Regional Management Corp (RM) 2016 Q4 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Regional Management Q4 2016 earnings conference call.

(Operator Instructions)

As a reminder, this conference call is being recorded. I would now like to turn the conference over to Garrett Edson, Senior Vice President, ICR, you may begin.

Thank you, Ashley, and good afternoon.

By now, everyone should have access to our earnings announcement and slide presentation which was released prior to this call, and which may also be found on our website at regionalmanagement.com.

Before we begin our formal remarks, I need to remind everyone that part of our discussion today, may include forward-looking statements, which are based on the expectations, estimates and projections of management as of today. The forward-looking statements in our discussion are subject to various assumptions, risks, uncertainties and other factors that are difficult to predict, and which could cause actual results to differ materially from those expressed or implied in the forward-looking statements. These statements are not guarantees of future performance, and therefore, undue reliance should not be placed upon them.

We refer all of you to our recent filings with the SEC for a more detailed discussion of the risks and uncertainties that could impact the future operating results and financial condition of Regional Management Corporation. We disclaim any intentions or obligations to update or revise any forward-looking statements except to the extent required by applicable law.

Also, our discussion today may include references to certain non-GAAP measures. Reconciliation of these measures to the most comparable GAAP measure can be found within our earnings announcement and presentation deck posted on our website at regionalmanagement.com. I would now like to introduce Peter Knitzer, CEO of Regional Management.

Thanks, Garrett, and welcome to our fourth-quarter 2016 earnings call. As always, thanks to everyone for participating this afternoon and for your continued interest in our Company.

I'm here with our CFO, Don Thomas, who will speak later on the call. I'm also here with some members from our Financial Team. For those of you with access to a computer or mobile device, we have once again posted a supplemental presentation on our website at regionalmanagement.com to provide additional color to our remarks.

Regional's business model continues to be focused on volume-driven revenue growth coupled with properly managing credit risk and expenses. We believe our business model is well positioned to create long-term shareholder value and we continue to work diligently toward that goal.

The fourth quarter of 2016 was marked by continued strong finance receivable growth. As you can see on slide 3, we hit a record $718 million in total finance receivables at the end of the year. Our focus on our core small and large portfolio continues to pay dividends and drive growth for the Company.

For the fourth quarter, we recorded GAAP net income of $6.5 million, down from $7.4 million in the prior-year period. As you may recall, in last year's fourth quarter, we recorded a $1.2 million after-tax gain on the bulk sale of our charged-off loan. Excluding that bulk sale, and $100,000 after-tax expense for our loan system conversion costs in both 4Q 2015 and 4Q 2016, net income on a non-GAAP basis for the fourth quarter of 2016 was $6.6 million, up 5% from $6.3 million in the prior-year period.

Diluted EPS was $0.55 versus $0.56 in the prior-year period, and on a non-GAAP basis, diluted EPS was $0.56 versus $0.48 in the fourth quarter of 2015.

It was another strong quarter of top-line performance. We grew revenue 13% and increased interest and fee income 16%, both driven by strong increase in average net receivables in our core portfolio. We did see a noticeable increase in our provision and our late-stage delinquencies remained elevated.

Don will discuss these items in detail shortly. Importantly, we kept operating expenses stable while growing the portfolio.

On slide 4, the $6.5 million of net income this quarter is in line with our seasonally driven bottom-line pattern. The top graph on the slide tracks our ending net receivables into the seventh consecutive quarter, they increased double digits from prior-year periods, 14% to a record $718 million. As a reminder, our business is seasonal in nature and we do expect that the size of our portfolio will contract, as it always does, in the first quarter as customers pay down their outstanding loans utilizing tax refunds and/or bonuses.

Turning to slide 5, we break down our revenue into its main components. The 13% year-on-year revenue growth was driven by a 15% increase in our average net receivables as shown on the top and bottom right-hand charts.

From a yields perspective, the bottom left-hand graph shows an 80 point sequential decline. If you look to the following slide, you will see that interest and fee yield income has remained relatively flat with only a 20 basis point yield decline. So the majority of the sequential yield decline, a full 60 basis points, was attributable to insurance income, which was down $1.3 million on a higher claims expense, in part, due to the effects of Hurricane Matthew.

On slide 7, you can see our product category trend. As I previously mentioned, at the end of 2016 our total portfolio was at $718 million, $89 million greater than the prior year. Our core loan products were up $109 million, led by our large loan category, which now stands at $235 million or 33% of our total portfolio.

Meanwhile, our small loan category soared $20 million or 6% increase from prior-year period, and was up 3% from the end of the third quarter. Our other loan categories were down $6 million sequentially and $20 million from prior year, primarily due to our automobile loans category.

As we discussed on our last call, we had expected a modest sequential decline in the fourth quarter for our auto portfolio. While the restructuring of the auto business is largely complete, for 2017, we expect to continue to focus our growth efforts on our core portfolio, while our auto business will remain a complementary product to meet our customers' needs.

I would now turn it over to Don to go through the next few slides.

Thanks, Peter, and hello to everyone on the call.

I'm picking up on slide 8 with the provision for credit losses. Our provision for credit losses of $19.4 million in the fourth quarter was up $6 million from the prior-year period and up $3 million on a sequential basis. At the top of the slide is an eight-quarter trend of our provision for credit losses depicted by the blue line, and the same eight-quarter trend of our net credit losses depicted by the green bars.

$11.8 million of fourth-quarter 2015 net credit losses include a $2 million pre-tax gain on a bulk sale all of charged-off loans. Excluding the gain on the bulk sale, net credit losses for that period were $13.8 million. And as a matter of convenience, I'm excluding that gain from the applicable amounts I refer to in the rest of the discussion of the slides.

As you can see from the graph, the largest part of our provision expense is net credit losses. On last quarter's call, we said we expected our 4Q 2016 provision would move up as dollars in late-stage delinquencies at the end of 3Q 2016 were higher than prior quarters.

Net credit losses in 4Q 2016 were higher at $17.3 million, which is up $3.8 million sequentially, and up $3.5 million over 4Q 2015. Our net credit losses pushed up our annualized net credit loss rate as a percentage of average net receivables to 9.8% in 4Q 2016, which is up 80 basis points year over year. The rest of the provision for credit losses comes from the change in the allowance for credit losses.

In 4Q 2015, we released $0.3 million of allowance versus needing to build allowance of $2.2 million in 4Q 2016. Building allowance versus releasing allowance resulted in a $2.5 million increase in the provision for credit losses in the 2016 quarter versus the prior-year period. The 2016 build of allowance is due to the combination of growth in our portfolio and the elevated late-stage delinquency.

As a percentage of ending finance receivables the 4Q 2016 allowance was 5.7% versus 6% for 4Q 2015, due primarily to large loans becoming a significantly greater portion of our overall mix.

Turning now to slide 9, we show our seasonal pattern of delinquency with 1Q being the lowest quarter, and 4Q typically the highest quarter. Our total delinquency of accounts one or more days past due as of 12/31/2016 was 18.1%, which is the fourth consecutive quarter that this measure has been below 19%. Our 30-plus day delinquency levels stood at 7.4%, an increase from 7.2% in the fourth quarter of 2015 and up from 7.1% at the end of the third quarter of 2016, which is consistent with our normal seasonal pattern.

While our early-stage delinquency was in line with expectations, you can see that our later-stage delinquency buckets were elevated and they were slightly higher than we anticipated, primarily due to underperforming segments that rolled through at higher rates. Our NLS implementation in North Carolina and Hurricane Matthew, which impacted three of our states.

Because of the elevated late-stage delinquencies we do expect net credit losses to be slightly higher sequentially in the first quarter of 2017 versus fourth quarter of 2016. In order to improve our overall credit profile going forward, we are eliminating lending to specific segments that we've identified as roll into losses at higher rates.

Moving on to slide 10, you can see from our G&A expense trend that we continue to manage expenses closely. G&A expense of $28.8 million in the fourth quarter of 2016 was up only $0.3 million from the prior-year period, while down $1.6 million sequentially. Loan system conversion expenses in the quarter were only $150,000, as the slowdown in the state conversion schedule reduced amortization of current loan system software costs.

Annualized G&A expenses, as a percentage of average net receivables was 16.3% for the fourth quarter, down from 18.6% in the prior-year period and 18.1% sequentially. Consistent with the seasonality of our business, our quarterly results in a second half of each year tend to be our lowest quarters of G&A expenses as a percentage of receivables.

Now that we are turning the page to 1Q 2017, we expect to see an increase, again, in G&A expenses as a percent of average net receivables due to lower seasonal originations which drive lower deferrals of salaries associated with those originations.

That concludes my remarks, and I will now turn the call back to Peter, who is going to provide some more color on our 2017 initiatives, including the ongoing loan system conversion.

Thanks, Don.

Let's turn to slide 11 to give you an update on our current strategic initiatives. First and foremost is our origination of servicing system conversion. We are very pleased with the increased functionality and capabilities that NLS has already provided and will continue to provide our business.

In the fourth quarter, we assessed our position and made the determination that before going ahead with converting our next state, we wanted to build additional functionality into the operating platform. This includes completing the online customer portal, adding texting capabilities, and integrating a document imaging solution. As a result of this decision, we will spend the first quarter completing the build and plan to resume state conversions in the second quarter.

To that end, we are now expecting to complete the conversion of all states by the end of the year. While our timeline has moved back, we feel that adding important functionality now versus later will provide a more satisfying customer experience, limit future change management, and help Regional succeed in the long term.

Corresponding with this new timeline, we expect the NLS conversion of expenses will continue through the end of 2017. And we will incur approximately $2.5 million to $3 million of system conversion costs across the year compared to $1.6 million that we incurred in 2016. As you can see from slide 12, approximately $1 million to $1.5 million of this is incremental to our prior-year cost. And our previous plans, due to the incremental build and functionality and repatterning of the conversion.

While we continue to make progress on our new loan system, our growth strategy in 2017 will be similar to that in 2016. There is a significant opportunity to grow our account and receivable base within our existing branch footprints. For example, in the most recent quarter, that's fourth quarter, we grew our average finance receivables per branch by of 11.5% on a year-over-year basis.

As I noticed -- as I noted on the last call, we've been testing improved targeting and segmentation in our direct mail campaigns. I'm pleased to say that the results of these tests have been very positive, and I can now say with confidence that we will productively spend up to a couple million dollars more in marketing in 2017 to drive additional traffic to our branches.

While we still expect to add 10 to 15 de novo branches during 2017 in Virginia, this hybrid approach of growth within our footprint and de novo expansion provides a flexible strategy to continue our strong growth momentum. With respect to our online strategy, the mantra of test-and-learn remains the same. The LendingTree referral program continues to show positive impact, and assuming it continues to be successful, we will look to fully integrate the program into our efforts by the end of the year.

We still have plans to roll out our improved online functionality, which includes the ability to take a loan application completely digitally to all states in concert with the full conversion of the Nortridge loan management system.

We've also been successfully testing centralized collections with some of our branches in Texas. And as a result, we plan to expand our efforts on this front in the second quarter of 2017.

So to sum up, 2016 was an overall solid year for Regional as we grew our top and bottom lines despite the ongoing conversion of our loan platform. Our core small and large loan categories continue to drive double-digit growth in our loan portfolio. Credit increased a bit in the fourth quarter but overall was relatively stable throughout the year. And we will continue to manage expenses closely.

For 2017, we look ahead to generating more profitable growth while completing the build out of our operating system and converting our remaining states to NLS. With this foundation and our multi-pronged, go-to-market strategy we continue to position Regional Management for success in 2017 and beyond. Thanks for your time and interest. And I would like to now open up the call for questions.

(Operator Instructions)

David Scharf, JMP Securities. Your line is open.

Good afternoon. Happy New Year, a little belatedly. Hey, I was wondering -- part of the answer to this question, I realize, is the product shift. As you noted about a third of the loan balance is now consisting of large loans. But when I look at the still healthy double-digit growth in same-store AR, I'm curious how much of that is a result of increase of loan count, whether it is walk-in traffic or response rates to the direct mailing versus how much of it is just the fact that you are writing bigger loans? And that you maybe actually putting some repeat borrowers who used to be small-loan borrowers into large loans? Is that something you are able to, if not precisely, quantify? Give us a sense for?

Yes, absolutely. It is combination of all of the above.

As you know we said on previous calls, about 2/3 of our large loans come from smaller loan categories who are credit-worthy to receive a larger loan. We're also -- drive a lot of traffic into our branches via our direct mail and we get referrals from customers who are satisfied, suggesting that family or friends or whomever come to Regional to meet their financial needs. So it is a combination of all the above.

I think what you going to see in 2017, with increased marketing efforts, you will see more account growth, as well as more upsell to those who are credit-worthy for larger loans. It's all part of our go-to-market strategy and so far so good.

Got it. And the comment you just made again about increased marketing in 2017. Is that a reference to just relative to what had been your internal plan previously? Or are you specifically guiding to just a dollar amount at the marketing expense line? Being higher in 2017 versus last year?

What I said on the last call was we were testing improved targeting and segmentation, identifying new swap-in and swap-out stints that were both more responsive and better credit quality.

So we were testing that in the third and fourth quarter, and those tests really turned out to be actually terrific in terms of the results. So we're letting you know that we're going to -- because of those results, we feel confident to let you know we're going to spend more in 2017 because we are seeing such positive results. We're going to spend more on marketing because it is very productive.

Got it. I'll just ask one more and get back in queue.

On the credit side, in addition to late-stage delinquencies running a little higher, you mentioned, it sounds like you are proactively eliminating lending to some segments. Can you expand on what those segments are?

Are they defined by FICO band? Are they defined by product type? Geography? Curious as to what stood out in your mind, such that it required a complete temporary pullback?

I would call, really surgical criteria changes. And that's not on a state-by-state basis geographically. In addition to FICO, we pull in several attributes from the credit bureau. And we were able to identify certain attributes that reduced a small percentage of our overall universe, but a larger percentage of our losses.

We feel very good that we're not going to be decreasing volume by a lot. And we're going to be capturing a higher percentage of our losses before we lend the money. So we're going to cut out those (fates). And it's a variety of different attributes that we utilize. So it's both geographically based, as well as analytically based and we continue to refine credit. But we noticed, in particular, that these were segments that resulted in higher loan rates and higher losses and we're cutting them out.

Got it. Great. Thank you.

Thank you.

Sanjay Sakhrani, KBW. Your line is now open.

Hi guys, this is actually Steven Kwok filling in for Sanjay. Thanks for taking my questions.

On the first one, when we looked at the 90-plus delinquency rate, that has been rising year over year when we look at it. It has been about -- it was 20 basis points in the start of 2016, and now it's roughly up about 40 basis points.

How should we think about the trajectory there heading into 2017? Should it level off? Or even improve as the year progresses?

Some of the criteria that I just discussed from David's question really is to address those later-stage delinquencies.

If you look at our early-stage delinquencies, they're actually quite good. And so as we surgically go after the segments that are driving higher delinquency and ultimately driving higher losses, we feel that it should normalize into the second quarter of next year. So, we know that we're going to have, as we said on the third quarter call, higher losses in the fourth quarter. Sequentially, we will have a higher cost of provision in the first quarter than in the fourth quarter, but we feel that the changes that we are making should gradually bring that down.

Got it. And you mentioned that when you're surgically reducing lending to specific segments, you don't expect much impact around the origination volume, but how do we think about it from a yield perspective?

From a yield perspective, we are not really -- I don't see any impact on the yield because this is not going in and eliminating really lower FICO customers per se, it is using a combination of attributes. So we don't see a mix shift in our business resulting from this, and we've actually analyzed that to make sure that that was not the case. So we don't see an impact to our yields in this.

Okay, got it. Great, thanks for taking my questions.

Mike Del Grosso, from Jefferies. Your line is open.

Good afternoon. Thanks for taking my questions. I guess I'm going to attack the credit questions previously, a little different way. Can you bifurcate the trends you are seeing in your credit book as far as what you're seeing from new customers versus your existing or recurring customers? The trends you see there as far as credit?

(Multiple Speakers) Yes, we can. We absolutely do, yes.

Okay, are you seeing kind of any material deterioration in one of those segments versus another?

It is really in -- sort of across the board, but mostly in new. And that's where we're -- I would say it is across the board pretty evenly split. But looking at it geographically, the criteria that we are using applies to new borrowers, as well as present borrowers. So, it will impact each somewhat, but it is mostly new borrowers or new loans that we are underwriting versus the present borrowers that we have.

Okay.

There is a little (inaudible) but it leans more towards new borrowers.

Okay. So some normalization in both but more towards new. Got it. I guess modeling-related question. The weather-related impacts this quarter in the insurance line item, can you -- what was the dollar impact of that again?

$1.3 million reduction in our insurance net income.

That was all related to Hurricane Matthew, correct?

No. We had several impacts within the line.

We have increase in non-filing claims in insurance and increase in life insurance claims and we also had an increase in property claims during the quarter. The property claims, specifically, were primarily from Hurricane Matthew, which as you know, along the coast we have branches in Georgia, South Carolina and North Carolina that were involved.

Okay. So it seems like there was a few items in there, not just the hurricane impact.

Can you help me size up the hurricane impact specifically?

Yes, that was somewhere between $200,000 and $300,000, Michael.

Okay. Got it, and then I guess the last one is, I guess stepping back, when we look at the Nortridge rollout in 2017, and actually 2018 and beyond, like what kind of scaling should be expect on the SG& A as a result of the new loan system? And how much leverage do you see in the model?

We are spending the $2.5 million to $3 million this year, Michael, and have looked a little further out at our capital expenditures and run rates into the future. So we will see some reduction in 2018 from our overall spend, even when the system is up and running. So, it will come down a little bit. Maybe half of that in 2018 would be a good way to think about it.

Got it, appreciate the time. Thank you.

Thank you.

(Operator Instructions)

Bill Dezellem, from Tieton Capital Management. Your line is open.

Thank you. A couple of questions. First of all, I want to beg ignorance here, and would you please explain the non-filing claims? And how that's different from, say, a filing claim?

I'm going to let Don handle that one.

Sure. Hi, Bill. Good to speak with you.

The personal property that we take into collateral on loans is something that we don't take the time or spend the money to perfect through UCC-1 filing. And instead, we will buy insurance. It's called non-file insurance. And if we lose our rights to the collateral, which can happen in a variety of ways, but most frequently it's through a bankruptcy filing. Then we are able to make a claim on that particular piece of property. In our case, we reinsure the exposure under the non-file insurance through our captive. So it turns out to be an insurance claim in our consolidated financial statements. Does that help a bit?

That does help, thank you very much. And I want to come back to the elimination of segment. And you talked a little bit about that before, but in somewhat of vague terms, which maybe was intentional. But I'm just going to ask specifically, what are the criteria that you are going to be either changing or excluding so that you can eliminate what segments?

That Bill is part of our proprietary underwriting criteria.

That's sort of our secret sauce from our credit risk. So it's certainly a combination of attributes that we look at hundreds of attributes from the credit bureau, and identify through aggression analyses, correlations between really good/bad odds of the likelihood of someone going bad and we refine that on an ongoing basis. But in terms of the specific attributes, that's part of our credit underwriting policies.

Excellent. We don't want you to share the secret sauce, so thank you.

I do have one additional question. We have talked about the increase in late-stage delinquencies. But your early-stage delinquencies have actually demonstrated some favorable trends.

Would you discuss that and really contrast it with those late stages? And ultimately, are we seeing the beginnings of, I'm going to call it the rat going through the snake, but in a good way, where you have better quality borrowers at the front end?

I think your latter comment is right, and I think that in terms of -- there are some sub-segments, micro-segments, that we have found that have particularly high roll rates, where you would not expect them to roll into late stage that have been rolling. And that's the sub-segment that we are going to cut out. So yes, I think that a little bit of whatever you said, the rat through the snake if that's the right metaphor, and we will constantly monitor it and probably refine it as we go through. We're not going to catch all of the delinquencies but we feel like we've really got a handle on the main factors that are driving it.

And may I presume that some of the things that you are discussing here, specifically, are a result of Dan and his new team?

Yes, we are thrilled with Dan and his team.

He has made some additional hires -- we continue to build out, but we have a pretty robust credit department. My background is I started out in financial services and credit marketing before I became a business head, so the value of operations marketing and credit working together in concert to deliver a solid net credit margin is a philosophy that really has been with me throughout many business dealings in financial services. So yes, we are thrilled with Dan's team and the progress that we keep making.

Great, thank you, Peter and Don.

I'm showing no further questions. I would like to turn the call back over to Peter Knitzer for any further remarks.

Thank you, Operator. Thank you everybody for your interest and attention today. I think that concludes our fourth-quarter 2016 earnings call. We will see you next quarter. Thanks so much. Bye, now.

Ladies and gentlemen, thank you for participating in today's conference. This concludes the program. You may all disconnect. Everyone have a great day.