Open Lending Corporation

And welcome to Open Lending's 3rd Quarter 2022 Earnings Conference Call. As a reminder, today's conference call is being recorded. On the call today are John Flynn, Chairman, Keith Dezek, CEO, and Chuck E. L., CFO. Early today, the company posted its 3rd Quarter 2022 Earnings release to its Investors 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'd like to remind you that this call may contain estimated and other forward-looking statements that represent the company's view as of today, November 3, 2022. Open lending displaying an obligation to update these statements to reflect future events or circumstances. Please refer to today's earnings release and our filing with the CSAC for more information concerning factors that could cause actual results to differ from those expressed or implied with such statements. And now I'll pass the call over to Mr. John Flynn. Please go ahead.

Thank you, operator, and good afternoon, everyone. Thanks again for joining us today for Open Lending's third quarter 2022 earnings conference call. For the third quarter, the company's results were in line with our expectations, despite continued challenging economic and industry dynamics impacting our business. During the third quarter of 22, we certified 42,186 loans, Total revenue was $50.7 million. Gross profit was $45.5 million. And adjusted EBITDA was $29.4 million. I'm going to turn the remainder of the prepared remarks over to Keith and Chuck. But before I do that, I want to again emphasize how confident and excited I am in the appointment of Keith Jezik as our CEO. Through a robust national research process, there was no one that possessed such a deep knowledge and experience in the retail automotive and technology industry and a proven track record of success than Keith. He's an exceptional leader and the right executive at the right time to lead the company into the next stage of growth. Keith's expertise within the auto retail technology industry is going to serve shareholders well over time as we prepare for an improvement of the challenging economic and industry dynamics currently impacting our business. Specifically, Keith's experience at Cox Automotive, building and managing software products for the retail automotive ecosystem, including consumers, OEMs, auto lenders, and the largest and most prominent dealer networks in the nation. These service offerings totaling multi-billions in revenue were provided through companies including DealerTrack, AutoTrader, Kelley Blue Book, V-Auto, and Dealer.com, among others. His executive relationships and knowledge will be complementary to our existing and prospective credit union and OEM partnerships. I'm very confident that our collective continued underwriting vigilance, along with Keith's focus on our go-to-market sales strategy and technology roadmap, will provide open lending the right balance of downside protection in the immediate term and allow us to capture significant upside as industry fundamentals recover. It's been an incredible honor to lead open lending, and I'm extremely excited to continue working with Keith, the leadership team, and the board as we embark on the next chapter of growth and continuing to execute our mission of serving the underserved. So with that, Keith, I'll turn the call over to you.

Well, thank you for the kind words, John. I look forward to collaborating with you and Ross closely and continuing to execute Open Lending's business plan with you as chairman and Ross as a trusted advisor. Since it's my first earning call as CEO, I thought I would start off with my relevant experience and the reason why I joined Open Lending. As many of you are aware, I've been involved with Open Lending for over a decade. Initially, I served on the board from 2012 to 2020 while the company was private. I transitioned to an advisory role as the company entered the public markets and have served in that role for the last two years. During my 10-year affiliation with the company, I've witnessed firsthand the company's strong product adoption and market-leading profitable growth. Many of the secular trends that affected Cox Automotive have also impacted open lending. Both companies develop technologies that provide insights and innovative decision-making tools for the respective clientele. In the case of Cox Automotive, we help dealers, OEMs, and financial institutions decide how best to deploy capital, manage inventory, and optimize pricing and sales functions. At open lending, I will continue to draw from my market knowledge and grow our client base that use our technology to analyze risk while connecting borrowers and lenders. Now, let me turn to why I found the CEO opportunity extremely compelling. To begin with, I believe all great companies have the following characteristics. One, a large and growing total addressable market or TAM. Two, a profound competitive advantage and significant barriers to entry. And three, a business model that leverages both one and two. Open lending exhibits all of these attributes. That is what attracted me to the company over 10 years ago and what led me to the decision to take on the CEO role a few weeks ago. So first on TAM, as we shared during our last earnings call, our TAM is large and growing and now totals approximately 270 billion for auto loan originations. In addition, there is approximately 40 billion in total adjustable market related to the auto refinancing opportunity. we have captured less than 2% market share this year, leaving significant room for growth. Second, as it relates to the competitive advantage and significant barriers to entry, open lending has 20-plus years of proprietary data, sophisticated technology, including five-second underwriting decisions, exclusive relationships with four A-rated insurance partners, deep lender relationships, and regulatory know-how. We believe we have the strongest balance sheet and unit economics of any pure play participant in the marketplace, and we do not take balance sheet credit risk. Finally, open lending has a business model that takes advantage of both this large and growing under-penetrated market and our differentiated business offerings. With that, I'd like to share my view on the current state of the retail automotive lending marketplace. Although the characteristics of each economic contraction are different, there are some common responses by the major participants in the automotive sector. To that end, we are watching a cross-section of economic, industry data, and company metrics. It's been over 40 years since inflation rates exceeded 8%. However, the automotive sector data related to the dot-com recession in early 2000, the great financial crisis of 2008, and economic contraction and subsequent expansion from 2020 to 2021 do offer some parallels and insights. In the prior recessions that I just referenced, the new vehicle SAR fell as much as 40%, and risk-free rates for five-year treasuries declined in a range of 200 to 400 basis points. At the same time, after OEMs pulled back on production, it took anywhere from 12 to 18 months to ramp back up. I would like to point out that in these recessions, auto pricing moderated but did not fall precipitously or below pre-recession levels. On the topic of auto supply and inventory, the new light vehicle SAR was 13.7 million units as of October, or approximately 3 million units below the historical trend line. Inventory is improving as production continues to ramp and supply chain challenges ease, However, the rate of recovery has still been slower than expected due to the ongoing semiconductor chip shortages. At 42.6 weeks, up 8% from a year ago, affordability is at a record 15-year high level. Although the Mannheim Price Index is down 15% from the recent peak, what's most meaningful is the 20% average increase in the rate of a five-year automotive loan since the beginning of the year as the Fed's fund has increased six times and 375 basis points, the fastest rate of increase in 35 years. For all these reasons, we're expecting a continued moderation in auto pricing as inventory grows. If patterns of prior recessions serve as a barometer, the pace of the moderation will be correlated most closely to the production efforts of the OEMs and a resolution of supply chain conditions. So now turning somewhat closer to home, I had the benefit of spending a few days last week with over 200 of our clients at our annual Executive Leadership Roundtable. The key takeaway is where many of our credit union customers are managing their liquidity and deposits in a more conservative fashion versus a year ago. As they work through this challenge, they continue to embrace the value proposition we offer them to go deeper in the credit spectrum, serving their members. Additionally, they recognize that there is a large yield opportunity in the near and non-prime space versus the super prime space due to the higher rate environment. All that said, we're even more passionate about our ability to help those that are hoping to purchase a car or are already paying too high of a rate. And we will continue to target company growth rates in excess of industry auto loan origination growth rates, but not at the expense of our commitment to managing risk. We will continue to maintain our rigorous underwriting standards as John and Ross have taken extreme care to maintain through the pandemic, as well as the current economic slowdown. Now, before I turn it over to Chuck, I want to provide a brief operations update. We have increased our sales, account management, and marketing teams by approximately 20% this year and plan to continue investing through the current economic and industry challenges. The individuals we've hired have deep experience in the auto retail loan originating sector, in particular with credit unions, banks, and OEMs. As an advisor, I was actively involved in the hiring of these individuals and laying out the structure of these teams and our sales disciplines going forward. While early on, we have seen good progress from these investments. In the third quarter, our non-OEM business, primarily credit unions, was essentially flat year over year in certified loans. This demonstrates the strength of our core credit union business, while the large universal banks reported auto loan originations down 30% to 40% year on year. We are pleased to have announced we partnered with America First Credit Union, the seventh largest credit union in the country at $17 billion in assets and 1.2 million members. In addition to those investments, we have added R&D team members and have continued to invest in our technology and in the enhancement of lenders' protections. Importantly, to assist our customers during this period of elevated affordability, we have modified our product with program underwriting changes to expand loan limits and extend the term of qualifying vehicles to 84 months. Now, with that, I would like to turn the call over to Chuck to review Q3 in further detail, as well as to provide updated thoughts on the full year 2022 outlook. Chuck?

Thanks, Keith. During the third quarter of 2022, we facilitated 42,186 certified loans compared to 49,332 certified loans in Q3 of 21 and 44,531 certified loans in Q2 of 22. Total revenue for the third quarter of 2022 was $50.7 million as compared to $58.9 million in the third quarter of 2021. Total revenue was down 14% year over year. However, excluding ASC 606 change in estimate associated with our profit share, revenue was down only 5% year over year. To break down total revenues in the third quarter of 2022, profit share revenue represented $26.5 million, program fees were $21.8 million, and claims administration fees and other were approximately $2.3 million. It is important to note that while our certified loan volume was down year over year, our program fee revenue increased slightly due to the mix of business certified resulting in higher unit economics related to our program fees year over year. Now to further break down the $26.5 million in profit share revenue in Q3, profit share associated with new originations in the third quarter of 2022 was $24.9 million or $589 per certified loan as compared to $27.9 million or $566 per certified loan in the third quarter of 2021. Also included in profit share revenue in Q3 of 22 was 1.7 million in positive change in estimate of future revenues from certified loans originated in previous periods, primarily as a result of positive realized portfolio performance due to lower severity of losses. Change in estimated future revenues was 7.5 million in the third quarter of 2021. Gross profit was $45.5 million and gross margin was approximately 90% in the third quarter of 2022 as compared to $52.5 million and gross margin approximately 90% in the third quarter of 2021. Selling, general, and administrative expenses were $17.7 million in the third quarter of 2022 compared to $11.8 million in the previous year quarter. There were approximately $3.5 million in one-time expenses during the current quarter. The increase year-over-year excluding one-time expenses is primarily due to additional employees to support our growth with a focus on our go-to-market sales strategy and investment in our R&D technology. Operating income was $27.8 million in the third quarter of 2022 compared to $40.7 million in the third quarter of 2021. Net income for the third quarter of 2022 was $24.5 million compared to $29.4 million in the third quarter of 2021. Basic and diluted earnings per share were $0.19 in the third quarter of 2022 as compared to $0.23 in the previous year quarter. Adjusted EBITDA for the third quarter of 2022 was $29.4 million as compared to $42.1 million in the third quarter of 2021. There is a reconciliation of GAAP to non-GAAP financial measures that can be found at the back of our earnings press release. Adjusted operating cash flow for the quarter was 35.9 million as compared to 38.8 million in the third quarter of 2021. We exited the quarter with $399 million in total assets, of which $201.8 million was in unrestricted cash, $99.9 million was in contract assets, and $73.4 million in net deferred tax assets. We had $165.7 million in total liabilities, of which $148.3 million was in outstanding debt. As Keith mentioned, we believe the most significant factor weighing on unit growth and originations for the auto retail sector in the near term is affordability for the end consumer. As the year began, industry forecasts called for a slow and steady improvement of inventory and pricing moderation as represented in the Manhattan Price Index. However, the new vehicle SAR has now been revised downward in each of the last two quarters and is currently at a run rate of 13.7 million units in contrast to 15 million units as we began the year. In addition, with the FOMC press conference this week, we have now seen the fastest rise in federal funds rate in over 35 years, and a communication by the Federal Reserve Chairman that rates could potentially stay high for longer than previously anticipated. For those reasons, we are tightening our guidance for full year 2022 accordingly. Based on year-to-date 2022 results and trends into the fourth quarter, We are tightening our previous guidance range for total certified loans to be between $160,000 and $170,000, total revenue to be between $180 million and $190 million, adjusted EBITDA to be between $112 million and $122 million, and adjusted operating cash flow to be between $130 million and $145 million. In our guidance, we continued to take the following factors into consideration. continued disruption in transportation networks and raw material shortages, including global semiconductor chip shortages, dealer inventory that remains below historic levels, the rate of contraction for an index of the largest public auto lender financial institutions, some of which originated 30% to 40% less volume on a year-over-year comparison in the third quarter of 2022, the affordability index of our target credit score due to continued inflated used car values, and finally, inflation and rising interest rates, and overall consumer sentiment. Specifically, for the overall auto industry, the affordability is now at 42.6 weeks, the highest levels in a decade. We want to thank everyone for joining us today, and we will now take your questions.

We will now begin the question and answer session.

To ask a question, you may press the start button once. on your telephone keypad. If you are using a speakerphone, please pick up your headset before pressing the key. To withdraw your question, please press Start then 2. At this time, we will pause momentarily to assemble our poster. And our first question comes from David Sharford with JMP.

Hi. Good afternoon. Thanks for... Thanks for taking my questions and congrats on the new role, the formal first earnings call for you. Hey, two things. One is more maybe just some context around the Q4 guidance, a little more granular question. You know, there's typically some pretty steep seasonality in the auto industry and with a slowdown sequentially from Q3 and Q4. Just trying to gauge as we think about what's implied by the full-year guidance, what's implied for the fourth quarter, sort of how much of that sequential decline in the top line is normal seasonality and how much of it is maybe some incremental caution versus three months ago in your macro outlook?

Hi, David. It's Chuck. You know, as we thought about the guide, you know, obviously there are a lot of factors that went into it, you know, the inputs. You know, obviously the Fed monetary policy that, you know, came out, you know, that's been ongoing, but, you know, the Fed Chairman Powell talked yesterday. And, you know, definitely seasonality for Q4 that's out there, you know, historically lower volume. But, you know, really this affordability issue to the near and non-prime consumer is really, you know, what's driving a lot of what you know, we've taken into consideration, you know, with the rising rates. I mean, you know, we've had 375 basis points increase in the past five months in the Fed funds rate. And, you know, even since our last call in August, 150 basis points since then, you know, your point about the three months, you know, that have transpired since we last talked. So, you know, and really know, you know, this really aggressive manner on the Fed, and, you know, it's difficult to anticipate, you know, the lag effect of the federal policy. So, you know, we think it's prudent to be conservative.

Got it, got it. And maybe, you know, following up on the affordability challenges, you know, to the extent that you're extending some loan terms to 84 months and loan limits for qualified borrowers, I would imagine that the premiums, the cost of default insurance, would go up as well, coincident with, you know, those types of revisions. Are the carriers in this dynamic sort of insistent on maintaining their own return requirements, and does that therefore potentially impact, you know, the average profit share we should expect from a CERT?

Hey, Dan, did you have the mail?

I'll let Chuck speak to the profits here, but from a carrier standpoint, you're right. We've tried to maintain, and this is John answering the question, every cell that we write to, a cell being a loan-to-value or a FICO score-driven matrix, if you will, is written to about a 60% loss ratio. So to your point, if it's a greater risk, 84 months, higher loan amount, the premium is going to be a little bit higher. But because you're extending that out, it gets the payment to income into a much better situation for the consumer, meaning fewer defaults. But you've hit the nail on the head from a standpoint of, you know, premiums are going to be a little bit more and, you know, hopefully be reflected in the profit share. But Chuck, do you want to expand on the profit share part of that?

You bet. And David, yeah, I can, John. And you can see it in our Q3 results. On new originations, we booked $589 for a certified loan over last year. It was $566. And you may recall in our underwriting changes and some of the things we did earlier this year, we had, in addition to the higher premium on the loan amounts, as well as the extended term, the vehicle valuation discount, which also is an increase to the premium. So We feel like it's the right decisions on the underwriting where we are in this challenging backdrop. But I think more importantly, your comment about the underwriters, they're part of the decision. It's a partnership, and we're all working together with the premium increases or any of the changes.

Got it. Thanks very much. Very helpful.

Yes, sir. Thank you.

The next question comes from Peter Hickman with D.A. Davidson.

Hey, good afternoon. Thanks for taking the question. Looks like if I'm reading my model right, nine quarters in a row where you've had a positive adjustment to profit share. This is the smallest of those nine. And certainly looking into the tea leaves here, I guess, what would you – What would be driving that more? Is it the increasing severity of loss per claim due to the drop in used car values, or are you actually seeing a little bit of an uptick in potential defaults?

Yeah, how you doing, Pete? It's Chuck. Yeah, I mean, you're absolutely right. I mean, you think back last year, you know, I think 2021 had like 30, almost $31 million in positive changes, and you know, that was primarily driven by, you know, obviously the liquidity in the consumer's, you know, hands and lower, you know, defaults, claims, and severity. And, you know, what we've continued to model in this challenging time going forward into 22, you know, last couple of quarters and also into the future is, you know, increased severity because we've modeled the Mannheim index, price index, you know, coming down moderately. You know, our prepared comments, I think, you know, 15% you know, year to date in that, and as well as defaults normalizing, you know, to normal levels. And even past that, you know, we've stressed the future portfolio, you know, as it relates to defaults and severity. So, and with a little benefit to prepay speeds due to the rising rate environment and the loans, you know, being in our portfolio longer. So, it's kind of a combination of all that.

Okay. All right. That's helpful. And then, Just from a housekeeping perspective, how many lending customers did you have in the quarter with, and were there any? I know you had the one notable ad, but if I remember correctly, there were a couple of relatively larger FIs that were onboarding.

Right, yeah. America First, you know, obviously was a large one that Keith talked about. But we had about 400, you know, active institutions at Q3 end.

Okay, I'll follow up offline on that one. and I'll get back in the queue. Thank you.

Okay. Thanks, Pete.

The next question comes from Paiva Owee with Deutsche Bank.

Yes. Hi. Thank you. I wanted to ask about, you know, refinancing volumes, because I think historically that's something that you've disclosed. And unless I missed it, I haven't found that yet. So just give us some color on that. how that has trended and, you know, what your expectation is for that going forward.

Sure. You know, a little bit of the slowdown with Pentagon has caused the refinance channel to slow down a little bit. It's still a significant piece of our volume for sure. And we think it will continue to be going forward. But as we talked about in our comments, you know, with credit unions, Kind of retooling, trying to figure out where to find some cash, some of our larger ones. It has slowed down a bit. I think we have found too, and I think Keith alluded to this, with the cost of funds, some of our larger funding sources there are still taking apps, but the app flow is simply down. You know, we're just not seeing the apps that we were seeing leading into this quarter. So I think the percentage of approval to apps is still way up there, particularly in that channel. But it's simply the applications aren't coming through as quick as they were. So it's still a significant piece of our business. We think it will continue to grow. As we talked about, you know, with the cost of funds rising all over, some of our funding sources have raised their yield targets by as high as 300 points. where credit unions have only raised it by 60 basis points. But I think there's still some significant room for growth there.

Okay. Okay. Understood. And then can you talk about sort of has there been some churn on the customer side? You know, I think previously, like last quarter, you talked about 463 active lenders. It sounds like it's the same issue that you've been describing, John, but Give us a bit more color, and maybe on the new partner that you've signed, sort of how significant of a benefit could that be, and when will that start kicking in?

Sure. Yeah, even I think Peter had asked not the total number of accounts, but what have we signed, approximately 55 or 60 new accounts this year?

That's right, John. About 53, 53 year-to-date.

Yeah, I wouldn't say that there's been any significant churn. I mean, we've not had people, you know, actually canceling. You know, when we determine what is an active account versus, you know, a funding source, sometimes you get some credit unions that will not be as active on the platform simply because of liquidity issues. Yeah, but we continue to see a lot of inbound calls. You know, we've got a very active sales force And, you know, we continue to see a lot of interest from some of the larger credit unions looking to get out of the platform. So, yeah, I'm not familiar with any major accounts that have fallen off from a standpoint of actually shutting down the program.

Yeah, John, I'll jump in. What we're thinking of is last quarter, we actually put a new disclosure in the 10Q program. So the way, you know, we had previously defined an active account was one active cert within the trailing 12 months. We still provide that. And when we exited the quarter, that was about 430, okay, active customers. You know, then what we did is added in the periods presented Q3 and then nine months to date for 2022, we actually show new lenders added. And then anybody that might have been inactive in the quarter, it doesn't mean they've gone inactive and they left the business or the company. They just didn't have a certain in a quarter. And one of the disclosures this quarter when we file our Q tomorrow is we had 21 new lenders in Q3 execute their first certified loan with open lending.

Got it. Very helpful. Thank you.

You bet.

The next question comes from Joseph Harvey with Canaccord.

Hey, guys. Good afternoon. Once again, welcome, Keith. Maybe just start with one for you, Keith. I know, you know, you're really focused on go-to-market and, I mean, the macro is, you know, to say the least, dynamic. But do you see any, you know, without giving away any secret sauce, any kind of tweaks or opportunities on the go-to-market now that you're CEO? And then I'll follow up.

Well, I appreciate the question and good afternoon. You know, certainly the vision that I have for the company is to continue the great work that, you know, John and Ross have set in motion. But my idea is to kind of bring a series of refinements to the go-to-market model that I've kind of worked on and best practices that I've developed in my career, you know, both in, you know, founding Viato and growing that to hundreds of millions in revenue, and then a series of acquisitions that we did at Cox Automotive. So developing... you know, best practices and now utilizing those at those acquisitions and then utilizing those here. The great news is obviously I've had 10 years to kind of study up on open lending as opposed to like 90 days due diligence on the acquisitions. To get a little bit more specific, it's developing new practices and refinements to marketing and lead gen, sales, you know, account management, you know, implementations and product development. but the key ingredient being to test, you know, new hypotheses and kind of new and a little bit different ways to go to market. And then once we find the right mix, and then just to scale that as rapidly as we can.

Got it. That makes a lot of sense. And then just, you know, a question about kind of the medium to long-term, and I'm going to try to kind of phrase this as best I can, but, you know, we've got some longer-term projects loan products out, I think, to 84 months. And we clearly have still an affordability issue with the price of cars and specially used cars. And the one thing that I think about from time to time is if prices on used cars come in, that's going to be good for your volumes, obviously, because affordability gets better. um, the consumer, uh, comes back and, uh, your certs go up, but, you know, then, you know, when you think about, uh, you know, residual value of the existing loan book and, you know, um, you know, if prices come down on, on used cars materially, um, you know, what does that mean maybe relative to lost provisions a couple of years ago and how do you, uh, Think about that and account for that in your underwriting model. Thanks a lot, guys.

Yeah, thanks, Joe. It's Chuck. Yeah, you know, my comments earlier about the profit share, you know, we have a robust quarterly process. You know, we've got a really experienced risk team that are auto finance, you know, experts, a lot of experience. And what we do on a quarterly basis, we subscribe to Moody's economic, you know, forecast quarterly. It's the inputs from that go into our model, you know, We've got the Mannheim coming down moderately through this year as well into next year and then beyond. So we feel like we've got stress on the portfolio that takes that into consideration. We've had a period of these inflated prices. We've had positive change in estimate under the accounting, primarily due to the severity of losses being lower than historical averages. But as you may recall, we model historical averages and then stress that higher. So, you know, we don't have a crystal ball, but I think we have a really great process that we follow quarterly that, you know, obviously I'm involved in, our executives on the risk team, you know, John and Ross historically, and now Keith with his experience. So we'll all be involved in that. And I feel like, you know, we've got that modeled in, but it just depends on how fast, you know, it moderates. But, you know, we've got default severity as well as prepay speeds into our econometric model. Great.

Thanks for that extra call, Chuck. Yes, sir.

Next question comes from James with Morgan .

Hi, this is Sandy for James. More of a question for Keith, but for all of you guys as well. How are you thinking about capital allocation priorities? And I'm thinking particularly as it pertains to M&A, Just given, obviously, a transition in leadership, obviously, you're all still working together, but any updates in that thought process would be helpful. Yeah, go ahead.

Yeah, how about I start, Sandy, and then Keith can jump in. You know, obviously, you know, we feel, you know, very strongly still about our value proposition to our customers. You know, obviously, there's the challenges and the dynamic of the industry. You know, maintain a financial, you know, very flexible financial profile. We've got a strong balance sheet. You know, we've got $200 million in cash at quarter end. You know, we refinanced and amended our credit facility. We've got great liquidity under that. So, you know, we feel really good about the strength of our balance sheet and the position of the company, and we're investing, you know, in our go-to-market, in our technology roadmap, et cetera, as Keith mentioned. So, you know, that's first and foremost from capital allocation. And then, obviously, you know, M&A is something we can look at, you know, over time and But, you know, we're very focused on the white space ahead in the TAM. And, you know, we're less than 2% penetrated today. And that's still a great opportunity for us to get market share in our business. So, you know, other opportunities that are out there that, you know, we'll consider. But, you know, Keith's been here, you know, I think this is his third or fourth week. And, you know, it's been great. And these are things we're going to talk about and come back and talk further about it, you know, at the year-end call.

Yeah. And thank you, Chuck. And this is Keith. And it's a great question. I mean, the only color that I would add is that certainly using the strength of the balance sheet, not to go too far afield at all, but to continue to provide additional services and products to our current installed base and future customers. Got it.

Super helpful. And then one follow-up, just mindful of the trajectory on revenue into 4Q and then even into 23. How are you thinking about the reaction function and operating leverage just from an adjusted EBITDA margin perspective, just cognizant of the sequential trends here and obviously the macro impacts as well?

Right. Good question. And, Sandy, I'll point out, you know, in Q3, you know, we had some one-time costs that, you know, if you normalize that out, you know, we were still in that call at 63%, 64% EBITDA margin, you know, in the business. you know, longer term, you know, and for full year 22 in the guide, you know, for full year we still feel, you know, are we at strong EBITDA margins and, you know, in that call it 60 to 62% range. So that's in that, you know, if you look at the midpoint of the guide and kind of where that goes. But strong margins and, you know, we plan to continue investing in the business and our go-to-market and our technology while others are not. So this is, you know, it's how we're proceeding through these times.

Got it. Thank you.

Thank you.

The next question comes from John Hatchy with Jeffrey.

Afternoon, guys, and welcome, Keith. I can't remember if it was Keith or Chuck, but one of you guys talked about the concept of affordability and the issue tied to affordability. And I think you even mentioned kind of a a stat or an index tied to it. So, I'm wondering, you know, how do you define or evaluate affordability? And then, like, what factors come into play to kind of release this as a headwind, which I think would, you know, maybe allow for kind of quarter-to-quarter growth going forward? And I'm not asking for guidance in that regard, but just sort of thinking, trying to think about, given these issues, when do these headwinds become tailwinds in order for growth to reoccur?

Yeah, it's a good question, and I think the stat, John, that maybe you were thinking of in our prepared comments was what it takes for a consumer to buy a car, and it's 42.6 weeks, I think, which is above, I think norm is more like 30 weeks in the past, so You know, what didn't help, you know, we already had the inflated cars, you know, per paycheck in the 42.6 weeks. You know, we got the inflated values, you know, I think early in January the Mannheim price was $2.36, whatever it got to in the peak. And then if you think about what's happened over the last five months with rate increases and, you know, 8% inflation, you know, 50-year, you know, low unemployment, you know, tight labor market, all these things. you know, are weighing and, you know, affordability is going to come down, you know, I think, you know, obviously when rates, you know, can normalize again. And, you know, right now the near and non-prime consumer that we target, they're payment buyers and it's very hard to afford a vehicle right now.

And Chuck, the thing I'd add to that, you know, and the question, you know, what are we doing to combat it? I think coming out with the 84-month term, you know, again, the big driver of that is that get the PTI in line so that the payment is affordable by the consumer to be able to stay in the loan long term. So the more we can accommodate that and make it that the payments work for them, keep them in the loan, they're less likely to default if the payment's not over their budget. So things like that are what we're working on to continue to help combat that affordability issue.

Okay. Yeah, and thank you, John.

Sorry?

Yeah, go ahead, Keith.

I was going to say, and this is Keith, and I would just add that combating the affordability issues, the Mannheim Index has been drifting down over the last couple of months, so that would be something on the positive side of the equation for affordability. That and lowering gas prices.

Yeah, all that makes sense. And then anything to think about, you know, call it near intermediate term trends in terms of the profit share per cert or the fee per cert?

Yeah, you know, John, yeah, one of the, you know, in the quarter we had $589 in average profit share for the new originations. And our program fees were $518, which program fees were actually, you know, if you look at it year over year, you know, were up about 18%, and the profit share was up about 4%. A lot of that, you know, obviously the higher loan amounts, you know, will increase the program fee, as well as mix of business, you know, sold. So, you know, I think, you know, longer term, you know, that profit share, you know, it's hard to, you know, I hate to give an exact number there, but in that 550 range, and then the program fees longer term, you know, call it 475 to 500, I think is But it does depend on mix.

Okay. Super helpful, guys. Thanks very much. Thank you.

The next question comes from Vincent. Hey, quick discussion.

Thanks. Good afternoon. Thanks for taking my question. And Keith, welcome aboard. Look forward to working with you, especially with your decades of auto tech experience. First question on the guidance, just looking at the updated certification guidance and what it implies for the fourth quarter. I think it's down for quarter to quarter. But just want to understand if there's, as we're thinking about 2023, and I understand it's probably a little early to provide 2023 guidance, but for the fourth quarter, is there Is it a seasonally weaker quarter or is there something we should be thinking about? Or is that a good number when we think about jumping off into 2023 for certifications?

Hey, Vincent, it's Chuck. Yeah, a little earlier we got one question about the guide. And, you know, yeah, I mean, Q4, as you know, is seasonally, you know, historically a lower volume quarter. But, you know, really what's changed since the last time we've all talked is, It's just really the aggressiveness of the Fed actions, the affordability issue on the consumer that we've talked about, and also all things being equal, our customers, primarily credit unions, are being more conservative managing their liquidity and deposits right now. So it's a combination that went into our tightening of that guide for the year and, consequently, the fourth quarter.

Okay, understood. Thank you. And then a second question, I think, for Keith. Just curious, you know, you've been here for a couple of weeks. I believe there was a big user group meeting where you were able to meet a couple of your clients. And just kind of wondering what you've been hearing in terms of the opportunities and challenges and what your clients are looking for. You know, when I cover a couple of the other auto lenders and you've got Capital One and Ally who are saying that the credit unions are able to take share and able to price things better. And so I was just wondering if that's an opportunity for you and what the banks and credit unions and your customers are saying. Thank you.

Yeah, happy. It was a pretty wonderful time to begin with any new company, and that is to have 200 customers fly in and be able to talk shop and learn from them. I would say certainly hats off and congratulations to our credit union customers because over the last quarter, they actually supplanted the captives as the number two source of auto lending in the country. So they've been very, very busy at work. That said, however, there was just a little bit of caution around how they're going to manage their deposits and the way they think about their lending portfolio going forward. But it was a wonderful time to learn from the customers. And then also, I just have to reiterate the incredible relationships that John, Ross, and the entire team had developed with each and every one of those customers. It was very impressive to see.

Keith, the one thing I would add to that, the one thing we don't want to lose sight of, what got credit unions, I wouldn't say out of whack, their loan-to-share ratios grew significantly in the last nine months, primarily because mortgage rates were low, everybody was trying to get into houses, and they went out and put a bunch of money out in mortgage loans. Well, that's reversed itself. But mortgage rates at an all-time high, they're going to be looking for an asset class to lend to that is going to be a shorter-term, better-rate loan. So all these shops that kind of went out on a limb and did a lot of mortgage loans are regrouping and looking for that two-and-a-half to three-year average life piece of paper, which is auto, and it's priced appropriately. So I think even though it was a short-term kind of run-out-of-cash deal, if you will, and they're obviously not going to go paying off those shorter-term mortgages, but those balances are going to be paying down, and they need to find a home for that money, which will be auto loans.

Okay, perfect. That's very helpful, everyone. Thanks very much. Thanks, Vincent.

The next question comes from Bob Napoli with William Blair.

Hi, everyone. This is Spencer James. I'm for Bob Napoli. Thank you for taking the question. I was wondering if you could provide an update on close rates and maybe share if you back out the expanded loan terms you guys have made. Have close rates started to recover or are you not yet seeing that?

Would you say if we backed out the 84? Because I can tell you that's had a significant impact on close rates. But I'm not sure that I have the exact number right in front of me of what it was if we were to back that number out.

Yeah, John, I'll jump in. So, Spencer, maybe the way to think about it is the program underwriting changes that we made earlier in the year, you know, on the 84-month term as well as the loan amount increases that we made, you know, we're seeing increases in the capture rate about 8% to 10% on both categories is what we're seeing. So, you know, obviously that's, you know, in the direction we obviously, you know, we're looking for, but that's kind of early indication.

Okay, thank you. And one follow-up. The increase in premium pricing, will that continue to mainly come from the expanded loan terms or Or are there other levers you could pull to raise that premium pricing? If you could talk about your willingness to do so and what might lead you to do so. Yeah, John, do you want to start or do you want to go ahead?

Yeah, I was going to say, we've not had any premium increases because we haven't needed them. I think to your point, the additional premium today is coming from 84 months. Some of the levers that could be pulled, you know, we can change premium with a 30-day notice to the insured. if we need to because it's a surplus lines policy. But some of the easier levers, if we wanted to do them, is to simply change the advance rate. I don't know if you remember us talking over the last year or two that we have occasionally gone out and said instead of using, say, 100 percent of wholesale, we were pricing off 95 percent of wholesale. So if the advance then bumped them up into a 110 or 115 advance based on using a lower dollar figure, that would have the impact of more premium coming in. But at this point, we don't see the need to do so. The profit share is working well for the carriers and us, but there's certainly levers that can be pulled if we needed to.

Thank you. Appreciate it. Thank you.

The next question comes from John Davis with Raymond James.

Hey, good afternoon, guys. Chuck, just a quick one for you. Took operating cash flow up despite taking EBITDA and some of the stuff towards the lower end of the range. So just want to understand kind of what's driving that kind of up to the higher end of the prior range for operating cash flow.

Yeah. Hey, John, how you doing? Yeah, it was just more of taking the low end up a bit in the high. You know, we're at a You know, the adjusted operating cash flow through September, we're right about $110 million, you know, back of the earnings release already. So, you know, we felt like, you know, obviously it's been a good cash collection, strong cash collection year, and, you know, profit share program fees and all of the three legs to the stool, you know, generate a lot of cash. So that's why, just kind of trending into the quarter.

Okay. And I know on the profit share, I know the economic assumption has come down, but was still positive this quarter, which I guess is good on one hand. But on the other hand, given where we're going from a macro perspective, why not just kind of keep that in your back pocket? I mean, I just maybe want to understand a little bit about the methodology. Is it literally just whatever the model spits out is what you guys put in the numbers? Because, you know, at some point, it's likely that assumption is going to go the other way. So just, you know, just thoughts on that. on how you guys get to that? Is it literally just whatever the model spits out, it is what it is? Or is there any subjectivity to it at all?

No, I mean, if we've talked about, John, I mean, we've got a really thorough, robust process with our risk team. But if you think about the $1.7 million that we booked net in Q3 that, you know, obviously was lower than in any other quarters in the past probably four or five or six, you know, obviously that has slowed down as we continue to put stress on the portfolio. as it relates to severity, the Mannheim coming down gradually, severity of loss going up, defaults normalizing, et cetera. But what really drove the 1.7 was realized portfolio performance, which means that the actual claims through that balance sheet date of 9.30 that we thought would happen didn't happen as high as we thought, so that turns to cash. So we basically increased the contract asset accordingly for that. But prospectively, we had more stress out into the portfolio performance on severities going up and defaults going up. So it's a quarterly process that's very robust and we monitor it very closely and change our facts and circumstances.

Okay, and then just last one for me, as we look out, appreciate you're not, it's too early for 23 guidance, but if we were to look at the certs in 4Q, any reason why that's not a reasonable run rate to start out at least the first part of next year? as we think about kind of building our models in 23.

Yeah, you know, remember, John, you know, seasonality in the business, and, you know, Q1, you know, is, you know, March is obviously, you know, seasonality-wise is a good month for us due to the tax returns and folks getting tax refunds. So, you know, I'd obviously take that into consideration in your modeling. And, you know, Q4, you know, as Keith and I both talked about, and John said, You know, obviously the affordability, the Fed action, as well as, you know, some of the, you know, conservatism at our, you know, credit union customers right now with, you know, their liquidity and deposits. And, you know, as we kind of do the bottoms-up work on 23, you know, we'll come back and talk to everybody about full year on the February call. So we're doing that work now.

All right. Appreciate it. Thanks, guys.

Yep.

Thanks, John.

Thanks, John.

Excuse me, if you would like to pose a question, please press star one. Okay. This concludes our question and answer session.

I would like to turn the conference back over to Chuck E. L. for any closing remarks.

We'd like to thank everyone for joining us today and your interest in open lending and appreciate your support and want to officially welcome Keith. We're excited he's here and leading our company to the next era of our growth. So we'll talk to you soon, and thanks again. Have a great day.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.