OppFi Inc.

Good afternoon and welcome to OPFI second quarter 2023 earnings conference call. All participants are in listen-only mode. As a reminder, this conference call is being recorded. After management's presentation, there will be a question and answer session. Participants can submit questions at any time by either emailing investors at opfi.com or selecting the ask a question feature on this live webcast. For listening by dialing, you may be prompted to enter the queue after the prepared remarks. It is now my pleasure to introduce your host, Sean Smallers, Head of Investor Relations. You may begin, sir.

Thank you, Operator. Good afternoon. On today's call are Todd Schwartz, Chief Executive Officer and Executive Chairman, and Pam Johnson, Chief Financial Officer. Our second quarter 2023 earnings press release and supplemental presentation can be found at investors.opsci.com. During this call, OPSI will discuss certain forward-looking information. These forward-looking statements are based on assumptions and assessments made by OPFI's management in light of their experience and assessment of historical trends, current conditions, expected future developments, and other factors they believe to be appropriate. Any forward-looking statements made during this call are made as of today, and OPFI undertakes no duty to update or revise any such statement, whether as a result of new information, future events, or otherwise. Important factors that could cause actual results, developments, and business decisions to differ materially from forward-looking statements are described in the company's filings with the United States Securities and Exchange Commission, including the sections entitled Risk Factors. In today's remarks by management, the company will discuss certain non-gap financial metrics, A reconciliation of these non-GAAP financial measures to the most comparable GAAP measures can be found in the earnings press release issued earlier this afternoon. This call is being webcast live and will be available for replay on our website. I would now like to turn the call over to Todd.

Thanks, Sean, and good afternoon, everyone. I'm very pleased with our second quarter results, which further demonstrate our focus on profitability. In the second quarter of 2023, we more than doubled adjusted net income year over year while achieving double-digit revenue growth. I believe this result clearly indicates our ability to balance growth and risk while maintaining expense discipline. Pam will review our second quarter results in detail as well as discuss our full-year guidance update, which includes raising our earnings outlook. Before she does, I will cover three topics, one, the key highlights from our Q2 2023 financial performance, two, our progress on strategic business priorities for 2023, and three, an update on our corporate development initiatives. Second quarter results were driven by improvement in credit performance due to adjustments made last year and recent modeling enhancements, as well as continued total expense leverage and growth and recoveries. The key highlights for the second quarter this year compared to last year are solid 14% total revenue growth to 122.5 million, the strong rebound in both net income with 90% growth to 18.1 million, and adjusted net income with 138% growth to 16.3 million. We achieved these results while holding ending receivables steady at approximately $398 million, further demonstrating our renewed focus on profitability over portfolio growth. To this end, we realized additional gains in cost efficiency in both marketing and operations. Marketing costs per funded loan decreased 23%. Total expenses as a percentage of total revenue decreased by 16%. Now, I'd like to provide updates on our core strategic initiatives. During the second quarter, credit performance continued to strengthen. Net charge-off rates improved year-over-year and sequentially, both as a percentage of total revenue and average receivables. Net charge-off rate as a percentage of total revenue decreased 17%, or 7 percentage points, falling to 36.2% from 43.5% in Q2 last year. Further illustrating the effects of credit modeling enhancements and adjustments at the end of the second quarter, the total first payment default rate decreased 23% and the total delinquency rate declined by 10%. I want to take this opportunity to remind investors about the overall seasonality of the business. Since this affects sequential credit trends, loan vintages originated during late first quarter to early second quarter are historically weaker than other times of the year, which affects credit performance in the third and fourth quarters. Therefore, partly due to seasonality, we expect net charge-off rates to increase sequentially in both the third and fourth quarters, while continuing to improve on a year-over-year basis. This year, our recovery strategy continues to contribute strongly to our net charge-off rate improvement. During the second quarter, recoveries increased 91% year-over-year to 6.5 million. Our plan this year is to remain disciplined and prioritize strong unit economics and profitability over originations growth. Last year's adjustments to credit modeling have yielded positive results. Our product and marketing teams continue to focus on cost-effective initiatives to generate lower risk origination volume. We have worked hard to optimize our marketing funnel to lower origination costs and yield better quality. We remain very focused on realizing operational efficiencies. This is demonstrated by the 16% improvement year over year for total expenses as a percentage of total revenue during the second quarter. We achieved this with more efficient marketing spend, effective management of general and administrative expenses, and the previously announced streamlining of our customer support operations. These improvements were made despite interest expense increasing by approximately $3 million or 43% year over year. Before I conclude my remarks, I'll provide a brief update on our corporate development initiatives. As discussed on our Q4 2022 conference call in March, diversifying the business is one of our strategic growth priorities. We are most interested in potential accretive acquisitions in adjacent customer or product categories, where we believe we can leverage our core competencies and brand equity to create value and serve more customers. We believe there are opportunities in the market and are starting to see more realistic valuation expectations. In summary, the strength of our business during the first half of the year gives me confidence that our strategic decision making last year put us on the right path and is generating positive results. This confidence is why my family and I continue to purchase shares during the recent open trading window following our Q1 earnings release. We also expect to be more proactive with investor relation activities in the second half of this year with plans to meet with investors at conferences and related events. With that, I'll turn the call over to Pam.

Thanks, Todd, and good afternoon, everyone. Q2 was a solid quarter as credit performance continued to improve during the seasonally strongest period of the year. Total revenue increased 13.5% to $122.5 million. Net originations decreased 10.8% year over year, to $200.6 million due to our strategic focus on profitable growth that emphasizes quality over quantity and the narrow credit box open to the lowest risk credit segments in the addressable market. New customer originations for the quarter decreased by 30.3% year-over-year, while existing customer originations increased by 13.8%. Our annualized net charge-off rate as a percentage of average receivables was 46.6% for the second quarter compared to 51.9% for the prior year quarter and 61.8% in the first quarter of 2023. As a percentage of total revenue, the annualized net charge-off rate for the second quarter was 36.2% compared to 43.5% in the comparable period last year and 49% in the first quarter of 2023. To reiterate what Todd discussed earlier, we now expect the net charge-off rates to increase sequentially in the third and fourth quarters due to seasonally weaker loan vendages from earlier this year, while improving in both of those quarters on a year-over-year basis. For the full year, we anticipate significant improvement from last year. Turning to expenses, total expenses for the second quarter totaled $56.2 million, or 45.9% of total revenue, compared to $58.8 million, or 54.5% of total revenue for the second quarter of 2022. The year-over-year decrease was primarily the result of lower direct marketing spend due to the mix shift, partially offset by higher interest expense. Interest expense for the second quarter totaled $11.2 million or 9.2% of total revenue, compared to $7.9 million or 7.3% of total revenue for the same period last year. The increase was due to higher interest rates on our credit facilities utilized to fund originations over the past year. Adjusted EBITDA totaled $35.7 million for the second quarter, a 78.7% increase from $20 million for the comparable period last year, driven by both lower net charge-offs and operating expenses. Adjusted net income was $16.3 million for the second quarter, more than doubling from $6.8 million for Q2 last year. Adjusted earnings per share was $0.19 compared to $0.08 for the second quarter last year. For the three months ended June 30, 2023, OPFI had 84.8 million weighted average diluted shares outstanding. Our balance sheet remains strong with cash, cash equivalents, and restricted cash of 62.1 million, total debt of 331.9 million, ending receivables of 397.8 million, and equity of 177 million as of quarter end. We believe we have ample liquidity available to support our current growth plans with $537.1 million in total capacity to fund receivables at the end of the second quarter. In late July, we also announced the upsizing of our evolving credit facility with affiliates of Adelia Capital Management to $250 million. We appreciate Adelia's confidence in us and the strengthening of our business relationship. The increased capacity will be used to fund receivables growth, which we expect to generate incremental profitable growth. Turning now to our outlook. For full year 2023, we are reaffirming guidance for total revenue of $500 million to $520 million, which implies growth of 10% to 15% year over year. In addition, we are increasing guidance for adjusted net income to between $29 million and $35 million from the $24 million to $30 million prior range. As a result, we are also raising our outlook for adjusted earnings per share to between $0.34 and $0.41 from the $0.28 to $0.35 previous range. While we're not providing formal quarterly guidance, I'd like to share additional details for how we're thinking about the second half of the year. We expect to resume year-over-year originations growth in the third and fourth quarters. For revenue, we're anticipating low to mid single-digit growth in Q3, and then an acceleration to low double-digit growth in Q4. With that, I would now like to turn the call over to the operator for Q&A. Operator?

Thank you. We will now be conducting a question and answer session. If you would like to ask a question, please press star one on your telephone keypad. A confirmation tone will indicate your lines in the question queue. You may press star two if you would like to remove your question from the queue. For participants using the speaker equipment, it may be necessary to pick up your handset before pressing the star keys. One moment, please. I will pull for questions. Our first question comes from David Scharf with JMP Securities. Please go ahead.

Thank you. Good afternoon, and thanks for taking my questions. Hey, Todd, a little bit of a, I guess, more of a philosophical or strategic question for you. You know, this whole earnings season, investors and analysts have been asking, Managements about, you know, after credit tightening, what do they need to see to get more aggressive or to open their credit box a bit? But I'm more interested in kind of hearing your thoughts about how we ought to think about what your kind of longer-term vision is for OPFI in terms of growth rate. You know, you've talked a lot about quality over quantity, you know, maximizing growth. returns over just top line or balance sheet growth. You know, do you have a certain ceiling in your mind in terms of regardless of the opportunities out there of how much you're willing to sort of grow the portfolio? Or rather, is it going to, you know, continue to be sort of opportunistic depending on the cycle?

Yeah, thanks, David. Good question. So first of all, you know, I pointed this out on other calls. Back in 2019, we were originating two segments that today we originate zero of. And we could double our adjustable market essentially overnight, but it's obviously there's cyclicality to the business and the consumer segment. The consumers had a great run. You know, we founded this business in 2012. We had a credit cycle for seven straight years where we had really, really strong performance. And then obviously with COVID and everything else that happened, we've adjusted. And that's what's great about our team. We're nimble and we're able to adjust to the market dynamics. Right now, I'm proud that we've been able to increase revenue and grow even with much stronger quality on the credit side. And, you know, also, you know, we're seeing, you know, we're still being a little bit, we're being real disciplined on the credit. I do think, though, that there's going to be a time when the consumer, you know, this cycles out and we will be able to open up some more segments. And like I said, it virtually doubles our addressable market. You know, 40% of our originations, I mentioned new loans in 2019 came from those segments. And, you know, we're no longer originating those. So, For that being said, I think I'm really proud of the team, and our marketing funnel optimization has been really great. We've brought on some new partners. We have actually some strategic initiatives in the pipeline to open up potentially some new geographies. We have nothing to report now, but we're working on some of that as well. So right now, we're comfortable with where we're at and with the credit originating. We also... we're able to find some model enhancements, right? We were able to take some of the data from some of the losses last year and have been able to actually increase growth in certain segments and pockets because of that data. So that's really exciting as well.

No, no, it's helpful. I mean, it kind of sounds like we're not going to be drinking from a fire hose as soon as you see sort of macro factors change. It's going to be more measured, you know, in kind of predictable growth going forward. Yeah. One to follow up. You know, you mentioned, you know, on the marketing side, and I know I think in your prepared remarks or in the press release, you talked about the marketing cost per funded loan down over 20%. Can you just update us on sort of the channel mix? I mean, where, you know, direct mail versus digital, you know, whether there's any kind of concentration with particular... you know, sites like a lending tree or so forth?

Yeah, so we don't, we keep all our partners at less than 10%. We really make sure that we don't have, you know, that type of risk or concentration as, you know, some others in the place. We've also, you know, direct mail is actually something that we see tremendous amount of ability to improve in. We really, you know, have been, you know, with COVID and with kind of what went on with, the consumer, some of the modeling, you know, has become less predictive. So we have huge room to improve. And so we're achieving these results kind of even without that muscle, you know, fully, I would say fully at 100%, but, you know, I really have some interesting things there to deploy in the upcoming quarters. We have partnerships with some of the ones you mentioned. One thing that's been really great is our SEO is up 65. Our search engine marketing optimizations have yielded 65% increase, I believe, in applications and qualified apps. Our referral program continues to be a really strong driver of high-quality consumers that we're able to originate for on behalf of the bank partners. And, you know, so we have a nice mix shift where we don't allow any, you know, one, you know, partner or vertical to be too much of our current origination platform to keep it fully diversified.

Got it. Hey, last question, just on the guidance, maybe clarification. You know, I was going to originally – I had scribbled down here to ask about maybe what was behind the – second half trajectory, you know, in terms of earnings being much more kind of front end loaded after the Q2 results. But, you know, Pam commented about the loss rates. Am I correct in that that's pretty much the predominant driver, you know, in the more pronounced seasonality versus maybe what we had modeled is the increase in loss rates seasonally in the second half?

Yeah, and I think it's the continued discipline of growing at, you know, high single digit, right, also affects that number, right, as a percentage of revenue, right? So we're going to remain disciplined, you know, in a normalized environment. If there was maybe a little bit more growth out there, obviously that may be a little bit of a different conversation. But, you know, we had a really, you know, strong, you know, fourth quarter vintage coming into the first quarter of tax refunds. And we also, you know, our real great story is our recoveries, right? Our recoveries are up 90% year over year. Our values-based recovery strategy that we implemented also, our tech and product team, you know, revamped the whole payments portal for our consumers and made it easier for consumers to interact with payments and our service delivery to be able to power that. And so, you know, we did a lot of the strategic decisions last year, and they were very tough decisions. And we kind of have told, you know, the street and our analysts and our investors, you know, kind of, there was going to be, you know, minimal profitability. We remained profitable for the year. But all those things we did, you know, kind of came better than expected in the second quarter and we'll continue to benefit from that in the third and fourth quarters. But yeah, I mean, as you start to originate throughout the year, you know, there's a little normalization on the losses, but we still are, you know, very, very encouraged about our approach. our OpEx is at the right level of where we think the business needs to be. And I think with our acquisition costs and losses kind of trending normally, we're in a good spot. Got it.

Perfect. Thanks so much.

Next question comes from Mike Grondahl with Northland Securities. Please go ahead.

Hey, guys. Thank you. Hey, one thing you called out besides improving credit and expense leverage was some recent modeling enhancements. Can you just describe kind of what those were?

Yeah, I mean, without getting too technical, some of the stuff we've seen on some of the customers' income and on the bank side of attributes have been very, very helpful. Obviously, with inflation taking hold last year and people kind of having less discretionary to pay their obligations, We took a lot of that data and analyzed it very heavily and compared it back to years past. And that's one, you know, advantage we have is we have a really, really strong set of 10 years of data to pull from and find things that, you know, have become more predictive in this environment, an inflationary environment. You know, albeit, you know, unemployment remains low. People are employed. And so that's the positive here. And, you know, we were able to derive some additional attributes in our credit modeling that have helped you know, increase originations. I mean, ultimately, we are a credit access business, and we're trying to find more borrowers that we can serve, but we have to do within the confines of loss rates and what's acceptable, you know, for our business. And so that's what's great about some of this modeling is you can increase some volume while also reducing some losses. And so, you know, feel really good about the contribution the credit team made there, and we'll continue to find more attributes and more analysis. to help.

Got it. And it looks like you have ample liquidity. How are you seeing the competitive environment today?

Yeah, I mean, listen, we always judge our competitive by the match rate. So we have a turn-up program where when customers come to us organically, we first check them against a consortium of lower-cost lenders before we engage, right? That's one of our brand promises is to provide a lower rate are the best available product if we can. And that match rate has increased in the second quarter. The first part of the year, it was running at about 10%. It's kind of gone. So there is definitely some increased competition from lower APR providers. Listen, as much as that does inhibit our growth a little. It's actually part of our brand process. And, you know, we're happy for our customers that they can get a lower rate. That really is kind of, you know, what we set out to do when we founded OpFi. So it is part of the thing. I have to say, though, if you look at our mix shift and you look at the lower risk segments, we've originated, you know, significantly more of the lower risk credit despite that. in the quarter and in the first quarter as well. And they're performing on par with our expectations of having a much higher quality book.

Got it. And then, hey, just lastly, it looks like SalaryTap and the OpFi card, you guys are kind of shutting down. Any charge associated with that or cost savings we should think about going forward?

We have written that portfolio down, Mike, and you'll note that when you read our 10-Q. It was originally held for sale. We are no longer marketing it, and so winding it down is what we're looking at.

Got it, got it. And the people working on it, are they reallocated, or is there any cost saved by winding those down? Minimal.

Minimal. You know, most of the people have been redeployed in other aspects of our business.

Got it. Okay. Thank you.

As a reminder, if you would like to ask a question, please press star 1 on your telephone keypad. I think there are no further questions at this time. I would like to turn the floor back over to Todd Schwartz, CEO and Executive Chairman, for closing comments.

Thanks everyone for joining us today. We look forward to speaking with you again in November when we report third quarter results.

This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation and have a great day.