2 ways longer terms impacted Credit Acceptance in Q4


Stretching terms forced Credit Acceptance to adjust its expectations for future cash flows. But increasing contract length to the longest average in company history perhaps helped the finance provider turn around a string of declines in the number originations from active dealers.

Before getting into those details, let’s do the numbers of how Credit Acceptance’s top-line metrics ended up in the fourth quarter and for the full year.

According to its latest financial statement, Credit Acceptance reported that its Q4 consolidated net income came in at $177.1 million, or $9.10 per diluted share. Those figures are up from $87.6 million, or $4.33 per diluted share, registered during the closing quarter of 2016.

For the year that ended Dec. 31, the company’s consolidated net income was $470.2 million or $24.04 per diluted share, compared to consolidated net income of $332.8 million, or $16.31 per diluted share, for in 2016.

Credit Acceptance explained its GAAP financial results reflect the enactment of the Tax Cuts and Jobs Act in December, which increased consolidated net income by $99.8 million, or $5.13 and per diluted share.

Dealer gains

Credit Acceptance indicated that it added 919 new active dealers during the fourth quarter, nearly a 20-percent gain year-over-year. Throughout 2017, the company pulled in 3,740 new dealers to its network, an annual increase of 9.8 percent.

All told, Credit Acceptance had 7,885 active dealers finalize at least one contract during the fourth quarter as the finance company originated 77,792 contracts in Q4, representing a 10.8-percent lift year-over-year.

Credit Acceptance brought 328,507 contracts into its portfolio in 2017; many with the longest terms it ever recorded. In fact, the average in Q4 was 56 months.

Back in 2009, the average term Credit Acceptance booked was 38 months.

Credit Acceptance chief executive officer Brett Roberts probably would like terms back toward the 2009 level rather than where they sit now. But Roberts was encouraged that volume per dealer was up by 2.1 percent in Q4.

“That’s a positive change in the trend line there. We’ve been running negative numbers there for seven consecutive quarters, so that’s a positive data point,” Roberts said when Credit Acceptance hosted a conference call with the investment community. “It’s just one quarter, so I think it’s probably a little bit early to draw any conclusions about the competitive environment based on one data point, but it is a positive one.”

Cash-flow adjustment

In addition to the statistical model used to forecast collection rates, Credit Acceptance reiterated that it uses a model to forecast the timing of future net cash flows. During the fourth quarter, the company updated its net cash flow timing model to incorporate more recent data.

The company explained the revised forecast resulted in an expected cash flow stream with a lower net present value as compared to the prior forecast, as less cash flows are expected in earlier periods and more cash flows are expected in later periods.

Credit Acceptance explained the reduction in net present value was primarily the result of a change in the expected timing of cash flows from longer-term contracts.

“Due to our limited historical experience with longer-term consumer loans, our prior model relied on extrapolations from the historical performance of shorter-term consumer loans to predict the timing of future net cash flows on longer-term consumer loans,” the company said.

“We now have additional historical experience on these longer-term loans which we used to refine our estimate,” management added.

Credit Acceptance emphasized the revision to its net cash flow timing forecast does not impact the amount of undiscounted net cash flows the company expects to receive. As a result, the dollar amount of future net portfolio revenue (finance charges less provision for credit losses) is not impacted by the revision. However, the revision does impact the period in which those net revenues will be recorded.

When asked about the changes, Roberts tried not to simply retell what Credit Acceptance shared in its news release. But the CEO did make a pair of points to investment analysts.

“The first is that it’s a timing change, so it doesn’t change the amount of revenue that we’ll recognize in the future for adjusted earnings. And for GAAP, it’s the same concept. You just have to include the provision for credit losses in as well. So if you look at kind of net revenue — or revenue minus the provision — in our GAAP statements, including the fourth quarter and going forward, the total amount that we’ll recognize is unchanged. The only thing that changes is the timing of when that revenue will be recognized,” Roberts said.

“The second thing I’ll highlight is it’s a large estimate — $6.3 billion of undiscounted net cash flows spanning 120 months. So it’s a large estimate. It covers a long period of time,” he continued. “To forecast the timing, we have to forecast the customer payments including any prepayments, the amount/timing of repossession proceeds, deficiency balance collections and then the outflows for portfolio profit and portfolio profit express. So not only is it a large estimate, but it’s got a lot of moving pieces. Now even though it doesn’t impact the amount of revenue on the loan portfolio going forward, it does impact the economics of the loans, particularly the longer-term loans.

“So based on our revised model, the longer-term loans are less attractive than they were before. The shorter-term loans are the opposite. Now the longer-term loans are still very attractive, given the price that we paid for them. They’re just less attractive than they were before,” Roberts went on to say.

Compliance matters

Credit Acceptance also revealed in a filing to the Securities and Exchange Commission that the company received a second civil investigation demand from the office of the Massachusetts attorney general. The CID, dated on Nov. 20, is seeking updated information on the original civil investigation demand from the state’s AG, dated December 4, 2014.

Law enforcement is also seeking additional information related to the Credit Acceptance’s origination and collection of installment contracts and information regarding securitization activities.

“We are cooperating with the inquiry and cannot predict the eventual scope, duration or outcome at this time,” company officials said in the SEC filing. “As a result, we are unable to estimate the reasonably possible loss or range of reasonably possible loss arising from this investigation."

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