Regional Management Corp (RM) 2017 Q4 法說會逐字稿

Welcome to the Regional Management Corp. Fourth Quarter 2017 Earnings Conference Call. (Operator Instructions) I would now like to turn the conference over to Gary Edison, Senior Vice President, ICR. Please go ahead.

Thank you, 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. We disclaim any intentions or obligations to update or revise any forward-looking statements except to the extent required by applicable law.

I would now like to introduce Peter Knitzer, CEO of Regional Management Corp.

Thanks, Garrett, and welcome to our fourth quarter 2017 earnings call. As always, I want to thank 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 of our financial team. For those of you with access to a computer or mobile device, we've once again posted a supplemental presentation on our website at regionalmanagement.com to provide additional color to our remarks.

Overall, 2017 was a year of strong execution for Regional Management. We continued to profitably grow our business via our hybrid strategy of increasing receivables per branch and through select de novo growth. Importantly, we successfully completed the conversion to the NLS platform. Yes, we are done. Our new platform enables us to further expand our capabilities, which will improve business performance and result in stronger long-term top and bottom line growth.

Turning to Page 3. For the fourth quarter, we reported diluted EPS of $0.92, which includes approximately $0.30 of nonoperating tax benefits related to the passage of the Tax Cuts and Job Act, as well as an R&D credit. For the quarter, we generated revenue growth of 12.6% driven by approximately $100 million of year-over-year portfolio growth.

Our core small and large loan business grew 21.8% or $129 million versus the prior year period. This represents our 11th consecutive quarter of double-digit growth in finance receivables and sixth consecutive quarter of double-digit revenue growth. Just as important, credit remained stable and in line with typical seasonal trends, while interest expense rose due to portfolio growth and Fed rate increases.

Turning to Slide 4. I want to walk through some of our accomplishments and then discuss our strategic focus for this year and the long term. As I mentioned, I'm pleased to announce that we have fully completed the conversion of our entire branch network onto the new NLS system. This system continues to function smoothly and will be a critical component in providing our customers with a much better experience and in making our operations more efficient and effective. In addition to our new texting and online customer portal, NLS enables us to implement improved underwriting capabilities, leave management and better servicing for our customers. All of this leads to our ability to grow more profitably over the long term.

Over the past couple of years, we've invested considerable time, effort and money to enhance our credit function. As part of this investment, we developed a strong Centralized Collections team to focus on late-stage delinquency. This will enable us to deliver improved roll rates and lower future net credit losses.

Our collections team efforts should also free up our branch employees to focus more of their time on sales and services. In addition to Centralized Collections, we are now utilizing automated underwriting in our branches, which has already significantly reduced manual errors and improved customer satisfaction.

Later in the first half of 2018, we will introduce new custom credit scorecards to further optimize as underwriting. Our investments in these areas should over time decrease the cost of credit.

Turning to growth. We held back on de novo expansion in 2016 and 2017, as we focused on successfully completing our migration to NLS. While we only opened a few branches in the last couple of years, we still grew our revenue and receivables by double digits in our existing branches. We are confident that there is still ample opportunity for growth within our existing branch network. Additionally, with NLS completed, we plan to open between 25 and 30 de novo branches in 2018, all within the back half of the year.

Thus, we expect to realize the financial benefits of our 2018 de novo investment in 2019 and beyond. On the marketing front, we continue to improve our targeting capabilities and are developing next-generation tools for direct mail campaigns. This is important to our success as the mail channel is a key component of our overall market index. We also continue to make further strides on the digital front. Beyond the texting and customer portal that I mentioned earlier, we expanded our ongoing relationship with LendingTree and we plan to add more affiliates in 2018. We've also revamped our consumer-facing website and continue to improve our search engine optimization capabilities.

As a result of these actions, we expect increased engagement from existing customers as well as the opportunity to attract new customers in 2018. From a funding perspective, we previously talked about our new warehouse facility provides us the opportunity to access the capital markets return securitizations. We expect to begin tapping that market in mid-2018 and further enhance and diversify our funding sources.

Lastly, though not shown in the earnings supplement, given the opportunities that NLS provides, we plan to invest approximately 20% of the annual savings from the lower federal corporate tax rate primarily into marketing and our branch network. Notwithstanding this additional investment, we expect to improve our operating leverage in each of the next several years. Overall, the fourth quarter was a success on several fronts.

We continued to generate double-digit increases in revenue and finance receivables. Net credit losses as a percent of average net receivables improved significantly from prior year period. We completed the loan platform conversion and have significantly modernized our infrastructure and delivered double-digit year-over-year earnings growth.

These accomplishments, along with Regional's approach of continuous improvement in all facets of our business, position us to generate strong, long-term profitable growth.

I'll now turn the call over to Don to provide additional color on the financials.

Thanks, Peter, and good afternoon to everyone on the call.

Picking up on Slide 6. Our ending net finance receivables at December 31, 2017, were $817 million. This represents a nearly 14% increase over the prior year amount and is the 11th consecutive quarter with double-digit growth for ending net finance receivables.

On Slide 7, you can see the components of our ending net finance receivables. Core net finance receivables at December 31, 2017, stood at $723 million, up almost 22% from the prior year period. Core net finance receivables are now 89% of the total portfolio. Our core large loan portfolio continues to drive most of our growth, as the portfolio size increased $112 million or almost 48% from the prior year period and rose 12% from the end of the third quarter. Our large loan portfolio now stands at $347 million and accounts for over 42% of our total portfolio.

Meanwhile, our small loan category saw a $17 million or 5% increase from the prior year and a $13 million or 3% increase from the end of the third quarter. Our other loan categories were down $8 million sequentially and $29 million from the prior year, as we continued to gradually wind down our automobile loan category. We expect net finance receivables in our other loan categories will continue to decline in subsequent quarters.

On Slide 8, the 12.6% year-over-year revenue growth at the top of the slide was primarily driven by a 12.7% increase in our average net finance receivables. This is our ninth consecutive quarter with a double-digit increase in average net finance receivables. Total revenue yield in the fourth quarter of 2017 was comparable year-over-year, as the impact of our shifting product mix was offset by the benefit of the line swing between revenues and provision for credit losses as a result of the insurance carrier change we've mentioned on previous calls. As a reminder, the line swing has no impact on net income, and sequentially, the fourth quarter 2017 benefit from the line swing was less than what it was in the third quarter and the line swing from the carrier change should be finished by the end of the first quarter of 2018.

Lower interest and fee yield due to the increase in large loan receivables as a percentage of the portfolio resulted in a 50 basis point sequential decline in our yield. We expect this interest and fee yield trend will continue as the large loan portfolio is expected to grow more rapidly than other portfolios.

Moving to the top of Slide 9. Our provision for credit losses of $19.5 million in the fourth quarter was relatively flat with the prior year period. Net credit losses increased $0.7 million due to the temporary shift of $0.8 million in insurance claims and were offset by $0.7 million smaller build in the allowance.

At the bottom of Slide 9, we show the trend of our net credit loss rate. Our annualized net credit loss rate as a percentage of average net receivables for the fourth quarter of 2017 was 9%, an improvement of 0.8% over the prior year period. In addition, just a quick update on the $3 million additional loan loss reserve we booked in the third quarter for the hurricanes would now move forward another 3 months, and we continue to believe that we fully reserved for the impact in the third quarter and do not expect to incur any additional reserves from those events. We expect that a large amount of the hurricane-related net credit losses will flow through in the first and second quarters, while a smaller amount should flow through in the third quarter. Excluding the impact from the hurricanes, we expect net credit losses to show some improvement in 2018 versus the comparable 2017 periods. For the first quarter of 2018, we expect the provision to be similar in amount to what we reported for the fourth quarter of 2017.

Turning to Slide 10. We show our seasonal pattern of delinquency. Our 30-plus day delinquency level stood at 7.5%. Approximately 20 basis points of that figure are hurricane related. Both the 30-plus and the 90-plus delinquency levels are relatively flat with the prior year and up sequentially following the normal seasonal pattern. Overall, we continued to maintain a fairly stable and slightly improving credit profile.

Moving on to Slide 11. G&A expenses as a percentage of average net receivables rose 0.8% over the prior year period with G&A expense of $34 million in the fourth quarter of 2017, up $5.2 million from the prior year period. Personnel costs were $2.9 million of the increase and were mostly incurred for increases in staffing in our IT function, our new Centralized Collection function, which was built up throughout 2017 and for our branch network to handle an increase of $100 million of additional loan portfolio. In addition, incentive costs were up due to improved performance. Marketing costs were up $400,000 over the prior period due to increased mail volume. And other expenses were up $1.8 million, primarily due to increased costs with the implementation of electronic payments, higher legal expenses, higher NLS training costs and higher amortization of capitalized costs for the NLS loan system.

Sequentially, G&A expense was relatively flat. For the first quarter 2018, we expect G&A expense to be flat to slightly up, consistent with normal seasonality. From a historical perspective, our G&A expenses as a percent of average net receivables peaked in 2015 and have fallen for the last 2 years. We believe G&A expenses as a percentage of average net receivables will continue to improve in 2018 and future years, as we work hard to control expenses, while continuing to grow our average net receivables.

This should improve our OpEx ratio and thus, our bottom line. Interest expense of $6.8 million was higher in the fourth quarter of 2017 due to higher long-term debt amounts outstanding from finance receivable growth, interest rate increases, larger unused lines of credit and incremental debt issuance costs associated with our June 2017 amending of our bank facility and entering into the new warehouse facility. With the expectation that the Fed will continue to raise interest rates along with growing our loan portfolio and a planned securitization during the year, our interest expense will be higher in 2018 than in 2017. For the first quarter 2018, we expect interest expense to be at least $600,000 to $700,000 higher than it was in the fourth quarter of 2017 and are expecting somewhat similar levels of sequential increases throughout 2018.

Finally, during the quarter, we incurred income tax expense of only $0.99 million, as we recorded a nonoperating $3.1 million tax benefit as we applied the new lower federal corporate tax rate from the passage of the Tax Cuts and Jobs Act to our year-end net deferred tax liability as well as a $0.4 million research and development tax credit.

For 2018, we estimate our effective tax rate will be approximately 25%. With the cash we'll retain as a result of the lower rate from the new tax law, we expect to apply the large majority of the savings of about 80% toward reducing our overall leverage with the remainder earmarked for marketing in branches, as Peter mentioned earlier.

That concludes my remarks, and I'll now turn the call back to Peter to wrap up.

Thanks, Don. To sum up, 2017 was a year of significant accomplishments for Regional. We continued to generate solid growth driven by our core small and large loan portfolios. And through an immense team effort, we successfully completed our platform conversion. Credit remained stable and excluding the impact from the hurricanes, we expect improved credit performance throughout 2018. Additionally, in 2018, we are reaccelerating our de novo branch expansion, further building our core loan portfolio through our existing branches and deploying improved credit tools. Importantly, while 2016 and 2017 were years of significant investment, in 2018 and beyond, we expect to reduce expenses as a percent of receivables.

The outcome of our efforts should translate into margin expansion and increased long-term profitability.

Thank you for your time and interest. I'd like to now open up the call for questions.

(Operator Instructions) The first question comes from Sanjay Sakhrani of KBW.

This is Maja Feenick in for Sanjay. My first question is, given the fact that you guys are doing most of your branch openings in the second half of '18, on expenses, do you expect a material discrepancy between the first and second half of the year?

Not material at all. What happened was we built out in the second half of 2017 a lot of our Centralized Collections, and we augmented our IT function to sustain NLS on an ongoing basis. So it will sort of be an even flow of expenses in 2018, where we'll start building branches in the second half. So it should be pretty consistent throughout the year.

Okay, great. And then just one follow-up. On tax reform, do you expect any second derivative impacts, primarily on the credit trajectory? Any benefits there?

I don't think we do. The amount per person or per family is fairly small. And I think it's going to completely change the family financial situation. So we're not looking for a major change because of it.

The next question comes from John Hecht of Jefferies.

You mentioned taking a portion, I think, 20% of these tax savings and reinvesting in the branches in systems and support. Based on your plans thus far, do you anticipate that also has a revenue benefit in the near term? Is that a longer-term investment?

That's a longer-term investment. Most of the benefit, John, will be realized in 2019. We felt that it's the right time given that NLS is complete that we can, given the tax benefit, take a small portion of it and reinvest it in the business for long-term profitable growth.

So we should just anticipate a slight pickup in sort of the kind of infrastructure-type expense over the course of the year? In terms of the line item adjustments, would it be in other expenses we should expect that increase?

John, it's going to be across several line items, little bit in occupancy, some in other expense and a little bit in marketing as well. So most of it's in the second half of the year, by the way.

Okay. And then in terms of your guide, your commentary was that you anticipate credit may improve over the course of the year a little bit versus 2017. Is that mix-shift related or you just look at your payment behaviors, and you think you're going to have a lower loss content within -- in any particular cohort this year?

It's a little bit of the fact that -- our Centralized Collections will kick in, in terms of credit benefit starting this second quarter. As you know, throughout the conversions, we always experience a slight increase in delinquency and a slight decrease in production following conversions. Given that we just completed Alabama, Tennessee and Georgia, the focus for Centralized Collections is going to be shifting starting in the second quarter from assisting these branches to more of the full late-stage delinquencies. That's one piece. Second, we've taken some actions, small actions, to tighten credit where we've seen, as we always do, just as part of business as usual that will help improve our loss rates in the latter half of the year. And then finally, which won't impact a great deal of 2018 in terms of credit losses. Once we implement custom scorecards, we see that's going to have a significant benefit into 2019 for our originations in the back half of 2018. So as I said in my remarks, a lot of investment in our credit capabilities is in function and that will layer in over time, but we feel very good about our -- the tools and the energy we put behind it.

Okay, very helpful. And last question just on, I'm clear, and this is the $800,000 insurance claim shift. That I'm wondering.(inaudible) Does that reduce losses going forward? Is it just a definitional kind of shift of some expense items?

Yes. That's been an item, John, we've had for most of '17. And we lost coverage for a certain number of accounts early in the year. We'll be gradually adding coverage back to a greater percentage of our accounts. And so this line shift, which has no impact on net income, will come to close here at the end of the first quarter. And hope that's helpful for you.

(Operator Instructions) The next question comes from Bill Dezellem of Tieton Capital.

Would you talk a bit further about the reinvestment back into the business that you're going to be making with that tax saving? Just provide some more detail, if you would, please?

Bill, as I said, it's going to be primarily in marketing and in our branches. And we see opportunity to expand our efforts. We've spend a lot of time and energy on our targeting tools, which -- for our direct mail and we're expanding online. So a good portion of that will go into marketing, which will fuel growth into 2019. In terms of the branches, we're going to optimize our branch footprint a little more. That could mean consolidating some branches. That could mean growing a few more branches. We found, and this is true in my prior lives(inaudible) that you just can't build branches, you have to optimize your existing footprint. So as prudent management will continue to do that and we've earmarked some moneys for either consolidations or a little bit more growth.

So, as we think about what you just said there about the branches and the spending of money, is that somehow different than the de novo openings that you talked about in the release and earlier in the call?

Yes. I mean, I can see us -- we're talking about 25 to 30 branches. I could see building a few more branches and possibly closing a few branches. We did and will optimize our footprint. We had not, in the past, really closed many branches. What we're finding through analysis is that, sometimes combining a branch is more efficient and more effective than necessarily having 2 in 1 geography. Really, we are looking at it on a market-by-market basis and we'll continue to do so. I suspect, it may be net neutral in the context though we already plan on closing a few branches as well as opening branches as part of a rationalization.

There are no more questions at this time. This concludes the question-and-answer session. I would now like to turn the conference back over to Peter Knitzer for any closing remarks.

Thank you very much. We really appreciate everyone's time today and your interest in Regional Management. And we look forward to continuing the dialogue into the future. So thank you very much.

This concludes today's conference call. You may disconnect your lines. Thank you for participating and have a pleasant day.