Atlanticus Earnings 2020-09-30

 

 

Table of Contents

 

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-Q

 

For the quarterly period ended September 30, 2020

 

of

ATLANTICUS HOLDINGS CORPORATION

 

a Georgia Corporation

IRS Employer Identification No. 58-2336689

SEC File Number 0-53717

 

Five Concourse Parkway, Suite 300

Atlanta, Georgia 30328

(770) 828-2000

 

Atlanticus’ common stock, no par value per share, is registered pursuant to Section 12(b) of the Securities Exchange Act of 1934 (the “Act”) and trades on the NASDAQ Global Select Market under the ticker symbol "ATLC".

 

Atlanticus (1) is required to file reports pursuant to Section 13 of the Act, (2) has filed all reports required to be filed by Section 13 of the Act during the preceding 12 months and (3) has been subject to such filing requirements for the past 90 days.

 

Atlanticus has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T during the preceding 12 months.

 

Atlanticus is a smaller reporting company and is not a shell company or an emerging growth company.

 

As of November 6, 2020, 15,962,016 shares of common stock, no par value, of Atlanticus were outstanding, including 1,459,233 loaned shares to be returned.

 

Table of Contents

 

 

 

 

 

 

 

 

 

1.	Description of Our Business

 

Our accompanying consolidated financial statements include the accounts of Atlanticus Holdings Corporation (the “Company”) and those entities we control. We are primarily focused on facilitating consumer credit through the use of our financial technology and related services. Through our subsidiaries, we provide technology and other support services to lenders who offer an array of financial products and services to consumers who may have been declined by other providers of credit.

 

In most cases, we invest in the receivables originated by lenders who utilize our technology platform and other related services. From time to time, we also purchase receivables portfolios from third parties.  References to "receivables" include receivables purchased from our bank partners and from third parties. As discussed further below, we reflect our business lines within two reportable segments: Credit and Other Investments; and Auto Finance. See also Note 3, “Segment Reporting,” for further details.

 

Within our Credit and Other Investments segment, we facilitate consumer finance programs offered by our bank partner to originate consumer loans through multiple channels, including retail point-of-sale, direct mail solicitation, digital marketing and through partner relationships. In the retail credit (the “point-of-sale” operations) channel, we partner with retailers and service providers in various industries across the United States (“U.S.”) to enable them to provide credit to their customers for the purchase of goods and services. These services of our bank partner are often extended to consumers who may have been declined by other providers of credit. We specialize in supporting this “second look” credit service in various market segments across the U.S. Additionally, we support lenders who market general purpose credit cards directly to consumers (collectively, the “direct-to-consumer” operations) through additional channels enabling them to reach consumers through a diverse origination platform. Using our infrastructure and technology platform, we also provide loan servicing, including risk management and customer service outsourcing, for third parties.

 

Additionally, we report within our Credit and Other Investments segment: 1) the servicing income from our legacy credit card receivables, 2) the income earned from an investment in an equity-method investee that holds credit card receivables for which we are the servicer; and 3) gains or losses associated with investments previously made in consumer finance technology platforms. These include investments in companies engaged in mobile technologies, marketplace lending and other financial technologies. These investments are carried at the lower of cost or market valuation. None of these companies are publicly-traded and there are no material pending liquidity events.

 

Within our Auto Finance segment, our CAR subsidiary operations principally purchase and/or service loans secured by automobiles from or for, and also provide floor plan financing for, a pre-qualified network of independent automotive dealers and automotive finance companies in the buy-here, pay-here, used car business. We purchase auto loans at a discount and with dealer retentions or holdbacks that provide risk protection. Also within our Auto Finance segment, we are providing certain installment lending products in addition to our traditional loans secured by automobiles.

 

On March 13, 2020, President Trump declared a national emergency under the National Emergencies Act due to the novel coronavirus pandemic (referred to as “COVID-19”).  Nationwide responses to the COVID-19 pandemic have included restrictions on “non-essential” businesses imposed by state and local governments.  Consumer spending behavior has been significantly impacted by the COVID-19 pandemic, principally due to the restrictions on “non-essential” businesses, issuances of stay-at-home orders, increased unemployment and uncertainties about the extent and duration of the pandemic. 

 

On March 27, 2020, President Trump signed into law the Coronavirus Aid, Relief, and Economic Security (“CARES”) Act, which provides relief to taxpayers affected by COVID-19.  The CARES Act provides direct benefits to certain consumers in the form of one-time stimulus payments, supplemental unemployment assistance and rent relief among others.  The CARES Act also provides tax relief, access to short term capital and deferrals of certain tax payments to assist companies with meeting obligations in the near term.  The Company has accounted for immediately applicable benefits under the Cares Act.

 

The duration and severity of the effects of COVID-19 on our financial condition, results of operations and liquidity remain highly uncertain.  Likewise, we do not know the duration and severity of the impact of COVID-19 on all members of the Company’s ecosystem – our bank partner, merchants and consumers – as well as our employees. We continue to monitor the ongoing pandemic and have modified certain business practices including minimizing employee travel and executing on a company-wide remote work program.  These practices have also been adopted by certain of our third party service partners. 

 

 

2.	Significant Accounting Policies and Consolidated Financial Statement Components

 

The following is a summary of significant accounting policies we follow in preparing our consolidated financial statements, as well as a description of significant components of our consolidated financial statements.

 

Basis of Presentation and Use of Estimates

 

We prepare our consolidated financial statements in accordance with generally accepted accounting principles in the U.S. (“GAAP”). The preparation of financial statements in accordance with GAAP requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities as of the date of our consolidated financial statements, as well as the reported amounts of revenues and expenses during each reporting period. We base these estimates on information available to us as of the date of the financial statements. Actual results could differ materially from these estimates. Certain estimates, such as credit losses, payment rates, costs of funds, discount rates and the yields earned on credit card receivables, significantly affect the reported amount of credit card receivables that we report at fair value and our notes payable associated with structured financings, at fair value; these estimates likewise affect the changes in these amounts reflected within our fees and related income on earning assets line item on our consolidated statements of operations. Additionally, estimates of future credit losses have a significant effect on loans, interest and fees receivable, net, as shown on our consolidated balance sheets, as well as on the provision for losses on loans, interest and fees receivable within our consolidated statements of operations.

 

We have eliminated all significant intercompany balances and transactions for financial reporting purposes.

 

 

Loans, Interest and Fees Receivable

 

We maintain two categories of Loans, Interest and Fees Receivable on our consolidated balance sheet: those that are carried at fair value (Loans, interest and fees receivable, at fair value) and those that are carried at net amortized cost (Loans, interest and fees receivable, gross). For both categories of loans, interest and fees receivable, other than our Auto Finance receivables, interest and fees are discontinued when loans, interest and fees receivable become contractually 90 or more days past due. We charge off our Credit and Other Investments and Auto Finance segment receivables when they become contractually more than 180 days past due. For all of our products, we charge off receivables within 30 days of notification and confirmation of a customer’s bankruptcy or death. However, in some cases of death, we do not charge off receivables if there is a surviving, contractually liable individual or estate large enough to pay the debt in full.

 

Loans, Interest and Fees Receivable, at Fair Value. Loans, interest and fees receivable held at fair value represent both the receivables underlying credit card securitization trusts (the "Securitized Receivables") and those receivables for which we elected the fair value option on January 1, 2020 (the "Fair Value Receivables"). Both the Securitized Receivables and the Fair Value Receivables are held by entities that qualify as variable interest entities ("VIE"), and are consolidated onto our consolidated balance sheets, some portfolios of which are unencumbered and some of which are still encumbered under structured or other financing facilities.

 

Under the fair value option for both our Securitized Receivables and our Fair Value Receivables, direct loan origination fees (such as annual and merchant fees) are taken into income when billed to the consumer or upon loan acquisition and direct loan origination costs are expensed in the period incurred. The Company estimates the fair value of the loans using a discounted cash flow model, which considers various unobservable inputs such as remaining cumulative charge-offs, remaining cumulative prepayments, average life and discount rate. The Company re-evaluates the fair value of loans receivable at the close of each measurement period. Changes in fair value are recorded in "Changes in fair value of loans, interest and fees receivable recorded at fair value" in the consolidated statements of operations in the period of the fair value changes.  Changes in the fair value of loans, interest and fees receivable recorded at fair value exclude the impact of current period charge offs associated with these receivables which are separately stated in Net losses upon impairment of loans, interest and fees receivable recorded at fair value on our consolidated statements of operations. 

 

Further details concerning our loans, interest and fees receivable held at fair value are presented within Note 6, “Fair Values of Assets and Liabilities.”

 

Loans, Interest and Fees Receivable Gross. Our loans, interest and fees receivable, gross, currently consist of receivables associated with (a) a portion (those which are not part of our Fair Value Receivables) of our U.S. point-of-sale and direct-to-consumer financing and other credit products platform within our Credit and Other Investments segment and (b) our Auto Finance segment’s operations. Our Credit and Other Investments segment loans, interest and fees receivable generally are unsecured, while our Auto Finance segment loans, interest and fees receivable generally are secured by the underlying automobiles in which we hold the vehicle title. We purchased auto loans with outstanding principal of $47.1 million,  $139.7 million, $45.4 million and $138.6 million for the three and nine months ended September 30, 2020 and 2019, respectively, through our pre-qualified network of independent automotive dealers and automotive finance companies.

 

We show both an allowance for uncollectible loans, interest and fees receivable and unearned fees (or “deferred revenue”) for our loans, interest and fees receivable that are not carried at fair value. Our loans, interest and fees receivable consist of smaller-balance, homogeneous loans, divided into two portfolio segments:  Credit and Other Investments; and Auto Finance. While each of these categories has unique features, they share many of the same credit risk characteristics and thus share a similar approach to the establishment of an allowance for loan losses. Each portfolio segment is divided into pools based on common characteristics such as contract or acquisition channel. For each pool, we determine the necessary allowance for uncollectible loans, interest and fees receivable by analyzing some or all of the following unique attributes for each type of receivable pool:  historical loss rates; current delinquency and roll-rate trends; vintage analyses based on the number of months an account has been in existence; the effects of changes in the economy on consumers; changes in underwriting criteria; and estimated recoveries. For our Auto Finance segment we may further reduce the expected charge-off, taking into consideration specific dealer level reserves which may allow us to offset our losses and, in the case of secured loans, the impact of collateral available to offset a potential loss. Conversely, for receivables in our Credit and Other Investments segment, which generally do not have a secured interest in collateral, we look to reserve for the gross expected exposure to charge-offs. These reserves are considered in conjunction with (and potentially reduced by) any unearned fees and discounts that may be applicable for an outstanding loan receivable.

 

A considerable amount of judgment is required to assess the ultimate amount of uncollectible loans, interest and fees receivable, and we continuously evaluate and update our methodologies to determine the most appropriate allowance necessary. We may individually evaluate a receivable or pool of receivables for impairment if circumstances indicate that the receivable or pool of receivables may be at higher risk for non-performance than other receivables (e.g., if a particular retail or auto-finance partner has indications of non-performance (such as a bankruptcy) that could impact the underlying pool of receivables we purchased from the partner).

 

Certain of our loans, interest and fees receivable also contain components of deferred revenue including merchant fees on the purchases of receivables for our point-of-sale receivables and annual fee billings for our direct-to-consumer credit card receivables. Our point-of-sale and auto finance loans, interest and fees receivable include principal balances and associated fees and interest due from customers which are earned each period a loan is outstanding, net of the unearned portion of merchant fees and loan discounts. Additionally, many of our direct-to-consumer credit card receivables have an annual membership fee that is billed to the consumer on card activation and on each anniversary of that date thereafter. As of September 30, 2020 and December 31, 2019, the weighted average remaining accretion period for the $42.1 million and $90.3 million of deferred revenue reflected in the consolidated balance sheets was 14 months and 11 months, respectively. Included within deferred revenue, are merchant fees and discounts on purchased loans of $31.1 million and $48.1 million as of September 30, 2020 and December 31, 2019, respectively.

 

 

As a result of the recent COVID-19 pandemic and subsequent declaration of a national emergency by the President on March 13, 2020 under the National Emergencies Act, certain consumers have been offered the ability to defer their payment without penalty during the national emergency period. On March 22, 2020, the federal bank regulatory agencies issued an “Interagency Statement on Loan Modifications and Reporting for Financial Institutions Working with Customers Affected by the Coronavirus”, ("COVID-19 Guidance"). This guidance encourages financial institutions to work prudently with borrowers that may be unable to meet their contractual obligations because of the effects of COVID-19. In accordance with the prescribed guidance, certain consumers negatively impacted by COVID-19 have been offered short-term payment deferrals and fee waivers. Receivables enrolled in these short-term payment deferrals continue to accrue interest and their delinquency status will not change through the deferment period.  Through September 30, 2020, approximately 5.2% of our accounts had received some form of short-term deferral related to COVID-19.  While most participants in these short-term deferral programs have now exited the program, as of September 30, 2020, approximately 1.4% of accounts and their associated receivables were actively enrolled in a short-term payment deferral (representing $19.1 million of gross receivables outstanding). Nearly all of these customers are considered current and thus excluded from the delinquency data in the below tables. In order to establish appropriate reserves for this population we considered various factors such as subsequent payment behavior and additional requests by the consumer for further deferrals or hardship claims.

 

A roll-forward (in millions) of our allowance for uncollectible loans, interest and fees receivable by class of receivable is as follows: 

 

 

 

 

 

 

 

 

An aging of our delinquent loans, interest and fees receivable, gross (in millions) by class of receivable as of September 30, 2020 and December 31, 2019 is as follows:

 

 

 

Troubled Debt Restructurings. As part of ongoing collection efforts, once an account, the receivable of which is included in our Credit and Other Investments segment, becomes 90 days or more past due, the related receivable is placed on a non-accrual status. Placement on a non-accrual status results in the use of programs under which the contractual interest associated with a receivable may be reduced or eliminated, or a certain amount of accrued fees is waived, provided a minimum number or amount of payments have been made. Following this adjustment, if a customer demonstrates a willingness and ability to resume making monthly payments and meets certain additional criteria, we will re-age the customer’s account. When we re-age an account, we adjust the status of the account to bring a delinquent account current, but generally do not make any further modifications to the payment terms or amount owed. Once an account is placed on a non-accrual status, it is closed for further purchases. Accounts that are placed on a non-accrual status and thereafter make at least one payment qualify as troubled debt restructurings (“TDR”)s. The above referenced COVID-19 Guidance issued by federal bank regulatory agencies, in consultation with the FASB staff, concluded that short-term modifications (e.g. six months) made on a good faith basis to borrowers who were impacted by COVID-19 and who were less than 30 days past due as of the implementation date of a relief program are not TDRs.  Although we are not a financial institution and therefore not directly subject to the COVID-19 Guidance, we believe this constitutes an interpretation of GAAP and therefore should be applied to our accounting circumstances. As a result, the below tables exclude accounts that are included under that guidance. 

 

 

The following table details by class of receivable, the number and amount of modified loans, including TDRs that have been re-aged, as of September 30, 2020 and December 31, 2019:

 

 

*“TDRs - Performing” include accounts that are current on all amounts owed, while “TDRs - Nonperforming” include all accounts with past due amounts owed.

 

We do not separately reserve or impair these receivables outside of our general reserve process.

 

The Company modified 66,667 and 24,831 accounts in the amount of $78.2 million and $36.4 million during the twelve month periods ended September 30, 2020 and September 30, 2019, respectively, that qualified as TDRs. The following table details by class of receivable, the number of accounts and balance of loans that completed a modification (including those that were classified as TDRs) within the prior twelve months and subsequently defaulted.

 

 

 

Accounts Payable and Accrued Expenses

 

Accounts payable and accrued expenses reflect both the billed and unbilled amounts owed at the end of a period for services rendered. Commencing in July 2019, accounts payable and accrued expenses includes payments owed under a deferred payment program started with an unrelated third-party for a portion of our marketing expenditures. As a result of this agreement, we were able to extend the payment terms associated with our growing marketing spend between 10-37 months. 

 

Income Taxes

 

We experienced effective tax rates of 19.6% and 18.9%, respectively, for the three and nine months ended September 30, 2020, compared to effective tax rates of 21.1% and 20.0%, respectively, for the three and nine months ended September 30, 2019. 

 

Our effective tax rates for the three and nine months ended September 30, 2020, are below the statutory rate principally due to (1) our deduction for income tax purposes of amounts characterized in our consolidated financial statements as dividends on a preferred stock issuance, such amounts constituting deductible interest expense on a debt issuance for tax purposes and (2) deductions associated with the exercise of stock options and the vesting of restricted stock at times when the fair value of our stock exceeded such share-based awards’ grant date values. Partially offsetting such effects on our effective tax rates are the effects of accruals of interest on unpaid federal tax liabilities and uncertain tax positions and state and foreign income taxes during the three and nine months ended September 30, 2020.

 

Our effective tax rate for the three months ended September 30, 2019, was above the statutory rate principally due to the effects of accruals of interest on unpaid federal tax liabilities and uncertain tax positions and state and foreign income taxes during such period. However, it was below the statutory rate for the nine months ended September  30, 2019, principally due to reductions in our valuation allowances against net federal deferred tax assets during such period—the effect of such reductions being partially offset by the effects of accruals of interest on unpaid federal tax liabilities and uncertain tax positions and state and foreign income taxes during such period.

 

We report income tax-related interest and penalties (including those associated with both our accrued liabilities for uncertain tax positions and unpaid tax liabilities) within our income tax line item on our consolidated statements of operations. We likewise report the reversal of income tax-related interest and penalties within such line item to the extent we resolve our liabilities for uncertain tax positions or unpaid tax liabilities in a manner favorable to our accruals therefor. During the three and nine months ended September 30, 2020, we included $0.0 million and $0.1 million, respectively, of net income tax-related interest and penalties within those periods’ respective income tax expense line items.

 

In December 2014, we reached a settlement with the IRS concerning the tax treatment of net operating losses we incurred in 2007 and 2008 and carried back to obtain refunds of federal income taxes paid in earlier years dating back to 2003. In 2015, we filed an amended return claim that, if accepted, would have eliminated the $7.4 million assessment (and corresponding interest and penalties) under a negotiated provision of the December 2014 IRS settlement. The IRS filed a lien (as is customarily the case) associated with the assessment. Subsequently, an IRS examination team denied our amended return claims, and we filed a protest with IRS Appeals. Following correspondence and conferences held with IRS Appeals, we received and accepted a settlement offer from IRS Appeals in June 2018 that reduced our $7.4 million net unpaid income tax assessment referenced above to $3.7 million (such $3.7 million remaining unpaid assessment relating to the 2006 year to which we had originally carried back the aforementioned net operating losses). In July 2018, we paid $5.4 million to the IRS to cover the $3.7 million unpaid income tax assessment and most of the interest that had accrued thereon. Subsequently, during the three months ended September 30, 2018, the IRS refunded $0.5 million of our $5.4 million payment, and in 2019, we paid $0.7 million to the IRS to cover the interest on the 2006 income tax liability. Although we have paid all assessed income taxes related to this matter, we still have an outstanding accrued liability for failure-to-pay penalties (and accrued interest thereon) related to this matter. We are pursuing complete abatement of the failure-to-pay penalties of $0.9 million, and once this matter is resolved through either abatement or payment, we expect the IRS to remove the aforementioned lien in due course.

 

Revenue Recognition and Revenue from Contracts with Customers

 

Consumer Loans, Including Past Due Fees

 

Consumer loans, including past due fees reflect interest income, including finance charges, and late fees on loans in accordance with the terms of the related customer agreements. Premiums, discounts and merchant fees paid or received associated with installment or auto loans that are not included as part of our Fair Value Receivables are deferred and amortized over the average life of the related loans using the effective interest method. Premiums, discounts and merchant fees paid or received associated with Fair Value Receivables are recognized upon receivable acquisition. Finance charges and fees, net of amounts that we consider uncollectible, are included in loans, interest and fees receivable and revenue when the fees are earned based upon the contractual terms of the loans.

 

Fees and Related Income on Earning Assets

 

Fees and related income on earning assets primarily include: (1) fees associated with the credit products, including the receivables underlying our U.S. point-of-sale finance and direct-to-consumer platform, and our legacy credit card receivables which include the recognition of annual fee billings and cash advance fees among others; (2) changes in fair value of notes payable associated with structured financings recorded at fair value; and (3) gains or losses associated with our investments in securities. 

 

We assess fees on credit card accounts underlying our credit card receivables according to the terms of the related cardholder agreements and, except for annual membership fees, we recognize these fees as income when they are charged to the customers’ accounts. We accrete annual membership fees associated with our credit card receivables into income on a straight-line basis over the cardholder privilege period which is generally 12 months for receivables that are not included as part of our Fair Value Receivables, and when billed for those receivables that are included as part of our Fair Value Receivables. Similarly, fees on our other credit products are recognized when earned, which coincides with the time they are charged to the customers' accounts. Fees and related income on earning assets, net of amounts that we consider uncollectible, are included in loans, interest and fees receivable and revenue when the fees are earned based upon the contractual terms of the loans.  The election of the fair value option to account for certain loans receivable that are acquired on or after January 1, 2020 resulted in increased fees recognized on credit products throughout 2020. 

 

 

The components (in thousands) of our fees and related income on earning assets are as follows:

 

 

Other income

 

Other income includes revenues associated with ancillary product offerings and interchange revenues.  We recognize these fees as income in the period earned. Included in Other income for the three and nine months ended September 30, 2019 is $26.7 and $68.1 million, respectively, associated with reductions in accruals related to one of our portfolios. The accrual was based upon our estimate of the amount that may be claimed by customers and was based upon several factors including customer claims volume, average claim amount and a determination of the amount, if any, which may be offered to resolve such claims. The assumptions used in the accrual estimate were subjective, mainly due to uncertainty associated with future claims volumes and the resolution costs, if any, per claim. 

 

Revenue from Contracts with Customers

 

The majority of our revenue is earned from financial instruments and is not included within the scope of ASU No. 2014-09, "Revenue from Contracts with Customers". We have determined that revenue from contracts with customers would primarily consist of interchange revenues in our Credit and Other Investments segment and servicing revenue and other customer-related fees in both our Credit and Other Investments segment and our Auto Finance segment. Servicing revenue is generated by meeting contractual performance obligations related to the collection of amounts due on receivables, and is settled with the customer net of our fee. Revenue from these contracts with customers is included as a component of Other income on our consolidated statements of operations. Service charges and other customer related fees are earned from customers based on the occurrence of specific services that do not result in an ongoing obligation beyond what has already been rendered. Components (in thousands) of our revenue from contracts with customers is as follows:

 

(1) Interchange revenue is presented net of customer reward expense.

(1) Interchange revenue is presented net of customer reward expense.