look at everybody's debt, you look at their income and what's left over the net disposable income, that's what we loan against. So can you afford to pay back this loan? Even when people didn't need to pay the student loan, say it was $200 a month, we assume they had to pay it to get to net disposable income. The other thing is we have the credit bureau data of our customers. And a lot of them even through deferments have been paying. So even though they didn't have to pay, they had been paying. So we're seeing no significant impact at this point.

Great. Maybe we'll turn to credit. We're halfway through the year, at least from a reported basis. you've revised your net charge-off guidance to the lower half of the initial guide. Credit metrics continue to trend in the right direction. And now 90% of your portfolio was originated post August 2022, tightening. What can you tell us about the trajectory of credit going forward?

Yes. Look, we're really pleased with the trajectory of our credit. And as you mentioned, we lowered our loss guidance to the lower half of the original range that we put out in February of this year. I'll finish in a second. I'm sure your conference planners are thrilled with these announcements during the presentation.

That's great. broken water pipe triggering fire alarms.

There we are. Do you have a question about the pipe?

No, I don't.

Okay. So look, we like the trajectory of our credit. We updated our guidance, which -- and have narrowed it to the lower half of the range. All of the metrics for us with credit are moving in the right direction. So 30+ delinquency, which is the early delinquency is down 29 basis points year-on-year. Our overall losses are down 88 basis points year-over-year. And our consumer loan losses, which is the biggest part of our portfolio, is down. The losses last quarter were down 110 basis points year-over-year. And so early-stage delinquencies, later-stage roll rates, recoveries, all those metrics have been moving down nicely. And so, a, we're confident in our full year guidance. And assuming that the macro is stable, it doesn't have to get a lot better as long as it doesn't have a big deterioration, our losses should continue to move down.

That's great. Sounds very encouraging. So if we think about the target underwriting loss range of 6% to 7%, how much confidence do you have in kind of migrating back there over time?

We're quite confident. I will say though, we underwrite to risk-adjusted returns. So losses are only one metric. They're obviously an important metric, and they're a big piece of our P&L. And given the stress in the nonprime consumer in '21 and '22, we understand the focus. But we will book loans that have a 20% ROE. So if we can take price that has higher loss, we'll book those loans. With that said, the focus is on our consumer loan portfolio getting to 6% to 7%. That's what we've talked about as a to long-range target. The loans that we've been booking recently in the front book are going to run at those numbers. And so they're there. You mentioned only 10% of our book now is loans we booked before the middle of 2022, but they still account for 24% of our delinquencies. So as we move through and that disappears for consumer loan, we're moving and we're confident we'll be in that range.

Got it. Maybe we just touch on underwriting. Over 60% of your originations are in the top 2 risk grades. Any color on how those 2 risk grades have been performing? And then what do you need to see more broadly to maybe unwind some of those credit actions?

Yes. The -- we've -- we know how to construct the book that creates really good capital generation and therefore, really good returns to shareholders. So what we've been doing since 2022 since the nonprime consumer and credit had gotten a little worse is booking better customers that have lower losses. We've been able to take price. And so we've had a nice upward trajectory in our earnings. Really this year, it's been moving in the right direction. Those -- that better credit is performing in line with our expectations, as I just a minute ago, those are going to be in the 6% to 7% loss range. I think more broadly, what would it take for us to relax our underwriting standards a little bit. Since 2022, we've put a 30% stress buffer on our underwriting. And the way to think about that is we underwrite a loan to 20% return on equity. The way we get to that is what's the price, what's the size of the loan, what's our loss expectation? What's the cost of debt that we have to put against that and what's our operating expense. We put about 15% equity into every loan we make. And so that's how we're underwriting. We're not underwriting necessarily to losses. But in order to have some cushion because there's been some uncertainty in the environment, we said our models will say, let's say, this certain loan is going to have a 6% loss. We'll assume 30% more than that in our models, and we still have to hit our 20% return threshold. And so we just left that on, given that there's been a lot of just between inflation and Fed actions, tariffs, the last several years have had a lot of just noise. For us to relax that 30%, the main thing we need to see is significant improvement of the customers that are on our book. So they're performing in line with expectations. Our models are working very well, but it hasn't been wildly better than that. We also run what we call weather vane testing. So we're always running a thin sliver of loans below the 20% ROE. When those all start or for a segment start ticking over, and those have been running 15% to 20%. When they start running 20% to 25% on a consistent basis, we'll say, okay, we can relax that threshold maybe to 20% stress or to 10% stress. What's really important, though, is we don't run -- I mean, we manage a nationwide portfolio of risk but we don't run one credit box. So we'll see secured loans in a certain number of states with a certain risk-grade customer, that weather vane is running 25%, and we'll make an adjustment there. But you should expect when we tighten, we tighten in a very granular way with thousands of variables, and we do it by deciles across a whole number of metrics. When we loosen, we'll do it the same way.

Got it. That's helpful. Maybe we'll switch gears. So your branch network doesn't get a lot of attention. You have the seventh largest branch network in the nation. I don't think many people know that. Can you maybe just talk about how that fits with OneMain's strategy and how much of a competitive advantage that is?

Yes. Look, we think it's a super important competitive advantage. It's our history as branch-based lending. The last several years, we've added really good digital capabilities to that. And we've added some new products that rely less on the branch like auto lending and credit card. But the vast majority of our business that drives the vast majority of our profits is the branch network. As you mentioned, if we were a bank, we'd have the seventh largest branch network in the country. We have just under 1,400 branches. The way to think about our branch is an entrepreneurial cell and a group of people that runs as a small business and also knows -- is in the community and knows people in the community. So our average branch manager has a 14-year tenure with the company. So they've been there. They've seen cycles. If you walk into one of our branches, they talk about their team and training their team and lifting up their team. And then the branches are incentivized not just on loan production, but they're incentivized on both loan production and their credit performance. And so they're incented to get people in a loan they can afford in the right loan. So if you walk into one of our branches, someone says their hot water heater broke, and they need $8,000. And we'll say, okay, we can give you an unsecured loan for $8,000. And by the way, all the underwriting that branch does not have discretion around the credit box says, can you loan to this customer or can't you loan to this customer? What kind of loan can you give? What's the rate? And so the analytics and the sophisticated data science is feeding what happens in the branch. But you might walk in and say, okay, I can give you an unsecured loan at 22% or I see you've got an automobile, we can give you a $14,000 loan. We can pay off the $6,000 you own on your auto. We'll take the collateral and we can give it to you for 17.5% and they'll work through, they understand the differences there. And so it's a consultative approach. In the branch, we also do the budget. I see you have this, what other expenses do you have? And then you're making a call and you say, "Hey, if you get in trouble, [ Terence ], give me a buzz, we can help work out a payment plan for a couple of months. When the phone call comes in, it's from your local area code, not from an 888 number. And so our right party contacts are higher when it comes to collection calls. And so we think the branches are really important. We've spent a lot of time working on the culture and the personalized service. The other thing I'd mention because people are always -- in banks, everyone is focused on shrinking branches efficiency. These are mostly in an office building in the suburb or a strip mall. So they're not wildly expensive. And the real estate isn't a lot more than a call center, and you need people in call centers if you're a digital lender. And so we love our branches, our team members, it's inspiring to see them. The customers love the branches, and we think it's part of why our credit is better than anybody, FICO for FICO, and it's just part of the secret sauce of how we run the business.

Great. We turn to strategic initiatives, OneMain applied for a bank charter earlier this year. Can you talk about the rationale for the bank charter and just give us an update on how that application process is going? And then is there a time line we can expect?

Yes. So we applied with the FDIC and the Utah Department of Financial Institutions for an ILC, an industrial loan company charter. It's a specific charter that allows you to do business nationwide as a bank. It allows you to gather deposits and they're FDIC insured, but it doesn't subject us to becoming a bank holding company, which has all sorts of implications about capital, capital allocation, et cetera. So we could -- if we get this bank, we'll be able to have all the benefits of a bank without changing our core business or our capital allocation strategy. The benefits are we could have a nationwide rate structure, and we could have a nationwide operation rather than operating in 47 different states with different state regulations, which adds a lot of complexity. For our credit card, we could become our own credit card issuer rather than have a third-party partner. And deposits just allows us to diversify our funding. And so the way I've described this is it would be accretive. It would add to our bottom line. It would long term, be good for us. If you have access to deposits, we could potentially even have a ladder where you lend over time as people become better credit, you could still lend to them because you'd have a different funding cost for those people. We really don't need it like if we don't get it, we're very confident in all the guidance we've put out about the company in driving capital generation up year-over-year. But if we got it, it would be a benefit. I don't like to speculate on timing of applications into the government. What I would say is I think we are very well qualified. The activities we would do in a bank are activities we've done for decades, which is lending and balance sheet management. We're not doing anything fancy in a bank that we're doing. And so we think we're very well qualified. We're in the midst of having very constructive conversations we'll see where it goes.

Sounds good. Switching gears again. On the second quarter earnings call, you talked about some additional initiatives to drive growth. One of them is an enhanced debt consolidation product. Can you just talk about how that product differs from what you offer already? And what are the early results that you've seen?

Yes. Look, for many years, debt consolidation was a significant portion of the loans we made because an installment loan is a single payment every month that amortizes down, you pay it off, you're out of debt. And so it's been very appealing to customers for a long time who have credit card debt and they felt they couldn't get out of that debt and they were always paying and it was perpetual. So it's -- the installment loan is actually a very good debt consolidation product. People came in, wanted to do debt consolidation. Our secured lending was -- we always -- branches would talk to them historically about, hey, I can pay off a bunch of your debt, secure your auto, pay off some credit cards, give you a bigger loan at a lower interest rate. And so that's always been part of it. We, a couple of years ago, looked at all the data that people's credit card debt was increasing. And so we put up in our priority queue of tech investments, product investments, marketing to just market this specifically as -- and so one is just marketing. We've changed some marketing that says debt consolidation, you can pay it off, you can get a single amortizing loan, you can get that. Second is in our tech [ queue ], we did some things that made it easier for our team members and for our customers just to automatically pay off credit cards. It was a clunkier process before, and we just put it up in our customer experience and ease of doing business flows. And lately, we've been doing some pricing around it and those kinds of things. So it's all about like tweaks to the product strategy, which we're on a track now to have a couple of million dollars more of originations. It could increase from there from debt consolidation.

Got it. You also rolled out new automation income verification and collateral checks on the tech side, and you also streamlined some processes around loan renewal. Can you maybe just talk about those efforts?

Yes. I mean, look, in the broad category of product, what I would say is running a great company is about 1,000 little things and continually looking for places to improve the customer experience, improve the product, improve the value proposition. And so let me talk about those and add just a couple just so people get a sense of how we operate. So we always did a big part, almost half of our lending was always secured lending. So we get the car as collateral. Again, we put up in the priority queue and now about 70% of customers who walk in the door, we already have their VIN number automated that if that employee, they can say, "Oh, I see you have a 2001 Tahoe and you have this much paid off -- to pay off on it, would you like to put that into your loan, get a lower rate". And then if they say, yes, bing, you hit it, it automates, it all goes through. And so that was automation, which helps drive secured lending, which is very profitable. We also now -- as income verification instead of having to get a pay stub, do fraud verification, et cetera, we've linked bank accounts to a big chunk our customers. Again, automated takes friction out of the process. When you're trying to get a loan, a lot of people drop out if they, I don't have my pay stub, I got to get my pay stub. They can't upload it into our system when they go home. We've got that automated. We did a -- for a small segment of our customers took some steps out of the process for renewal who are really good credit. We have access to their credit bureau. They've been paying everyone else. They've been doing business with us for a while and just streamline that. And then something we're quite excited about that I mentioned earlier, it's income-based lending. And so we now have a product where we offer you a loan, you don't qualify. We go back and say, if you're willing to have a piece of your paycheck, go to pay the loan, think about it as direct deposit from a bank, but instead, it's to the employer, and we've built technology with a partner that allows you to do that, then you'd qualify because we ran a test for several years, and we saw a lot better credit, just like direct deposit for all the banks has better credit on credit cards and those kinds of things. And so we've rolled that out. Again, it drives volume, reduces risk. And so again, like these are all product innovations. And next year, if I come back, we'll have 5 more. And this is continually grinding it, looking at opportunities, talking to our customers and creating opportunities to keep driving volume.

That's great. That's helpful. Maybe we'll just round out the strategic initiative discussion with Card and Auto. Those 2 are growing businesses. Can you just give a progress update and talk about how you see Card and Auto fitting within OneMain?

Yes. So look, how they fit with OneMain, we, in 2019, did a big strategic review and said, we're a dominant player in personal loans. We run a great business. We've got a nice trajectory of growth. But what else could we do with the franchise? And it's not just like what would be cool to do with the franchise and what do other people make money. It's where do we have a right to play where we have competitive advantage, where we could drive value for our shareholders. And coming out of that, auto and card of all the different products were the ones that we thought fit best with us. It's really important that we are not straying far from our expertise in our roots. And so we looked at all sorts of stuff, but we said we are going to stick with lending to the nonprime. And so our focus and our expertise is nonprime lending. And so the card fits with that, auto fits with that. We're also very disciplined operators. You can have lots of good ideas, but execution is 90% of the time. And so we've been pacing these. So 4 years ago, we started to launch card. We built the infrastructure. We launched it. Auto, about a year later, we started doing it with our team who already knew how to do secured. The rationale of both of these and how they fit in, a loan is a large episodic transaction for a large amount. And it happens every once in a while, you make the loan, they pay you down. A lot of your customers you're not talking to on a regular basis. They put it on direct deposit and they pay. You talk more to the customers who are having an issue with you when you make a loan. A card is actually a daily transactional product. that fits a different need. We launched our card and first, we launched it, we test marketing, we test line usage and most importantly, we tested credit and then the segments that worked, we moved into it. We're really pleased the usage. The 3 biggest uses are gas, groceries and retail, which are things that you don't use for a loan. The card, our lowest line is $500. So there's a bunch of customers. You can give a $500 line, especially one with a fee that you'll take that you're not going to give a $10,000 loan to. And so it's a pipeline for our customers. It's on the app. It's almost all digital and people are checking their line, checking their rewards, checking their spending. And so you get a lot of digital real estate. We just started the cross-sell, and it pops up for qualified customers. You're eligible for a $10,000 loan. So it's a very low-cost acquisition channel to us. And the returns are very similar to our loan returns, which are very good for financial services. Auto is a little different. We had a history with auto. We knew how to underwrite a car. We knew how to secure the collateral and file the title with DMVs in 47 states. We've been doing this for many years. We knew how to do collateral management if someone didn't pay picking up a car, selling it at auction. And so we had a bunch of core expertise. And we started with independent dealers directly. So we just plugged in the Dealertrack and RouteOne and some of the systems that dealers use to find loans and qualified buyers, they'd say, "Oh, you can get a OneMain loan". They'd have to get on the phone with us and apply to us in person, which is a little different than your typical car loan, your typical car loan, the dealer gets the terms from the lender, they make the loan and then 2 days later, you buy the paper from them. That worked really well, very profitable for us. We had built about an $800 million book, and we decided that we should get into the bigger market of indirect lending, which is the typical way it goes. We bought Foursight 18 months ago. It's been a great transaction. It was a tuck-in transaction. So now we can offer both kinds of loans. Auto is lower loss. So it's a little bit -- it gives us some lower volatility and a different lower risk-adjusted returns. The returns are slightly lower, but we like it as a use of capital. Both of them, we've been very measured in pacing it. We're going to stay measured, especially with the uncertainty of the economy. But we built both of those platforms. So if we decide to give them the green light for growth, they're ready.

Okay. Speaking of growth, ultimately, what should we expect in terms of growth from those 2?

Yes. Look, I think some of it, as I just mentioned, is macro dependent. I've said this a lot, but the way we run our business is we don't chase growth. Growth is an output. We have our credit box, our customer experience, our returns that we have to have, and we lend into that. Those are faster growing than our loan book. They're much bigger markets. We -- our card, we have about $750 million, and it's a $500 billion market. So there's plenty of room for growth. Auto, we have close to $2.5 billion of auto loans now, and it's a $600 billion, the nonprime market. And so we'll see what the pace is, but they definitely will be additive to our growth. What I like about them, and I talk about our company, there's very few financial service companies that have the kinds of profit margins we have and the opportunity for growth that we have.

Got it. We'll switch gears. What are you seeing in the environment with respect to competition? And are competitors acting rationally?

Yes. I mean, look, we -- it's a constructive competitive environment. The stat you gave that we're having nice loan growth and 60% of our loans are in our top 2 risk tiers, which are the more competitive risk tiers where they have a lot more loan offers. So we feel really well positioned. Right now, there's a lot of competitors. The market -- the kind of credit markets to lend to lenders kind of was very tight in '22, '23. It got better in '24, '25. It was never tight for us. We have a balance sheet that people know our credit history. We have unsecured debt. We have ABS. We have whole loan partners. So we were never tight, but competitors that have much more volatility in their losses, much less history and kind of depth of capital markets access didn't have capital a few years ago. Now there's plenty of capital for them. And so the competitive environment is, I'd say, it's constructive for us as evidenced by the loans we're booking, but there's plenty of competitors, and we're always watching our competitors. What I would say, even though you've seen a lot of originations this year from some of the smaller players, newer players, fintechs, it's still not as frothy as it was in 2022. And so I think a lot of the debt providers are a little more discerning. We also, from what we can tell, get really good terms and compared to our competitors. So it's -- there's always -- I think the competitive environment is going to come and go. We really like our positioning with loyal customers, world-class underwriting, all the things we've done for customer experience over time, our balance sheet. And so we feel good about the competitive environment.

Okay. So when you put everything together, you guys guided to $12.50 per share caption in the medium term at your Investor Day. Are you still tracking with that target?

Yes. Look, we're going to get to $12.50, and we like the trajectory we're on. This year, we had a significant year-over-year uptick in capital generation. Again, assuming the macro holds, there's a lot of tailwinds for us to keep moving up in capital generation in the years to come. The most significant is the credit that we talked about is we like where the credit is now, and that should keep -- the losses should keep moving down. If interest rates stabilize or even go down a little bit, it could be a little bit of tailwinds for us. And so we're confident we're moving towards that $12.50. All the pieces are in place for us to win in the market. Credit is looking really good. We've been doing a lot of product innovation. We've now added a couple of complementary products. Our balance sheet is as strong as it's ever been. And so we like where we are, and we stand by headed towards $12.50 a share of capital generation.

Okay. Great. We have 3 to 4 minutes left. I'll open it up to Q&A from the audience, if there is any. Okay. No questions. Maybe I'll have one more. Can you maybe just talk about capital allocation? You guys obviously have the dividend. How do you kind of think about that kind of going forward?

Yes. Look, we have -- our capital allocation strategy, and we're quite disciplined in it is, number one, we use our capital to invest back into the business to position us for medium- and long-term strength and competitive outperformance. And so we'll put capital against every loan, whether it's a personal loan, credit card, auto loan that gets us that 20% return because that kicks off more capital that creates more opportunities for that. We'll put in the tech and digital and people and infrastructure and all the things you need to do to make sure we're a great company. Then we've got a very healthy 7%-ish dividend, that's sacrosanct to us. That gives a nice just kind of guaranteed capital return to our shareholders every year. What remains is we look at it opportunistically. Lately, we've been using it for buybacks. If there's something strategic, we decide, we'll do. What I would say is we didn't have a lot of excess capital when we went into a more stressed nonprime consumer cycle in '22, '23, '24. We've had more capital recently, and we've been using it for buybacks. That will be a part of our strategy going forward. And all our modeling going out, I talked about where we're headed for profitability. We'll have more excess capital available for buybacks and other things.

Okay. Great. There's no more questions. Any more questions from the audience? So I think we'll wrap it up there.

Great. Thank you very much.

Thank you.