Charles Jehl; Executive Vice President, Chief Accounting Officer; Open Lending Inc
Cecilia Camarillo; Chief Accounting Officer; Open Lending Inc
Kyle Peterson; Analyst; Needham & Company Inc.
Vincent Caintic; Analyst; BTIG
Presentation
Operator
Good afternoon and welcome to Open Lending's second-quarter 2024 earnings conference call. (Operator Instructions) On the call today are Chuck Jehl, Chief Financial Officer, Chief Operating Officer, and Interim Chief Executive Officer; and Cecilia Camarillo, Chief Accounting Officer. Earlier today, the company posted its second quarter 2024 earnings release and supplemental slides to its Investor Relations website. In the release, you will find reconciliations of non-GAAP financial measures to the most comparable GAAP financial measures discussed on this call. Before we begin, I would like to remind you that this call may contain estimated and other forward-looking statements that represent the company's view as of today, August 8, 2024. Open Lending disclaims any obligation to update these statements to reflect future events or circumstances. Please refer to today's earnings release and our filings with the SEC for more information concerning factors that could cause actual results to differ from those expressed or implied with such statements. And now, I will pass the call over to Mr. Chuck Jehl. Please go ahead, sir.
Charles Jehl
Thank you, operator, and good afternoon, everyone. Thank you for joining us today for Open Lending's second quarter 2024 earnings conference call. I am pleased to report that in the second quarter of 2024, we were near or above the high end of our guidance range for certified loans, revenue, and adjusted EBITDA, excluding a negative change in estimate associated with our profit share. For the quarter, we certified nearly 29,000 loans, which represents approximately 3% sequential growth compared to Q1 2024, and we delivered total revenue of $26.7 million and adjusted EBITDA of $9.9 million. As I mentioned, our results for the second quarter of 2024 were negatively impacted by a $6.7 million profit share change in estimate. It is important to note that this downward revision is primarily due to elevated delinquencies and defaults associated with vintages originated in 2021 and 2022, the time of peak vehicle values. Lower performance from these vintages represents an industry-wide headwind and is not unique to Open Lending or our lending customers. As it relates to our more recent vintages, we are encouraged by the early performance of these certified loans due to actions we have taken to tighten our underwriting standards. The initial data reflects a decrease in 60-plus day delinquency rates from a peak of over 2% during the middle of 2022 to a range of 1% to 1.5% currently. With three consecutive quarters of delinquency rate improvement within our portfolio, we are optimistic about a return to normalcy as it relates to delinquencies. As you may recall, the actions we took over the past 18 to 24 months principally include: increased insurance premiums to appropriately price for the risk we take; implemented a newly enhanced Lenders Protection Proprietary Scorecard, which has further improved our ability to predict probability of default and price risk, the new scorecard has now decisioned over 1.8 million applications; raised our minimum score cutoff to tighten our credit aperture; and initiated targeted price optimization by leveraging our new enhanced scorecard and historical performance data to increase prices on lower-performing segments of our business. In this period of challenging macroeconomic conditions, we are committed to protecting the profitability of all stakeholders in our ecosystem by appropriately pricing for the risk and selectively saying no to loans that put unnecessary risk on Open Lending, our insurance carrier partners, or our lenders. As we continue to navigate past these lower-performing advantages, we anticipate that Open Lending's profit share revenue performance should be less volatile. Turning to market conditions, we continue to be encouraged by the trends we are seeing in the automotive industry, specifically improvement in inventory levels, retail sales volumes, and affordability, all of which have shown modest year-over-year improvement. However, our core credit union customers continue to be challenged with elevated loan-to-share ratios, low share or deposit growth, and low loan growth. First, on the automotive industry, new vehicle inventory levels continue to improve and are up 52% year over year, while used vehicle inventory levels have stabilized at approximately 2.2 million units. Both new and used inventory levels remain 20% to 25% below pre-COVID levels, leaving room for continued recovery. Used retail sales volumes are up 4.1% year-over-year, which as a reminder, makes up approximately 85% of Open Lending certified loan volumes historically. That said, new retail sales volumes have decreased 7.6% year-over-year. June showed some weakness in new auto retail sales compared to May. We believe June retail numbers for both new and used sales were negatively impacted by the CDK dealer management system software outage. Affordability improved on a year-over-year basis, primarily driven by declining auto prices. Both new and used auto prices realized a year-over-year decline, with new transaction prices down 0.6% and used list prices down by approximately 7%. However, average auto loan interest rates remain near recent highs with new vehicle loans at nearly 9% and used vehicle loans at over 14%. These rates continue to significantly impact consumer affordability. Lastly, the Manheim Used Vehicle Value Index, a measure of wholesale used vehicle prices, is down nearly 9% from a year ago and down for the fourth month in a row in 2024. However, per Cox Automotive, the index is projected to be down only approximately 2% at the end of 2024 compared to 2023. Now let's turn to our core credit union customers. Preliminary Q2 2024 data from Callahan & Associates, a leading third-party data provider within the credit union industry, suggest that industry average loan-to-share ratio, a measure of lending capacity, has declined from its recent peak to approximately 84%. To put this in perspective, historically the industry average has never exceeded 86%. So it is encouraging to see the industry loan-to-share ratio beginning to decline. On loan growth, loans across asset classes in the credit union industry grew at 3.8% year over year. Notably, this is the lowest level of loan growth since 2013, indicating our customers continue to face a challenging lending environment. On share or deposit growth, we are encouraged by the third consecutive quarter of improvement. Share growth of 2.9% was nearly 170 basis points higher than the lows seen in Q3 of 2023. To put this in perspective, prior to 2023, credit union share growth had never been below 3%. As we look ahead, we are encouraged by both the improvement in the auto industry and the positive signs that credit unions are well into the recovery process. As we have seen in prior cycles, we anticipate that credit unions will once again have healthy loan-to-share ratios and increase their lending activity to fulfill their mission to serve their members. We continue to believe there is significant pent-up demand among consumers for the transportation they need to carry on with their lives. Recent third-party research showed that over 70% of consumers had a stated intent to purchase a vehicle, but almost one-third of consumers were putting off the purchase due to high interest rates and affordability. Additionally, senior lending officers have chosen to shift their focus towards prime and super-prime consumers, as demonstrated by the Retail Vehicle Registration data. Since interest rate increases began, the retail vehicle registration data shows a 12% growth for borrowers with a 750-plus credit score, while the near and non-prime borrowers we serve have experienced a 12% decline. As inventory levels continue to improve, vehicle prices continue to moderate, and with the Federal Reserve interest rate cut more likely, we believe we are not far from seeing a more meaningful increase in vehicle sales activity. While we have been paying close attention to the challenges facing the auto lending industry, we have also taken thoughtful steps to maximize our eventual capture of the pent-up demand when market conditions inevitably recover. We aligned our sales and account management team's incentives to drive new customer acquisitions and certified loan growth from both new and existing customers. We are already seeing positive results from this aligned strategy. In the second quarter of 2024, we signed 13 new credit union customers Year-to-date through the end of the second quarter, we have signed 24 new customers, including one new bank. I am pleased to report that of the 13 new customers signed in the second quarter of 2024, four of them were larger customers and in aggregate have almost $7 billion in combined total assets. As a further testament to our enhanced go-to-market strategy and our sales and account management team members' execution, we have already signed 10 new customers in the third quarter. We continue to believe the Lenders Protection Program can help all lenders serving near and non-prime borrowers to minimize lenders' risk and optimize their yield. We have also focused on further strengthening our partnerships with credit union leadership. We recently announced that Dan Berger, former president and CEO of the National Association of Federally Insured Credit Unions, or NAFCU, had joined Open Lending as strategic advisor. The partnership is off to a solid start as we are further driving customer engagement and expansion of relationships with credit unions across the country. Turning now to our product and technology, we are actively working on developing solutions that improve the experience of our lender customers and their borrowers. We are focused on assisting and providing solutions to our lenders to help mitigate day-to-day operating challenges, including Increasing lenders' ability to automate decisioning, which allows our lenders to speed up the decision process, increasing their probability of capturing the loan. Exploring solutions that automate proof of income processing and other tools to minimize dealer and borrower friction. Assisting lenders with capital markets' efforts to provide lending capacity throughout economic cycles by accessing alternative sources of capital and evaluating opportunities to improve the value of our lenders' protection product by expanding insurance coverages. As I previously noted, we have taken multiple credit and pricing actions with the expectation of optimizing results for our lenders, our insurance carrier partners, and ultimately Open Lending. Looking ahead, we will continue to leverage the capabilities of our enhanced proprietary scorecard to implement targeted opportunities to drive improved performance and results. Now turning to our insurance carriers, We're excited to add Securian Financial Group as an insurance partner for our Lenders Protection Program during the second quarter of 2024. With high financial strength ratings and a long history and familiarity with credit unions and other lending institution customers, Securian Financial is a great addition to our program and helps us expand our premium capacity in anticipation of our return to growth. While we have been focused on enhancing our product and operations to position us for future growth, we have also taken measures to control and reduce costs. We are taking a measured approach as it relates to our cost structure and are focused on only adding incremental costs that drive near-term revenue growth. Our expectation is we will be well positioned to expand our profit margins as the business grows again by leveraging our existing cost structure. Before I turn the call over to Cecilia to go over our second-quarter 2024 results in more detail, I wanted to personally thank our entire team at Open Lending for your continued support and dedication to our company and for delivering these positive results despite continued challenging market conditions. I am encouraged by the early signs of improvement in market conditions and remain confident in the long-term opportunities ahead of us. The underserved, near and non-prime consumers need us and our lender partners now more than ever. With that, I'd like to turn the call over to Cecilia. Cecilia?
Cecilia Camarillo
Thanks, Chuck. During the second quarter of 2024, we facilitated 28,963 certified loans compared to 34,354 certified loans in the second quarter of 2023. Total revenue for the second quarter of 2024 was $26.7 million, which includes an ASC 606 negative change in estimate related to historic vintages associated with our profit share of $6.7 million, compared to $38.2 million in revenue in the second quarter of 2023, which included a negative change in estimate of $1.2 million. To break down total revenues in the second-quarter 2024, program fee revenues were $14.8 million, profit share revenues were $9.3 million, net of the previously mentioned negative change in estimate, and claims administration fees and other revenue were $2.6 million. As a reminder, profit share revenue comprises the expected earned premiums less the expected claims to be paid over the life of the contracts and less expenses attributable to the program. The net profit share to us is 72% and the monthly receipts from our insurance carriers reduce our contract asset. Profit share revenue in the second quarter of 2024 associated with new originations with $16 million or $552 per certified loan as compared to $19 million or $553 per certified loan in the second quarter of 2023. The $6.7 million negative profit share change in estimate recorded in the current quarter is associated with cumulative total profit share revenue previously recognized of approximately $394 million for periods dating back to January 2019 the ASC 606 implementation date and represents over 411,000 insured in-force loans in the portfolio. The cumulative profit share change in estimates since 2019 is a negative 2.2 million. Operating expenses were $17 million in the second quarter of 2024 compared to $16.3 million in the second quarter of 2023. Operating income was $4 million in the second quarter of 2024 compared to operating income of $15.7 million in the second quarter of 2023. Net income for the second quarter of 2024 was $2.9 million compared to a net income of $11.4 million in the second quarter of 2023. Basic and diluted net income per share was $0.02 in the second quarter of 2024 as compared to $0.09 in the second quarter of 2023. Adjusted EBITDA for the second quarter of 2024 was $9.9 million as compared to $20.7 million in the second quarter of 2023. Excluding profit share revenue change in estimate, we generated $16.6 million in adjusted EBITDA in the second quarter of 2024. There's a reconciliation of GAAP to non-GAAP financial measures that can be found at the back of our earnings press release. We exited the quarter with $382.8 million in total assets, of which $248 million was in unrestricted cash, $33.7 million in contract assets, and $66.3 million in net deferred tax assets. We had $166 million in total liabilities, of which $143.3 million was outstanding debt. I would now like to turn the call back over to Chuck to discuss our guidance for the third quarter. Chuck?
Charles Jehl
Thanks, Cecilia. Now moving to our third-quarter 2024 guidance. The following factors were considered in our third-quarter 2024 guidance: continued elevated interest rates and modestly improving inflationary environment and its corresponding impact on the US consumer; uncertain macroeconomic conditions with rising unemployment rate and slower new job growth; lower-than-pre-COVID auto inventory levels and higher than historical vehicle prices continue to present affordability challenges for consumers; new and used retail sales volume that remain lower than pre-COVID levels despite year-over-year improvement; near historic high loan-to-share ratios combined with historically low share growth that continues to limit credit unions' lending capacity; and recent credit tightening actions that Open Lending has taken and the corresponding impact on volume. Additionally, we accounted for normal course of seasonality that we see between the second and third quarter. Accordingly, our guidance for the third quarter of 2024 is as follows. Total certified loans to be between $25,000 and $28,000, total revenue to be between $28 million and $31 million, and adjusted EBITDA to be between $11 million and $14 million. We have a strong balance sheet with no near-term debt maturities and generate positive cash flow which provides us with the financial flexibility to make targeted investments to accelerate revenue growth and position us well to capture pent-up demand as market conditions continue to improve. Additionally, we continue to focus on optimizing our profitability by both accelerating revenue and controlling costs. We'd like to thank everyone for joining us today, and we will now take your questions.
Question and Answer Session
Operator
(Operator Instructions) Kyle Peterson, Needham and Company.
Kyle Peterson
I want to start off on the CDK impact. I know you guys mentioned it sounds like there was an impact. I just wanted to see if there's any way you guys could quantify that. And if that has kind of self-corrected into July, like kind of, I guess, was there some, just some push out or just any more color there would be really helpful.
Charles Jehl
Yeah, hey Kyle, it's Chuck. As we've kind of watched, you know, the CDK outage and kind of that unfold, you know, based on the data we've seen, you know, the outage impacted new auto vehicle sales more, and that was in our prepared comments. It really limited impact on used auto, and as we said in the prepared comments, we're historically about 85% used, so we didn't see a big impact in our Q2 volume related to that, and don't expect any impact going forward. Maybe on the new front, but not on used, since it was mainly impacting new.
Kyle Peterson
Okay. That's helpful, and then I guess just a follow-up on the outlook in the 3Q guide, I guess. Have you guys factored in a Fed rate cut in September in the guide? And I guess could you just remind us how changes in Fed funds or the shape of the yield curve would impact you guys specifically on the refi side of things?
Charles Jehl
Yeah, as we think about the Q3 guide, and the prepared comments in our inputs there, continued elevated interest rates is what we've put in there, in a modestly improving inflationary environment, Kyle. So we're hopeful just like everybody that the Fed's going to take action in September and begin lowering rates. I guess the dot plot is calling for 25 basis point reduction in September, and I think the market's maybe anticipating two 25 basis point reductions. And Open Lending and our -- the consumers we serve would welcome that and it could be a good opportunity for us as we move forward, as we think about our refi channel and volumes going forward. But in the guidance we put out, it continued elevated rates to answer your question.
Kyle Peterson
That's helpful. Thank you, guys.
Operator
James Fawcett, Morgan Stanley.
Hi, everyone. It's Michael on for James. Thanks for taking our question. I just wanted to ask on the profit share side, is there any [make-hold] period with profit share, specifically with any of your financial partners? And if so, for how long and by how much?
Charles Jehl
Yeah, I mean, if you think about the make-hold on the profit share, there's a period Open Lending -- we don't write checks if the profit share were to go, say, negative for a period of time due to high claims and defaults, but there's basically a recapture of that that comes back to the carriers with us. I hope I answered your question, but yeah.
Yeah, no, that's helpful. Maybe just on the refi side, sort of take your comments just in terms of what you embedded into the outlook, but I guess how are you sort of thinking about refi over the near to medium term, particularly given where historical mix was sort of in the '21, '22 timeframe, sort of conscious of -- somewhat constrained credit union lending demand, which seems to be stabilizing/improving. Thanks.
Charles Jehl
Yeah, no, thank you. Yeah, I mean, for Q2 of 24, refi was 3% of our volume. And as you pointed out, in '22, I think it was -- February '22 might have been the peak at like 40%-plus of our volume. And that was prior to the Fed begin raising rates that we've seen over the last, call it 18 months. As we kind of look forward, I think the most important thing to remember, our credit union customers -- core customer -- 75% of our volume historically, Still improving signs of loan-to-share ratios, as we said, are improving there. Share growth's beginning to build. All those are great signs that we've seen through past cycles where the health of the credit union and they begin lending again. The rates coming down is great for our business long-term and even in the short-term, but we also have to have healthy lending capacity at our credit union customers.
Appreciate that.
Operator
Vincent Caintic, BTIG.
Vincent Caintic
First question on the profit share and just kind of digging into that $6.7 billion adjustment. I'm just wondering if you can maybe talk about, since there's been a couple of negative adjustments for the past couple of quarters already, sort of what's baked into estimates now, and I guess what would cause profit share adjustments downwards from here. It does seem like there was a big adjustment this quarter. Thank you.
Charles Jehl
Yeah. Hey, Vincent. Good to talk to you again. If you think about -- kind of the stress we put on the portfolio, we think about it more as a loss ratio approach, and there's three components to profit share. Obviously, severity of loss, which is driven by the Manheim Used Vehicle Value Index. You've got default frequency, which is claims, and then you've also got prepay speed. So all of that goes in the equation. And the vintage we put on in the second quarter, we had about a 60% ultimate loss ratio on the newer vintages, and feel good about that, and feel like it's adequate stress. The $6.7 million that we booked in the second quarter, as we put in the prepared comments, it was all mainly or primarily associated with '21 and '22 vintages. And that's across the industry. Anybody in auto lending has -- those are lower-performing vintages. At the time, they were at the peak of the Manheim and the used vehicle values. We believe that we're working through those, the typical claim period for a claim or default is 18 to 24 months out. And we're getting to that point and past on those worth performing advantages. So that's -- we hire claims in default and then the Manheim moved down a little more than we thought in the second quarter. But if you also in the prepared comments, Cox is forecasting Manheim to only be down about 2% for the year. And as of June, it was down 9%. So the Manheim is -- and actually went up on the July print about 3%, I believe, to [201]. So that Manheim is, we believe, is stabilizing out, and vehicle values are stable, and that's going to be good for our business.
Vincent Caintic
Okay, thank you. And just following up on that then.
Charles Jehl
Yeah, and real quick, and we believe, as we work through these vintages that in our prepared comments, that our profit share will be less volatile. And Cecilia's points about the cumulative effect, we can't lose sight that when we adopted this pronouncement in 2019, we've had $394 million in total profit share revenue. And yeah, we've had some really good years there during the pandemic and the stimulus to where we had really positive adjustments. And we've had a few negative adjustments here lately based on those lower-performing vintages. But still, all in, it's material at 2.2 million negatives. So just don't want to lose sight of that.
Vincent Caintic
Right, that's helpful. And to your point about, so these 2021 and 2022 vintages, you worked through them over 18 to 24 months. So would it be correct to think that maybe by the end of this year, or maybe by early 2025, after we get through 24 months, that we would have already gotten past the issues of these vintages?
Charles Jehl
That's correct. They're mostly -- yeah, those will be behind it. That's right.
Vincent Caintic
Okay, great. And then just one more for me, switching to the certification volume, just sort of wondering if you can differentiate what you're expecting in terms of the OEM certification volume versus the bank and credit union volume. It looks like the bank and credit union grew a little bit this quarter, OEM shrunk a little bit this quarter. So just kind of wondering if you can expand on sort of what you're seeing with your outlook going forward. Thank you.
Charles Jehl
Yeah, I'd say, if you think about the guide that we put out there, I'd say a similar mix to Q2 between the credit unions and the OEMs that you saw in the second quarter.
Vincent Caintic
Okay. All right. That's helpful. Thanks very much.
Operator
John Davis, Raymond James.
Hi, this is Taylor from JD. Thanks for taking the question. Maybe if I can just follow up on the last question. It looks like OEM certs declined year over year for the first time in a while this quarter. So just any color you could provide there on what drove the year over year decline would be great.
Charles Jehl
Yeah, on the OEMs, on the second quarter, '24 to '23, I'd say it's just maybe the environment itself and a little bit of mix there between the customers. But the OEM incentives are coming back. We put in some credit tightening across some of our tiers and did a premium increase to appropriately price for the risk. And so some of that's probably baking in there on the tightening actions that we took. Because as we think about it, we want to put good loans on the books and -- for our partners, lender partners, our carriers, as well as Open Lending. So part of that could just be the tightening actions that we took.
Great. Thanks for the call.
Operator
Thank you. Ladies and gentlemen, as there are no further questions, I will now hand the conference over to Chuck Jehl for his closing comments.
Charles Jehl
We'd like to thank everyone for joining us today and appreciate your interest and support. And I'd like to again thank all of the employees, the entire team at Open Lending for your hard work and dedication and all you do for our company. Thanks and have a great day.
Operator
Thank you. The conference of Open Learning Corporation has now concluded. Thank you for your participation. You may now disconnect your line.