UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2022
or
☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ___________ to ___________
Commission File Number 001-39050
OPORTUN FINANCIAL CORPORATION
(Exact Name of Registrant as Specified in its Charter)
| Delaware | 45-3361983 | ||||||||||
| State or Other Jurisdiction of Incorporation or Organization | I.R.S. Employer Identification No. | ||||||||||
| 2 Circle Star Way | |||||||||||
| San Carlos, | CA | 94070 | |||||||||
| Address of Principal Executive Offices | Zip Code | ||||||||||
(650) 810-8823
Registrant’s Telephone Number, Including Area Code
Securities registered pursuant to Section 12(b) of the Act:
| Title of each class | Trading Symbol(s) | Name of each exchange on which registered | ||||||
| Common Stock, $0.0001 par value per share | OPRT | Nasdaq Global Select Market | ||||||
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer | ☐ | Smaller reporting company | ☐ | ||||||||
Accelerated filer | ☒ | Emerging growth company | ☐ | ||||||||
Non-accelerated filer | ☐ | ||||||||||
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes ☐ No ☒
The number of shares of registrant’s common stock outstanding as of May 3, 2022 was 32,814,113.
| TABLE OF CONTENTS | ||||||||
| PART I ‑ FINANCIAL INFORMATION | ||||||||
| PART II ‑ OTHER INFORMATION | ||||||||
2
PART I ‑ FINANCIAL INFORMATION
Item 1. Financial Statements
OPORTUN FINANCIAL CORPORATION
Condensed Consolidated Balance Sheets (Unaudited)
(in thousands, except share and per share data)
| March 31, | December 31, | |||||||||||||
| 2022 | 2021 | |||||||||||||
| Assets | ||||||||||||||
| Cash and cash equivalents | $ | 109,864 | $ | 130,959 | ||||||||||
| Restricted cash | 60,694 | 62,001 | ||||||||||||
| Loans receivable at fair value | 2,450,987 | 2,386,807 | ||||||||||||
| Interest and fees receivable, net | 22,823 | 20,916 | ||||||||||||
| Capitalized software and other intangibles, net | 133,093 | 131,181 | ||||||||||||
| Goodwill | 104,162 | 104,014 | ||||||||||||
| Right of use assets - operating | 36,689 | 38,403 | ||||||||||||
| Other assets | 74,239 | 72,344 | ||||||||||||
| Total assets | $ | 2,992,551 | $ | 2,946,625 | ||||||||||
| Liabilities and stockholders' equity | ||||||||||||||
| Liabilities | ||||||||||||||
| Secured financing | $ | 473,311 | $ | 393,889 | ||||||||||
| Asset-backed notes at fair value | 1,593,435 | 1,651,706 | ||||||||||||
| Acquisition financing | 103,869 | 114,092 | ||||||||||||
| Lease liabilities | 44,959 | 47,699 | ||||||||||||
| Other liabilities | 127,041 | 135,358 | ||||||||||||
| Total liabilities | 2,342,615 | 2,342,744 | ||||||||||||
| Stockholders' equity | ||||||||||||||
Common stock, $0.0001 par value - 1,000,000,000 shares authorized at March 31, 2022 and December 31, 2021; 33,078,916 shares issued and 32,806,893 shares outstanding at March 31, 2022; 32,276,419 shares issued and 32,004,396 shares outstanding at December 31, 2021 | 7 | 6 | ||||||||||||
| Common stock, additional paid-in capital | 526,729 | 526,338 | ||||||||||||
| Retained earnings | 129,509 | 83,846 | ||||||||||||
Treasury stock at cost, 272,023 shares at March 31, 2022 and December 31, 2021 | (6,309) | (6,309) | ||||||||||||
| Total stockholders’ equity | 649,936 | 603,881 | ||||||||||||
| Total liabilities and stockholders' equity | $ | 2,992,551 | $ | 2,946,625 | ||||||||||
See Notes to the Condensed Consolidated Financial Statements.
3
OPORTUN FINANCIAL CORPORATION
Condensed Consolidated Statements of Operations (Unaudited)
(in thousands, except share and per share data)
Three Months Ended March 31, | ||||||||||||||
| 2022 | 2021 | |||||||||||||
| Revenue | ||||||||||||||
| Interest income | $ | 192,237 | $ | 127,191 | ||||||||||
| Non-interest income | 22,483 | 8,122 | ||||||||||||
| Total revenue | 214,720 | 135,313 | ||||||||||||
| Less: | ||||||||||||||
| Interest expense | 13,677 | 13,504 | ||||||||||||
| Net increase (decrease) in fair value | 3,971 | (11,568) | ||||||||||||
| Net revenue | 205,014 | 110,241 | ||||||||||||
| Operating expenses: | ||||||||||||||
| Technology and facilities | 49,189 | 32,924 | ||||||||||||
| Sales and marketing | 34,541 | 23,893 | ||||||||||||
| Personnel | 35,926 | 26,827 | ||||||||||||
| Outsourcing and professional fees | 14,327 | 12,625 | ||||||||||||
| General, administrative and other | 13,361 | 9,997 | ||||||||||||
| Total operating expenses | 147,344 | 106,266 | ||||||||||||
| Income before taxes | 57,670 | 3,975 | ||||||||||||
| Income tax expense | 12,007 | 956 | ||||||||||||
| Net income | $ | 45,663 | $ | 3,019 | ||||||||||
| Net income attributable to common stockholders | $ | 45,663 | $ | 3,019 | ||||||||||
| Share data: | ||||||||||||||
| Earnings per share: | ||||||||||||||
| Basic | $ | 1.42 | $ | 0.11 | ||||||||||
| Diluted | $ | 1.37 | $ | 0.10 | ||||||||||
| Weighted average common shares outstanding: | ||||||||||||||
| Basic | 32,216,641 | 27,770,063 | ||||||||||||
| Diluted | 33,323,134 | 29,620,034 | ||||||||||||
See Notes to the Condensed Consolidated Financial Statements.
4
OPORTUN FINANCIAL CORPORATION
Condensed Consolidated Statements of Changes in Stockholders' Equity (Unaudited)
(in thousands, except share data)
| For the Three Months Ended March 31, 2022 | |||||||||||||||||||||||||||||||||||
| Common Stock | |||||||||||||||||||||||||||||||||||
| Shares | Par Value | Additional Paid-in Capital | Retained Earnings | Treasury Stock | Total Stockholders' Equity | ||||||||||||||||||||||||||||||
| Balance – January 1, 2022 | 32,004,396 | $ | 6 | $ | 526,338 | $ | 83,846 | $ | (6,309) | $ | 603,881 | ||||||||||||||||||||||||
| Issuance of common stock upon exercise of stock options | 505,945 | 1 | (4,749) | — | — | (4,748) | |||||||||||||||||||||||||||||
| Stock-based compensation expense | — | — | 7,467 | — | — | 7,467 | |||||||||||||||||||||||||||||
| Vesting of restricted stock units, net of shares withheld | 296,552 | — | (2,327) | — | — | (2,327) | |||||||||||||||||||||||||||||
| Net income | — | — | — | 45,663 | — | 45,663 | |||||||||||||||||||||||||||||
| Balance – March 31, 2022 | 32,806,893 | $ | 7 | $ | 526,729 | $ | 129,509 | $ | (6,309) | $ | 649,936 | ||||||||||||||||||||||||
See Notes to the Condensed Consolidated Financial Statements.
OPORTUN FINANCIAL CORPORATION
Condensed Consolidated Statements of Changes in Stockholders' Equity (Unaudited)
(in thousands, except share data)
| For the Three Months Ended March 31, 2021 | |||||||||||||||||||||||||||||||||||
| Common Stock | |||||||||||||||||||||||||||||||||||
| Shares | Par Value | Additional Paid-in Capital | Retained Earnings | Treasury Stock | Total Stockholders' Equity | ||||||||||||||||||||||||||||||
| Balance – January 1, 2021 | 27,679,263 | $ | 6 | $ | 436,499 | $ | 36,432 | $ | (6,309) | $ | 466,628 | ||||||||||||||||||||||||
| Issuance of common stock upon exercise of stock options | 33,526 | — | 307 | — | — | 307 | |||||||||||||||||||||||||||||
| Stock-based compensation expense | — | — | 5,088 | — | — | 5,088 | |||||||||||||||||||||||||||||
| Vesting of restricted stock units, net | 261,794 | — | (2,794) | — | — | (2,794) | |||||||||||||||||||||||||||||
| Net income | — | — | — | 3,019 | — | 3,019 | |||||||||||||||||||||||||||||
| Balance – March 31, 2021 | 27,974,583 | $ | 6 | $ | 439,100 | $ | 39,451 | $ | (6,309) | $ | 472,248 | ||||||||||||||||||||||||
See Notes to the Condensed Consolidated Financial Statements.
5
OPORTUN FINANCIAL CORPORATION
Condensed Consolidated Statements of Cash Flow (Unaudited)
(in thousands)
| Three Months Ended March 31, | ||||||||||||||
| 2022 | 2021 | |||||||||||||
| Cash flows from operating activities | ||||||||||||||
| Net income | $ | 45,663 | $ | 3,019 | ||||||||||
| Adjustments to reconcile net income to net cash provided by operating activities: | ||||||||||||||
| Depreciation and amortization | 10,697 | 6,957 | ||||||||||||
| Fair value adjustment, net | (3,971) | 11,568 | ||||||||||||
| Origination fees for loans receivable at fair value, net | (4,685) | (1,422) | ||||||||||||
| Gain on loan sales | (5,715) | (4,434) | ||||||||||||
| Stock-based compensation expense | 6,773 | 5,088 | ||||||||||||
| Other, net | 20,226 | 15,325 | ||||||||||||
| Originations of loans sold and held for sale | (48,665) | (33,464) | ||||||||||||
| Proceeds from sale of loans | 54,872 | 38,372 | ||||||||||||
| Changes in other assets and other liabilities | (36,630) | (22,853) | ||||||||||||
| Net cash provided by operating activities | 38,565 | 18,156 | ||||||||||||
| Cash flows from investing activities | ||||||||||||||
| Originations of loans | (707,108) | (263,148) | ||||||||||||
| Proceeds from structured loan sale | 245,019 | — | ||||||||||||
| Repayments of loan principal | 351,324 | 278,659 | ||||||||||||
| Capitalization of system development costs | (10,641) | (5,651) | ||||||||||||
| Other, net | (1,090) | (873) | ||||||||||||
| Net cash provided by (used in) investing activities | (122,496) | 8,987 | ||||||||||||
| Cash flows from financing activities | ||||||||||||||
| Borrowings under secured financing | 699,000 | — | ||||||||||||
| Borrowings under asset-backed notes and acquisition financing | — | 371,719 | ||||||||||||
| Repayments of secured financing | (620,000) | (181,780) | ||||||||||||
| Repayments of asset-backed notes and acquisition financing | (10,395) | (200,004) | ||||||||||||
| Net payments related to stock-based activities | (7,076) | (2,487) | ||||||||||||
| Net cash provided by (used in) financing activities | 61,529 | (12,552) | ||||||||||||
| Net increase (decrease) in cash and cash equivalents and restricted cash | (22,402) | 14,591 | ||||||||||||
| Cash and cash equivalents and restricted cash, beginning of period | 192,960 | 168,590 | ||||||||||||
| Cash and cash equivalents and restricted cash, end of period | $ | 170,558 | $ | 183,181 | ||||||||||
| Supplemental disclosure of cash flow information | ||||||||||||||
| Cash and cash equivalents | $ | 109,864 | $ | 140,416 | ||||||||||
| Restricted cash | 60,694 | 42,765 | ||||||||||||
| Total cash and cash equivalents and restricted cash | $ | 170,558 | $ | 183,181 | ||||||||||
| Cash paid for income taxes, net of refunds | $ | 328 | $ | 240 | ||||||||||
| Cash paid for interest | $ | 13,816 | $ | 13,625 | ||||||||||
| Cash paid for amounts included in the measurement of operating lease liabilities | $ | 4,238 | $ | 4,292 | ||||||||||
| Supplemental disclosures of non-cash investing and financing activities | ||||||||||||||
| Right of use assets obtained in exchange for operating lease obligations | $ | 1,064 | $ | 1,093 | ||||||||||
| Non-cash investments in capitalized assets | $ | 565 | $ | 625 | ||||||||||
See Notes to the Condensed Consolidated Financial Statements.
6
OPORTUN FINANCIAL CORPORATION
Notes to the Condensed Consolidated Financial Statements (Unaudited)
March 31, 2022
| 1. | Organization and Description of Business | ||||
Oportun is a financial technology company and digital banking platform driven by its mission to provide inclusive, affordable financial services that empower its members to build a better future. Oportun Financial Corporation (together with its subsidiaries, "Oportun" or the "Company") takes a holistic approach to serving its members and views as its purpose to responsibly meet their current capital needs, help grow its members' financial profiles, increase their financial awareness and put them on a path to a financially healthy life. With its acquisition of Hello Digit, Inc. ("Digit") on December 22, 2021, the Company can now offer access to a comprehensive suite of digital banking products, offered either directly or through partners, including lending, savings and investing powered by A.I. and tailored to each member's goals to make achieving financial health automated. The Company's credit products include personal loans, secured personal loans and credit cards. The Company's digital banking products include digital banking, automated savings, long-term investing and retirement savings. The Company is headquartered in San Carlos, California. The Company has been certified by the United States Department of the Treasury as a Community Development Financial Institution ("CDFI") since 2009.
Segments
Segments are defined as components of an enterprise for which discrete financial information is available and evaluated regularly by the chief operating decision maker ("CODM") in deciding how to allocate resources and in assessing performance. The Company’s Chief Executive Officer and the Company's Chief Financial Officer are collectively considered to be the CODM. The CODM reviews financial information presented on a consolidated basis for purposes of allocating resources and evaluating financial performance. The Company’s operations constitute a single reportable segment.
| 2. | Summary of Significant Accounting Policies | ||||
Basis of Presentation ‑ The accompanying condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America ("GAAP"). These statements are unaudited and reflect all normal, recurring adjustments that are, in management's opinion, necessary for the fair presentation of results. The condensed consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries. All intercompany accounts and transactions have been eliminated in consolidation. Certain prior-period financial information has been reclassified to conform to current period presentation. Certain information and note disclosures normally included in the financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to such rules and regulations. As such, the information included in this Quarterly Report on Form 10-Q should be read in conjunction with the audited consolidated financial statements and the related notes thereto included in the Company's Annual Report on Form 10-K for the year ended December 31, 2021 (the "Annual Report"), filed with the Securities and Exchange Commission ("SEC") on March 1, 2022.
Use of Estimates ‑ The preparation of the condensed consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the condensed consolidated financial statements, and the reported amounts of income and expenses during the reporting period. These estimates are based on information available as of the date of the condensed consolidated financial statements; therefore, actual results could differ from those estimates and assumptions.
Accounting Policies - There have been no changes to the Company's significant accounting policies from those described in Part II, Item 8 - Financial Statements and Supplementary Data in the Annual Report, except for the new accounting pronouncements subsequently adopted as noted below.
Recently Adopted Accounting Standards
None.
7
| 3. | Earnings (Loss) per Share | ||||
Basic and diluted earnings (loss) per share are calculated as follows:
| Three Months Ended March 31, | ||||||||||||||
| (in thousands, except share and per share data) | 2022 | 2021 | ||||||||||||
| Net income | $ | 45,663 | $ | 3,019 | ||||||||||
| Net income (loss) attributable to common stockholders | $ | 45,663 | $ | 3,019 | ||||||||||
| Basic weighted-average common shares outstanding | 32,216,641 | 27,770,063 | ||||||||||||
| Weighted average effect of dilutive securities: | ||||||||||||||
| Stock options | 733,503 | 1,274,818 | ||||||||||||
| Restricted stock units | 372,990 | 575,153 | ||||||||||||
| Diluted weighted-average common shares outstanding | 33,323,134 | 29,620,034 | ||||||||||||
| Earnings per share: | ||||||||||||||
| Basic | $ | 1.42 | $ | 0.11 | ||||||||||
| Diluted | $ | 1.37 | $ | 0.10 | ||||||||||
The following common share equivalent securities have been excluded from the calculation of diluted weighted-average common shares outstanding because the effect is anti-dilutive for the periods presented:
| Three Months Ended March 31, | ||||||||||||||
| 2022 | 2021 | |||||||||||||
| Stock options | 2,723,777 | 2,822,785 | ||||||||||||
| Restricted stock units | 1,692,599 | 45,306 | ||||||||||||
| Total anti-dilutive common share equivalents | 4,416,376 | 2,868,091 | ||||||||||||
| 4. | Variable Interest Entities | ||||
Variable interest entities ("VIEs") are legal entities that either have an insufficient amount of equity at risk for the entity to finance its activities without additional subordinated financial support or, as a group, the holders of equity investment at risk lack the ability to direct the entity's activities that most significantly impact economic performance through voting or similar rights, or do not have the obligation to absorb the expected losses or the right to receive expected residual returns of the entity.
For all VIEs in which we are involved, we assess whether we are the primary beneficiary of the VIE on an ongoing basis. In circumstances where we have both the power to direct the activities that most significantly impact the VIEs performance and the obligation to absorb losses or the right to receive the benefits of the VIE that could be significant, we would conclude that we are the primary beneficiary of the VIE, and we consolidate the VIE. In situations where we are not deemed to be the primary beneficiary of the VIE, we do not consolidate the VIE and only recognize our interests in the VIE.
Consolidated VIEs
As part of the Company’s overall funding strategy, the Company transfers a pool of designated loans receivable to wholly owned special-purpose subsidiaries ("VIEs") to collateralize certain asset-backed financing transactions. For these VIEs where the Company has determined that it is the primary beneficiary because it has the power to direct the activities that most significantly impact the VIEs’ economic performance and the obligation to absorb the losses or the right to receive benefits from the VIEs that could potentially be significant to the VIEs the VIEs assets and related liabilities are consolidated with the results of the Company. Such power arises from the Company’s contractual right to service the loans receivable securing the VIEs’ asset-backed debt obligations. The Company has an obligation to absorb losses or the right to receive benefits that are potentially significant to the VIEs because it retains the residual interest of each asset-backed financing transaction in the form of an asset-backed certificate. Accordingly, the Company includes the VIEs’ assets, including the assets securing the financing transactions, and related liabilities in its condensed consolidated financial statements.
Each consolidated VIE issues a series of asset-backed securities that are supported by the cash flows arising from the loans receivable securing such debt. Cash inflows arising from such loans receivable are distributed monthly to the transaction’s lenders and related service providers in accordance with the transaction’s contractual priority of payments. The creditors of the VIEs above have no recourse to the general credit of the Company as the primary beneficiary of the VIEs and the liabilities of the VIEs can only be settled by the respective VIE’s assets. The Company retains the most subordinated economic interest in each financing transaction through its ownership of the respective residual interest in each VIE. The Company has no obligation to repurchase loans receivable that initially satisfied the financing transaction’s eligibility criteria but subsequently became delinquent or a defaulted loans receivable.
8
The following table represents the assets and liabilities of consolidated VIEs recorded on the Company’s Condensed Consolidated Balance Sheets (Unaudited):
| March 31, | December 31, | |||||||||||||
| (in thousands) | 2022 | 2021 | ||||||||||||
| Consolidated VIE assets | ||||||||||||||
| Restricted cash | $ | 33,246 | $ | 41,803 | ||||||||||
| Loans receivable at fair value | 2,344,635 | 2,267,205 | ||||||||||||
| Interest and fee receivable | 20,767 | 19,869 | ||||||||||||
| Total VIE assets | 2,398,648 | 2,328,877 | ||||||||||||
| Consolidated VIE liabilities | ||||||||||||||
Secured financing (1) | 477,000 | 398,000 | ||||||||||||
| Asset-backed notes at fair value | 1,593,435 | 1,651,706 | ||||||||||||
Acquisition financing (1) | 105,605 | 116,000 | ||||||||||||
| Total VIE liabilities | $ | 2,176,040 | $ | 2,165,706 | ||||||||||
(1) Amounts exclude deferred financing costs. See Note 9, Borrowings for additional information.
| 5. | Loans Held for Sale and Loans Sold | ||||
Structured Loan Sales - On March 31, 2022, the Company participated in a securitization whereby the Company and funds managed by Ellington Management Group both contributed collateral and were co-sponsors of the transaction, which totaled $400.0 million in issued asset-backed notes. As part of the securitization, the Company sold loans to OPTN Funding Grantor Trust 2022-1 ("Grantor Trust") through the issuance of amortizing asset-backed notes secured by a pool of its unsecured and secured personal installment loans. The Company also sold its share of the residual interest in the pool. The Company's continued involvement in the unconsolidated VIEs is in the form of servicer of these loans. The Company does not have variable interest in the Grantor Trust or the issuer established for this transaction. The sold loans were accounted for under the fair value option and at the point they were designated as held for sale had an aggregate unpaid principal balance of approximately $227.6 million, a cumulative fair value mark of $15.9 million and unpaid interest of $1.5 million. The Company received $245.0 million of net proceeds and by selling both its notes and residual interest, the Company derecognized these loans from its Consolidated Balance Sheets.
Whole Loan Sale Program ‑ In November 2014, the Company entered into a whole loan sale agreement with an institutional investor. Pursuant to the agreement, the Company sold at least 10% of its unsecured loan originations, with an option to sell an additional 5%, subject to certain eligibility criteria and minimum and maximum volumes. The Company chose not to renew the arrangement and allowed the agreement to expire on its terms on March 4, 2022.
The originations of loans sold and held for sale during the three months ended March 31, 2022 related to our whole loan sale program was $48.7 million and the Company recorded a gain on sale of $5.7 million and servicing revenue of $4.0 million. The originations of loans sold and held for sale during the three months ended March 31, 2021 was $33.5 million and the Company recorded a gain on sale of $4.4 million and servicing revenue of $3.1 million.
| 6. | Acquisition | ||||
On December 22, 2021, the Company completed its acquisition of all the voting interests of Hello Digit, Inc. (or "Digit"). Digit is a digital banking platform that provides automated savings, banking and investing tools. Digit members can keep and integrate their existing bank accounts into the platform, or they can make Digit their primary banking relationship by opening new accounts via Digit’s bank partner. By acquiring Digit, Oportun further expanded its A.I. and digital banking capabilities, adding to its services to provide its members a holistic offering built to address their financial needs. The total consideration the Company provided for Digit, which consisted of cash and equity, was approximately $205.3 million.
The Company recognized acquisition and integration related costs of approximately $7.3 million in the three months ended March 31, 2022 which are included in the General, administrative and other expense in the Condensed Consolidated Statements of Operations (Unaudited).
7. | Capitalized Software, Other Intangibles and Goodwill | ||||
Capitalized software, net consists of the following:
| March 31, | December 31, | |||||||||||||
| (in thousands) | 2022 | 2021 | ||||||||||||
| Capitalized software, net: | ||||||||||||||
| System development costs | $ | 95,800 | $ | 84,550 | ||||||||||
| Acquired developed technology | 48,500 | 48,500 | ||||||||||||
| Less: Accumulated amortization | (52,864) | (45,433) | ||||||||||||
| Total capitalized software, net | $ | 91,436 | $ | 87,617 | ||||||||||
9
Capitalized software, net
Amortization of system development costs and acquired developed technology for three months ended March 31, 2022 and 2021 was $7.4 million and $3.5 million, respectively. System development costs capitalized in the three months ended March 31, 2022 and 2021 were $11.2 million and $5.8 million, respectively. Acquired developed technology was $48.5 million and is related to the acquisition of Digit on December 22, 2021.
Intangible Assets
The gross carrying amount and accumulated amortization, in total and by major intangible asset class are as follows:
| March 31, | December 31, | |||||||||||||
| (in thousands) | 2022 | 2021 | ||||||||||||
| Intangible assets: | ||||||||||||||
| Member relationships | $ | 34,500 | $ | 34,500 | ||||||||||
| Trademarks | 6,426 | 6,364 | ||||||||||||
| Other | 3,000 | 3,000 | ||||||||||||
| Less: Accumulated amortization | (2,269) | (300) | ||||||||||||
| Total intangible assets, net | $ | 41,657 | $ | 43,564 | ||||||||||
Amortization of intangible assets for the three months ended March 31, 2022 was $2.0 million. There were no intangible assets subject to amortization for the three months ended March 31, 2021. Expected future amortization expense for intangible assets as of March 31, 2022 is as follows:
| (in thousands) | Fiscal Years | |||||||
2022 (remaining nine months) | $ | (5,980) | ||||||
2023 | (7,949) | |||||||
| 2024 | (7,798) | |||||||
| 2025 | (4,929) | |||||||
| 2026 | (4,929) | |||||||
| 2027 | (4,929) | |||||||
| Thereafter | (4,779) | |||||||
Total | $ | (41,293) | ||||||
Goodwill
The Company recorded goodwill of $104.0 million arising from the acquisition of Digit on December 22, 2021. During the three months ended March 31, 2022, the Company recorded a $0.1 million adjustment to goodwill. There was no impairment for the periods presented.
| 8. | Other Assets | ||||
Other assets consist of the following:
| March 31, | December 31, | |||||||||||||
| (in thousands) | 2022 | 2021 | ||||||||||||
| Fixed assets | ||||||||||||||
| Total fixed assets | $ | 44,955 | $ | 44,100 | ||||||||||
| Less: Accumulated depreciation | (35,370) | (34,185) | ||||||||||||
| Total fixed assets, net | $ | 9,585 | $ | 9,915 | ||||||||||
| Other Assets | ||||||||||||||
| Loans held for sale | — | 491 | ||||||||||||
| Prepaid expenses | 26,244 | 25,355 | ||||||||||||
| Deferred tax assets | 3,565 | 3,923 | ||||||||||||
| Current tax assets | 17,235 | 13,330 | ||||||||||||
| Other | 17,610 | 19,330 | ||||||||||||
| Total other assets | $ | 74,239 | $ | 72,344 | ||||||||||
10
Fixed Assets
Depreciation and amortization expense for the three months ended March 31, 2022 and 2021 was $1.3 million and $3.5 million, respectively.
| 9. | Borrowings | ||||
The following table presents information regarding the Company's Secured Financing facilities:
| March 31, 2022 | December 31, 2021 | |||||||||||||||||||||||||||||||
| Variable Interest Entity | Facility Amount | Maturity Date (1) | Interest Rate | Balance | Balance | |||||||||||||||||||||||||||
| (in thousands) | ||||||||||||||||||||||||||||||||
Oportun CCW Trust (1)(2) | $ | 150,000 | December 1, 2023 | Variable (1) | $ | 59,223 | $ | 40,108 | ||||||||||||||||||||||||
| Oportun PLW Trust | 600,000 | September 1, 2024 | LIBOR (minimum of 0.00%) + 2.17% | 414,088 | 353,781 | |||||||||||||||||||||||||||
| Total secured financing | $ | 750,000 | $ | 473,311 | $ | 393,889 | ||||||||||||||||||||||||||
(1) The interest rate on the Secured Financing - CCW facility is LIBOR (minimum of 1.00%) plus 6.00% on the first $18.8 million of principal outstanding and LIBOR (minimum of 0.00%) plus 3.41% on the remaining outstanding principal balance.
(2) The Credit Card Warehouse has an aggregate borrowing capacity of up to $150.0 million; comprised of $75.0 million committed purchase amount and $75.0 million uncommitted purchase amount.
The following table presents information regarding asset-backed notes:
| March 31, 2022 | ||||||||||||||||||||||||||||||||||||||
| Variable Interest Entity | Initial note amount issued (a) | Initial collateral balance (b) | Current balance (a) | Current collateral balance(b) | Weighted average interest rate(c) | Original revolving period | ||||||||||||||||||||||||||||||||
| (in thousands) | ||||||||||||||||||||||||||||||||||||||
| Asset-backed notes recorded at fair value: | ||||||||||||||||||||||||||||||||||||||
| Oportun Issuance Trust (Series 2021-C) | $ | 500,000 | $ | 512,762 | $ | 472,972 | $ | 519,735 | 2.48 | % | 3 years | |||||||||||||||||||||||||||
| Oportun Issuance Trust (Series 2021-B) | 500,000 | 512,759 | 475,772 | 520,594 | 2.05 | % | 3 years | |||||||||||||||||||||||||||||||
| Oportun Funding XIV, LLC (Series 2021-A) | 375,000 | 383,632 | 364,808 | 390,705 | 1.79 | % | 2 years | |||||||||||||||||||||||||||||||
| Oportun Funding XIII, LLC (Series 2019-A) | 279,412 | 294,118 | 279,883 | 299,832 | 3.46 | % | 3 years | |||||||||||||||||||||||||||||||
| Total asset-backed notes recorded at fair value | $ | 1,654,412 | $ | 1,703,271 | $ | 1,593,435 | $ | 1,730,866 | ||||||||||||||||||||||||||||||
| December 31, 2021 | ||||||||||||||||||||||||||||||||||||||
| Variable Interest Entity | Initial note amount issued (a) | Initial collateral balance (b) | Current balance (a) | Current collateral balance(b) | Weighted average interest rate(c) | Original revolving period | ||||||||||||||||||||||||||||||||
| (in thousands) | ||||||||||||||||||||||||||||||||||||||
| Asset-backed notes recorded at fair value: | ||||||||||||||||||||||||||||||||||||||
| Oportun Issuance Trust (Series 2021-C) | $ | 500,000 | $ | 512,762 | $ | 497,774 | $ | 525,436 | 2.48 | % | 3 years | |||||||||||||||||||||||||||
| Oportun Issuance Trust (Series 2021-B) | 500,000 | 512,759 | 498,487 | 521,174 | 2.05 | % | 3 years | |||||||||||||||||||||||||||||||
| Oportun Funding XIV, LLC (Series 2021-A) | 375,000 | 383,632 | 374,363 | 391,325 | 1.79 | % | 2 years | |||||||||||||||||||||||||||||||
| Oportun Funding XIII, LLC (Series 2019-A) | 279,412 | 294,118 | 281,082 | 299,310 | 3.46 | % | 3 years | |||||||||||||||||||||||||||||||
| Total asset-backed notes recorded at fair value | $ | 1,654,412 | $ | 1,703,271 | $ | 1,651,706 | $ | 1,737,245 | ||||||||||||||||||||||||||||||
(a)Initial note amount issued includes notes retained by the Company as applicable. The current balances are measured at fair value for asset-backed notes recorded at fair value.
(b)Includes the unpaid principal balance of loans receivable, cash, cash equivalents and restricted cash pledged by the Company.
(c)Weighted average interest rate excludes notes retained by the Company.
11
The following table presents information regarding the Company's Acquisition Financing:
| March 31, 2022 | December 31, 2021 | |||||||||||||||||||||||||||||||
| Variable Interest Entity | Original Balance | Maturity Date | Interest Rate | Balance | Balance | |||||||||||||||||||||||||||
| (in thousands) | ||||||||||||||||||||||||||||||||
| Oportun RF, LLC | $ | 116,000 | October 1, 2024 | LIBOR (minimum of 0.00%) + 8.00% | $ | 103,869 | $ | 114,092 | ||||||||||||||||||||||||
As of March 31, 2022, and December 31, 2021, the Company was in compliance with all covenants and requirements of the Secured Financing and Acquisition Financing facilities and asset-backed notes.
| 10. | Other Liabilities | ||||
Other liabilities consist of the following:
| March 31, | December 31, | |||||||||||||
| (in thousands) | 2022 | 2021 | ||||||||||||
| Accounts payable | $ | 4,253 | $ | 8,343 | ||||||||||
| Accrued compensation | 18,824 | 36,417 | ||||||||||||
| Accrued expenses | 28,946 | 36,464 | ||||||||||||
| Accrued interest | 2,714 | 3,276 | ||||||||||||
| Amount due to whole loan buyer | 17,289 | 14,062 | ||||||||||||
| Deferred tax liabilities | 43,415 | 28,424 | ||||||||||||
| Current tax liabilities and other | 11,600 | 8,372 | ||||||||||||
| Total other liabilities | $ | 127,041 | $ | 135,358 | ||||||||||
| 11. | Stockholders' Equity | ||||
Preferred Stock - The Board has the authority, without further action by the Company's stockholders, to issue up to 100,000,000 shares of undesignated preferred stock with rights and preferences, including voting rights, designated from time to time by the Board. There were no shares of undesignated preferred stock issued or outstanding as of March 31, 2022 or December 31, 2021.
Common Stock - As of March 31, 2022 and December 31, 2021, the Company was authorized to issue 1,000,000,000 shares of common stock with a par value of $0.0001 per share. As of March 31, 2022, 33,078,916 and 32,806,893 shares were issued and outstanding, respectively, and 272,023 shares were held in treasury stock. As of December 31, 2021, 32,276,419 and 32,004,396 shares were issued and outstanding, respectively, and 272,023 shares were held in treasury stock.
| 12. | Equity Compensation and Other Benefits | ||||
The Company's stock-based plans are described and informational disclosures are provided in the Notes to the Consolidated Financial Statements included in the Annual Report.
Stock-based Compensation - Total stock-based compensation expense included in the Condensed Consolidated Statements of Operations (Unaudited) is as follows:
| Three Months Ended March 31, | ||||||||||||||
| (in thousands) | 2022 | 2021 | ||||||||||||
| Technology and facilities | $ | 1,870 | $ | 728 | ||||||||||
| Sales and marketing | 31 | 32 | ||||||||||||
| Personnel | 4,872 | 4,067 | ||||||||||||
Total stock-based compensation (1) | $ | 6,773 | $ | 4,827 | ||||||||||
(1) Amounts shown are net of $0.7 million of capitalized stock-based compensation for the three months ended March 31, 2022 and net of $0.3 million of capitalized stock-based compensation for the three months ended March 31, 2021.
As of March 31, 2022, and December 31, 2021, the Company’s total unrecognized compensation cost related to unvested stock-based option awards granted to employees was $9.5 million and $6.9 million, respectively, which will be recognized over a weighted-average vesting period of approximately 2.8 years and 2.2 years, respectively. As of March 31, 2022 and December 31, 2021, the Company's total unrecognized compensation cost related to unvested restricted stock unit awards granted to employees was $72.2 million and $54.1 million, respectively, which will be recognized over a weighted average vesting period of approximately 3.1 years and 2.6 years, respectively.
12
Cash flows from the tax benefits for tax deductions resulting from the exercise of stock options in excess of the compensation expense recorded for those options (excess tax benefits) are required to be classified as cash from financing activities. The total income tax expense recognized in the income statement for stock-based compensation arrangements for the three months ended March 31, 2022 was $0.7 million. The total income tax expense recognized in the income statement for the stock-based compensation arrangements for the three months ended March 31, 2021 was insignificant.
| 13. | Revenue | ||||
Interest Income - Total interest income included in the Condensed Consolidated Statements of Operations (Unaudited) is as follows:
| Three Months Ended March 31, | ||||||||||||||
| (in thousands) | 2022 | 2021 | ||||||||||||
| Interest income | ||||||||||||||
| Interest on loans | $ | 187,387 | $ | 125,682 | ||||||||||
| Fees on loans | 4,850 | 1,509 | ||||||||||||
| Total interest income | 192,237 | 127,191 | ||||||||||||
Non-interest Income - Total non-interest income included in the Condensed Consolidated Statements of Operations (Unaudited) is as follows:
| Three Months Ended March 31, | ||||||||||||||
| (in thousands) | 2022 | 2021 | ||||||||||||
| Non-interest income | ||||||||||||||
| Gain on loan sales | $ | 5,715 | $ | 4,434 | ||||||||||
| Servicing fees | 3,957 | 3,078 | ||||||||||||
| Other income | 12,811 | 610 | ||||||||||||
| Total non-interest income | $ | 22,483 | $ | 8,122 | ||||||||||
| 14. | Income Taxes | ||||
For the three months ended March 31, 2022 and 2021, the Company calculates its year-to-date income tax expense (benefit) by applying the estimated annual effective tax rate to the year-to-date income from operations before income taxes and adjusts the income tax expense (benefit) for discrete tax items recorded in the period.
During the three months ended March 31, 2022 and 2021, the Company recorded income tax expense of $12.0 million and $1.0 million, respectively, related to continuing operations. The Company’s reported effective tax rates were 20.8% and 24.1% for the three months ended March 31, 2022 and 2021, respectively. Our effective tax rates for the three months ended March 31, 2022 and 2021 differ from the statutory tax rates primarily due to the impacts of the R&D tax credit and a one-time exercise of stock-based awards.
| 15. | Fair Value of Financial Instruments | ||||
Financial Instruments at Fair Value
The table below compares the fair value of loans receivable and asset-backed notes to their contractual balances for the periods shown:
| March 31, 2022 | December 31, 2021 | |||||||||||||||||||||||||
| (in thousands) | Unpaid Principal Balance | Fair Value | Unpaid Principal Balance | Fair Value | ||||||||||||||||||||||
| Assets | ||||||||||||||||||||||||||
| Loans receivable | $ | 2,353,981 | $ | 2,450,987 | $ | 2,272,864 | $ | 2,386,807 | ||||||||||||||||||
| Liabilities | ||||||||||||||||||||||||||
| Asset-backed notes | 1,654,412 | 1,593,435 | 1,654,412 | 1,651,706 | ||||||||||||||||||||||
The Company calculates the fair value of the asset-backed notes using independent pricing services and broker price indications, which are based on quoted prices for identical or similar notes, which are Level 2 input measures.
13
The Company primarily uses a discounted cash flow model to estimate the fair value of Level 3 instruments based on the present value of estimated future cash flows. This model uses inputs that are inherently judgmental and reflect management’s best estimates of the assumptions a market participant would use to calculate fair value. The following tables present quantitative information about the significant unobservable inputs used for the Company’s Level 3 fair value measurements for Loans Receivable at Fair Value.
| March 31, 2022 | December 31, 2021 | |||||||||||||||||||||||||||||||||||||
| Minimum | Maximum | Weighted Average (3) | Minimum | Maximum | Weighted Average | |||||||||||||||||||||||||||||||||
Remaining cumulative charge-offs (1) | 6.14% | 47.89% | 10.37% | 6.75% | 51.86% | 9.60% | ||||||||||||||||||||||||||||||||
Remaining cumulative prepayments (1) | — | 41.11% | 33.16% | — | 44.25% | 32.47% | ||||||||||||||||||||||||||||||||
Principal payment rate (1)(2) | —% | —% | 16.55% | —% | —% | 18.07% | ||||||||||||||||||||||||||||||||
| Average life (years) | 0.20 | 1.51 | 0.85 | 0.22 | 1.51 | 0.86 | ||||||||||||||||||||||||||||||||
| Discount rate | 6.69 | 8.79 | 6.76% | 6.90 | 8.35 | 6.94% | ||||||||||||||||||||||||||||||||
(1) Figure disclosed as a percentage of outstanding principal balance.
(2) Remaining cumulative prepayments are estimated to calculate fair value on the unsecured and secured loan receivables and principal payment rates are estimated on the credit card receivables.
(3) Unobservable inputs were weighted by outstanding principal balance, which are grouped by risk (type of customer, original loan maturity terms).
Fair value adjustments related to financial instruments where the fair value option has been elected are recorded through earnings for the three months ended March 31, 2022 and 2021. Certain unobservable inputs may (in isolation) have either a directionally consistent or opposite impact on the fair value of the financial instrument for a given change in that input. When multiple inputs are used within the valuation techniques for loans, a change in one input in a certain direction may be offset by an opposite change from another input.
The Company developed internal models to estimate the fair value of loans receivable held for investment. To generate future expected cash flows, the models combine receivable characteristics with assumptions about borrower behavior based on the Company’s historical loan performance. These cash flows are then discounted using a required rate of return that management estimates would be used by a market participant.
The Company tested the fair value models by comparing modeled cash flows to historical loan performance to ensure that the models were complete, accurate and reasonable for the Company’s use. The Company also engaged a third party to create an independent fair value estimate for the Loans Receivable at Fair Value, which provides a set of fair value marks using the Company’s historical loan performance data and whole loan sale prices to develop independent forecasts of borrower behavior. Their model generates expected cash flows which were then aggregated and compared to the Company’s actual cash flows within an acceptable range.
The Company's internal valuation committee provides governance and oversight over the fair value pricing calculations and related financial statement disclosures. Additionally, this committee provides a challenge of the assumptions used and outputs of the model, including the appropriateness of such measures and periodically reviews the methodology and process to determine the fair value pricing. Any significant changes to the process must be approved by the committee.
The table below presents a reconciliation of loans receivable at fair value on a recurring basis using significant unobservable inputs:
| Three Months Ended March 31, | ||||||||||||||
| (in thousands) | 2022 | 2021 | ||||||||||||
| Balance – beginning of period | $ | 2,386,807 | $ | 1,696,526 | ||||||||||
| Principal disbursements | 779,719 | 309,009 | ||||||||||||
Principal payments from customers (1) | (636,044) | (315,887) | ||||||||||||
| Gross charge-offs | (62,558) | (40,959) | ||||||||||||
Net increase (decrease) in fair value (1) | (16,937) | 21,562 | ||||||||||||
| Balance – end of period | $ | 2,450,987 | $ | 1,670,251 | ||||||||||
(1) The principal payment from customers shown for the three months ended March 31, 2022 includes $227.6 million of unpaid principal balance of loans sold in the 2022-1 transaction. The net increase (decrease) in fair value shown for the three months ended March 31, 2022 includes $15.9 million related to the cumulative fair value mark on the loans sold in the 2022-1 transaction. For details regarding the 2022-1 transaction, refer to Note 5, Loans Held for Sale and Loans Sold.
As of March 31, 2022, the aggregate fair value of loans that are 90 days or more past due and in non-accrual status was $3.7 million, and the aggregate unpaid principal balance for loans that are 90 days or more past due was $23.0 million. As of December 31, 2021, the aggregate fair value of loans that are 90 days or more past due and in non-accrual status was $3.5 million, and the aggregate unpaid principal balance for loans that are 90 days or more past due was $20.7 million.
14
Financial Instruments Disclosed But Not Carried at Fair Value
The following table presents the carrying value and estimated fair values of financial assets and liabilities disclosed but not carried at fair value and the level within the fair value hierarchy:
| March 31, 2022 | ||||||||||||||||||||||||||||||||
| Carrying value | Estimated fair value | Estimated fair value | ||||||||||||||||||||||||||||||
| (in thousands) | Level 1 | Level 2 | Level 3 | |||||||||||||||||||||||||||||
| Assets | ||||||||||||||||||||||||||||||||
| Cash and cash equivalents | $ | 109,864 | $ | 109,864 | $ | 109,864 | $ | — | $ | — | ||||||||||||||||||||||
| Restricted cash | 60,694 | 60,694 | 60,694 | — | — | |||||||||||||||||||||||||||
| Liabilities | ||||||||||||||||||||||||||||||||
| Accounts payable | 4,253 | 4,253 | 4,253 | — | — | |||||||||||||||||||||||||||
| Secured financing (Note 9) | 477,000 | 467,430 | — | 467,430 | — | |||||||||||||||||||||||||||
| Acquisition financing (Note 9) | 105,605 | 105,605 | — | 105,605 | — | |||||||||||||||||||||||||||
| December 31, 2021 | ||||||||||||||||||||||||||||||||
| Carrying value | Estimated fair value | Estimated fair value | ||||||||||||||||||||||||||||||
| (in thousands) | Level 1 | Level 2 | Level 3 | |||||||||||||||||||||||||||||
| Assets | ||||||||||||||||||||||||||||||||
| Cash and cash equivalents | $ | 130,959 | $ | 130,959 | $ | 130,959 | $ | — | $ | — | ||||||||||||||||||||||
| Restricted cash | 62,001 | 62,001 | 62,001 | — | — | |||||||||||||||||||||||||||
| Loans held for sale (Note 5) | 491 | 547 | — | — | 547 | |||||||||||||||||||||||||||
| Liabilities | ||||||||||||||||||||||||||||||||
| Accounts payable | 8,343 | 8,343 | 8,343 | — | — | |||||||||||||||||||||||||||
| Secured financing (Note 9) | 398,000 | 396,081 | — | 396,081 | — | |||||||||||||||||||||||||||
| Acquisition financing (Note 9) | 116,000 | 116,000 | — | 116,000 | — | |||||||||||||||||||||||||||
The Company uses the following methods and assumptions to estimate fair value:
•Cash, cash equivalents, restricted cash and accounts payable ‑ The carrying values of certain of the Company’s financial instruments, including cash and cash equivalents, restricted cash and accounts payable, approximate Level 1 fair values of these financial instruments due to their short-term nature.
•Loans held for sale ‑ The fair values of loans held for sale are based on a negotiated agreement with the purchaser.
•Secured financing ‑ The fair value of the secured financing facilities has been calculated using discount rates equivalent to the weighted-average market yield of comparable debt securities, which is a Level 2 input measure.
◦Acquisition financing ‑ The fair value of the acquisition financing is estimated to equal carrying value due to it being a floating rate facility.
There were no transfers in or out of Level 3 assets and liabilities for the three months ended March 31, 2022 and 2021 and the year ended December 31, 2021.
| 16. | Leases, Commitments and Contingencies | ||||
Leases - The Company’s leases are primarily for real property consisting of retail locations and office space and have remaining lease terms of 10 years or less.
During the first quarter of 2022, we made the decision to close an additional 27 retail locations in April 2022 and we have incurred $0.2 million in expenses in the first quarter of 2022 related to the accelerated amortization of right of use assets.
The Company has elected the practical expedient to keep leases with terms of 12 months or less off the balance sheet as no recognition of a lease liability and a right-of-use asset is required. Operating lease expense is recognized on a straight-line basis over the lease term in "Technology and facilities" in the Condensed Consolidated Statements of Operations (Unaudited).
All of the Company’s existing lease arrangements are classified as operating leases. At the inception of a contract, the Company determines if the contract is or contains a lease. At the commencement date of a lease, the Company recognizes a lease liability equal to the present value of the lease payments and a right-of-use asset representing the Company's right to use the underlying asset for the duration of the lease term. The Company’s leases include options to extend or terminate the arrangement at the end of the original lease term. The Company generally does not include renewal or termination options in its assessment of the leases unless extension or termination for certain assets is deemed to be reasonably certain. Variable lease payments and short-term lease costs were deemed immaterial. The Company’s leases do not provide an explicit rate. The Company uses its contractual borrowing rate to determine lease discount rates.
15
As of March 31, 2022, maturities of lease liabilities, excluding short-term leases and leases on a month-to-month basis, were as follows:
| (in thousands) | Operating Leases | |||||||
| Lease expense | ||||||||
| 2022 (remaining nine months) | $ | 11,228 | ||||||
| 2023 | 13,347 | |||||||
| 2024 | 11,264 | |||||||
| 2025 | 9,301 | |||||||
| 2026 | 3,427 | |||||||
| 2027 | 604 | |||||||
| Thereafter | 9 | |||||||
| Total lease payments | 49,180 | |||||||
| Imputed interest | (3,776) | |||||||
| $ | 45,404 | |||||||
| Sublease income | ||||||||
| 2022 (remaining nine months) | $ | (448) | ||||||
| 2023 and thereafter | — | |||||||
| Total lease payments | (448) | |||||||
| Imputed interest | 3 | |||||||
| Total sublease income | $ | (445) | ||||||
| Net lease liabilities | $ | 44,959 | ||||||
| Weighted average remaining lease term | 3.7 years | |||||||
| Weighted average discount rate | 3.98 | % | ||||||
As of December 31, 2021, maturities of lease liabilities, excluding short-term leases and leases on a month-to-month basis, were as follows:
| (in thousands) | Operating Leases | |||||||
| Lease expense | ||||||||
| 2022 | 14,927 | |||||||
| 2023 | 13,214 | |||||||
| 2024 | 11,142 | |||||||
| 2025 | 9,238 | |||||||
| 2026 | 3,387 | |||||||
| Thereafter | 706 | |||||||
| Total lease payments | 52,614 | |||||||
| Imputed interest | (4,030) | |||||||
| 48,584 | ||||||||
| Sublease income | ||||||||
| 2022 | (896) | |||||||
| 2023 and thereafter | — | |||||||
| Total lease payments | (896) | |||||||
| Imputed interest | 11 | |||||||
| Total sublease income | (885) | |||||||
| Net lease liabilities | 47,699 | |||||||
| Weighted average remaining lease term | 3.9 years | |||||||
| Weighted average discount rate | 4.01 | % | ||||||
Rental expenses under operating leases for the three months ended March 31, 2022 and 2021, was $4.4 million and $9.4 million, respectively.
Purchase Commitments ‑ The Company has commitments to purchase information technology and communication services in the ordinary course of business, with various terms through 2026. These amounts are not reflective of the Company’s entire anticipated purchases under the related agreements; rather, they are determined based on the non-cancelable amounts to which the Company is contractually obligated. The Company’s purchase obligations are $14.9 million for the remainder of 2022, $12.9 million in 2023, $4.2 million in 2024, $1.4 million in 2025 and $0.0 million in 2026 and thereafter.
16
Bank Partnership Program and Servicing Agreement - The Company entered into a bank partnership program with MetaBank, N.A. on August 11, 2020. In accordance with the agreements underlying the bank partnership program, Oportun has a commitment to purchase an increasing percentage of program loans originated by MetaBank based on thresholds specified in the agreements. Lending under the partnership was launched in August of 2021 and as of March 31, 2022, the Company has a commitment to purchase an additional $3.4 million of program loans based on originations through March 31, 2022.
Whole Loan Sale Program ‑ Through March 4, 2022, the Company had a commitment to sell to a third-party institutional investor 10% of its unsecured loan originations that satisfy certain eligibility criteria, and an additional 5% at the Company’s sole option. The Company chose not to renew the arrangement and allowed the agreement to expire on its terms on March 4, 2022. For details regarding the whole loan sale program, refer to Note 5, Loans Held for Sale and Loans Sold.
Unfunded Loan and Credit Card Commitments - Unfunded loan and credit card commitments at March 31, 2022 and December 31, 2021 were $56.0 million and $39.8 million, respectively. WebBank has a direct obligation to borrowers to fund such credit card commitments subject to the respective account agreements with such borrowers; however, pursuant to the Receivables Purchase Agreement between WebBank and Oportun, Inc., the Company has the obligation to purchase receivables from WebBank representing these unfunded amounts.
Litigation
Legal Proceedings Resolved in 2021
For legal proceedings resolved in 2021, please refer to Note 16 of the Notes to the Consolidated Financial Statements in the Company's Form 10-K filed on March 1, 2022.
Regulatory Proceedings
On March 3, 2021, the Company received a Civil Investigative Demand (CID) from the CFPB. The stated purpose of the CID is to determine whether small-dollar lenders or associated persons, in connection with lending and debt-collection practices, have failed to comply with certain federal consumer protection laws over which the CFPB has jurisdiction. The Company has received additional information requests related to the CID. The information requests are focused on the Company’s legal collection practices from 2019 to 2021 and hardship treatments offered to members during the COVID-19 pandemic.
Digit received a CID from the CFPB in June 2020. The CID was disclosed and discussed during the acquisition process. The stated purpose of the CID is to determine whether Digit, in connection with offering its products or services, misrepresented the terms, conditions, or costs of the products or services in a manner that is unfair, deceptive, or abusive.
The Company, including Digit, are cooperating fully with the CFPB with respect to both of these matters and, although the Company believes that the business practices of the Company, including Digit, have been in full compliance with applicable laws, because the CFPB has broad authority to determine what it views as potential unfair, deceptive or abusive acts or practices, at this time, the Company is unable to predict the outcomes of these CFPB investigations.
From time to time, the Company may bring or be subject to other legal proceedings and claims in the ordinary course of business, including legal proceedings with third parties asserting infringement of their intellectual property rights, consumer litigation, and regulatory proceedings. The Company is not presently a party to any other legal proceedings that, if determined adversely to the Company, would individually or taken together have a material adverse effect on its business, financial condition, cash flows or results of operations.
See Part II. Item 1. Legal Proceedings for additional information regarding legal proceedings in which the Company is involved.
17
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
An index to our management's discussion and analysis follows:
| Topic | ||||||||
You should read the following discussion and analysis of our financial condition and results of operations together with our unaudited condensed consolidated financial statements and the related notes and other financial information included elsewhere in this report and the audited consolidated financial statements and the related notes and the discussion under the heading “Management’s Discussion and Analysis of Financial Condition and Results of Operations” for the fiscal year ended December 31, 2021 included in our Annual Report on Form 10-K filed with the Securities and Exchange Commission, on March 1, 2022. Some of the information contained in this discussion and analysis, including information with respect to our plans and strategy for our business, includes forward-looking statements that involve risks and uncertainties. You should review the “Risk Factors” section of this report for a discussion of important factors that could cause actual results to differ materially from the results described in or implied by the forward-looking statements contained in the following discussion and analysis.
Forward-Looking Statements
This report contains forward-looking statements, within the meaning of the Private Securities Litigation Reform Act of 1995, Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), concerning our business, operations and financial performance and condition, as well as our plans, objectives and expectations for our business operations and financial performance and condition. Any statements contained herein that are not statements of historical facts are forward-looking statements. In some cases, you can identify forward-looking statements by terminology such as “aim,” “anticipate,” “assume,” “believe,” “contemplate,” “continue,” “could,” “due,” “estimate,” “expect,” “goal,” “intend,” “may,” “objective,” “plan,” “predict,” “potential,” “positioned,” “seek,” “should,” “target,” “will,” “would,” and other similar expressions that are predictions of or indicate future events and future trends, or the negative of these terms or other comparable terminology, although not all forward-looking statements contain these words. These forward-looking statements include, but are not limited to, statements about:
•our ability to increase the volume of loans we make;
•our ability to manage our net charge-off rates;
•the successful integration of Hello Digit, Inc. ("Digit") with our business;
•our expectations and management of future growth, including expanding our markets served, member base and product and service offerings, including our digital banking services;
•our ability to successfully adjust our proprietary credit risk models and products in response to changing macroeconomic conditions and fluctuations in the credit market;
•our expectations regarding our costs and seasonality;
•our ability to successfully build our brand and protect our reputation from negative publicity;
•our ability to expand our digital capabilities for origination and increase the volume of loans originated through our digital channels;
•our ability to increase the effectiveness of our marketing efforts;
•our ability to grow market share in existing markets or any new markets we may enter;
•our ability to continue to expand our demographic focus;
•our ability to maintain or expand our relationships with our current partners, including bank partners, and our plans to acquire additional partners using our Lending as a Service model;
•our ability to successfully manage our interest rate spread against our cost of capital;
•our ability to maintain the terms on which we lend to our borrowers;
•our plans for and our ability to successfully maintain our diversified funding strategy, including warehouse facilities, loan sales and securitization transactions;
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•our ability to manage fraud risk;
•our expectations regarding the sufficiency of our cash to meet our operating and cash expenditures;
•our ability to effectively estimate the fair value of our loans receivable held for investment and our asset-backed notes;
•our ability to effectively secure and maintain the confidentiality of the information provided and utilized across our systems;
•our ability to successfully compete with companies that are currently in, or may in the future enter, the markets in which we operate;
•our ability to attract, integrate and retain qualified employees;
•the impact of macroeconomic conditions on our business, including the impact of the COVID-19 pandemic;
•our ability to effectively manage and expand the capabilities of our contact centers, outsourcing relationships and other business operations abroad; and
•our ability to successfully adapt to complex and evolving regulatory environments
Forward-looking statements are based on our management’s current expectations, estimates, forecasts, and projections about our business and the industry in which we operate and on our management’s beliefs and assumptions. In addition, statements that “we believe” and similar statements reflect our beliefs and opinions on the relevant subject. These statements are based upon information available to us as of the date of this Quarterly Report on Form 10-Q, and while we believe such information forms a reasonable basis for such statements, such information may be limited or incomplete, and our statements should not be read to indicate we have conducted exhaustive inquiry into, or review of, all potentially available relevant information. We anticipate that subsequent events and developments may cause our views to change. Forward-looking statements do not guarantee future performance or development and involve known and unknown risks, uncertainties, and other factors that are in some cases beyond our control. Factors that may cause actual results to differ materially from current expectations include, among other things, those listed under the heading “Risk Factors” and elsewhere in this report. We also operate in a rapidly changing environment and new risks emerge from time to time. It is not possible for our management to predict all risks, nor can we assess the impact of all factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in, or implied by, any forward-looking statements. As a result, any or all of our forward-looking statements in this report may turn out to be inaccurate. Furthermore, if the forward-looking statements prove to be inaccurate, the inaccuracy may be material.
You should read this report with the understanding that our actual future results, levels of activity, performance and achievements may be materially different from what we expect.
These forward-looking statements speak only as of the date of this report. Except as required by law, we assume no obligation to update or revise these forward-looking statements for any reason, even if new information becomes available in the future. We qualify all of our forward-looking statements by these cautionary statements.
Overview
We are a financial technology company and digital banking platform driven by our mission to provide inclusive, affordable financial services that empower our members to build a better future. By intentionally designing our products with our members in mind, we are focused on realizing our vision to deliver a complete set of financial solutions that meet the needs of hardworking people, from borrowing and banking to savings, investing and more. We take a holistic approach to serving our members and view it as our purpose to responsibly meet their current capital needs, help grow our members’ financial profiles, increase their financial awareness and put them on a path to a financially healthy life. In our 16-year lending history, we have extended more than $13.0 billion in responsible credit through more than 5.2 million loans and credit cards. We have been certified as a Community Development Financial Institution ("CDFI") by the U.S. Department of the Treasury since 2009.
With our recent acquisition of Hello Digit, Inc. ("Digit"), we believe we now have a strong competitive advantage over other fintechs and neobanks. As a combined company, we can now offer access to a comprehensive suite of digital banking products, offered either directly or through partners, including lending, savings and investing powered by A.I. and tailored to each member's goals.
Our financial products allow us to meet our members where they are and assist them with their overall financial health, resulting in opportunities to present multiple relevant products to our members. Our credit products include personal loans, secured personal loans and credit cards. Our digital banking products include digital banking, automated savings, long-term investing and retirement savings. Consumers are able to become members and access our products through our digital banking app—the Digit app—and the Oportun.com website, which are our primary channels for onboarding and serving members. Our personal loan products are also available over the phone or through over 500 retail locations, which includes 284 of our Lending as a Service partner locations.
Credit Products
Personal Loans - Our personal loan is a simple-to-understand, affordable, unsecured, fully amortizing installment loan with fixed payments throughout the life of the loan. We charge fixed interest rates on our loans, which vary based on the amount disbursed and applicable state law, with a cap of 36% annual percentage rate (“APR”) in all cases. As of March 31, 2022, for all active loans in our portfolio and at time of disbursement, the weighted average term and APR at origination was 35 months and 32.3%, respectively. The average loan size for loans we originated during the three months ended March 31, 2022 was $3,893. Our loans do not have prepayment penalties or balloon payments, and typically range in size from $300 to $11,000 with terms of 6 to 61 months. Generally, loan payments are structured on a bi-weekly or semi-monthly basis to coincide with our members'
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receipt of their income. As part of our underwriting process, we verify income for all applicants and only approve loans that meet our ability-to-pay criteria. As of March 31, 2022, we originate unsecured personal loans in 12 states through state licenses and in 27 through our partnership with MetaBank, N.A.
Secured Personal Loans - In April 2020, we launched a personal installment loan product secured by an automobile, which we refer to as secured personal loans. Our secured personal loans range in size from $2,525 to $20,000 with terms ranging from 21 to 64 months. The average loan size for secured personal loans we originated during the three months ended March 31, 2022 was $8,394. As of March 31, 2022, for all active loans in our portfolio and at time of disbursement, the weighted average term and APR at origination was 47 months and 29.1%, respectively. As part of our underwriting process, we evaluate the collateral value of the vehicle, verify income for all applicants and only approve loans that meet our ability-to-pay criteria. Our secured personal loans are currently offered in California, Texas and Florida. in April 2022 we launched our secured personal loans in Arizona and we are in the process of considering expansion into other states.
Credit Cards - We launched Oportun® Visa® Credit Card, issued by WebBank, Member FDIC, in December 2019, and offer credit cards in 45 states as of March 31, 2022. Credit lines on our credit cards range in size from $300 to $3,000 with an APR between 24.9% to 29.9%. The average APR of the outstanding credit card receivables was 29.8% as of March 31, 2022. The average credit line for credit cards activated during the three months ended March 31, 2022 was $944.
Digital Banking Products
Digit Savings – Our Digit Savings product is designed to understand a member’s cash flows and save a calculated amount on a regular basis to effortlessly achieve savings goals. Digit's savings product utilizes machine learning to analyze a member’s transaction activity and build forecasts of the member’s future cash flows to make small, frequent savings decisions according to the member’s financial goals in a personalized manner. Members integrate their existing bank accounts into the platform or they can make Digit their primary banking relationship through a bank partner. After one year using the automated savings product, members have been able to increase their liquid savings by approximately 50%. Since 2015 Digit has helped members save more than $7.6 billion and pay down more than $330.0 million in debt. The funds in these saving accounts are owned by Digit members and are not the assets of the Company. Therefore, these funds are not included in the Condensed Consolidated Balance Sheets (Unaudited).
Digit Direct – Our Digit Direct product offers a full checking account, through a bank partner, that intelligently organizes and budgets a member’s money across bills, savings, and spending. The bank account with a brain™, Digit Direct leverages the same A.I. engine used for our savings product to automatically identify and organize recurring bills and guides spending to ensure members' savings goals are met, and that members know exactly what they can safely spend. This is on top of what members can expect from a traditional checking account, including a physical and virtual debit card to use for purchases and ATM withdrawals and checks.
Digit Investing and Digit Retirement – Our Digit investment and retirement products are a longer-term savings solution via an A.I.-driven portfolio allocation into low-cost investments based upon risk-tolerance. Our long-term investment solutions automatically allocates our members' savings into low-cost risk-adjusted portfolios held in brokerage accounts or tax-advantaged IRAs. Since 2020, our members have invested $45 million into long-term goals through low-cost ETF portfolios. The investment products include a general investing account and a retirement account for our members’ longer term goals, utilizing smart recommendations to invest savings in risk-adjusted portfolios.
Lending as a Service
Beyond our core direct-to-consumer lending business, we believe that we can leverage our proprietary credit scoring and underwriting model to partner with other consumer brands and expand our member base. With our Lending as a Service model, our partner markets loans and enters borrower applications into our system and Oportun underwrites, originates, and services the loans. Our first Lending as a Service strategic partner was DolEx Dollar Express, Inc. (“DolEx”) with an initial launch in December 2020. In October of 2021, we launched another Lending as a Service partnership with Barri Financial Group in select locations. In January 2022, we announced our first all-digital Lending as a Service partnership with Sezzle, a leading provider of Buy Now Pay Later (“BNPL”) financing options. When deployed, Oportun will be available as a checkout option, through Sezzle, for larger purchases of goods and services on a BNPL basis, which we believe will allow us to reach more new members.
Capital Markets Funding
To fund our growth at a low and efficient cost, we have built a diversified and well-established capital markets funding program, which allows us to partially hedge our exposure to rising interest rates or credit spreads by locking in our interest expense for up to three years. Over the past eight years, we have executed 17 bond offerings in the asset-backed securities market, the last 14 of which include tranches that have been rated investment grade. We issued two- and three-year fixed rate bonds which have provided us committed capital to fund future loan originations at a fixed Cost of Debt. Through March 4, 2022, we were also party to a whole loan sale program whereby we sold a percentage of our loans to a third-party financial institution. We allowed the whole loan sale program agreement to expire on its own terms. In March 2022, we participated in a securitization and sold loans through the issuance of amortizing asset-backed notes secured by a pool of our unsecured and secured personal installment loans. We also sold our share of the residual interest in the pool. The sold loans had an aggregate unpaid principal balance of approximately $227.6 million. In addition to possible future whole loan or structured loan sales, we also have a $600.0 million Personal Loan Warehouse facility with a term through September 2024 and a $150.0 million Credit Card Warehouse facility with a term through December, 2023 which also helps to fund our receivables growth.
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Digit Acquisition
On December 22, 2021, we acquired Digit and it became our wholly-owned subsidiary. Digit is a digital banking platform that provides automated savings, banking and investing tools. With Digit, members can keep and integrate their existing bank accounts into the platform, or with Digit, they can make Oportun their primary banking relationship by opening new accounts via a bank partner. By acquiring Digit, we further expanded our A.I. and digital capabilities and added additional service offerings to provide members a comprehensive suite of digital banking products, either directly or through our partners. The total consideration we provided for Digit was approximately $205.3 million, comprised of $73.2 million in equity and $132.1 million in cash. The cash consideration was funded with a $116.0 million Acquisition Financing facility.
Retail Network Optimization
During the first quarter of 2021, pursuant to our retail network optimization plan we closed 136 retail locations and reduced a portion of the employee workforce who managed and operated these retail locations. In addition, for the three months ended March 31, 2021, we incurred $6.2 million in expenses related to the retail location closures and $1.6 million related to severance and benefits related to the store closures which represented all severance and benefits related costs to be incurred in connection with the retail network optimization plan. The income statement impact for the three months ended March 31, 2021 was $7.8 million and was recorded through General, administrative and other on the Condensed Consolidated Statements of Operations (Unaudited). During the first quarter of 2022, we made the decision to close an additional 27 retail locations in April 2022 and reduce a portion of the workforce who manage and operate these retail locations. In the first quarter of 2022, we incurred $0.2 million in expenses related to these additional retail location closures and estimate remaining expenses of $1.5 million to be recognized in the second quarter of 2022. In addition we have also recognized $0.4 million related to severance and benefits related to the store closures in the first quarter of 2022 which represents all severance and benefit related costs to be incurred as a result of the additional store closures. The income statement impact of $0.6 million was recorded through General, administrative and other on the Condensed Consolidated Statements of Operations (Unaudited) for the three months ended March 31, 2022.
Key Financial and Operating Metrics
We monitor and evaluate the following key metrics in order to measure our current performance, develop and refine our growth strategies, and make strategic decisions.
As of or for the Three Months Ended March 31, | ||||||||||||||
| (in thousands of dollars) | 2022 | 2021 | ||||||||||||
Key Financial and Operating Metrics | ||||||||||||||
Members (1) | 1,676,754 | 643,967 | ||||||||||||
Products (1) | 1,757,339 | 643,967 | ||||||||||||
| Aggregate Originations | $ | 800,115 | $ | 335,239 | ||||||||||
30+ Day Delinquency Rate | 4.5 | % | 3.0 | % | ||||||||||
Annualized Net Charge-Off Rate | 8.6 | % | 8.6 | % | ||||||||||
| Return on Equity | 29.5 | % | 2.6 | % | ||||||||||
| Adjusted Return on Equity | 34.1 | % | 10.6 | % | ||||||||||
| Other Useful Metrics | ||||||||||||||
Managed Principal Balance at End of Period | $ | 2,842,943 | $ | 1,832,556 | ||||||||||
Owned Principal Balance at End of Period | $ | 2,353,981 | $ | 1,591,789 | ||||||||||
Average Daily Principal Balance | $ | 2,412,997 | $ | 1,624,753 | ||||||||||
(1) The 643,967 Members and Products reported as of March 31, 2021 reflect our previously defined and disclosed "Active Customer" metric. Products presented as of March 31, 2021 represents one product per member as we did not have members with multiple products at that time. Effective January 1, 2022, Active Customers is no longer a Key Financial and Operating Metric. See the definition of Members and Products in the Glossary at the end of Part II.
See “Glossary” at the end of Part II of this report for formulas and definitions of our key performance metrics.
Members
Reflecting our acquisition of Digit and its users, we define Members as borrowers with an outstanding or successfully paid off loan, originated by us or under a bank partnership program that we service, or individuals who have been approved for a credit card issued under a bank partnership program. Members also include individuals who have signed-up to use or are using any of our Digit Savings, Digit Direct, Digit Investing and/or Digit Retirement products. We view Members as an indication of growth of our business and our ability to establish long term relationships with the users of our products. Member growth is generally an indicator of future revenue, but is not directly correlated with revenues, since not all Members who sign up for one of our products fully utilize or continue to use our products.
Members were 1.7 million as of March 31, 2022, and include members acquired in connection with the acquisition of Digit on December 22, 2021. Active Customers were 0.6 million as of March 31, 2021. Effective January 1, 2022, Active Customers is no longer a Key Financial and Operating Metric and the year over year change is not directly comparable due to the difference in the metric.
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Products
Products refers to the aggregate number of personal loans and/or credit card accounts that our Members have had or been approved for that have been originated by us or through one of our bank partners. Products also include the aggregate number of digital banking products we offer as a result of our acquisition of Digit, including Digit Savings, Digit Direct, Digit Investing and Digit Retirement, that our Members use or have signed-up to use. We view Products as an indicator of the effectiveness of our member acquisition efforts and multiproduct adoption.
Products as of March 31, 2022 were 1.8 million.
Aggregate Originations
Aggregate Originations increased to $800.1 million for the three months ended March 31, 2022 from $335.2 million for the three months ended March 31, 2021, representing a 138.7% increase. The increase is primarily driven by an increase in the number of loans originated. We originated 228,728 and 114,670 loans for the three months ended March 31, 2022 and 2021, respectively. The increase is primarily driven by an increased number of applications due to higher demand. Aggregate Originations for the three months ended March 31, 2021 were lower due to tightened underwriting practices as a result of the pandemic.
30+ Day Delinquency Rate
Our 30+ Day Delinquency Rate was 4.5% and 3.0% as of March 31, 2022 and 2021, respectively. The increase reflects the higher mix of first-time borrowers and the return to pre-pandemic underwriting criteria later in 2021. However, had we not sold $227.6 million of loans, or approximately 8.8% of our owned portfolio, at the end of the quarter, the 30+ Day Delinquency Rate would be 4.1%, as compared to 3.9% as of December 31, 2021.
Annualized Net Charge-Off Rate
Annualized Net Charge-Off Rate for the three months ended March 31, 2022 and 2021 remained relatively flat at 8.6%. Net charge-offs remained flat due to the overall improvement in the economy, as well as the effectiveness of our A.I.-driven underwriting models, collections tools and payment options that have helped our borrowers manage through the pandemic.
Return on Equity and Adjusted Return on Equity
For the three months ended March 31, 2022 and 2021, Return on Equity was 29.5% and 2.6%, respectively and Adjusted Return on Equity was 34.1% and 10.6% respectively. The increases in Return on Equity and Adjusted Return on Equity were primarily due to higher net income. Net income was higher due to increased interest rates reducing the prices of our asset-backed notes which led to a net increase in fair value. For a reconciliation of Return on Equity to Adjusted Return on Equity, see “Non–GAAP Financial Measures.”
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Historical Credit Performance
Our A.I.-driven credit models enable us to originate loans with low and stable loss rates. Our Annualized Net Charge-off Rate ranged between 7% and 9% from 2011 to 2019 and was 9.8% in 2020, a modest variance above this range during the pandemic. Due to credit tightening in response to the COVID-19 pandemic and government stimulus payments our Annualized Net Charge-Off Rate decreased to 6.8% in 2021. However, we anticipate this rate will return to levels consistent with performance in pre-pandemic years. Consistent with our charge-off policy, we evaluate our loan portfolio and charge a loan off at the earlier of when the loan is determined to be uncollectible or when loans are 120 days contractually past due or 180 days contractually past due in the case of credit cards.
*Numbers shown reflect year-to-date amounts for the three months ended March 31, for the indicated fiscal year.
In addition to monitoring our loss and delinquency performance on an owned portfolio basis, we also monitor the performance of our loans by the period in which the loan was disbursed, generally years or quarters, which we refer to as a vintage. We calculate net lifetime loan loss rate by vintage as a percentage of original principal balance. Net lifetime loan loss rates equal the net lifetime loan losses for a given year through March 31, 2022 divided by the total origination loan volume for that year.
The below chart and table shows our net lifetime loan loss rate for each annual vintage of our personal loan product since we began lending in 2006, excluding loans originated from July 2017 to August 2020 under a loan program for borrowers who did not meet the qualifications for our core loan origination program. 100% of those loans were sold pursuant to a whole loan sale agreement. We were able to stabilize cumulative net loan losses after the financial crisis that started in 2008. We even achieved a net lifetime loan loss rate of 5.5% during the peak of the recession in 2009. The evolution of our credit models has allowed us to increase our average loan size and commensurately extend our average loan terms. Cumulative net lifetime loan losses for the 2015, 2016, 2017, and 2018 vintages increased partially due to the delay in tax refunds in 2017 and 2019, the impact of natural disasters such as Hurricane Harvey, and the longer duration of the loans. The 2018 and 2019 vintages are increasing due to the COVID-19 pandemic.
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| Year of Origination | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| 2007 | 2008 | 2009 | 2010 | 2011 | 2012 | 2013 | 2014 | 2015 | 2016 | 2017 | 2018 | 2019 | 2020 | 2021 | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Dollar weighted average original term for vintage in months | 9.3 | 9.9 | 10.2 | 11.7 | 12.3 | 14.5 | 16.4 | 19.1 | 22.3 | 24.2 | 26.3 | 29.0 | 30.0 | 32.0 | 33.3 | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Net lifetime loan losses as of March 31, 2022 as a percentage of original principal balance | 7.7% | 8.9% | 5.5% | 6.4% | 6.2% | 5.6% | 5.6% | 6.1% | 7.1% | 8.0% | 8.2% | 10.0% | 10.3%* | 5.4%* | 0.0%* | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Outstanding principal balance as of March 31, 2022 as a percentage of original amount disbursed | —% | —% | —% | —% | —% | —% | —% | —% | —% | —% | 0.1% | 0.9% | 9.4% | 40.6% | 89.0% | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
* Vintage is not yet fully mature from a loss perspective.
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Results of Operations
The following tables and related discussion set forth our Condensed Consolidated Statements of Operations (Unaudited) for each of the three months ended March 31, 2022 and 2021.
| Three Months Ended March 31, | ||||||||||||||
| (in thousands of dollars) | 2022 | 2021 | ||||||||||||
| Revenue | ||||||||||||||
| Interest income | $ | 192,237 | $ | 127,191 | ||||||||||
| Non-interest income | 22,483 | 8,122 | ||||||||||||
| Total revenue | 214,720 | 135,313 | ||||||||||||
| Less: | ||||||||||||||
| Interest expense | 13,677 | 13,504 | ||||||||||||
| Total net increase (decrease) in fair value | 3,971 | (11,568) | ||||||||||||
| Net revenue | 205,014 | 110,241 | ||||||||||||
| Operating expenses: | ||||||||||||||
| Technology and facilities | 49,189 | 32,924 | ||||||||||||
| Sales and marketing | 34,541 | 23,893 | ||||||||||||
| Personnel | 35,926 | 26,827 | ||||||||||||
| Outsourcing and professional fees | 14,327 | 12,625 | ||||||||||||
| General, administrative and other | 13,361 | 9,997 | ||||||||||||
| Total operating expenses | 147,344 | 106,266 | ||||||||||||
| Income before taxes | 57,670 | 3,975 | ||||||||||||
| Income tax expense | 12,007 | 956 | ||||||||||||
| Net income | $ | 45,663 | $ | 3,019 | ||||||||||
Total revenue
Three Months Ended March 31, | Period-to-period Change | |||||||||||||||||||||||||
| (in thousands, except percentages) | 2022 | 2021 | $ | % | ||||||||||||||||||||||
| Revenue | ||||||||||||||||||||||||||
| Interest income | $ | 192,237 | $ | 127,191 | $ | 65,046 | 51.1 | % | ||||||||||||||||||
| Non-interest income | 22,483 | 8,122 | 14,361 | 176.8 | % | |||||||||||||||||||||
| Total revenue | $ | 214,720 | $ | 135,313 | $ | 79,407 | 58.7 | % | ||||||||||||||||||
| Percentage of total revenue: | ||||||||||||||||||||||||||
| Interest income | 89.5 | % | 94.0 | % | ||||||||||||||||||||||
| Non-interest income | 10.5 | % | 6.0 | % | ||||||||||||||||||||||
| Total revenue | 100.0 | % | 100.0 | % | ||||||||||||||||||||||
Interest income. Total interest income increased by $65.0 million, or 51.1%, from $127.2 million for the three months ended March 31, 2021 to $192.2 million for the three months ended March 31, 2022. The increase is primarily attributable to growth in our Average Daily Principal Balance from $1.6 billion for the three months ended March 31, 2021 to $2.4 billion for the three months ended March 31, 2022, an increase of 48.5%. The increase is due to growth in our portfolio as a result of higher application volume due to increased demand and due to first quarter 2021 originations being depressed as a result of the COVID-19 pandemic. Interest income was also favorably impacted by an increase in portfolio yield of 55 basis points in the three months ended March 31, 2022 compared to the three months ended March 31, 2021 due to growth in originations to new members who generally receive higher APRs than returning members.
Non-interest income. Total non-interest income increased by $14.4 million, or 176.8%, from $8.1 million for the three months ended March 31, 2021 to $22.5 million for the three months ended March 31, 2022. This increase is primarily due to $9.3 million attributable to Digit subscription income, $1.6 million of increased fees related to our credit card portfolio, $1.2 million increase related to MetaBank, N.A. documentation fees, $0.9 million increase in servicing revenue and increased gain on loans sold of $0.8 million under our whole loan sale programs due to an increase in loans sold resulting from higher origination volume.
See Note 2, Summary of Significant Accounting Policies, and Note 13, Revenue, of the Notes to the Condensed Consolidated Financial Statements (Unaudited) included elsewhere in this report for further discussion on our interest income, non-interest income and revenue.
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Interest expense
Three Months Ended March 31, | Period-to-period Change | |||||||||||||||||||||||||
| (in thousands, except percentages) | 2022 | 2021 | $ | % | ||||||||||||||||||||||
| Interest expense | $ | 13,677 | $ | 13,504 | $ | 173 | 1.3 | % | ||||||||||||||||||
| Percentage of total revenue | 6.4 | % | 10.0 | % | ||||||||||||||||||||||
| Cost of Debt | 2.6 | % | 3.9 | % | ||||||||||||||||||||||
| Leverage as a percentage of Average Daily Principal Balance | 89.5 | % | 87.0 | % | ||||||||||||||||||||||
Interest expense. Interest expense increased by $0.2 million, or 1.3%, from $13.5 million for the three months ended March 31, 2021 to $13.7 million for the three months ended March 31, 2022. We financed approximately 89.5% of our loans receivable through debt for the three months ended March 31, 2022, as compared to 87.0% for the three months ended March 31, 2021, and our Average Daily Debt Balance increased from $1.4 billion to $2.2 billion for the three months ended March 31, 2022, an increase of 52.7%. We have continued to improve our Cost of Debt as we have been able to refinance at lower interest rates and increase the size of our securitizations. In 2022, we expect our interest expense to increase as we borrow to fund our portfolio growth and interest rates increase.
See Note 9, Borrowings, in the Notes to the Condensed Consolidated Financial Statements (Unaudited) included elsewhere in this report for further information on our Interest expense and our Secured Financing and asset-backed notes.
Total net increase (decrease) in fair value
Net increase (decrease) in fair value reflects changes in fair value of loans receivable held for investment and asset-backed notes on an aggregate basis and is based on a number of factors, including benchmark interest rates, credit spreads, remaining cumulative charge-offs and borrower payment rates. Increases in the fair value of loans increase Net Revenue. Conversely, decreases in the fair value of loans decrease Net Revenue. Increases in the fair value of asset-backed notes decrease Net Revenue. Decreases in the fair value of asset-backed notes increase Net Revenue. We also have derivative instruments related to our bank partnership program with MetaBank, N.A. Changes in the fair value of the derivative instrument are reflected in the total fair value mark-to-market adjustment below.
Three Months Ended March 31, | Period-to-period Change | |||||||||||||||||||||||||
| (in thousands, except percentages) | 2022 | 2021 | $ | % | ||||||||||||||||||||||
| Fair value mark-to-market adjustment: | ||||||||||||||||||||||||||
| Fair value mark-to-market adjustment on Loans Receivable at Fair Value | $ | (16,937) | $ | 21,562 | $ | (38,499) | * | |||||||||||||||||||
| Fair value mark-to-market adjustment on asset-backed notes | 58,271 | 1,524 | 56,747 | * | ||||||||||||||||||||||
| Fair value mark-to-market adjustment on derivatives | (393) | — | (393) | * | ||||||||||||||||||||||
| Total fair value mark-to-market adjustment | 40,941 | 23,086 | 17,855 | * | ||||||||||||||||||||||
| Charge-offs, net of recoveries on loans receivable at fair value | (51,350) | (34,608) | (16,742) | * | ||||||||||||||||||||||
| Net settlements on derivative instruments | (1,477) | 69 | (1,546) | * | ||||||||||||||||||||||
| Cumulative mark on loans sold in structured loan sale | 15,857 | — | 15,857 | * | ||||||||||||||||||||||
| Total net increase (decrease) in fair value | $ | 3,971 | $ | (11,453) | $ | 15,424 | * | |||||||||||||||||||
| Percentage of total revenue: | ||||||||||||||||||||||||||
| Fair value mark-to-market adjustment | 19.1 | % | 17.0 | % | ||||||||||||||||||||||
| Charge-offs, net of recoveries on loans receivable at fair value | (23.9) | % | (25.6) | % | ||||||||||||||||||||||
| Total net increase (decrease) in fair value | (4.8) | % | (8.6) | % | ||||||||||||||||||||||
| Discount rate | 6.76 | % | 6.65 | % | ||||||||||||||||||||||
| Remaining cumulative charge-offs | 10.37 | % | 8.60 | % | ||||||||||||||||||||||
| Average life in years | 0.85 | 0.78 | ||||||||||||||||||||||||
* Not meaningful
Net increase (decrease) in fair value. Net increase in fair value for the three months ended March 31, 2022 was $4.0 million. This amount represents a total fair value mark-to-market increase of $40.9 million on Loans Receivable at Fair Value and asset-backed notes, and $51.4 million of charge-offs, net of recoveries on Loans Receivable at Fair Value. The total fair value mark-to-market adjustment consists of a $16.9 million mark-to-market reduction on Loans Receivable at Fair Value due to (a) an increase in remaining cumulative charge-offs from 9.60% as of December 31, 2021 to 10.37% as of March 31, 2022, (b) a decrease in average life from 0.86 years as of December 31, 2021 to 0.85 years as of March 31, 2022, partially offset by (c) a decrease in the discount rate from 6.94% as of December 31, 2021 to 6.76% as of March 31, 2022. The $58.3 million mark-to-market adjustment on asset-backed notes is due to rising rates and widening asset-backed securitization spreads. The total net increase (decrease) in fair value also includes a $15.9 million adjustment related to the cumulative mark on the loans sold as part of the structured loan sale completed in the first quarter of 2022. In 2022, we expect to continue to see volatility in the fair value as a result of macro economic conditions.
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Charge-offs, net of recoveries
Three Months Ended March 31, | Period-to-period Change | |||||||||||||||||||||||||
| (in thousands, except percentages) | 2022 | 2021 | $ | % | ||||||||||||||||||||||
| Total charge-offs, net of recoveries | $ | 51,350 | $ | 34,608 | $ | 16,742 | 48.4 | % | ||||||||||||||||||
| Average Daily Principal Balance | $ | 2,412,997 | $ | 1,624,753 | $ | 788,244 | 48.5 | % | ||||||||||||||||||
| Annualized Net Charge-Off Rate | 8.6 | % | 8.6 | % | ||||||||||||||||||||||
Charge-offs, net of recoveries. Our Annualized Net Charge-Off Rate remained flat at 8.6% for the three months ended March 31, 2022 and 2021, respectively, primarily due to the overall improvement in the economy, the impact of stimulus payments to consumers as well as the effectiveness of our A.I.-driven underwriting models, collections tools and payment options that have helped our borrowers manage through the pandemic; partially offset by growth in new loan originations leading to higher charge-offs. Consistent with our charge-off policy, we evaluate our loan portfolio and charge a loan off at the earlier of when the loan is determined to be uncollectible or when loans are 120 days contractually past due or 180 days contractually past due in the case of credit cards.
Operating expenses
Operating expenses consist of technology and facilities, sales and marketing, personnel, outsourcing and professional fees and general, administrative and other expense.
Technology and facilities
Technology and facilities expense is the largest segment of our operating expenses, representing the costs required to build our A.I.-enabled digital platform, and consisting of three components. The first component comprises costs associated with our technology, engineering, information security, cybersecurity, platform development, maintenance, and end user services, including fees for software licenses, consulting, legal and other services as a result of our efforts to grow our business, as well as personnel expenses. The second includes rent for retail and corporate locations, utilities, insurance, telephony costs, property taxes, equipment rental expenses, licenses and fees and depreciation and amortization. Lastly, the third category includes all software licenses, subscriptions, and technology service costs to support our corporate operations, excluding sales and marketing.
Three Months Ended March 31, | Period-to-period Change | |||||||||||||||||||||||||
| (in thousands, except percentages) | 2022 | 2021 | $ | % | ||||||||||||||||||||||
| Technology and facilities | $ | 49,189 | $ | 32,924 | $ | 16,265 | 49.4 | % | ||||||||||||||||||
| Percentage of total revenue | 22.9 | % | 24.3 | % | ||||||||||||||||||||||
Technology and facilities. Technology and facilities expense increased by $16.3 million, or 49.4%, from $32.9 million for the three months ended March 31, 2021 to $49.2 million for the three months ended March 31, 2022. The increase is primarily due to $6.8 million of service costs related to higher usage of software and cloud services, a $6.4 million increase in salaries and benefits due to the increase in headcount, $3.0 million in usage of India off-shoring services and other temporary contractors to supplement staffing related to new product investment and $2.0 million of increased depreciation commensurate with growth in internally developed software. These increases were partially offset by $1.5 million lower expense due to higher capitalization of internally developed software in 2022 compared to 2021 and $1.1 million lower office rent associated with retail locations that were closed in early 2021.
Sales and marketing
Sales and marketing expense consists of two components and represents the costs to acquire our customers. The first component is comprised of the expense to acquire a customer through various paid marketing channels including direct mail, digital marketing and brand marketing. The second component is comprised of the costs associated with our telesales, lead generation and retail operations, including personnel expenses, but excluding costs associated with retail locations.
Sales and marketing. Sales and marketing expense to acquire our customers increased by $10.6 million, or 44.6%, from $23.9 million for the three months ended March 31, 2021 to $34.5 million for the three months ended March 31, 2022. To grow our Aggregate Originations, we increased our investment in marketing initiatives by $9.8 million across various marketing channels, including direct mail, digital advertising, lead aggregators and our referral programs. As a result of our increased number of loans originated during the three months ended March 31, 2022, our CAC decreased by 27.4%, from $208 the three months ended March 31, 2021 to $151 for the three months ended March 31, 2022.
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Personnel
Personnel expense represents compensation and benefits that we provide to our employees and includes salaries, wages, bonuses, commissions, related employer taxes, medical and other benefits provided and stock-based compensation expense for all of our staff with the exception of our telesales, lead generation, retail operations which are included in sales and marketing expenses and technology which is included in technology and facilities.
Three Months Ended March 31, | Period-to-period Change | |||||||||||||||||||||||||
| (in thousands, except percentages) | 2022 | 2021 | $ | % | ||||||||||||||||||||||
| Personnel | $ | 35,926 | $ | 26,827 | $ | 9,099 | 33.9 | % | ||||||||||||||||||
| Percentage of total revenue | 16.7 | % | 19.8 | % | ||||||||||||||||||||||
Personnel. Personnel expense increased by $9.1 million, or 33.9%, from $26.8 million for the three months ended March 31, 2021 to $35.9 million for the three months ended March 31, 2022, primarily driven by a $9.1 million increase in compensation expense due to a 41.5% increase in U.S. headcount.
Outsourcing and professional fees
Outsourcing and professional fees consist of costs for various third-party service providers and contact center operations, primarily for the sales, customer service, collections and store operation functions. Our contact centers located in Mexico and our third-party contact centers located in Colombia, Jamaica and the Philippines provide support for the business including application processing, verification, customer service and collections. We utilize third parties to operate the contact centers in Colombia, Jamaica and the Philippines and include the costs in outsourcing and professional fees. Professional fees also include the cost of legal and audit services, credit reports, recruiting, cash transportation, collection services and fees and consultant expenses. Direct loan origination expenses related to application processing are expensed when incurred. In addition, outsourcing and professional fees include any financing expenses, including legal and underwriting fees, related to our asset-backed notes.
Three Months Ended March 31, | Period-to-period Change | |||||||||||||||||||||||||
| (in thousands, except percentages) | 2022 | 2021 | $ | % | ||||||||||||||||||||||
| Outsourcing and professional fees | $ | 14,327 | $ | 12,625 | $ | 1,702 | 13.5 | % | ||||||||||||||||||
| Percentage of total revenue | 6.7 | % | 9.3 | % | ||||||||||||||||||||||
Outsourcing and professional fees. Outsourcing and professional fees increased by $1.7 million, or 13.5%, from $12.6 million for the three months ended March 31, 2021 to $14.3 million for the three months ended March 31, 2022. The increase is primarily attributable to $2.3 million of higher professional service costs related to credit card and bank partnership programs and $2.1 million increase in credit report expense due to higher application volume. These increases were partially offset by a $3.2 million decrease in debt financing fees and expenses incurred in March 2021 related to an asset-backed securitization that were not present in the three months ended March 31, 2022.
General, administrative and other
General, administrative and other expense includes non-compensation expenses for employees, who are not a part of the technology and sales and marketing organization, which include travel, lodging, meal expenses, political and charitable contributions, office supplies, printing and shipping. Also included are franchise taxes, bank fees, foreign currency gains and losses, transaction gains and losses, debit card expenses, litigation reserve, expenses associated with our retail network optimization plan and acquisition and integration related expenses in connection with the Digit acquisition.
Three Months Ended March 31, | Period-to-period Change | |||||||||||||||||||||||||
| (in thousands, except percentages) | 2022 | 2021 | $ | % | ||||||||||||||||||||||
| General, administrative and other | $ | 13,361 | $ | 9,997 | $ | 3,364 | 33.7 | % | ||||||||||||||||||
| Percentage of total revenue | 6.2 | % | 7.4 | % | ||||||||||||||||||||||
General, administrative and other. General, administrative and other expense increased by $3.4 million, or 33.7%, from $10.0 million for the three months ended March 31, 2021 to $13.4 million for the three months ended March 31, 2022, primarily due to $7.3 million of transaction and integration related expenses as a result of the Digit acquisition and $4.0 million increase in postage and printing expenses, travel expenses and other general and administrative expenses due to new products and services and the continuing growth of the business. These increases were partially offset by a $7.6 million decrease in retail network optimization expenses incurred in the three months ended March 31, 2022 compared to March 31, 2021. In the first quarter of 2022, we incurred $0.2 million in expenses related to the retail location closures and estimate remaining expenses of $1.5 million to be recognized in the second quarter of 2022.
Income taxes
Income taxes consist of U.S. federal, state and foreign income taxes, if any. For the three months ended March 31, 2022 and 2021, we recognized tax expense attributable to U.S. federal, state and foreign income taxes.
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Three Months Ended March 31, | Period-to-period Change | |||||||||||||||||||||||||
| (in thousands, except percentages) | 2022 | 2021 | $ | % | ||||||||||||||||||||||
| Income tax expense | $ | 12,007 | $ | 956 | $ | 11,051 | 1,156.0 | % | ||||||||||||||||||
| Percentage of total revenue | 5.6 | % | 0.7 | % | ||||||||||||||||||||||
| Effective tax rate | 20.8 | % | 24.1 | % | ||||||||||||||||||||||
Income tax expense. Income tax expense increased by $11.1 million or 1,156.0%, from $1.0 million for the three months ended March 31, 2021 to $12.0 million for the three months ended March 31, 2022, primarily as a result of higher pretax income for the three months ended March 31, 2022.
See Note 2, Summary of Significant Accounting Policies, and Note 14, Income Taxes, of the Notes to the Condensed Consolidated Financial Statements (Unaudited) included elsewhere in this report for further discussion on our income taxes.
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Fair Value Estimate Methodology for Loans Receivable at Fair Value
Summary
Fair value is an electable option under GAAP to account for any financial instruments, including loans receivable and debt. It differs from amortized cost accounting in that loans receivable and debt are recorded on the balance sheet at fair value rather than on a cost basis. Under the fair value option credit losses are recognized through income as they are incurred rather than through the establishment of an allowance and provision for losses. The fair value of instruments under this election is updated at the end of each reporting period, with changes since the prior reporting period reflected in the Condensed Consolidated Statements of Operations (Unaudited) as net increase (decrease) in fair value which impacts Net Revenue. Changes in interest rates, credit spreads, realized and projected credit losses and cash flow timing will lead to changes in fair value and therefore impact earnings. These changes in the fair value of the Loans Receivable at Fair Value may be partially offset by changes in the fair value of the asset-backed notes, depending upon the relative duration of the instruments.
Fair Value Estimate Methodology for Loans Receivable at Fair Value
We calculate the fair value of Loans Receivable at Fair Value using a model that projects and discounts expected cash flows. The fair value is a function of:
•Portfolio yield;
•Average life;
•Prepayments (or principal payment rate for our credit card receivables);
•Remaining cumulative charge-offs; and
•Discount rate.
Portfolio yield is the expected interest and fees collected from the loans as an annualized percentage of outstanding principal balance. Portfolio yield is based upon (a) the contractual interest rate, reduced by expected delinquencies and interest charge-offs and (b) late fees, net of late fee charge-offs based upon expected delinquencies. Origination fees are not included in portfolio yield since they are generally capitalized as part of the loan’s principal balance at origination.
Average life is the time-weighted average of expected principal payments divided by outstanding principal balance. The timing of principal payments is based upon the contractual amortization of loans, adjusted for the impact of prepayments, Good Customer Program refinances, and charge-offs.
Prepayments are the expected remaining cumulative principal payments that will be repaid earlier than contractually required over the life of the loan, divided by the outstanding principal balance. For credit card receivables we estimate principal payment rates which are the expected amount and timing of principal payments over the life of the receivable.
Remaining cumulative charge-offs is the expected net principal charge-offs over the remaining life of the loans, divided by the outstanding principal balance.
Discount rate is the sum of the interest rate and the credit spread. The interest rate is based upon the interpolated LIBOR/swap curve rate that corresponds to the average life. The credit spread is based upon the credit spread implied by the loan purchase price at the time loans are sold, updated for observable changes in the fixed income markets, which serve as a proxy for how a potential loan buyer would adjust their yield requirements relative to the originally agreed price.
Our internal valuation committee includes members from our risk, legal, finance, capital markets and operations departments and provides governance and oversight over the fair value pricing and related financial statement disclosures. Additionally, this committee provides a challenge of the assumptions used and outputs of the model, including the appropriateness of such measures and periodically reviews the methodology and process to determine the fair value pricing. Any significant changes to the process must be approved by the committee.
It is also possible to estimate the fair value of our loans using a simplified calculation. The table below illustrates a simplified calculation to aid investors in understanding how fair value may be estimated using the last five quarters:
•Subtracting the servicing fee from the weighted average portfolio yield over the remaining life of the loans to calculate net portfolio yield;
•Multiplying the net portfolio yield by the weighted average life in years of the loans receivable, which is based upon the contractual amortization of the loans and expected remaining prepayments and charge-offs, to calculate pre-loss net cash flow;
•Subtracting the remaining cumulative charge-offs from the net portfolio yield to calculate the net cash flow;
•Subtracting the product of the discount rate and the average life from the net cash flow to calculate the gross fair value premium as a percentage of loan principal balance; and
•Subtracting the accrued interest and fees as a percentage of loan principal balance from the gross fair value premium as a percentage of loan principal balance to calculate the fair value premium as a percentage of loan principal balance.
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The table below reflects the application of this methodology for the five quarters since January 1, 2021, on loans held for investment. The data for the three months ended March 31, 2022 and December 31, 2021 in the table below represents all of our credit products. The data for the three months ended September 30, 2021 in the table below represents our secured and unsecured loan portfolio. For prior quarters, the data in the table below represents only our unsecured personal loan portfolio which was the primary driver of fair value during those periods.
Three Months Ended | ||||||||||||||||||||||||||||||||
| Mar 31, 2022 | Dec 31, 2021 | Sep 30, 2021 | Jun 30, 2021 | Mar 31, 2021 | ||||||||||||||||||||||||||||
| Weighted average portfolio yield over the remaining life of the loans | 30.15 | % | 30.14 | % | 30.35 | % | 30.28 | % | 30.25 | % | ||||||||||||||||||||||
| Less: Servicing fee | (5.00) | % | (5.00) | % | (5.00) | % | (5.00) | % | (5.00) | % | ||||||||||||||||||||||
| Net portfolio yield | 25.15 | % | 25.14 | % | 25.35 | % | 25.28 | % | 25.25 | % | ||||||||||||||||||||||
Multiplied by: Weighted average life in years | 0.847 | 0.859 | 0.761 | 0.769 | 0.778 | |||||||||||||||||||||||||||
| Pre-loss cash flow | 21.30 | % | 21.60 | % | 19.29 | % | 19.43 | % | 19.64 | % | ||||||||||||||||||||||
| Less: Remaining cumulative charge-offs | (10.37) | % | (9.60) | % | (7.53) | % | (7.59) | % | (8.60) | % | ||||||||||||||||||||||
| Net cash flow | 10.93 | % | 12.00 | % | 11.76 | % | 11.84 | % | 11.04 | % | ||||||||||||||||||||||
| Less: Discount rate multiplied by average life | (5.73) | % | (5.96) | % | (4.96) | % | (5.03) | % | (5.17) | % | ||||||||||||||||||||||
| Gross fair value premium as a percentage of loan principal balance | 5.21 | % | 6.04 | % | 6.80 | % | 6.81 | % | 5.87 | % | ||||||||||||||||||||||
| Less: Accrued interest and fees as a percentage of loan principal balance | (1.09) | % | (1.03) | % | (0.90) | % | (0.87) | % | (0.92) | % | ||||||||||||||||||||||
| Fair value premium as a percentage of loan principal balance | 4.12 | % | 5.01 | % | 5.90 | % | 5.94 | % | 4.95 | % | ||||||||||||||||||||||
| Discount Rate | 6.76 | % | 6.94 | % | 6.52 | % | 6.54 | % | 6.65 | % | ||||||||||||||||||||||
The illustrative table included above is designed to assist investors in understanding the impact of our election of the fair value option.
Non-GAAP Financial Measures
We believe that the provision of non-GAAP financial measures in this report, including Adjusted EBITDA, Adjusted Net Income, Adjusted EPS, Adjusted Operating Efficiency and Adjusted Return on Equity, can provide useful measures for period-to-period comparisons of our core business and useful information to investors and others in understanding and evaluating our operating results. However, non-GAAP financial measures are not calculated in accordance with United States generally accepted accounting principles, or GAAP, and should not be considered as an alternative to any measures of financial performance calculated and presented in accordance with GAAP. There are limitations related to the use of these non-GAAP financial measures versus their most directly comparable GAAP measures, which include the following:
▪Other companies, including companies in our industry, may calculate these measures differently, which may reduce their usefulness as a comparative measure.
▪These measures do not consider the potentially dilutive impact of stock-based compensation.
▪Although depreciation and amortization are non-cash charges, the assets being depreciated and amortized may have to be replaced in the future and Adjusted EBITDA does not reflect cash capital expenditure requirements for such replacements or for new capital expenditure requirements.
▪Although the fair value mark-to-market adjustment is a non-cash adjustment, it does reflect our estimate of the price a third party would pay for our loans receivable held for investment or our asset-backed notes.
▪Adjusted EBITDA does not reflect tax payments that may represent a reduction in cash available to us.
Reconciliations of non-GAAP to GAAP measures can be found below.
Adjusted EBITDA
Adjusted EBITDA is a non-GAAP financial measure defined as our net income, adjusted to eliminate the effect of certain items as described below. We believe that Adjusted EBITDA is an important measure because it allows management, investors and our Board to evaluate and compare our operating results, including our return on capital and operating efficiencies, from period-to-period by making the adjustments described below. In addition, it provides a useful measure for period-to-period comparisons of our business, as it removes the effect of taxes, certain non-cash items, variable charges and timing differences.
•We believe it is useful to exclude the impact of income tax expense, as reported, because historically it has included irregular income tax items that do not reflect ongoing business operations.
•We believe it is useful to exclude the impact of depreciation and amortization and stock-based compensation expense because they are non-cash charges.
•We believe it is useful to exclude the impact of certain non-recurring charges, such as expenses associated with a litigation reserve, our retail network optimization plan and acquisition and integration related expenses because these items do not reflect ongoing business
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operations.
•We also reverse origination fees for Loans Receivable at Fair Value, net. We recognize the full amount of any origination fees as revenue at the time of loan disbursement in advance of our collection of origination fees through principal payments. As a result, we believe it is beneficial to exclude the uncollected portion of such origination fees, because such amounts do not represent cash that we received.
•We also reverse the fair value mark-to-market adjustment because it is a non-cash adjustment as shown in the table below.
Components of Fair Value Mark-to-Market Adjustment (in thousands) | Three Months Ended March 31, | |||||||||||||
| 2022 | 2021 | |||||||||||||
| Fair value mark-to-market adjustment on loans receivable at fair value | $ | (16,937) | $ | 21,562 | ||||||||||
| Fair value mark-to-market adjustment on asset-backed notes | 58,271 | 1,524 | ||||||||||||
| Fair value mark-to-market adjustment on derivatives | (393) | (46) | ||||||||||||
| Total fair value mark-to-market adjustment | $ | 40,941 | $ | 23,040 | ||||||||||
The following table presents a reconciliation of net income (loss) to Adjusted EBITDA for the three months ended March 31, 2022 and 2021:
| Three Months Ended March 31, | ||||||||||||||
Adjusted EBITDA (in thousands) | 2022 | 2021 | ||||||||||||
| Net income | $ | 45,663 | $ | 3,019 | ||||||||||
| Adjustments: | ||||||||||||||
| Income tax expense | 12,007 | 956 | ||||||||||||
| Depreciation and amortization | 7,312 | 5,332 | ||||||||||||
| Stock-based compensation expense | 6,773 | 5,088 | ||||||||||||
| Litigation reserve | 300 | — | ||||||||||||
Retail network optimization expenses, net | 210 | 7,799 | ||||||||||||
| Acquisition and integration related expenses | 7,287 | — | ||||||||||||
| Origination fees for loans receivable at fair value, net | (4,685) | (1,422) | ||||||||||||
| Fair value mark-to-market adjustment | (40,941) | (23,040) | ||||||||||||
| Adjusted EBITDA | $ | 33,926 | $ | (2,268) | ||||||||||
Adjusted Net Income
We define Adjusted Net Income as our net income, adjusted to exclude income tax expense, stock-based compensation expenses and certain non-recurring charges. We believe that Adjusted Net Income is an important measure of operating performance because it allows management, investors, and our Board to evaluate and compare our operating results, including our return on capital and operating efficiencies, from period to period.
•We believe it is useful to exclude the impact of income tax expense, as reported, because historically it has included irregular tax items that do not reflect our ongoing business operations.
•We believe it is useful to exclude the impact of certain non-recurring charges, such as expenses associated with a litigation reserve, our retail network optimization plan and acquisition and integration related expenses, because these items do not reflect ongoing business operations.
•We believe it is useful to exclude stock-based compensation expense because it is a non-cash charge.
•We include the impact of normalized statutory income tax expense by applying the income tax rate noted in the table.
The following table presents a reconciliation of net income to Adjusted Net Income for the three months ended March 31, 2022 and 2021:
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| Three Months Ended March 31, | ||||||||||||||
Adjusted Net Income (in thousands) | 2022 | 2021 | ||||||||||||
| Net income | $ | 45,663 | $ | 3,019 | ||||||||||
| Adjustments: | ||||||||||||||
| Income tax expense | 12,007 | 956 | ||||||||||||
| Stock-based compensation expense | 6,773 | 5,088 | ||||||||||||
| Litigation reserve | 300 | — | ||||||||||||
Retail network optimization expenses, net | 210 | 7,799 | ||||||||||||
| Acquisition and integration related expenses | 7,287 | — | ||||||||||||
| Adjusted income before taxes | 72,240 | 16,862 | ||||||||||||
| Normalized income tax expense | 19,505 | 4,620 | ||||||||||||
| Adjusted Net Income | $ | 52,735 | $ | 12,242 | ||||||||||
Income tax rate (1) | 27.0 | % | 27.4 | % | ||||||||||
(1) Income tax rate for the three months ended March 31, 2022 and 2021 is based on a normalized statutory rate.
Adjusted Earnings Per Share (“Adjusted EPS”)
Adjusted Earnings Per Share is a non-GAAP financial measure that allows management, investors and our Board to evaluate the operating results, operating trends and profitability of the business in relation to diluted adjusted weighted-average shares outstanding post initial public offering. In addition, it provides a useful measure for period-to-period comparisons of our business, as it considers the effect of conversion of all convertible preferred shares as of the beginning of each annual period.
The following table presents a reconciliation of diluted EPS to Adjusted EPS for the three months ended March 31, 2022 and 2021. For the reconciliation of net income to Adjusted Net Income, see the immediately preceding table “Adjusted Net Income.”
| Three Months Ended March 31, | ||||||||||||||
| (in thousands, except share and per share data) | 2022 | 2021 | ||||||||||||
| Diluted earnings per share | $ | 1.37 | $ | 0.10 | ||||||||||
| Adjusted EPS | ||||||||||||||
| Adjusted Net Income | $ | 52,735 | $ | 12,242 | ||||||||||
| Basic weighted-average common shares outstanding | 32,216,641 | 27,770,063 | ||||||||||||
| Weighted average effect of dilutive securities: | ||||||||||||||
| Stock options | 733,503 | 1,274,818 | ||||||||||||
| Restricted stock units | 372,990 | 575,153 | ||||||||||||
| Diluted adjusted weighted-average common shares outstanding | 33,323,134 | 29,620,034 | ||||||||||||
| Adjusted Earnings Per Share | $ | 1.58 | $ | 0.41 | ||||||||||
Adjusted Return on Equity
We define Adjusted Return on Equity as annualized Adjusted Net Income divided by average stockholders’ equity. Average stockholders’ equity is an average of the beginning and ending stockholders’ equity balance for each period. We believe Adjusted Return on Equity is an important measure because it allows management, investors and our Board to evaluate the profitability of the business in relation to equity and how well we generate income from the equity available.
The following table presents a reconciliation of Return on Equity to Adjusted Return on Equity as of and for the three months ended March 31, 2022 and 2021. For the reconciliation of net income to Adjusted Net Income, see the immediately preceding table “Adjusted Net Income.”
| As of or for the Three Months Ended March 31, | ||||||||||||||
| (in thousands) | 2022 | 2021 | ||||||||||||
| Return on Equity | 29.5 | % | 2.6 | % | ||||||||||
| Adjusted Return on Equity | ||||||||||||||
| Adjusted Net Income | $ | 52,735 | $ | 12,242 | ||||||||||
| Average stockholders' equity | $ | 626,909 | $ | 469,180 | ||||||||||
| Adjusted Return on Equity | 34.1 | % | 10.6 | % | ||||||||||
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Adjusted Operating Efficiency
We define Adjusted Operating Efficiency as total operating expenses adjusted to exclude stock-based compensation expense and certain non-recurring charges such as expenses associated with a litigation reserve, our retail network optimization plan and acquisition and integration related expenses divided by total revenue. We believe Adjusted Operating Efficiency is an important measure because it allows management, investors and our Board to evaluate how efficient we are at managing costs relative to revenue.
The following table presents a reconciliation of Operating Efficiency to Adjusted Operating Efficiency for the three months ended March 31, 2022 and 2021:
| As of or for the Three Months Ended March 31, | ||||||||||||||
| (in thousands) | 2022 | 2021 | ||||||||||||
| Operating Efficiency | 68.6 | % | 78.5 | % | ||||||||||
| Adjusted Operating Efficiency | ||||||||||||||
| Total revenue | 214,720 | 135,313 | ||||||||||||
| Total operating expense | 147,344 | 106,266 | ||||||||||||
| Stock-based compensation expense | (6,773) | (5,088) | ||||||||||||
| Litigation reserve | (300) | — | ||||||||||||
Retail network optimization expenses, net | (210) | (7,799) | ||||||||||||
| Acquisition and integration related expenses | (7,287) | — | ||||||||||||
| Total adjusted operating expenses | $ | 132,774 | $ | 93,379 | ||||||||||
| Adjusted Operating Efficiency | 61.8 | % | 69.0 | % | ||||||||||
Liquidity and Capital Resources
To date, we fund the majority of our operating liquidity and operating needs through a combination of cash flows from operations, securitizations, secured borrowings and whole loan sales. We may utilize these or other sources in the future. Our material cash requirements relate to funding our lending activities, our debt service obligations, our operating expenses, and investments in the long-term growth of the company.
During the three months ended March 31, 2022, available liquidity increased primarily due to increased borrowing capacity under Secured Financings, partially offset by a decrease in cash and cash equivalents. We generally target liquidity levels to support at least twelve months of our expected net cash outflows, including new originations, without access to new debt financing transactions or other capital markets activity. Inflation, rising interest rates, credit trends and other macroeconomic conditions could continue to have an impact on market volatility which could adversely impact our business, liquidity, and capital resources. Future decreases in cash flows from operations resulting from delinquencies, defaults, losses, would decrease the cash available for the capital uses described above. We may incur additional indebtedness or issue equity in order to meet our capital spending and liquidity requirements, as well as to fund growth opportunities that we may pursue.
Cash and cash flows
The following table summarizes our cash and cash equivalents, restricted cash and cash flows for the periods indicated:
| Three Months Ended March 31, | ||||||||||||||
| (in thousands) | 2022 | 2021 | ||||||||||||
| Cash, cash equivalents and restricted cash | $ | 170,558 | $ | 183,181 | ||||||||||
| Cash provided by (used in) | ||||||||||||||
| Operating activities | 38,565 | 18,156 | ||||||||||||
| Investing activities | (122,496) | 8,987 | ||||||||||||
| Financing activities | 61,529 | (12,552) | ||||||||||||
Our cash is held for working capital purposes and originating loans. Our restricted cash represents collections held in our securitizations and is applied currently after month-end to pay interest expense and satisfy any amount due to whole loan buyer with any excess amounts returned to us.
Operating Activities
Our net cash provided by operating activities was $38.6 million and $18.2 million for the three months ended March 31, 2022 and 2021, respectively. Cash flows from operating activities primarily include net income or losses adjusted for (i) non-cash items included in net income or loss, including depreciation and amortization expense, fair value adjustments, net, origination fees for loans at fair value, net, gain on loan sales, stock-based compensation expense and deferred tax provision, net, (ii) originations of loans sold and held for sale, and proceeds from sale of loans and (iii) changes in the balances of operating assets and liabilities, which can vary significantly in the normal course of business due to the amount and timing of various payments.
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Investing Activities
Our net cash provided by (used in) investing activities was $(122.5) million and $9.0 million for the three months ended March 31, 2022 and 2021, respectively. Our investing activities consist primarily of loan originations and loan repayments. Our net cash provided by (used in) investing activities for the three months ended March 31, 2022, includes $245.0 million of proceeds related to a structured loan sale. We invest in purchases of property and equipment and incur system development costs. Purchases of property and equipment, and capitalization of system development costs may vary from period to period due to the timing of the expansion of our operations, the addition of employee headcount and the development cycles of our system development. The change in our net cash provided by (used in) investing activities is due to disbursements on originations of loans increasing by $444.0 million while repayments of loan principal increased by $72.7 million for the three months ended March 31, 2022 compared to the three months ended March 31, 2021.
Financing Activities
Our net cash provided by (used in) financing activities was $61.5 million and $(12.6) million for the three months ended March 31, 2022 and 2021, respectively. For the three months ended March 31, 2022, net cash provided by financing activities was primarily driven by the borrowings under our Secured Financing facilities, partially offset by repayments of borrowings on our Secured Financing facilities and scheduled amortization payments on our Acquisition Financing facility. For the three months ended March 31, 2021, net cash used in financing activities was primarily driven by the redemption of our Series 2018-A asset-backed notes and repayments on our Secured Financing facility. The issuance of our Series 2021-A asset-backed notes securitization was the primary source of funds for the redemption and repayments.
Sources of Funds
Debt and Available Credit
Asset-Backed Securitizations
As of March 31, 2022, we had $1.59 billion of outstanding asset-backed notes. Our securitizations utilize special purpose entities (SPEs) which are also variable interest entities (VIEs). For VIEs where we have determined we are the primary beneficiary, the financial results of the VIE are consolidated in our financial statements. For VIEs where we have determined we are not the primary beneficiary, the financial results of the VIE are not consolidated in our financial statements. For more information regarding our VIEs and asset-backed securitizations, see Note 4, Variable Interest Entities and Note 9, Borrowings, respectively, of the Notes to the Condensed Consolidated Financial Statements (Unaudited) included elsewhere in this report.
Our ability to utilize our asset-backed securitization facilities as described herein is subject to compliance with various requirements including eligibility criteria for the loan collateral and covenants and other requirements. As of March 31, 2022, we were in compliance with all covenants and requirements of all our asset-backed notes.
Secured Financings
As of March 31, 2022, we had Secured Financing facilities with warehouse lines of $750.0 million in the aggregate with undrawn capacity of $273.0 million. Our ability to utilize our Secured Financing facilities as described herein is subject to compliance with various requirements, including eligibility criteria for collateral, concentration limits for our collateral pool, and covenants and other requirements.
Acquisition Financing
On December 20, 2021, Oportun RF, LLC, a wholly-owned subsidiary of the Company issued a $116.0 million asset-backed floating rate variable funding note, and an asset-backed residual certificate, both of which are secured by certain residual cash flows from the Company's securitizations and guaranteed by Oportun, Inc. The note was used to fund the cash consideration paid for the acquisition of Digit and bears interest at a rate of one-month LIBOR plus 8.00%. The Acquisition Financing is structured to pay down based on an amortization schedule, with a final payment in October 2024.
As of March 31, 2022, we were in compliance with all covenants and requirements per the Secured Financing facilities and Acquisition Financing. For more information regarding our Secured Financing facilities and Acquisition Financing, see Note 9, Borrowings of the Notes to the Condensed Consolidated Financial Statements (Unaudited) included elsewhere in this report.
Structured loan sales
In March 2022, we participated in a securitization and sold loans through the issuance of amortizing asset-backed notes secured by a pool of our unsecured and secured personal installment loans. We also sold our share of the residual interest in the pool. The sold loans had an aggregate unpaid principal balance of approximately $227.6 million. For further information on the whole loan sale transactions, see Note 5, Loans Held for Sale and Loans Sold of the Notes to the Condensed Consolidated Financial Statements (Unaudited) included elsewhere in this report.
Whole loan sales
Through March 4, 2022, the Company had a commitment to sell to a third-party institutional investor 10% of its unsecured loan originations that satisfy certain eligibility criteria, and an additional 5% subject to certain eligibility criteria and minimum and maximum volumes. The Company
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chose not to renew the arrangement and allowed the agreement to expire on its terms on March 4, 2022. The originations of loans sold and held for sale during the three months ended March 31, 2022 was $48.7 million. For further information on the whole loan sale transactions, see Note 5, Loans Held for Sale and Loans Sold of the Notes to the Condensed Consolidated Financial Statements (Unaudited) included elsewhere in this report.
Bank Partnership Program and Servicing Agreement
We entered into a bank partnership program with MetaBank, N.A. on August 11, 2020. In accordance with the agreements underlying the bank partnership program, Oportun has a commitment to purchase an increasing percentage of program loans originated by MetaBank based on thresholds specified in the agreements. Lending under the partnership was launched in August of 2021.
Contractual Obligations and Commitments
The material cash requirements for our contractual and other obligations primarily include those related our outstanding borrowings under our asset-backed notes, Acquisition Financing and Secured Financing, corporate and retail leases, and purchase commitments for technology used in the business. See Note 9, Borrowings and Note 16, Leases, Commitments and Contingencies of the Notes to the Condensed Consolidated Financial Statements (Unaudited) included elsewhere in this report for more information.
Liquidity Risks
We believe that our existing cash balance, anticipated positive cash flows from operations and available borrowing capacity under our credit facilities will be sufficient to meet our anticipated cash operating expense and capital expenditure requirements through at least the next 12 months. We do not have any significant unused sources of liquid assets. If our available cash balances are insufficient to satisfy our liquidity requirements, we will seek additional debt or equity financing. In a rising interest rate environment, our ability to issue additional equity or incur debt may be impaired and our borrowing costs may increase. If we raise additional funds through the issuance of additional debt, the agreements governing such debt could contain covenants that would restrict our operations and such debt would rank senior to shares of our common stock. The sale of equity may result in dilution to our stockholders and those securities may have rights senior to those of our common stock. We may require additional capital beyond our currently anticipated amounts and additional capital may not be available on reasonable terms, or at all.
Critical Accounting Policies and Significant Judgments and Estimates
Our Management's Discussion and Analysis of Financial Condition and Results of Operations is based on our condensed consolidated financial statements, which have been prepared in accordance with GAAP. The preparation of these condensed consolidated financial statements requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue, expenses and the related disclosures. In accordance with GAAP, we base our estimates on historical experience and on various other assumptions that we believe are reasonable under the circumstances. Actual results may differ from these estimates under different assumptions or conditions.
There have been no material changes in our critical accounting policies from those disclosed in our Annual Report on Form 10-K dated December 31, 2021, filed with the Securities and Exchange Commission on March 1, 2022 ("2021 Form 10-K"), under the heading Management's Discussion and Analysis of Financial Condition and Results of Operations. For additional information about our critical accounting policies and estimates, see the disclosure included in our 2021 Form 10-K.
Recently Issued Accounting Pronouncements
See Note 2 of the Notes to the Condensed Consolidated Financial Statements (Unaudited) included elsewhere in this report for a discussion of recent accounting pronouncements and future application of accounting standards.
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Item 3. Quantitative and Qualitative Disclosures About Market Risk
There have been no material changes to our market risk as previously disclosed in our 2021 Form 10-K. Inflation, rising interest rates, credit trends and other macroeconomic conditions could continue to have an impact on market volatility which could impact our financial results.
Item 4. Controls and Procedures
Evaluation of Disclosure Controls and Procedures
We carried out an evaluation of the effectiveness of our disclosure controls and procedures, as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act, as of the end of the period covered by this Quarterly Report on Form 10-Q. This evaluation was conducted under the supervision of, and with the participation of our management, including our Chief Executive Officer and our Chief Financial Officer. Based on our evaluation, our Chief Executive Officer and our Chief Financial Officer concluded that, as of the end of the period covered by this Quarterly Report on Form 10-Q, our disclosure controls and procedures were effective at the reasonable assurance level.
Inherent Limitations on Effectiveness of Controls
There are inherent limitations to the controls and effectiveness of any system of disclosure controls and procedures. These limitations include the possibility of human error, the circumvention or overriding of the controls and procedures and reasonable resource constraints. In addition, because we have designed our system of controls based on certain assumptions, which we believe are reasonable, about the likelihood of future events, our system of controls may not achieve its desired purpose under all possible future conditions. Accordingly, our disclosure controls and procedures provide reasonable assurance, but not absolute assurance, of achieving their objectives.
Changes in Internal Control over Financial Reporting
There were no changes in our internal control over financial reporting (identified in connection with the evaluation required by Rules 13a-15(d) and 15d-15(d) of the Exchange Act) during the period covered by this Quarterly Report on Form 10-Q that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
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PART II ‑ OTHER INFORMATION
Item 1. Legal Proceedings
For a description of legal proceedings, see Note 16, Leases, Commitments and Contingencies, in the accompanying Notes to the Condensed Consolidated Financial Statements (Unaudited). From time to time, we may bring or be subject to other legal proceedings and claims in the ordinary course of business, including legal proceedings with third parties asserting infringement of their intellectual property rights and consumer litigation. Other than as described in this report, we are not presently a party to any legal proceedings that, if determined adversely to us, we believe would individually or taken together have a material adverse effect on our business, financial condition, cash flows or results of operations.
Item 1A. Risk Factors
Investing in our common stock involves a high degree of risk. Any of the following risks could have an adverse effect on our business, results of operations and financial condition. The following risks could cause the trading price of our common stock to decline, which would cause you to lose all or part of your investment. You should carefully consider these risks, all of the other information in this report, including our consolidated financial statements, the notes thereto and the section entitled “Management’s Discussion and Analysis of Financial Condition and Results of Operations", and general economic and business risks before making a decision to invest in our common stock. While we believe the risks described below include all material risks currently known by us, it is possible that these may not be the only ones we face. Additional risks and uncertainties not presently known to us or that we currently deem immaterial may also impair our business operations.
Summary of Risk Factors
Investing in our common stock involves risks. If any of the factors enumerated in this section occurs, our business, financial condition, liquidity, results of operations and prospects could be materially and adversely affected. In that case, the market price of our common stock could decline, and you may lose some or all of your investment. Some of the more significant risks relating to an investment in our common stock include:
Risks Related to Our Business
•We have experienced rapid growth in recent periods and our recent growth rates may not be indicative of future growth. If we fail to manage our growth effectively, our results of operations may suffer.
•Our results of operations and future prospects depend on our ability to retain existing, and attract new, members.
•We are, and intend in the future to continue, developing new financial products and services, and our failure to accurately predict their demand or growth could have an adverse effect on our business.
•The success and growth of our business depends upon our ability to continuously innovate and develop new products and technologies.
•If we do not compete effectively in our target markets, our results of operations could be harmed.
•Our risk management efforts may not be effective, which may expose us to market risks that harm our results of operations.
•We rely extensively on models in managing many aspects of our business. If our models contain errors or are otherwise ineffective, our business could be adversely affected.
•Our business may be adversely affected by disruptions in the credit markets and changes to interest rates on our borrowings.
•We have elected the fair value option and we use estimates in determining the fair value of our loans and our asset-backed notes. If our estimates prove incorrect, we may be required to write down the value of these assets or write up the value of these liabilities, which could adversely affect our results of operations.
•Our current level of interest rate spread may decline in the future. Any material reduction in our interest rate spread could adversely affect our results of operations.
•If we are unable to collect payment and service the loans we make to members, our net charge-off rates may exceed expected loss rates, and our business and results of operations may be harmed.
•Our quarterly results are likely to fluctuate significantly and may not fully reflect the underlying performance of our business.
•The ongoing COVID-19 pandemic has and may continue to adversely impact our business operations, financial performance and results of operations.
•Our results of operations and financial condition have been and may be adversely affected by economic conditions and other factors that we cannot control.
•Negative publicity or public perception of our company or our industry could adversely affect our reputation, business, and results of operations.
•Competition for our highly skilled employees is intense, and we may not be able to attract and retain the employees we need to support the growth of our business.
•If we lose the services of any of our key management personnel, our business could suffer.
•Our success and future growth depend on our branding and marketing efforts.
•We may fail to realize all of the anticipated benefits of the Digit acquisition, and the merger or those benefits may take longer to realize than expected.
•Any acquisitions, strategic investments, entries into new businesses, joint ventures, divestitures, and other transactions could fail to achieve strategic objectives, disrupt our ongoing operations or result in operating difficulties, liabilities and expenses, harm our business, and negatively impact our results of operations.
•Fraudulent activity could negatively impact our business, operating results, brand and reputation and require us to take steps to reduce fraud risk.
•Security breaches and incidents impacting members’ confidential information that we store may harm our reputation, adversely affect our results of operations, and expose us to liability.
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•Any significant disruption in our computer systems may impair the availability of our websites, applications, products or services, or otherwise harm our business.
•We may change our corporate strategies or underwriting and servicing practices, which may adversely affect our business.
•We are, and intend in the future to continue, expanding into new geographic regions, and our failure to comply with applicable laws or regulations, or accurately predict demand or growth, related to these geographic regions could have an adverse effect on our business.
•We are exposed to geographic concentration risk.
•Our proprietary credit risk models rely in part on the use of third-party data to assess and predict the creditworthiness of our members, and if we lose the ability to license or use such third-party data, or if such third-party data contain inaccuracies, it may harm our results of operations
•A deterioration in the financial condition of counterparties, including financial institutions, could expose us to credit losses, limit access to liquidity or disrupt our business operations.
•Our vendor relationships subject us to a variety of risks, and the failure of third parties to comply with legal or regulatory requirements or to provide various services that are important to our operations could have an adverse effect on our business.
•Our mission to provide inclusive, affordable financial services that empower our members to build a better future may conflict with the short-term interests of our stockholders.
•If we cannot maintain our corporate culture as we grow, we could lose the innovation, collaboration and focus on the mission that contribute to our business.
•Our international operations and offshore service providers involve inherent risks which could result in harm to our business.
Risks Related to Our Intellectual Property
•It may be difficult and costly to protect our intellectual property rights, and we may not be able to ensure their protection
•We have been, and may in the future be, sued by third parties for alleged infringement of their proprietary rights.
•Our credit risk models, A.I. capabilities, and internal systems rely on software that is highly technical, and if it contains undetected errors, our business could be adversely affected.
•Some aspects of our business processes include open source software, and any failure to comply with the terms of one or more of these open source licenses could negatively affect our business.
Risks Related to Our Industry and Regulation
•The financial services industry is highly regulated. Changes in regulations or in the way regulations are applied to our business could adversely affect our business.
•Litigation, regulatory actions and compliance issues could subject us to significant fines, penalties, judgments, remediation costs and/or requirements resulting in increased expenses.
•Internet-based and electronic signature-based loan origination processes may give rise to greater risks than paper-based processes.
•The CFPB has broad authority to regulate consumer financial services, creating uncertainty as to how the agency’s actions or the actions of any other new agency could impact our business.
•The collection, storage, use, disclosure, and other processing of personal information could give rise to liabilities as a result of existing or new governmental regulation, conflicting legal requirements or differing views of personal privacy rights.
•Our business is subject to the regulatory framework applicable to registered investment advisers, including regulation by the SEC.
•Our bank partnership products may lead to regulatory risk and may increase our regulatory burden.
•Anti-money laundering, anti-terrorism financing and economic sanctions laws could have adverse consequences for us.
Risks Related to Our Indebtedness
•We have incurred substantial debt and may issue debt securities or otherwise incur substantial debt in the future, which may adversely affect our financial condition and negatively impact our operations.
•A breach of early payment triggers or covenants or other terms of our agreements with lenders could result in an early amortization, default, and/or acceleration of the related funding facilities.
•Our securitizations and loan sales may expose us to certain risks, and we can provide no assurance that we will be able to access the securitization or whole loan sales market in the future, which may require us to seek more costly financing.
We have marked with an asterisk (*) those risks described below that reflect substantive changes from the risks described under Part I, Item 1A "Risk Factors" included in our 2021 Form 10-K.
Risks Related to Our Business
We have experienced rapid growth in recent periods and our recent growth rates may not be indicative of future growth. If we fail to manage our growth effectively, our results of operations may suffer.
We have experienced rapid growth in our business and operations in recent periods, and our recent growth rates, which has placed significant demands on our management, operational, risk management, technology, marketing, compliance and finance and accounting infrastructure, and has resulted in increased expenses, a trend that we expect to continue as our business continues to grow. In addition, we are required to continuously develop and adapt our systems and infrastructure in response to the increasing sophistication of the consumer financial services market, evolving fraud and information security landscape, and regulatory developments relating to existing and planned business operations. Overall revenue growth depends on a number of factors, including on our ability to increase the origination volume of our products and services, attract new and retain existing members, build our brand, achieve the anticipated benefits and synergies from the Digit acquisition, expand our workforce, while managing our business systems and operations to support future growth. If we are unable to accomplish these tasks, our revenue growth may be harmed.
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Further, many economic and other factors outside of our control, including general economic and market conditions, pandemics, consumer and commercial credit availability, inflation, unemployment, and consumer debt levels, may adversely affect our ability to sustain revenue growth consistent with recent history.
Our results of operations and future prospects depend on our ability to retain existing, and attract new, members.*
We operate in a rapidly changing and highly competitive industry and our results of operations and future prospects depend on, among other things, continued growth of our member base, our ability to increase the activity of our members, including by using additional products or services we offer, and our ability to attract members in a cost-effective manner. Our member retention rates may decline or fluctuate due to pricing changes, our expansion into new products and markets, our members' ability to obtain alternative funding sources based on their credit history with us, and new members we acquire in the future may be less loyal than our current member base.
In particular, it is important that we continue to ensure that our members with loans remain loyal to us and we continue to extend loans to members who have successfully repaid their previous loans. As of March 31, 2022 and 2021, members with repeat loans comprised 73% and 76%, respectively, of our Owned Principal Balance at End of Period. If our repeat loan rates decline, we may not realize consistent or improved operating results from our existing member base.
We are, and intend in the future to continue, developing new financial products and services, and our failure to accurately predict their demand or growth could have an adverse effect on our business.
We are, and intend in the future to continue, developing new financial products and services. We intend to continue investing significant resources in developing new tools, features, services, products and other offerings. New initiatives are inherently risky, as each involves unproven business strategies and new financial products and services with which we have limited or no prior development or operating experience.
We can provide no assurance that we will be able to develop, commercially market and achieve acceptance of our new products and services, including products offered by Digit. Our development efforts with respect to these initiatives could distract management from current operations and could divert capital and other resources from other growth initiatives important to our business. In addition, our investment of resources to develop new products and services may either be insufficient, result in expenses that are excessive considering revenue originated from these new products and services, or may not be able to attract new members or retain existing members. We have previously invested resources to develop and launch new products and services and subsequently decided to discontinue these products and services in order to strategically realign our resources. If we are not able to effectively implement new technology-driven products and services as quickly as our competitors or be successful in marketing these products and services to our members and strategic partners, demand for our products and services may decrease and our business, results of operations and future prospects could be materially and adversely affected. In addition, the borrower profile of members using our new products and services may not be as attractive as existing members with credit products, which may lead to higher levels of delinquencies or defaults than we have historically experienced. Failure to accurately predict demand or growth with respect to our new products and services could adversely impact our business, and these new products and services may not become profitable, and even if they are profitable, operating margins of some new products may not be as high as the margins we have experienced historically or we may not be able to achieve target margins.
The success and growth of our business depends upon our ability to continuously innovate and develop new products and technologies.*
The financial services industry is undergoing rapid technological changes, with frequent introductions of new technology-driven products and services. Developing and incorporating new technologies, including A.I., into our products and services may require significant investment, take considerable time, and ultimately may not be successful. We may not be able to effectively implement new technology-driven products and services as quickly as competitors or be successful in marketing these products and services to our members. Furthermore, our technology may become obsolete or uncompetitive, and there is no guarantee that we will be able to successfully develop, obtain or use new technologies to adapt our models and systems.
As with many disruptive innovations, new technologies present risks and challenges that could affect their adoption, and therefore our business. A.I. and related technologies are subject to public debate and heightened regulatory scrutiny. Any negative publicity or negative public perception of A.I. could negatively impact demand for our products and services or hinder our ability to attract new members and strategic partners. The regulatory framework for A.I. and machine learning technologies is evolving and remains uncertain. It is possible that new laws and regulations will be adopted, or existing laws and regulations may be interpreted in new ways, that would affect our business, products and services and the way in which we use A.I., including with respect to fair lending laws. Our success will depend on our ability to develop and incorporate new technologies and adapt to technological changes and evolving industry standards. If we are unable to do so in a timely or cost-effective manner, our business could be harmed.
If we do not compete effectively in our target markets, our results of operations could be harmed.
The industries in which we compete are highly competitive, continuously changing, highly innovative, and increasingly subject to regulatory scrutiny and oversight. Our current and potential future competition primarily includes other consumer finance companies, credit card issuers, financial technology companies, technology platforms, neobanks, challenger banks, and financial institutions, as well as payday lenders and pawn shops. We may compete with others in the market who may in the future provide offerings similar or are competitive with ours, particularly companies who may provide lending, money management and other services though a platform similar to our platform.
Many of our current or potential competitors have significantly more financial, technical, marketing, access to low-cost capital, and other resources than we do and may be able to devote greater resources to the development, promotion, sale and support of their platforms and distribution channels. As such, many of our competitors can leverage their size, robust networks, financial wherewithal, brand awareness, pricing power and technological assets to compete with us. To the extent new entrants gain market share, the use of our products and services would decline. Our long-
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term success depends on our ability to compete effectively against existing and potential competitors that seek to provide banking and financial technology products and services. If we fail to compete effectively against these competitors, our revenues, results of operations, prospects for future growth and overall business will be materially and adversely affected.
Our risk management efforts may not be effective, which may expose us to market risks that harm our results of operations.
We could incur substantial losses and our business operations could be disrupted if we are unable to effectively identify, monitor and mitigate financial risks, such as credit risk, interest rate risk, prepayment risk and liquidity risk, as well as operational risks. Our risk management policies, procedures and models may not be sufficient to identify all of the risks we are exposed to, mitigate the risks we have identified or identify additional risks that arise in the future.
As our loan mix changes and as our product offerings evolve, including by the addition of the Digit products, our risk management strategies may not always adapt to such changes. Some of our methods of managing risk are based upon our use of observed historical market behavior and management’s judgment. Other of our methods for managing risk depend on the evaluation of information regarding markets, members or other matters that are publicly available or otherwise accessible to us. While we employ a broad and diversified set of risk monitoring and risk mitigation techniques, those techniques and the judgments that accompany their application cannot anticipate every economic and financial outcome or the timing of such outcomes. If our risk management efforts are ineffective, we could suffer losses that could harm our business, financial condition, and results of operations.
We rely extensively on models in managing many aspects of our business. If our models contain errors or are otherwise ineffective, our business could be adversely affected.
Our ability to attract members and to build trust in our credit products is significantly dependent on our ability to effectively evaluate a member’s creditworthiness and likelihood of default. In deciding whether to extend credit to prospective members, we rely heavily on our proprietary credit risk models, which are statistical models built using third-party alternative data, credit bureau data, application data and our credit experience gained through monitoring the performance of our members over time. These models are built using forms of A.I., such as machine learning. If our credit risk models fail to adequately predict the creditworthiness of our members or their ability to repay their loans due to programming or other errors, or if any portion of the information pertaining to the potential member is incorrect, incomplete or becomes stale (whether by fraud, negligence or otherwise), and our systems do not detect such errors, inaccuracies or incompleteness, or any of the other components of our credit decision process described herein fails, we may experience higher than forecasted loan losses. Also, if we are unable to access certain third-party data used in our credit risk models, or access to such data is limited, our ability to accurately evaluate potential members may be compromised. Credit and other information that we receive from third parties about a member may also be inaccurate or may not accurately reflect the member’s creditworthiness, which may adversely affect our loan pricing and approval process, resulting in mispriced loans, incorrect approvals or denials of loans. In addition, this information may not always be complete, up-to-date or properly evaluated. As a result, these methods may not predict future risk exposures, which could be significantly greater than the historical measures or available information indicate.
Our reliance on our credit risk models and other models in other aspects of our business, including valuation, pricing, collections management, marketing targeting models, fraud prevention, liquidity and capital planning, direct mail and telesales, and savings and investing algorithms may prove in practice to be less predictive than we expect for a variety of reasons, including as a result of errors in constructing, interpreting or using the models or the use of inaccurate assumptions (including failures to update assumptions appropriately in a timely manner). We rely on our credit risk models and other models to develop and manage new products and services, including our digital banking platform, with which we have limited development or operating experience, as well as new geographies. Our assumptions may be inaccurate, and our models may not be as predictive as expected for many reasons, in particular because they often involve matters that are inherently difficult to predict and beyond our control, such as macroeconomic conditions, credit market volatility and interest rate environment, and human behavior, and they often involve complex interactions between a number of dependent and independent variables and factors. In particular, even if the general accuracy of our valuation models is validated, valuations are highly dependent upon the reasonableness of our assumptions and the predictability of the relationships that drive the results of the models. The errors or inaccuracies in our models may be material and could lead us to make wrong or sub-optimal decisions in managing our business.
Additionally, if we make errors in the development, validation or implementation of any of the models or tools we use to underwrite the loans that we then securitize or sell to investors, those investors may experience higher delinquencies and losses. We may also be subject to liability to those investors if we misrepresented the characteristics of the loans sold because of those errors. Moreover, future performance of our members’ loans could differ from past experience because of macroeconomic factors, policy actions by regulators, lending by other institutions or reliability of data used in the underwriting process. To the extent that past experience has influenced the development of our underwriting procedures and proves to be inconsistent with future events, delinquency rates and losses on loans could increase. Errors in our models or tools and an inability to effectively forecast loss rates could also inhibit our ability to sell loans to investors or draw down on borrowings under our warehouse and other debt facilities, which could limit new origination growth and harm our financial performance. Additionally, the use of A.I. is relatively new and the regulatory framework is evolving and remains uncertain. Any negative regulatory or public scrutiny based upon this could adversely affect our business, reputation, and financial performance.
Our business may be adversely affected by disruptions in the credit markets and changes to interest rates on our borrowings.*
We depend on securitization transactions, loan warehouse facilities and other forms of debt financing, as well as whole loan and structured loan sales, in order to finance the principal amount of most of the loans we make to our members. See more information about our outstanding debt in Note 9, Borrowings to the Notes to the Condensed Consolidated Financial Statements (Unaudited) included elsewhere in this report. However, there is no assurance that these sources of capital will continue to be available in the future on terms favorable to us or at all. The availability of debt financing and other sources of capital depends on many factors, some of which are outside of our control. Further, current market conditions may
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make it difficult to extend the maturity of or refinance our existing indebtedness or obtain new indebtedness with similar terms and any failure to do so could have a material adverse effect on our business. The debt capital available to us in the future, if available at all, may bear a higher interest rate and may be available only on terms and conditions less favorable than those of our existing debt and such debt may need to be incurred in a rising interest rate environment. Events of default or breaches of financial, performance or other covenants, as a result of the underperformance of certain pools of loans underpinning our securitizations or other debt facilities, could reduce or terminate our access to funding from institutional investors. Such events could also result in default rates at a higher interest rate and therefore increase our cost of capital. In addition, our ability to access future capital may be impaired because our interests in our financed pools of loans are “first loss” interests and so these interests will only be realized to the extent all amounts owed to investors or lenders and service providers under our securitizations and debt facilities are paid in full. In the event of a sudden or unexpected shortage or restriction on the availability of funds, we cannot be sure that we will be able to maintain the necessary levels of funding to retain current levels of originations without incurring higher funding costs, a reduction in the term of funding instruments or increasing the rate of whole loan sales, or be able to access funding at all. If we are unable to arrange financing on favorable terms, we may not be able to grow our business as planned and we may have to curtail new originations and reduce credit lines to cardholders.
In July 2017, the United Kingdom’s Financial Conduct Authority, which regulates the London Interbank Offered Rate (“LIBOR”), announced that it will no longer persuade or compel banks to submit LIBOR rates after 2021. At the end of 2021, the ICE Benchmark Administration, the administrator for LIBOR, ceased publishing one-week and two-month U.S. dollar LIBOR and will cease publishing all remaining U.S. dollar LIBOR tenors in mid-2023. Other regulators have suggested reforming or replacing other benchmark rates. These may be replaced by the Secured Overnight Financing Rate or other benchmark rates over the next several years. Uncertainty as to the nature of such phase out and selection of an alternative reference rate, together with disruption in the financial markets, could increase in the cost of our credit facilities which are currently tied to LIBOR. Changes in interest rates on our variable rate debt could adversely affect our interest expense, results of operations, and cash flows.
We have elected the fair value option and we use estimates in determining the fair value of our loans and our asset-backed notes. If our estimates prove incorrect, we may be required to write down the value of these assets or write up the value of these liabilities, which could adversely affect our results of operations.*
Our ability to measure and report our financial position and results of operations is influenced by the need to estimate the impact or outcome of future events on the basis of information available at the time of the issuance of the financial statements. We use estimates, assumptions, and judgments when certain financial assets and liabilities are measured and reported at fair value. Fair values and the information used to record valuation adjustments for certain assets and liabilities are based on quoted market prices and/or other observable inputs provided by independent third-party sources, when available. During periods of market disruption, including periods of significantly rising or high interest rates, rapidly widening credit spreads or illiquidity, it may be difficult to value certain assets if trading becomes less frequent or market data becomes less observable. In such cases, certain asset valuations may require significant judgment, and may include inputs and assumptions that require greater estimation, including credit quality, liquidity, interest rates, and other relevant inputs. If actual results differ from our judgments and assumptions, then it may have an adverse impact on the results of operations and cash flows. Management has processes in place to monitor these judgments and assumptions, including review by our internal valuation committee, but these processes may not ensure that our judgments and assumptions are correct.
We use estimates and assumptions in determining the fair value of our loans receivable held for investment and asset-backed notes. Our Loans Receivable at Fair Value represented 82% of our total assets and our asset-backed notes represented 68% of our total liabilities as of March 31, 2022. The fair value of our loans receivable held for investment are determined using Level 3 inputs and the fair value of our asset-backed notes are determined using Level 2 inputs. Changes to these inputs could significantly impact our fair value measurements. Valuations are highly dependent upon the reasonableness of our assumptions and the predictability of the relationships that drive the results of our valuation methodologies. In addition, a variety of factors such as changes in the interest rate environment and the credit markets, changes in average life, higher than anticipated delinquency and default levels or financial market illiquidity, may ultimately affect the fair values of our loans receivable and asset-backed notes. Material differences in these ultimate values from those determined based on management’s estimates and assumptions may require us to adjust the value of certain assets and liabilities, including in a manner that is not comparable to others in our industry, which could adversely affect our results of operations.
Our current level of interest rate spread may decline in the future. Any material reduction in our interest rate spread could adversely affect our results of operations.
We earn over 85% of our revenue from interest payments on the loans we make to our members. Financial institutions and other funding sources provide us with the capital to fund a substantial portion of the principal amount of our loans to members and charge us interest on funds that we borrow. In the event that the spread between the interest rate at which we lend to our members and the rate at which we borrow from our lenders decreases, our Net Revenue will decrease. We have capped the APR for newly originated loans at 36% since August 2020. The interest rates we charge to our members and pay to our lenders could each be affected by a variety of factors, including our ability to access capital markets, the volume of loans we make to our members, product mix, competition and regulatory limitations.
Market interest rate changes may adversely affect our business forecasts and expectations and are highly sensitive to many macroeconomic factors beyond our control, such as inflation, recession, the state of the credit markets, global economic disruptions, unemployment and the fiscal and monetary policies of the federal government and its agencies. Interest rate changes may require us to make adjustments to the fair value of our loans receivable held for investment or our asset-backed notes, which may in turn adversely affect our results of operations. In a rising interest rate environment, the fair value of our loans receivable held for investment decreases, which decreases Net Revenue. In addition, increasing interest rates also decrease the fair value of our asset-backed notes, which increases Net Revenue. Because the duration and fair value of our loans and asset- backed notes are different, the respective changes in fair value did not fully offset each other resulting in a negative impact on Net Revenue. Any reduction in our interest rate spread could have an adverse effect on our business, results of operations, cash flows, and financial condition. We do not currently hedge our interest rate exposure associated with our debt financing or fair market valuation of our loans.
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If we are unable to collect payment and service the loans we make to members, our net charge-off rates may exceed expected loss rates, and our business and results of operations may be harmed.*
Our unsecured personal loans and credit card receivables, which comprise a significant portion of our overall portfolio, are not secured by any collateral, not guaranteed or insured by any third party and not backed by any governmental authority in any way. We are therefore limited in our ability to collect on these loans if a member is unwilling or unable to repay them for any reason.
Our ability to adequately service our loans is dependent on our ability to grow and appropriately train our customer service and collections staff, our ability to expand our servicing capabilities as the number of our loans increase, our ability to contact our members when they default, and our ability to leverage technologies to service and collect amounts owed with respect to loans. Additionally, our customer service and collections staff are dependent upon maintaining adequate information technology, telephony, and internet connectivity such that they can complete their job functions. Since the onset of the pandemic, we have moved the majority of our contact center staff to remote working environments and continue to operate the contact centers in this manner. If a significant percentage of our contact center workforce is unable to work because of illness, quarantines, ineffective remote work environments or technology, utility, or other failures or limitations, our ability to collect payment may be adversely affected.
In November, 2021 we voluntarily implemented the call limitations set forth in Regulation F, 12 CFR Part 1006 (“Regulation F”), which is not applicable to creditors such as us who are collecting their own debts. If we did not correctly estimate the impact of a reduced calling strategy, the effectiveness of our efforts to collect on defaulted loans may be impacted. Additionally, in August 2020, we changed our small claims filing practices, we dismissed all pending small claims court filings and suspended all new legal collection actions and have not restarted legal collections programs. If we are unable to employ alternative means of engaging severely delinquent members and collecting on defaulted loans, the effectiveness of our efforts to collect on defaulted loans may be impacted. Because our net charge-off rate depends on the collectability of the loans, if we experience an unexpected significant increase in the number of members who fail to repay their loans or an increase in the principal amount of the loans that are not repaid, our revenue and results of operations could be adversely affected. Furthermore, personal unsecured loans and credit card debt are generally dischargeable in bankruptcy. If we experience an unexpected, significant increase in the number of members who successfully discharge their debt in a bankruptcy action, our revenue and results of operations could be adversely affected.
We incorporate our estimate of lifetime loan losses in our measurement of fair value for our loans receivable held for investment. While this evaluation process uses historical and other objective information, the classification of loans and the forecasts and establishment of loan losses and fair value are also dependent on our subjective assessment based upon our experience and judgment. Given the unprecedented nature of the COVID-19 pandemic and its impact on the economy, the amount of subjective assessment and judgment applied to develop our forecasts has increased materially, since no directly corresponding historical data set exists. Our methodology for establishing our fair value is based on the guidance in Accounting Standards Codification, 820 and 825, and, in part, on our historic loss experience. If member behavior changes as a result of economic conditions and if we are unable to predict how the unemployment rate and general economic uncertainty may affect our estimate of lifetime loan losses, the fair value may be reduced for our Loans Receivable at Fair Value, which will decrease Net Revenue. Our calculations of fair value are estimates, and if these estimates are inaccurate, our results of operations could be adversely affected. Neither state regulators nor federal regulators regulate our calculations of fair value, and unlike traditional banks, we are not subject to periodic review by bank regulatory agencies of our loss estimates or our calculations of fair value. In addition, because our debt financings include delinquency triggers as predictors of losses, increased delinquencies or losses may reduce or terminate the availability of debt financings to us.
Our quarterly results are likely to fluctuate significantly and may not fully reflect the underlying performance of our business.
Our quarterly results of operations are likely to vary significantly in the future and period-to-period comparisons of our results of operations may not be meaningful, due to factors such as our election of the fair value option and the evolving and uncertain duration of the COVID-19 pandemic. Accordingly, the results for any one quarter are not necessarily an indication of future performance. Our quarterly financial results may fluctuate due to a variety of factors, some of which are outside of our control and, as a result, may not fully reflect the underlying performance of our business. Factors that may cause fluctuations in our quarterly financial results include:
•loan volumes, loan mix and the channels through which our loans are originated;
•the effectiveness of our direct marketing and other marketing channels;
•the timing and success of new products and origination channels;
•the amount and timing of operating expenses and capital expenditures, including those related to member acquisition, development of new products and services, and maintenance and expansion of our business, operations and infrastructure;
•net charge-off rates;
•adjustments to the fair value of our loans receivable held for investment and our asset-backed notes;
•our cost of borrowing money and access to the capital markets; and
•general economic, industry, and market conditions.
In addition, we experience significant seasonality in demand for our loans, which is generally lower in the first quarter. The seasonal slowdown is primarily attributable to high loan demand around the holidays in the fourth quarter and the general increase in our members’ available cash flows in the first quarter, including cash received from tax refunds, which temporarily reduces their borrowing needs. While our growth has obscured this seasonality from our overall financial results, we expect our results of operations to continue to be affected by such seasonality in the future. However, the impact of the COVID-19 pandemic has and may continue to disrupt the seasonal trends our business has otherwise consistently experienced.
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The ongoing COVID-19 pandemic has and may continue to adversely impact our business operations, financial performance and results of operations.*
The COVID-19 pandemic and health and safety measures taken by governments and private industry in response to the pandemic significantly impacted worldwide economic activity and continue to create economic uncertainty. The ultimate extent of the impact of the COVID-19 pandemic on our business, results of operations, and financial condition will depend on future developments that continue to be highly uncertain and difficult to predict, including the scope and duration of the pandemic, resurgence of infection rates from COVID-19 (including its variant strains), and timing of the global recovery. Additionally, if any of our critical vendors are adversely impacted by the COVID-19 pandemic and unable to deliver services to us, our operations may be adversely impacted.
Our results of operations and financial condition have been and may be adversely affected by economic conditions and other factors that we cannot control.*
Uncertainty and negative trends in general economic conditions in the United States and abroad have historically created a difficult operating environment for our business and can negatively impact demand for our products and services. Many factors, including factors that are beyond our control, may impact our results of operations or financial condition, demand for our products and services, the quality of our loan portfolio, and/or affect our members’ willingness or capacity to make payments on their loans with us. Such factors may also result in higher default rates by our members, a decline in the demand for our products, and potentially impact our ability to make accurate credit assessments or lending decisions. These factors include: general economic conditions, unemployment levels, housing markets, immigration patterns and policies, energy costs, inflation, government shutdowns, delays in tax refunds, significant tightening of credit markets, and interest rates, as well as events such as natural disasters, acts of war, terrorism, pandemics or adverse health developments, social unrest, and catastrophes. Our business was adversely impacted by the COVID-19 pandemic and we recorded a net loss of $45.1 million for the year ended December 31, 2020. We also experienced net losses prior to 2017. As our business grows and we increase our product and service offerings, we intend to continue to expend significant funds, and we may not be able to generate sufficient revenue to offset our higher operating expenses.
In particular, our members with credit products may be particularly negatively impacted by worsening economic conditions that place financial stress on these members resulting in loan defaults or charge-offs. In addition, major medical expenses, divorce, death, or other issues that affect our members could affect our members’ willingness or ability to make payments on their loans. Our business is currently heavily concentrated on consumer lending and, as a result, we are more susceptible to fluctuations and risks particular to U.S. consumer credit than a company with a more diversified lending portfolio. If our members default under a loan receivable held directly by us, we will experience loss of principal and anticipated interest payments, which could adversely affect our cash flow from operations. The cost to service our loans may also increase without a corresponding increase in our interest on loans.
Decreases in consumer demand for automobiles and declining values of vehicles securing outstanding secured personal loans would weaken collateral coverage for secured personal loans and increase the amount of loss in the event of default. Significant increases in the inventory of used vehicles may also depress the prices at which repossessed vehicles may be sold or delay the timing of these sales. Consequently, if a vehicle securing a secured personal loan is repossessed while the used car auction market is depressed, the sale proceeds for such vehicle may be lower than expected, resulting in higher than expected losses.
If aspects of our business, including the quality of our loan portfolio or our members’ ability to pay, are significantly affected by economic changes or any other conditions in the future, we cannot be certain that we will adequately adapt our business to such changes, so our business would be adversely affected.
Negative publicity or public perception of our company or our industry could adversely affect our reputation, business, and results of operations.
Negative publicity about our industry or our company, including the terms of the consumer loans, effectiveness of the proprietary credit risk model, privacy and security practices, originations, marketing, servicing and collections, use of A.I, and other business practices or initiatives, litigation, regulatory compliance and the experience of members, even if inaccurate, could adversely affect our reputation and the confidence in our brands and business model or lead to changes in our business practices. We regularly engage with media outlets and consumer advocates and have previously, and in the future, may respond to inquiries by modifying our business practices or policies to better align with our mission. Despite our responsiveness to the inquiries, certain media outlets and consumer advocates chose to and have continued to highlight the very past practices that we had already modified. The proliferation of social media may increase the likelihood that negative public opinion will impact our reputation and business. Our reputation is very important to attracting new members and retaining existing members. While we believe that we have a good reputation and that we provide members with a superior experience, there can be no assurance that we will continue to maintain a good relationship with members.
In addition, negative perception may result in our being subject to more restrictive laws and regulations and potential investigations, enforcement actions and lawsuits. If there are changes in the laws affecting any of our products, or our marketing and servicing, or if we become subject to such investigations, enforcement actions and lawsuits, our financial condition and results of operations would be adversely affected. Entry into new products, as well as into the banking business or new origination channels, such as bank partnerships and other partnerships could lead to negative publicity or draw additional scrutiny.
Harm to our reputation can also arise from many other sources, including employee or former employee misconduct, misconduct by outsourced service providers or other counterparties, failure by us or our partners to meet minimum standards of service and quality, and inadequate protection of member information and compliance failures and claims. Our reputation may also be harmed if we fail to maintain our certification as a Community Development Financial Institution (CDFI).
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Competition for our highly skilled employees is intense, and we may not be able to attract and retain the employees we need to support the growth of our business.
Competition for highly skilled personnel, particularly engineering and data analytics personnel, is extremely intense across the country and is likely to continue to increase, as more companies are offering remote or hybrid working arrangements. We have experienced and expect to continue to face difficulty identifying and hiring qualified personnel in many areas, especially as we pursue our growth strategy. We may not be able to hire or retain such personnel at compensation levels consistent with our existing compensation and salary structure. Many of the companies with which we compete for experienced employees have greater resources than we have and may be able to offer more attractive terms of employment. In particular, employee candidates, specifically in high-technology industries, often consider the value of any equity they may receive in connection with their employment, so significant volatility or a decline in the price of our stock may adversely affect our recruitment strategies. Additionally, changes to U.S. immigration policies, as well as restrictions on global travel due to public health crises requiring quarantines or other precautions to limit exposure to infectious diseases, may limit our ability to hire and/or retain talent.
In addition, we invest significant time and expense in training our employees, which increases their value to competitors who may seek to recruit them. If we fail to retain our employees, we could incur significant expenses in hiring and training their replacements and the quality of our services and our ability to serve our members could be adversely affected.
If we lose the services of any of our key management personnel, our business could suffer.
Our future success significantly depends on the continued service and performance of our key management personnel. Competition for these employees is intense and we may not be able to replace, attract and retain key personnel. We do not maintain key-man insurance for every member of our senior management team. The loss of the service of our senior management team or key team members, and the process to replace any of them, or the inability to attract additional qualified personnel as needed, all of which would involve significant time and expense, could harm our business.
Our success and future growth depend on our branding and marketing efforts.
If our marketing efforts are not successful or if we are unsuccessful in developing our brand marketing campaigns, our ability to attract and retain members, attract new strategic partners and grow our business may be negatively impacted. In the future, we intend to continue to dedicate significant resources to our marketing efforts, particularly as we develop our brands. If any of our current marketing channels becomes less effective, if we are unable to continue to use any of these channels, if the cost of using these channels significantly increases or if we are not successful in generating new channels, we may not be able to attract new members in a cost-effective manner or increase the activity of our existing members, including by using additional products or services we offer. If we are unable to recover our marketing costs through increases in the size, value or overall number of credit products we originate, or other product selection and utilization, it could have a material adverse effect on our business, financial condition, results of operations, and future prospects.
We may fail to realize all of the anticipated benefits of the Digit acquisition, and the merger or those benefits may take longer to realize than expected.
We believe that there are significant benefits and synergies that may be realized through combining the platform, product and service offerings of Oportun and Digit. However, the efforts to realize these benefits and synergies will be a complex process and may disrupt both companies’ existing operations if not implemented in a timely and efficient manner. The full benefits of the acquisition, including anticipated growth opportunities, may not be realized as expected or may not be achieved within the anticipated time frame, or at all. Failure to achieve the anticipated benefits of the acquisition could adversely affect our results of operations or cash flows, cause dilution to our earnings per share, decrease or delay any accretive effect of the acquisition and negatively impact the price of our common stock.
In addition, as we integrate the businesses post-closing we will continue to be required to devote significant attention and resources to successfully align our business practices and operations. This process may disrupt the businesses and, if ineffective, would limit the anticipated benefits of the acquisition.
Any acquisitions, strategic investments, entries into new businesses, joint ventures, divestitures, and other transactions could fail to achieve strategic objectives, disrupt our ongoing operations or result in operating difficulties, liabilities and expenses, harm our business, and negatively impact our results of operations.
Our success will depend, in part, on our ability to grow our business. In some circumstances, we may determine to do so through the acquisition of complementary businesses and technologies rather than through internal development. The identification of suitable acquisition candidates can be difficult, time-consuming, and costly, and we may not be able to successfully complete identified acquisitions. We have previously acquired, and in the future, may acquire, complementary assets or businesses. The risks we face in connection with acquisitions include:
•diversion of management time and focus from operating our business to addressing acquisition integration challenges;
•utilization of our financial resources for acquisitions or investments that may fail to realize the anticipated benefits;
•inability of the acquired technologies, products or businesses to achieve expected levels of revenue, profitability, productivity or other benefits;
•coordination of technology, product development and sales and marketing functions and integration of administrative systems;
•transition of the acquired company’s members to our systems;
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•retention of employees from the acquired company;
•regulatory risks, including maintaining good standing with existing regulatory bodies or receiving any necessary approvals, as well as being subject to new regulators with oversight over an acquired business;
•acquisitions could result in dilutive issuances of equity securities or the incurrence of debt;
•cultural challenges associated with integrating employees from the acquired company into our organization;
•the need to implement or improve controls, procedures and policies at a business that prior to the acquisition may have lacked effective controls, procedures and policies;
•potential write-offs of loans or intangibles or other assets acquired in such transactions that may have an adverse effect on our results of operations in a given period;
•liability for activities of the acquired company before the acquisition, including patent and trademark infringement claims, violations of laws, commercial disputes, security weaknesses and incidents, tax liabilities and other known and unknown liabilities;
•assumption of contractual obligations that contain terms that are not beneficial to us, require us to license or waive intellectual property or increase our risk for liability; and
•litigation, claims or other liabilities in connection with the acquired company.
Our failure to address these risks or other problems encountered in connection with our future acquisitions and investments could cause us to fail to realize the anticipated benefits of these acquisitions or investments, cause us to incur unanticipated liabilities and harm our business generally.
Fraudulent activity could negatively impact our business, brand and reputation and require us to continue to take steps to reduce fraud risk.
Third parties have, and we expect that they will likely continue to attempt to commit fraud by, among other things, fraudulently obtaining loans or creating fictitious accounts using stolen identities or personal information and making transactions with stolen financial instruments. Third parties may also seek to engage in abusive schemes or fraud attacks that are often difficult to detect and may be deployed at a scale that would otherwise not be possible in physical transactions. Risks associated with each of these include theft of funds and other monetary loss, the effects of which could be compounded if not detected quickly. Fraudulent activity may not be detected until well after it occurs and the severity and potential impact may not be fully known for a substantial period of time after it has been discovered. Measures to detect and reduce the risk of fraud and abusive behavior are complex, require continuous monitoring and enhancements, and may not be effective in detecting and preventing fraud, particularly new and continually evolving forms of fraud or in connection with new or expanded product offerings. If these measures do not succeed, our business could be materially adversely impacted.
Despite our efforts, the possibility of fraudulent or other malicious activities and human error or malfeasance cannot be eliminated entirely and will evolve as new and emerging technology is deployed, including the increasing use of personal mobile and computing devices that are outside of our network and control environments. Additionally, increasing our product and service offerings may introduce opportunities for fraudulent activity that we have not previously experienced. Numerous and evolving fraud schemes and misuse of our products and services could subject us to significant costs and liabilities, require us to change our business practices, cause us to incur significant remediation costs, lead to loss of member confidence in, or decreased use of, our products and services, damage our reputation and brands, divert the attention of management from the operation of our business, result in litigation (including class action litigation), and lead to increased regulatory scrutiny and possibly regulatory investigations and intervention, all of which could have a material adverse impact on our business.
Security breaches and incidents may harm our reputation, adversely affect our results of operations, and expose us to liability.*
In the ordinary course of our business, we collect, store, transmit and otherwise process large amounts of sensitive information relating to members and potential members, including non-public personal, bank account, and credit information. It is critical that we do so in a secure manner to maintain the confidentiality, integrity and availability of such sensitive information. We also collect, store, transmit and otherwise process certain sensitive, proprietary, and other information, including personal data and personal information relating to employees, trade secrets, intellectual property, confidential business information, and other confidential data. We have arrangements in place with certain of our third-party vendors that require us to share this information as permitted by law. We have also outsourced elements of our operations (including elements of our information technology infrastructure) to third parties, and as a result, we manage a number of third-party vendors who may have access to our computer networks or the information that we collect, process, transmit, and store. In addition, many of those third parties may in turn subcontract or outsource some of their responsibilities to third parties. As a result, our information technology systems, including the functions of third parties that are involved or have access to those systems, is very large and complex. While all information technology operations are inherently vulnerable to inadvertent or intentional security breaches, incidents, attacks and exposures, the size, complexity, accessibility and distributed nature of our information technology systems, and the large amounts of sensitive information stored on those systems, make such systems potentially vulnerable to unintentional or malicious, internal and external attacks. We have been and continue to be the subject of actual or attempted unauthorized access, mishandling or misuse of information, computer viruses or malware, and cyber-attacks that could obtain confidential information, destroy data, disrupt or degrade service, sabotage systems or cause other damage, distributed denial of service attacks, security breaches and incidents, and other infiltration, exfiltration or other similar events.
We cannot guarantee that our or our third-party providers’ systems and networks have not been breached or that they do not contain exploitable defects or bugs that could result in a breach of or disruption to our systems and networks or the systems and networks of third parties that support us and our products and services. Potential vulnerabilities can be exploited from inadvertent or intentional actions of our employees, contractors, third-party vendors, business partners, or by malicious third parties. Attacks of this nature are increasing in their frequency, levels of persistence,
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sophistication and intensity, and are being conducted by sophisticated and organized groups and individuals with a wide range of motives (including, but not limited to, industrial espionage) and expertise, including organized criminal groups, “hacktivists,” nation states and others. In addition to unauthorized access to, or loss, extraction, disclosure, or other misuse of personal information, confidential information, or other sensitive information, such attacks could include the deployment of harmful malware, ransomware, denial-of-service attacks, social engineering and other means to affect service reliability and threaten the confidentiality, integrity and availability of information and systems. We have seen, and will continue to see, industry-wide vulnerabilities, such as the Log4j vulnerability reported in December 2021, which could affect our or other parties’ systems. Significant disruptions of our, our third-party vendors’ and/or business partners’ information technology systems or other similar data security incidents could adversely affect our business operations and result in the loss, misappropriation, or unauthorized access, use or disclosure of, or the prevention of access to, personal information, confidential information, or other sensitive information, which could result in financial, legal, regulatory, business, and reputational harm to us. The automated nature of our business may make us attractive targets for hacking and potentially vulnerable to computer malware, physical or electronic break-ins and similar disruptions. Despite efforts to ensure the integrity of our systems, it is possible that we and the third parties who support our business and operations may not be able to anticipate or to implement effective preventive measures against all security breaches and incidents, in which case there would be an increased risk of fraud or identity theft, and we may experience losses on, or delays in the collection of amounts owed on, a fraudulently induced loan.
While we regularly monitor data flow inside and outside the company, techniques used to obtain unauthorized access or to sabotage systems change frequently and are difficult to detect. As a result, we, our third-party hosting facilities and other service providers may be unable to anticipate these techniques or to implement adequate preventative measures. Our adoption of remote working arrangements for our corporate and many of our contact center employees may result in increased consumer or employee privacy, IT security, and fraud concerns arising from the increased electronic transfer and other online activity. Any event that leads, or is believed to have led, to unauthorized access, to, or use, access, loss, corruption, disclosure or other processing of personal information, including but not limited to personal information regarding our members, potential members, loan applicants, and employees, could disrupt our business, harm our reputation, compel us to comply with applicable federal and/or state breach notification laws and foreign law equivalents, subject us to litigation, regulatory investigation and oversight, mandatory corrective action, require us to verify the correctness of database contents, or otherwise subject us to liability under laws, regulations and contractual obligations, including those that protect the privacy and security of personal information. This could result in increased costs for us, and result in significant legal and financial exposure and/or reputational harm. These mandatory disclosures regarding a security breach are costly to implement and often lead to widespread negative publicity, which may cause our members to lose confidence in the effectiveness of our data security measures. In addition, any failure or perceived failure by us or our vendors to comply with our privacy, confidentiality, or data security-related legal or other obligations to third parties, or any security breaches or incidents or other inappropriate access events that result in the unauthorized access, release or transfer of personal or sensitive information, which could include personally identifiable information, may result in governmental investigations, enforcement actions, regulatory fines, litigation, or public statements against us by advocacy groups or others and could cause third parties, to lose trust or subject us to claims by third parties that we have breached our privacy- and confidentiality-related obligations, which could harm our business and prospects.
We also face indirect technology, cybersecurity and operational risks relating to the members, clients and other third parties with whom we do business or upon whom we rely on to facilitate or enable our business activities, including vendors, payment processors, and other parties who have access to confidential information due to our agreements with them. The establishment of bank partnerships could leave us exposed to additional information security risks arising from the interaction between our and any partners' information technology infrastructure, and the sharing between us of confidential member information. In addition, any security compromise in our industry, whether actual or perceived, or information technology system disruptions, natural disasters, terrorism, war and telecommunication and electrical failures, could interrupt our business or operations, harm our reputation, erode public confidence, negatively affect our ability to attract new members, or subject us to third-party claims, lawsuits, regulatory investigations, proceedings, fines or other action or liability. Also, due to the geopolitical unrest associated with Russia’s invasion of Ukraine, we and our service providers may be vulnerable to heightened risks of cybersecurity incidents and security and privacy breaches.
We incur significant costs to detect and prevent security breaches and other security-related incidents, and we expect our costs will increase as we work to continuously improve our systems and processes to prevent future breaches and incidents. In the event of an actual or perceived breach or incident, we could be required to expend additional significant capital and other resources in an effort to prevent further breaches or incidents. Moreover, we could be required to expend significant capital and other resources to address the incident and any future security breach or incident.
Our retail locations also process physical member loan documentation that contain confidential information about our members, including financial and personally identifiable information. We retain physical records in various storage locations outside of our retail locations. The loss or theft of, or other unauthorized access to or use of, member information and data from our retail locations or other storage locations could subject us to additional regulatory scrutiny, possible civil litigation and possible financial liability and losses.
Further, any belief by members or others that a security breach or other incident has affected us or any of our service providers, even if a security breach or other incident has not affected us or any of our service providers or has not actually occurred, could have any or all of the foregoing impacts on us, including damage to our reputation. Even the perception of inadequate security may damage our reputation and negatively impact our ability to attract new members and retain existing members.
We cannot ensure that any provisions in our agreements with members or breach or other privacy- or security-related incident, would be enforceable or adequate or would otherwise protect us from any liabilities or damages with respect to any particular claim. We maintain errors, omissions, and cyber liability insurance policies covering certain security and privacy damages. However, we cannot be certain that our coverage will continue to be available on economically reasonable terms or will be available in sufficient amounts to cover one or more large claims, or that the insurer will not deny coverage as to any future claim. The successful assertion of one or more large claims against us that exceed available insurance coverage, or the occurrence of changes in our insurance policies, including premium increases or the imposition of large deductible or co-insurance requirements, could have an adverse effect on our business, financial condition and results of operations.
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Any significant disruption in our computer systems may impair the availability of our websites, applications, products or services, or otherwise harm our business.
Our computer systems, including those provided by third-party service providers and partners, may encounter service interruptions at any time due to system or software failure, natural disasters, severe weather conditions, health epidemics or pandemics, terrorist attacks, cyber-attacks, computer viruses, physical or electronic break-ins, technical errors, insider threats, power outages or other events. Any of these occurrences may interrupt the availability, or reduce or adversely affect the functionality of our websites, applications, products or services, including our ability to service our loans, process loan applications, and provide digital banking services to Digit members. We also rely on facilities, components, and services supplied by third parties, including data center facilities and cloud storage services. Any interference or disruption of our technology and underlying infrastructure or our use of our third-party providers’ services could materially and adversely affect our business, relationships with our members and our reputation. Also, as our business grows, we may be required to expand and improve the capacity, capability and reliability of our infrastructure. If we are not able to effectively address capacity constraints, upgrade our systems as needed and continually develop our technology and infrastructure to reliably support our business, our results of operations may be harmed.
In addition, the software that we have developed to use in our daily operations is highly complex and may contain undetected technical errors that could cause our computer systems to fail. For example, each loan that we make involves our proprietary automated underwriting process and depends on the efficient and uninterrupted operation of our computer systems, and all of our loans are underwritten using an automated underwriting process that does not require manual review, any failure of our computer systems involving our automated underwriting process and any technical or other errors contained in the software pertaining to our automated underwriting process could compromise our ability to accurately evaluate potential members, which would negatively impact our results of operations. While we have taken steps to prevent such activity from affecting our systems, if we are unable to prevent such activity, we may be subject to significant claims and liability, negative publicity and a loss of members, all of which may negatively affect our business.
Additionally, in the event of damage or interruption, our insurance policies may not adequately compensate us for any losses that we may incur. Our disaster recovery plan has not been tested under actual disaster conditions, and we may not have sufficient capacity to recover all data and services in the event of an outage. These factors could prevent us from processing or posting payments on the loans, damage our brand and reputation, divert our employees’ attention, subject us to liability and cause members to abandon our business, any of which could adversely affect our business, results of operations and financial condition.
We may change our corporate strategies or underwriting and servicing practices, which may adversely affect our business.
As our business grows and evolves, we have, and may in the future, change certain aspects of our corporate strategies or any of our underwriting guidelines without notice to our stockholders. Any changes in strategy, underwriting or servicing practices could impact our business in any number of ways, including impacting our member mix, product and service offerings, risk profile of our loan portfolio, and operational and regulatory compliance requirements.
For example, in August 2020, we implemented a nationwide 36% APR cap for newly originated loans. We may also decide to modify our strategy with respect to whole loan sales, including increasing or decreasing the number of loans sold. We continue to evaluate our business strategies and underwriting and servicing practices and will continue to make additional changes to adapt to changing economic conditions, regulatory requirements and industry practices. Additionally, a change in our underwriting and servicing practices may reduce our credit spread and may increase our exposure to interest rate risk, default risk and liquidity risk, all of which could adversely affect our business, results of operations and financial condition.
We are, and intend in the future to continue, expanding into new geographic regions, and our failure to comply with applicable laws or regulations, or accurately predict demand or growth, related to these geographic regions could have an adverse effect on our business.
We intend to continue expanding into new geographic regions, including through strategic partnerships or a national bank charter. In addition, each of the new states where we do not currently operate may have different laws and regulations that apply to our products and services. As such, we expect to be subject to significant additional legal and regulatory requirements, including various federal and state consumer lending laws. We have limited experience in managing risks and the compliance requirements attendant to these additional legal and regulatory requirements in new geographies or related to strategic partnerships. The costs of compliance and any failure by us to comply with such regulatory requirements in new geographies could harm our business. If our partners decide to or are no longer able to provide their services, we could incur temporary disruptions in our loan transactions or we may be unable to do business in certain states or certain locations.
We are exposed to geographic concentration risk.*
The geographic concentration of our loan originations may expose us to an increased risk of loss due to risks associated with certain regions. Certain regions of the United States from time to time will experience weaker economic conditions and higher unemployment and, consequently, will experience higher rates of delinquency and loss than on similar loans nationally. In addition, natural, man-made disasters or health epidemics or pandemics in specific geographic regions may result in higher rates of delinquency and loss in those areas. A significant portion of our outstanding receivables originated in certain states, and within the states where we operate, originations are generally more concentrated in and around metropolitan areas and other population centers. Therefore, economic conditions, natural, man-made disasters, health epidemics or pandemics or other factors affecting these states or areas in particular could adversely impact the delinquency and default experience of the receivables and could adversely affect our business. Further, the concentration of our outstanding receivables in one or more states would have a disproportionate effect on us if governmental authorities in any of those states take action against us or take action affecting how we conduct our business.
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As of March 31, 2022, 46.1%, 26.1%, 8.0% and 5.4% of our Owned Principal Balance at End of Period related to members from California, Texas, Florida, and Illinois, respectively. If any of the events noted in these risk factors were to occur in or have a disproportionate impact in regions where we operate or plan to commence operations, it may negatively affect our business in many ways, including increased delinquencies and loan losses or a decrease in future originations.
Our proprietary credit risk models rely in part on the use of third-party data to assess and predict the creditworthiness of our members, and if we lose the ability to license or use such third-party data, or if such third-party data contain inaccuracies, it may harm our results of operations.
We rely on our proprietary credit risk models, which are statistical models built using third-party alternative data, credit bureau data, application data and our credit experience gained through monitoring the payment performance of our members over time. If we are unable to access certain third-party data used in our credit risk models, or our access to such data is limited, our ability to accurately evaluate potential members will be compromised, and we may be unable to effectively predict probable credit losses inherent in our loan portfolio, which would negatively impact our results of operations. Third-party data sources include credit bureau data and other alternative data sources. Such data is electronically obtained from third parties and is aggregated by our risk engine to be used in our credit risk models to score applicants and make credit decisions and in our verification processes to confirm member reported information. Data from consumer reporting agencies and other information that we receive from third parties about a member may be inaccurate or may not accurately reflect the member’s creditworthiness, which may cause us to provide loans to higher risk members than we intend through our underwriting process and/or inaccurately price the loans we make. We use numerous third-party data sources and multiple credit factors within our proprietary credit risk models, which helps mitigate, but does not eliminate, the risk of an inaccurate individual report. In addition, there are risks that the costs of our access to third-party data may increase or our terms with such third-party data providers could worsen. In recent years, well-publicized allegations involving the misuse or inappropriate sharing of personal information have led to expanded governmental scrutiny of practices relating to the safeguarding of personal information and the use or sharing of personal data by companies in the U.S. and other countries. That scrutiny has in some cases resulted in, and could in the future lead to, the adoption of stricter laws and regulations relating to the use and sharing of personal information. These types of laws and regulations could prohibit or significantly restrict our third-party data sources from sharing information, or could restrict our use of personal data when developing our proprietary credit risk models, or for fraud prevention purposes. These restrictions could also inhibit our development or marketing of certain products or services, or increase the costs of offering them to members or make the models less effective at predicting credit outcomes or preventing fraud.
We follow procedures to verify member’s identity and address which are designed to minimize fraud. These procedures may include visual inspection of applicant identification documents to ensure authenticity, review of paystubs or bank statements for proof of income and employment, and review of analysis of information from credit bureaus, fraud detection databases and other alternative data sources for verification of identity, employment, income and other debt obligations. If any of the information that is considered in the loan review process is inaccurate, whether intentional or not, and such inaccuracy is not detected prior to loan funding, the loan may have a greater risk of default than expected. If any of our procedures are not followed, or if these procedures fail, fraud may occur. Additionally, there is a risk that following the date of the loan application, a member may have defaulted on, or become delinquent in the payment of, a pre-existing debt obligation, taken on additional debt, lost his or her job or other sources of income or experienced other adverse financial events. Fraudulent activity or significant increases in fraudulent activity could also lead to regulatory intervention, negatively impact our results of operations, brand and reputation and require us to take additional steps to reduce fraud risk, which could increase our costs.
A deterioration in the financial condition of counterparties, including financial institutions, could expose us to credit losses, limit access to liquidity or disrupt our business operations.
We have entered into, and may in the future enter into, financing and derivative transactions with counterparties in the financial services industry, including brokers and dealers, commercial banks, investment banks, hedge funds, and other financial institutions. Furthermore, the operations of U.S. and global financial services institutions are interconnected, and a decline in the financial condition of one or more financial services institutions, or the perceived lack of creditworthiness of such financial institutions, may expose us to credit losses or defaults, limit access to liquidity or otherwise disrupt the operations of our business. As such, our financing and derivative transactions expose us to credit risk in the event of a default by the counterparty, which can be exacerbated during periods of market illiquidity.
Our vendor relationships subject us to a variety of risks, and the failure of third parties to comply with legal or regulatory requirements or to provide various services that are important to our operations could have an adverse effect on our business.
We have vendors that, among other things, provide us with key services, including financial, technology and other services to support our loan servicing and other activities. Our expansion into new channels, products or markets may introduce additional third-party service providers, strategic partners and other third parties on which we may become reliant. For example, in connection with the secured personal loan product, we work with third parties that provide information and/or services in connection with valuation, title management and title processing, repossessions, and remarketing. These types of third-party relationships are subject to increasingly demanding regulatory requirements and attention by our partner banks' federal bank regulators (the Federal Reserve Board, the OCC and the FDIC) and our consumer financial services regulators, including state regulators and the CFPB, which could increase the scope of management involvement and decreasing the benefit that we receive from using third-party vendors. We could be adversely impacted to the extent our vendors and partners fail to comply with the legal requirements applicable to the particular products or services being offered. Moreover, if our bank partners or their regulators conclude that we have not met the heightened standards for oversight of our third-party vendors, we could be subject to enforcement actions, civil monetary penalties, supervisory orders to cease and desist or other remedial actions.
In some cases, third-party vendors are the sole source, or one of a limited number of sources, of the services they provide to us. Most of our vendor agreements are terminable on little or no notice, and if our current vendors were to stop or were unable to continue providing services to us on acceptable terms, we may be unable to procure alternatives from other vendors in a timely and efficient manner on acceptable terms or at all. If any
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third-party vendor fails to provide the services we require, due to factors outside our control, we could be subject to regulatory enforcement actions, suffer economic and reputational harm and incur significant costs to resolve any such disruptions in service.
Our mission to provide inclusive, affordable financial services that empower our members to build a better future may conflict with the short-term interests of our stockholders.
Our mission is to provide inclusive, affordable financial services that empower our members to build a better future. Therefore, we have made and will continue to make decisions that we believe will benefit our members and therefore provide long-term benefits for our business, even if our decision negatively impacts our short-term results of operations. For example, we constrain the maximum interest rates we charge in order to further our goal of making our loans affordable for our target members. Our decisions may negatively impact our short-term financial results or not provide the long-term benefits that we expect and may adversely impact our business operations, results of operations, and financial condition.
If we cannot maintain our corporate culture as we grow, we could lose the innovation, collaboration and focus on the mission that contribute to our business.
We believe that a critical component of our success is our corporate culture and our deep commitment to our mission. We believe this mission-based culture fosters innovation, encourages teamwork and cultivates creativity. Our mission defines our business philosophy as well as the emphasis that we place on our members, our people and our culture and is consistently reinforced to and by our employees. As we continue to grow, including from the integration of employees and businesses acquired in connection with previous or future acquisitions, we may find it difficult to maintain these valuable aspects of our corporate culture and our long-term mission. We recently adopted a remote-first policy that permits most of our employees to work remotely should their roles allow. While we believe that most of our operations can be performed remotely, there is no guarantee that we will be as effective while working remotely because our team is dispersed and many employees may have additional personal needs to attend to or distractions in their remote work environment. Any failure to preserve our culture could negatively impact our future success, including our ability to attract and retain employees, encourage innovation and teamwork, and effectively focus on and pursue our mission and corporate objectives.
We are dependent on hiring an adequate number of hourly bilingual employees to run our business and are subject to government regulations concerning these and our other employees, including minimum wage laws.
Our workforce is comprised primarily of bilingual employees who work on an hourly basis. In certain areas where we operate, there is significant competition for hourly bilingual employees and the lack of availability of an adequate number of hourly bilingual employees could adversely affect our operations. In addition, we are subject to applicable rules and regulations relating to our relationship with our employees, including minimum wage and break requirements, health benefits, unemployment and sales taxes, overtime and working conditions and immigration status. We are from time to time subject to employment-related claims, including wage and hour claims. Further, legislated increases in minimum wage, as well as increases in additional labor cost components, such as employee benefit costs, workers’ compensation insurance rates, and compliance costs and fines, would increase our labor costs, which could have an adverse effect on our business.
Misconduct by our employees could harm us by subjecting us to monetary loss, significant legal liability, regulatory scrutiny and reputational harm.
Our reputation is critical to maintaining and developing relationships with our existing and potential members and third parties with whom we do business. There is a risk that our employees could be accused of or engage in misconduct that adversely affects our business, including fraud, redirection, misappropriation of member funds, improper execution of loan transactions, embezzlement and theft, disclosure of personal and business information and the failure to follow protocol when interacting with members that could lead us to suffer direct losses from the activity as well as serious reputational harm. Employee misconduct could also lead to regulatory sanctions and prompt regulators to allege or to determine based upon such misconduct that we have not established adequate supervisory systems and procedures to inform employees of applicable rules or to detect and deter violations of such rules. Misconduct by our employees, or even unsubstantiated allegations of misconduct, could harm our reputation and our business.
Our international operations and offshore service providers involve inherent risks which could result in harm to our business.*
As of March 31, 2022, we had 1,583 employees related to three contact centers in Mexico. These employees provide certain English/Spanish bilingual support related to member-facing contact center activities, administrative and technology support of the contact centers and back-office support services. We have also engaged outsourcing partners in the United States that provide offshore member-facing contact center activities in Colombia, Jamaica, and the Philippines, and may in the future include additional locations in other countries. In addition, our technology development center in India is staffed through outsourcing partners and our own employees. We have engaged vendors that utilize employees or contractors based outside of the United States. As of March 31, 2022, our outsourcing partners have provided us, on an exclusive basis, the equivalent of 763 full-time equivalents in Colombia, Jamaica, Philippines and India. These international activities are subject to inherent risks that are beyond our control, including:
•risks related to government regulation or required compliance with local laws;
•local licensing and reporting obligations;
•difficulties in developing, staffing and simultaneously managing a number of varying foreign operations as a result of distance, language and cultural differences;
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•different, uncertain, overlapping or more stringent local laws and regulations;
•political and economic instability, tensions, security risks and changes in international diplomatic and trade relations;
•state or federal regulations that restrict offshoring of business operational functions or require offshore partners to obtain additional licenses, registrations or permits to perform services on our behalf;
•geopolitical events, including natural disasters, public health issues, epidemics or pandemics, acts of war, and terrorism;
•the impact of, and response of local governments to, the COVID-19 pandemic;
•compliance with applicable U.S. laws and foreign laws related to consumer protection, intellectual property, privacy, data security, corruption, money laundering, and export/trade control;
•misconduct by our outsourcing partners and their employees or even unsubstantiated allegations of misconduct;
•risks due to lack of direct involvement in hiring and retaining personnel; and
•potentially adverse tax developments and consequences.
Violations of the complex foreign and U.S. laws, rules and regulations that apply to our international operations and offshore activities of our service providers may result in heightened regulatory scrutiny, fines, criminal actions or sanctions against us, our directors, our officers or our employees, as well as restrictions on the conduct of our business and reputational damage.
If we discover a material weakness in our internal control over financial reporting that we are unable to remedy or otherwise fail to maintain effective internal control over financial reporting or disclosure controls and procedures, our ability to report our financial results on a timely and accurate basis and the market price of our common stock may be adversely affected.
We have developed our disclosure controls, internal control over financial reporting and other procedures to ensure information required to be disclosed by us in the reports that we will file with the Securities and Exchange Commission ("SEC") is recorded, processed, summarized and reported within the time periods specified in SEC rules and forms, and information required to be disclosed in reports under the Exchange Act is accumulated and communicated to our principal executive and financial officers. To maintain and improve the effectiveness of our disclosure controls and procedures and internal control over financial reporting, we have expended and anticipate we will continue to expend significant resources, including accounting-related costs, and provide significant management oversight. Any failure to maintain the adequacy of our internal controls, or consequent inability to produce accurate financial statements on a timely basis, could increase our operating costs and could materially impair our ability to operate our business. Our current controls and any new controls that we develop may become inadequate because of changes in conditions in our business. If our internal controls are perceived as inadequate or we are unable to produce timely or accurate financial statements, investors may lose confidence in our operating results and our stock price could decline. In addition, if we are unable to continue to meet these requirements, we may not be able to remain listed on Nasdaq.
Section 404 of the Sarbanes-Oxley Act requires our management to certify financial and other information in our quarterly and annual reports and provide an annual management report on the effectiveness of our internal control over financial reporting. We are also required to have our independent registered public accounting firm attest to, and issue an opinion on, the effectiveness of our internal control over financial reporting. If we are unable to assert that our internal control over financial reporting is effective, or if, when required, our independent registered public accounting firm is unable to express an opinion on the effectiveness of our internal control over financial reporting, we could lose investor confidence in the accuracy and completeness of our financial reports, which could subject us to sanctions or investigations by the SEC or other regulatory authorities, adversely affect our ability to access the credit markets and sell additional equity and commit additional financial and management resources to remediate deficiencies.
Because we receive a significant amount of cash in our retail locations through member loan repayments, we may be subject to theft and cash shortages due to employee errors.
Since our business requires us to receive a significant amount of cash in each of our retail locations, we are subject to the risk of theft (including by or facilitated by employees) and cash shortages due to employee errors. Although we have implemented various procedures and programs to reduce these risks, maintain insurance coverage for theft and provide security measures for our facilities, we cannot make assurances that theft and employee error will not occur. We have experienced theft and attempted theft in the past.
Our business is subject to the risks of natural disasters, public health crises and other catastrophic events, and to interruption by man-made problems.
A significant natural disaster, such as an earthquake, fire, hurricanes, flood or other catastrophic event (many of which are becoming more acute and frequent as a result of climate change), or interruptions by strikes, crime, terrorism, social unrest, cyber-attacks, pandemics or other public health crises, power outages or other man-made problems, could have an adverse effect on our business, results of operations and financial condition. For example, a significant natural disaster in Northern California or any other location in which we have offices or facilities or employees working remotely, could adversely affect our business operations, financial condition and future prospects, and our insurance coverage may be insufficient to compensate us for losses that may occur.
Our IT systems are backed up regularly to highly available, alternate data centers in a different region, and we have conducted disaster recovery testing of our mission critical systems. Despite any precautions we may take, however, the occurrence of a natural disaster or other unanticipated
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problems at our data centers could result in lengthy interruptions in our services. In addition, acts of war, terrorism, and other geopolitical unrest could cause disruptions in our business and lead to interruptions, delays or loss of critical data.
In addition, a large number of members make payments and apply for loans at our retail locations. If one or more of our retail locations becomes unavailable for any reason or other public health crisis, localized weather events, or natural or man-made disasters, our ability to conduct business and collect payments from members on a timely basis may be adversely affected, which could result in lower loan originations, higher delinquencies and increased losses. For example, during parts of the COVID-19 pandemic, we temporarily closed a few of our retail locations due to public health orders or other concerns, which we believe resulted in lower Aggregate Originations. While all of our retail locations are currently open, it is possible that we will have to temporarily close retail locations as necessary due to public health orders or other concerns relating to COVID-19 or other highly contagious disease. The closure of retail locations could further adversely affect our loan originations, member experience, results of operations and financial condition.
The aforementioned risks may be further increased if our business continuity plans prove to be inadequate and there can be no assurance that both personnel and non-mission critical applications can be fully operational after a declared disaster within a defined recovery time. If our personnel, systems, or primary data center facilities are impacted, we may suffer interruptions and delays in our business operations. In addition, to the extent these events impact our members or their ability to timely repay their loans, our business could be negatively affected.
We may not maintain sufficient business interruption or property insurance to compensate us for potentially significant losses, including potential harm to our business that may result from interruptions in our ability to provide our financial products and services.
Unfavorable outcomes in legal proceedings may harm our business and results of operations.
We have been, and may in the future become, subject to litigation, claims, investigations, legal and administrative cases and proceedings, whether civil or criminal, or lawsuits by governmental agencies or private parties, which may affect our results of operations.
If the results of any pending or future legal proceedings are unfavorable to us or if we are unable to successfully defend against third-party lawsuits, we may be required to pay monetary damages or fulfill our indemnification obligations or we may be subject to fines, penalties, injunctions or other censure. Even if we adequately address the issues raised by an investigation or proceeding or successfully defend a third-party lawsuit or counterclaim, we may have to devote significant financial and management resources to address these issues.
The enactment of tax reform legislation could adversely impact our financial position and results of operations.
Legislation or other changes in U.S. and international tax laws could increase our liability and adversely affect our after-tax profitability. For example, the Biden administration has proposed to levy a financial statement minimum tax, increase the U.S. taxation of our international business operations and impose a global minimum tax. Such proposed changes, as well as regulations and legal decisions interpreting and applying these changes, may have significant impacts on our effective tax rate, cash tax expenses and net deferred taxes in the future.
Risks Related to Our Intellectual Property
It may be difficult and costly to protect our intellectual property rights, and we may not be able to ensure their protection.
Our ability to offer our products and services to our members depends, in part, upon our proprietary technology. We may be unable to protect our proprietary technology effectively which would adversely affect our ability to compete with them. We rely on a combination of copyright, trade secret, trademark laws and other rights, as well as confidentiality procedures and contractual provisions to protect our proprietary technology, processes and other intellectual property and do not have patent protection. However, the steps we take to protect our intellectual property rights may be inadequate. For example, a third party may attempt to reverse engineer or otherwise obtain and use our proprietary technology without our consent. The pursuit of a claim against a third party for infringement of our intellectual property could be costly, and there can be no guarantee that any such efforts would be successful. Our failure to secure, protect and enforce our intellectual property rights could adversely affect our brand and adversely impact our business.
We have been, and may in the future be, sued by third parties for alleged infringement of their proprietary rights.
Our proprietary technology, including our credit risk models and A.I. algorithms, may infringe upon claims of third-party intellectual property, and we may face intellectual property challenges from such other parties. The expansion of our suite of financial products and services may create additional trademark risk. We may not be successful in defending against any such challenges or in obtaining licenses to avoid or resolve any intellectual property disputes. If we are unsuccessful, such claim or litigation could result in a requirement that we pay significant damages or licensing fees, which would negatively impact our financial performance. We may also be obligated to indemnify parties or pay substantial legal settlement costs, including royalty payments, and to modify applications or refund fees. Even if we were to prevail in such a dispute, any litigation regarding our intellectual property could be costly and time consuming and divert the attention of our management and key personnel from our business operations.
Moreover, it has become common in recent years for individuals and groups to purchase intellectual property assets for the sole purpose of making claims of infringement and attempting to extract settlements from companies such as ours. Even in instances where we believe that claims and allegations of intellectual property infringement against us are without merit, defending against such claims is time consuming and expensive and
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could result in the diversion of time and attention of our management and employees. In addition, although in some cases a third party may have agreed to indemnify us for such costs, such indemnifying party may refuse or be unable to uphold its contractual obligations. In other cases, our insurance may not cover potential claims of this type adequately or at all, and we may be required to pay monetary damages, which may be significant.
Our credit risk models, A.I. capabilities, and internal systems rely on software that is highly technical, and if it contains undetected errors, our business could be adversely affected.
Our credit risk models, A.I. capabilities, and internal systems rely on internally developed software that is highly technical and complex. In addition, our models, A.I. capabilities, and internal systems depend on the ability of such software to store, retrieve, process and manage immense amounts of data. The software on which we rely has contained, and may now or in the future contain, undetected errors, bugs or other defects. Some errors may only be discovered after the code has been released for external or internal use. Errors, bugs or other defects within the software on which we rely may result in a negative experience for our members, result in errors or compromise our ability to protect member data or our intellectual property. Specifically, any defect in our credit risk models could result in the approval of unacceptably risky loans. Such defects could also result in harm to our reputation, loss of members, loss of revenue, adjustments to the fair value of our loans receivable held for investment or our asset-backed notes, challenges in raising debt or equity, or liability for damages, any of which could adversely affect our business and results of operations.
Some aspects of our business processes include open source software, and any failure to comply with the terms of one or more of these open source licenses could negatively affect our business.
We incorporate open source software into processes supporting our business. Such open source software may include software covered by licenses like the GNU General Public License and the Apache License. The terms of various open source licenses have not been interpreted by U.S. courts, and there is a risk that such licenses could be construed in a manner that limits our use of the software, inhibits certain aspects of our systems and negatively affects our business operations.
Some open source licenses contain requirements that we make source code available at no cost for modifications or derivative works we create based upon the type of open source software we use. We may face claims from third parties claiming ownership of, or demanding the release or license of, such modifications or derivative works (which could include our proprietary source code or credit risk models) or otherwise seeking to enforce the terms of the applicable open source license. If portions of our proprietary credit risk models are determined to be subject to an open source license, or if the license terms for the open source software that we incorporate change, we could be required to publicly release the affected portions of our source code, re-engineer all or a portion of our model or change our business activities, any of which could negatively affect our business operations and our intellectual property rights.
In addition to risks related to license requirements, the use of open source software can lead to greater risks than the use of third-party commercial software, as open source licensors generally do not provide warranties or controls on the origin of the software. Use of open source software may also present additional security risks because the public availability of such software may make it easier for hackers and other third parties to determine how to breach our website and systems that rely on open source software.
Risks Related to Our Industry and Regulation
The financial services industry is highly regulated. Changes in regulations or in the way regulations are applied to our business could adversely affect our business.
We are subject to various federal, state and local regulatory regimes related to the financial services that we provide. The principal policy objectives of these regulatory regimes are to provide meaningful disclosures to consumers, to protect against unfair and deceptive practices and to prevent discrimination. Laws and regulations, among other things, impose licensing and qualifications requirements; require various disclosures and consents; mandate or prohibit certain terms and conditions for various financial products; prohibit discrimination based on certain prohibited bases; prohibit unfair, deceptive or abusive acts or practices; require us to submit to examinations by federal, state and local regulatory regimes; and require us to maintain various policies, procedures and internal controls.
Federal and state agencies have broad enforcement powers over us, including powers to periodically examine and continuously monitor our operations and to investigate our business practices and broad discretion to deem particular practices unfair, deceptive, abusive or otherwise not in accordance with the law. State attorneys general have a variety of legal mechanisms at their disposal to enforce state and federal consumer financial laws. For example, Section 1042 of the Dodd-Frank Wall Street Reform and Consumer Protection Act (the "Dodd-Frank Act") grants state attorneys general the ability to enforce the Dodd-Frank Act and regulations promulgated under the Dodd-Frank Act’s authority and to secure remedies provided in the Dodd-Frank Act against entities within their jurisdiction. State attorneys general also have a variety of legal mechanisms at their disposal to enforce state and federal consumer financial laws have enforcement authority under state law with respect to unfair or deceptive practices. Generally, under these statutes, state attorneys general may conduct investigations, bring actions, and recover civil penalties or obtain injunctive relief against entities engaging in unfair, deceptive, or fraudulent acts. Attorneys general may also coordinate among themselves to enter into multi-state actions or settlements. Finally, several consumer financial laws like the Truth in Lending Act and Fair Credit Reporting Act grant enforcement or litigation authority to state attorneys general.
Changes in laws or regulations, or the regulatory application or interpretation of the laws and regulations applicable to us, could adversely affect our ability to operate in the manner in which we currently conduct business and operate in certain states, and may also make it more difficult or costly
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for us to originate additional loans, or for us to collect payments on our loans to members or otherwise operate our business by subjecting us, our service providers, or strategic partners, to additional licensing, registration and other regulatory requirements in the future.
Failure to comply with applicable laws and regulations could result in additional compliance requirements, limitations on our ability to collect or retain all or part of the principal of or interest on loans, fines or penalties, an inability to continue operations, modification in business practices, regulatory actions, loss of required licenses or registrations, potential impairment, voiding, or voidability of loans, rescission of contracts, civil and criminal liability and damage to our reputation. It could also result in a default or early amortization event under certain of our debt facilities and reduce or terminate availability of debt financing to us to fund originations. To the extent it is determined that any loan we make was not originated in accordance with all applicable laws as we are required to represent under our securitization and other debt facilities and in loan sales to investors, we could be obligated to repurchase for cash, or swap for qualifying assets, any such loan determined not to have been originated in compliance with legal requirements. We may not have adequate liquidity and resources to make such cash repurchases or swap for qualifying assets.
Litigation, regulatory actions and compliance issues could subject us to significant fines, penalties, judgments, remediation costs and/or requirements resulting in increased expenses.
In the ordinary course of business, we have been named as a defendant in various legal actions, including class actions and other litigation. Generally, this litigation arises from the claims of violation of do-not-call, credit reporting and collection laws, bankruptcy and unfair practices. The complexity of the laws related to secured personal loans regarding vehicle titling, lien placement and repossession may enhance the risk of consumer litigation. Further, the origination of loans through bank partnerships may increase the risk of litigation or regulatory scrutiny including based on the "true lender" theory that seeks to recharacterize a lending transaction. State legislation requiring licensure and state restrictions including fee and rate limits on bank partner loans may also reduce profitability and/or increase regulatory and litigation risk. Additionally, platforms offering banking services and products through partners have also been challenged by federal and state regulators on a variety of claims. All such legal and regulatory actions are inherently unpredictable and, regardless of the merits of the claims, legal and regulatory actions are often expensive, time-consuming, disruptive to our operations and resources, and distracting to management. In addition, certain of those actions include claims for indeterminate amounts of damages. Our involvement in any such matter also could cause significant harm to our reputation and divert management attention from the operation of our business, even if the matters are ultimately determined in our favor. If resolved against us, legal actions could result in excessive verdicts and judgments, injunctive relief, equitable relief, and other adverse consequences that may affect our financial condition and how we operate our business. We have in the past chosen to settle (and may in the future choose to settle) certain matters in order to avoid the time and expense of litigating them. Although none of the settlements has been material to our business, there is no assurance that, in the future, such settlements will not have a material adverse effect on our business.
In addition, a number of participants in the consumer financial services industry have been the subject of putative class action lawsuits, state attorney general actions and other state regulatory actions, federal regulatory enforcement actions, including actions relating to alleged unfair, deceptive or abusive acts or practices, violations of state licensing and lending laws, including state usury laws, actions alleging violations of the Americans with Disabilities Act, discrimination on the basis of race, ethnicity, gender or other prohibited bases, and allegations of noncompliance with various state and federal laws and regulations relating to originating and servicing consumer finance loans and other consumer financial services and products. The current regulatory environment, increased regulatory compliance efforts, and enhanced regulatory enforcement have resulted in significant operational and compliance costs and may prevent us from providing certain products and services. There is no assurance that these regulatory matters or other factors will not, in the future, affect how we conduct our business or adversely affect our business. In particular, legal proceedings brought under state consumer protection statutes or under several of the various federal consumer financial services statutes subject to the jurisdiction of the CFPB may result in a separate fine for each violation of the statute, which, particularly in the case of class action lawsuits, could result in damages substantially in excess of the amounts we earned from the underlying activities.
Some of our consumer financing agreements include arbitration clauses. If our arbitration agreements were to become unenforceable for any reason, we could experience an increase to our consumer litigation costs and exposure to potentially damaging class action lawsuits.
In addition, from time to time, through our operational and compliance controls, we identify compliance issues that require us to make operational changes and, depending on the nature of the issue, result in financial remediation to impacted members. These self-identified issues and voluntary remediation payments could be significant, depending on the issue and the number of members impacted, and could generate litigation or regulatory investigations that subject us to additional risk.
Internet-based and electronic signature-based loan origination processes may give rise to greater risks than paper-based processes.
We use the internet and internet-enabled mobile phones to obtain application information, distribute certain legally required notices to applicants for, and borrowers of, the loans, and to obtain electronically signed loan documents in lieu of paper documents with tangible borrower signatures. In addition, we have introduced the use of electronic signature-based loan origination processes with a tablet in our retail locations. These processes may entail greater risks than would paper-based loan origination processes, including risks regarding the sufficiency of notice for compliance with consumer protection laws, risks that borrowers may challenge the authenticity of their signature or of the loan documents, risks that a court of law may not enforce electronically signed loan documents and risks that, despite controls, unauthorized changes are made to the electronic loan documents. If any of those factors were to cause any loans, or any of the terms of the loans, to be unenforceable against the borrowers, our ability to service these loans could be adversely affected.
The CFPB has broad authority to regulate consumer financial services, creating uncertainty as to how the agency’s actions or the actions of any other new agency could impact our business.*
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The CFPB has broad authority to create and modify regulations under federal consumer financial protection laws and regulations, such as the Truth in Lending Act and Regulation Z, the Equal Credit Opportunity Act and Regulation B, the Fair Credit Reporting Act, the Electronic Funds Transfer Act and Regulation E, and to enforce compliance with those laws. The CFPB is charged with the examination and supervision of certain participants in the consumer financial services market, including short-term, small dollar lenders, and larger participants in other areas of financial services. In recent publications, the CFPB has indicated that the agency is significantly increasing its oversight and scrutiny over consumer finance and on April 25, 2022, the CFPB announced that it was invoking a previously unused legal provision to examine nonbank financial companies that pose risk to consumers, subject to a 30-day comment period. While historically, we have not been subject to CFPB examination and supervisory authority, it is possible that we may become subject to additional regulatory scrutiny and compliance costs going forward.
In addition, the CFPB maintains an online complaint system that allows consumers to log complaints with respect to various consumer finance products, including the credit products we offer. The CFPB also may issue requests for public input in certain areas of concern that may lead to increased regulatory scrutiny on us, our products and consumer finance industry. For example, in March 2022, it requested public input on fees for financial products and has indicated that it plans to ramp up enforcement actions against lenders that illegally charge credit card late-payment fees and may rewrite its rules that set thresholds for such fees. This system could inform future CFPB decisions with respect to its regulatory, enforcement or examination focus. The CFPB may also request reports concerning our organization, business conduct, markets and activities and conduct on-site examinations of our business on a periodic basis if the CFPB were to determine that we were engaging in activities that pose risks to consumers.
On March 3, 2021, we received a Civil Investigative Demand (CID) from the CFPB. The stated purpose of the CID is to determine whether small-dollar lenders or associated persons, in connection with lending and debt-collection practices, have failed to comply with certain federal consumer protection laws over which the CFPB has jurisdiction. We have received additional information requests related to the CID. The information requests are focused on our legal collection practices from 2019 to 2021 and hardship treatments offered to members during the COVID-19 pandemic.
Digit received a CID from the CFPB in June 2020. The CID was disclosed and discussed during the acquisition process. The stated purpose of the CID is to determine whether Digit, in connection with offering its products or services, misrepresented the terms, conditions, or costs of the products or services in a manner that is unfair, deceptive, or abusive.
We are cooperating fully with the CFPB with respect to both of these matters and, although we believe that ours and Digit’s business practices have been in full compliance with applicable laws, because the CFPB has broad authority to determine what it views as potential unfair, deceptive or abusive acts or practices, at this time, we are unable to predict the outcomes of these CFPB investigations.
Other federal or state regulators could launch similar investigations or join the CFPB in its investigations. In addition, actions by the CFPB could result in requirements to alter or cease offering affected financial products and services, making them less attractive and restricting our ability to offer them. The CFPB could also implement rules that restrict our effectiveness in servicing our financial products and services. Future actions by the CFPB (or other regulators) against us or our competitors that discourage the use of our or their services or restrict our business activities could result in reputational harm and adversely affect our business. If the CFPB changes regulations that were adopted in the past by other regulators and transferred to the CFPB by the Dodd-Frank Act, or modifies through supervision or enforcement past regulatory guidance or interprets existing regulations in a different or stricter manner than they have been interpreted in the past by us, the industry or other regulators, our compliance costs and litigation exposure could increase materially. If future regulatory or legislative restrictions or prohibitions are imposed that affect our ability to offer certain of our products or that require us to make significant changes to our business practices, and if we are unable to develop compliant alternatives with acceptable returns, our business could be adversely affected.
The collection, storage, use, disclosure, and other processing of personal information could give rise to liabilities as a result of existing or new governmental regulation, conflicting legal requirements or differing views of personal privacy rights.*
We receive, transmit, store, and otherwise process a large volume of personally identifiable information and other sensitive data from members and potential members, and otherwise collect, store, use, disclose, and process other personal information, including that relating to employees. There are federal, state and foreign laws regarding privacy and the storing, sharing, use, disclosure and protection of personally identifiable information and sensitive data.
Cybersecurity and data privacy issues, particularly with respect to personally identifiable information are increasingly subject to legislation and regulations to protect the privacy and security of personal information that is collected, transmitted, stored or otherwise processed. In November 2021, federal banking regulators, including the Office of Comptroller of the Currency, Federal Reserve Board and the Federal Deposit Insurance Corporation, jointly announced a final rule that will require banking organizations to give notice to the regulators within 36 hours of a cyber incident. The rule extends to a bank’s service providers, requiring us to notify our bank partners in the event of such an incident. The California Consumer Privacy Act (the "CCPA"), went into effect in January 2020, and the California Privacy Rights Act of 2020 (the "CPRA"), which replaces the CCPA and goes into effect in January 2023 but has a one-year look back period, place additional requirements on the handling of personal data for us and our third-party providers. The CCPA and CPRA also provide for civil penalties for violations, as well as a private right of action for data breaches, which may increase the likelihood and cost of data breach litigation. The potential effects of this legislation, including any regulations implemented by the legislation, are far-reaching, uncertain, and evolving, and may require us to modify our data processing practices and policies, restrict our products and services or certain features, and incur substantial costs and expenses in an effort to comply. Other state, federal, and foreign legislative and regulatory bodies have also implemented or may implement similar legislation regarding the handling of personal data. For example, the Commonwealth of Virginia enacted the Consumer Data Protection Act and the State of Colorado enacted the Colorado Privacy Act, both of which take effect January 1, 2023 and may impose obligations similar to or more stringent than those we may face under other data protection laws. Our failure, or the failure by our third-party providers or others with whom we do business, to comply with applicable laws or regulations or any other
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obligations relating to privacy, data protection or information security, or the perception that any of the foregoing has occurred, could damage our reputation and market reputation, harm our ability to obtain market adoption, discourage new and existing members and prospective members from using our products and services, require us to change our business practices or operational structure or result in fines, investigations, or proceedings by governmental agencies and private claims and litigation, any of which could adversely affect our business, financial condition and results of operations.
In addition, an increase in third-party arrangements, including, for example, with lead aggregators, bank partners, Lending as a Service partners and affiliate relationships including our acquisition of Digit could lead to increased complexity around our compliance obligations with respect to privacy, data protection and information security laws or regulations. We could also be adversely affected if new legislation or regulations are adopted or if existing legislation or regulations are modified such that we are required to alter our systems, products or services or require changes to our business practices or policies relating to privacy, data protection, or information security. Even if not subject to legal challenge, the perception of concerns relating to privacy, data protection and information security, whether or not valid, may harm our reputation and brand and adversely affect our business, financial condition, and results of operations. For example, on April 21, 2021, the United States Court of Appeals for the Eleventh Circuit issued an opinion in Hunstein v. Preferred Collection and Management Services, Inc., holding that a debt collector’s transmittal of the plaintiff’s personal information to the vendor used to generate and send collection letters violated the FDCPA provision which generally prohibits a debt collector from communicating with anyone other than the debtor in connection with the collection of any debt without the debtor’s consent. The Hunstein case resulted in a significant amount of litigation against debt collectors and creditors collecting their own debt. A bench hearing was held in February 2022 and the Eleventh Circuit court has not yet issued a decision. Depending on the outcome of the hearing, we could determine that changes to our business practices, policies, and procedures are necessary, including the arrangements we have in place with certain of our third-party vendors that require us to share consumer information. These changes could adversely affect our ability to collect and as a result, our results of operations and financial condition could be negatively impacted.
Our business is subject to the regulatory framework applicable to registered investment advisers, including regulation by the SEC.
We offer investment management services through Digit Advisors, LLC which provides automated investment advice regarding the selection of a portfolio of exchange traded funds through the Digit app. Digit Advisors is registered as an investment adviser under the Investment Advisers Act of 1940, as amended (the "Advisers Act"), and is subject to regulation by the SEC.
Investment advisers are subject to the anti-fraud provisions of the Advisers Act and to fiduciary duties derived from these provisions, which apply to our relationships with our members who are advisory clients, as well as the funds we manage. These provisions and duties impose restrictions and obligations on us with respect to our dealings with our members, including for example restrictions on transactions with our affiliates. Our investment adviser has in the past and will in the future be subject to periodic SEC examinations. Our investment adviser is also subject to other requirements under the Advisers Act and related regulations primarily intended to benefit advisory clients. These additional requirements relate to matters including maintaining effective and comprehensive compliance programs, record-keeping and reporting and disclosure requirements. The Advisers Act generally grants the SEC broad administrative powers, including the power to limit or restrict an investment adviser from conducting advisory activities in the event such investment adviser fails to comply with federal securities laws. Additional sanctions that may be imposed for failure to comply with applicable requirements include the prohibition of individuals from associating with an investment adviser, the revocation of registrations and other censures and fines. Even if an investigation or proceeding did not result in a sanction or the sanction imposed against us or our personnel by a regulator were small in monetary amount, the adverse publicity relating to the investigation, proceeding or imposition of these sanctions could harm our reputation and cause us to lose existing members or fail to gain new members.
Our bank partnership products may lead to regulatory risk and may increase our regulatory burden.
We provide our credit card products through a bank partnership program with WebBank and we have bank partnership programs with Metabank, N.A., to offer unsecured installment loans and provide deposit accounts, debit card services and other transaction services to our members. State and federal agencies have broad discretion in their interpretation of laws and their interpretation of requirements related to bank partnership programs and may elect to alter standards or the interpretation of the standards applicable to these programs. In addition, as a result of our bank partnerships, prudential bank regulators with supervisory authority over our partners have the ability to regulate aspects of our business. There has also been significant recent government enforcement action and litigation challenging the validity of such arrangements for lending products, including disputes seeking to recharacterize lending transactions on the basis that the non-bank party rather than the bank is the “true lender” or “de facto lender”, and in case law upholding the “valid when made” doctrine, which holds that federal preemption of state interest rate limitations are not applicable in the context of certain bank-non-bank partnership arrangements.
The uncertainty of the federal and state regulatory environments around bank partnership programs means that our efforts to launch products and services through bank partners may not ultimately be successful, or may be challenged by legislation or regulatory action. If the legal structure underlying our relationship with our bank partners were to be successfully challenged, we may be found to be in violation of state licensing requirements and state laws regulating interest rates. In the event of such a challenge or if our arrangements with our bank partners were to change or end for any reason, we would need to rely on an alternative bank relationship, find an alternative bank relationship, rely on existing state licenses, obtain new state licenses, pursue a national bank charter, and/or be subject to the interest rate limitations of certain states. In addition, adverse orders or regulatory enforcement actions against our bank partners, even if unrelated to our business, could impose restrictions on their ability to continue to extend credit or on current terms. Regulation by federal and state regulators may also subject us to increased compliance, legal and operational costs, and could subject our business model to scrutiny and otherwise increase our regulatory burden, or may limit our ability to expand the scope of our activities in a manner that could have a material adverse effect on us.
Anti-money laundering, anti-terrorism financing and economic sanctions laws could have adverse consequences for us.
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We maintain a compliance program designed to enable us to comply with all applicable anti-money laundering and anti-terrorism financing laws and regulations, including the Bank Secrecy Act and the USA PATRIOT Act and U.S. economic sanctions laws administered by the Office of Foreign Assets Control. This program includes policies, procedures, processes and other internal controls designed to identify, monitor, manage and mitigate the risk of money laundering and terrorist financing and engaging in transactions involving sanctioned countries persons and entities. These controls include procedures and processes to detect and report suspicious transactions, perform member due diligence, respond to requests from law enforcement, and meet all recordkeeping and reporting requirements related to particular transactions involving currency or monetary instruments. No assurance is given that our programs and controls will be effective to ensure compliance with all applicable anti-money laundering and anti-terrorism financing laws and regulations, and our failure to comply with these laws and regulations could subject us to significant sanctions, fines, penalties and reputational harm.
We may have to constrain our business activities to avoid being deemed an investment company under the Investment Company Act.
The Investment Company Act of 1940, as amended (the "Investment Company Act") contains substantive legal requirements that regulate the way “investment companies” are permitted to conduct their business activities. We believe we have conducted, and we intend to continue to conduct, our business in a manner that does not result in our company being characterized as an investment company, including by relying on certain exemptions from registration as an investment company. We rely on guidance published by the SEC staff or on our analyses of such guidance to determine our qualification under these and other exemptions. To the extent that the SEC staff publishes new or different guidance with respect to these matters, we may be required to adjust our business operations accordingly. If we are deemed to be an investment company, we may attempt to seek exemptive relief from the SEC, which could impose significant costs and delays on our business. We may not receive such relief on a timely basis, if at all, and such relief may require us to modify or curtail our operations. If we are deemed to be an investment company, we may also be required to institute burdensome compliance requirements and our activities may be restricted.
We are subject to governmental export and import controls that could subject us to liability, impair our ability to compete in international markets and adversely affect our business.
Although our business does not involve the commercial sale or distribution of hardware, software or technology, in the normal course of our business activities we may from time to time ship general commercial equipment outside the United States to our subsidiaries or affiliates for their internal use. In addition, we may export, transfer or provide access to software and technology to non-U.S. persons such as employees and contractors, as well as third-party vendors and consultants engaged to support our business activities. In all cases, the sharing of software and/or technology is solely for the internal use of the company or for the use by business partners to provide services to us, including software development. However, such shipments and transfers may be subject to U.S. and foreign regulations governing the export and import of goods, software and technology. If we fail to comply with these laws and regulations, we and certain of our employees could be subject to significant sanctions, fines, penalties and reputational harm. Further, any change in applicable export, import or economic sanctions regulations or related legislation, shift in approach to the enforcement or scope of existing regulations or change in the countries, persons or technologies targeted by these regulations could adversely affect our business.
Risks Related to Our Indebtedness
We have incurred substantial debt and may issue debt securities or otherwise incur substantial debt in the future, which may adversely affect our financial condition and negatively impact our operations.
We have in the past incurred, and expect to continue to incur, substantial debt to fund our loan activities. We depend on securitization transactions, warehouse facilities, whole loan and structured loan sales and other forms of debt financing in order to finance the growth of our business and the origination of most of the loans we make to our members. The incurrence of debt could have a variety of negative effects, including:
•default and foreclosure on our and our subsidiaries’ assets if asset performance and our operating revenue are insufficient to repay debt obligations;
•mandatory repurchase obligations for any loans conveyed or sold into a debt financing or under a whole loan purchase facility if the representations and warranties we made with respect to those loans were not correct when made;
•acceleration of obligations to repay the indebtedness (or other outstanding indebtedness to the extent of cross default triggers), even if we make all principal and interest payments when due, if we breach any covenants that require the maintenance of certain financial ratios with respect to us or the loan portfolio securing our indebtedness or the maintenance of certain reserves or tangible net worth and do not obtain a waiver for such breach or renegotiate our covenant;
•our inability to obtain necessary additional financing if the debt security contains covenants restricting our ability to obtain such financing while the debt security is outstanding;
•our inability to obtain necessary additional financing if changes in the characteristics of our loans or our collection and other loan servicing activities change and cease to meet conditions precedent for continued or additional availability under our debt financings;
•diverting a substantial portion of cash flow to pay principal and interest on such debt, which would reduce the funds available for expenses, capital expenditures, acquisitions, and other general corporate purposes;
•creating limitations on our flexibility in planning for and reacting to changes in our business and in the industry in which we operate;
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•defaults based on loan portfolio performance or default in our collection and loan servicing obligations could result in our being replaced by a third-party or back-up servicer and notification to our members to redirect payments;
•downgrades or revisions of agency ratings for our debt financing; and
•monitoring, administration and reporting costs and expenses, including legal, accounting and other monitoring reporting costs and expenses, required under our debt financings.
In addition, some of our credit facilities currently utilize a floating rate of interest linked to LIBOR. In July 2017, the U.K. announced the discontinuation of LIBOR which could result in interest rate increases under our credit facilities and could adversely affect our results of operations.
A breach of early payment triggers or covenants or other terms of our agreements with lenders could result in an early amortization, default, and/or acceleration of the related funding facilities.*
The primary funding sources available to support the maintenance and growth of our business include, among others, asset-backed securitization, revolving debt facilities (including the Secured Financing facilities) and whole loan sale facilities. If we are unable to comply with various conditions precedent to availability under these facilities (including the eligibility of our loans), covenants and other specified requirements set forth in our agreements with our lenders, this could result in the early amortization, default and/or acceleration of our existing facilities. Such covenants and requirements include financial covenants, portfolio performance covenants and other events. For example, our securitizations contain collateral performance threshold triggers related to the three-month average annualized gross charge-off or net charge-off rate which, if exceeded, would lead to early amortization. To support our collateral requirements under our financing agreements, we use a random selection process to take loans off our warehouse line to pledge to our securitizations. An inability to originate enough loans to meet the collateral requirements in our financing arrangements, could result in the early amortization, default and/or acceleration of our existing facilities. Moreover, we currently act as servicer with respect to the unsecured consumer loans held by our subsidiaries. If we default in our servicing obligations or fail to meet certain financial covenants, an early amortization event or event of default could occur, and/or we could be replaced by our back-up servicer or another successor servicer. If we are replaced as servicer to these loans, there is no guarantee that the back-up services will be adequate. Any disruptions in services may cause the inability to collect and process repayments. For more information on covenants, requirements and events, see Note 9, Borrowings of the Notes to the Condensed Consolidated Financial Statements (Unaudited) included elsewhere in this report.
During an early amortization period or if an event of default exists, principal and interest collections from the loans in our asset-backed facilities would be applied to repay principal under such facilities and principal collections would no longer be available on a revolving basis to fund purchases of newly originated loans. If an event of default exists under our revolving debt or loan sale facilities, the applicable lenders or purchasers’ commitments to extend further credit or purchase additional loans under the related facility would terminate. If collections were insufficient to repay the amounts due under our securitizations and our revolving debt facilities, the applicable lenders, trustees and noteholders could seek remedies, including against the collateral pledged under such facilities. Any of these events would negatively impact our liquidity, including our ability to originate new loans, and require us to rely on alternative funding sources. If we were unable to arrange new or alternative methods of financing on favorable terms, we might have to curtail the origination of loans, and we may be replaced by our back-up servicer or another successor servicer.
Our securitizations and loan sales may expose us to certain risks, and we can provide no assurance that we will be able to conduct such transactions in the future, which may require us to seek more costly financing.
We have securitized, and may in the future securitize, certain of our loans to generate cash to originate new loans or pay our outstanding indebtedness. In each such transaction and in connection with our warehouse facilities, we sell and convey a pool of loans to a special purpose entity ("SPE"). Concurrently, each SPE issues notes or certificates pursuant to the terms of an indenture. The securities issued by the SPE are secured by the pool of loans owned by the SPE. In exchange for the sale of a portion of the pool of loans to the SPE, we receive cash, which are the proceeds from the sale of the securities. We also contribute a portion of the pool of loans in consideration for the equity interests in the SPE. Subject to certain conditions in the indenture governing the notes issued by the SPE (or the agreement governing the SPE’s revolving loan), the SPE is permitted to purchase additional loans from us or distribute to us residual amounts received by it from the loan pool, which residual amounts are the cash amounts remaining after all amounts payable to service providers and the noteholders have been satisfied. We also have the ability to swap pools of loans with the SPE. Our equity interest in the SPE is a residual interest in that it entitles us as the equity owner of the SPE to residual cash flows, if any, from the loans and to any assets remaining in the SPE once the notes are satisfied and paid in full (or in the case of a revolving loan, paid in full and all commitments terminated). As a result of challenging credit and liquidity conditions, the value of the subordinated securities we retain in our securitizations might be reduced or, in some cases, eliminated.
The securitization market is subject to changing market conditions, and we may not be able to access this market when we would otherwise deem appropriate. Further, other matters, such as (i) accounting standards applicable to securitization transactions and (ii) capital and leverage requirements applicable to banks and other regulated financial institutions holding asset-backed securities, could result in decreased investor demand for securities issued through our securitization transactions, or increased competition from other institutions that undertake securitization transactions. In addition, compliance with certain regulatory requirements may affect the type of securitizations that we are able to complete.
Asset-backed securities and the securitization markets were heavily affected by the Dodd-Frank Act and have also been a focus of increased regulation by the SEC. For example, the Dodd-Frank Act mandates the implementation of rules requiring securitizers or originators to retain an economic interest in a portion of the credit risk for any asset that they securitize or originate. Furthermore, sponsors are prohibited from diluting the required risk retention by dividing the economic interest among multiple parties or hedging or transferring the credit risk the sponsor is required to maintain. Rules relating to securitizations rated by nationally-recognized statistical rating agencies require that the findings of any third-party due diligence service providers be made publicly available at least five business days prior to the first sale of securities, which has led and will continue
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to lead us to incur additional costs in connection with each securitization. In addition, some of the regulations to be implemented under the Dodd-Frank Act relating to securitization have not yet been finalized. Any new rules or changes to the Dodd-Frank Act (or the current rules thereunder) could adversely affect our ability and our cost to access the asset-backed securities market.
If it is not possible or economical for us to securitize our loans in the future, we would need to seek alternative financing to support our operations and to meet our existing debt obligations, which may not be available on commercially reasonable terms, or at all. If the cost of such alternative financing were to be higher than our securitizations, we would likely reduce the fair value of our loans receivable held for investment, which would negatively impact our results of operations.
The gain on sale generated by our whole loan sales or structured loan sales and servicing fees earned on sold loans represents a significant source of our earnings. Demand for our loans at the current premiums may be impacted by factors outside our control, including availability of loan pools, demand by investors for loan assets and attractiveness of returns offered by competing investment alternatives offered by other loan originators with more attractive characteristics than our loan pools and loan purchaser interest. In March 2022, we participated in a securitization through which we issued amortizing asset-backed notes secured by a pool of its unsecured and secured personal installment loans and may do additional structured loan sales in the future. See Note 5 ,Loans Held for Sale and Loans Sold of the Notes to the Condensed Consolidated Financial Statements (Unaudited) included elsewhere in this report. If we are unable to sell additional loans or obtain other financing, our revenue and liquidity may be negatively impacted and we may not be able to grow our business as planned and we may have to further curtail our originations.
Our results of operations are affected by our ability to sell our loans for a premium over their net book value. Potential loan purchasers might reduce the premiums they are willing to pay, or even require a discount to principal balance, for the loans that they purchase during periods of economic slowdown or recession to compensate for any increased risks. A reduction in the sale price of the loans we sell under any future whole loan sale program would likely result in a reduction in the fair value of our Loans Receivable at Fair Value, which would negatively impact our results of operations. Any sustained decline in demand for our loans or increase in delinquencies, defaults or foreclosures may reduce the price we receive on future loan sales below our loan origination cost.
General Risk Factors
You may be diluted by the future issuance of additional common stock in connection with our equity incentive plans, acquisitions or otherwise.
Our amended and restated certificate of incorporation authorizes us to issue shares of common stock authorized but unissued and rights relating to common stock for the consideration and on the terms and conditions established by our Board in its sole discretion, whether in connection with acquisitions or otherwise. We have authorized 9,531,534 shares for issuance under our 2019 Equity Incentive Plan, 1,593,052 shares for issuance under our 2019 Employee Stock Purchase Plan, and 655,000 shares for issuance under our 2021 Inducement Equity Incentive Plan, each subject to adjustment in certain events. Any common stock that we issue, including under our 2019 Equity Incentive Plan, our 2019 Employee Stock Purchase Plan or other equity incentive plans that we may adopt in the future, could dilute your percentage ownership.
The price of our common stock may be volatile, and you could lose all or part of your investment.
The trading price of our common stock has been and may continue to be volatile and will depend on a number of factors, including those described in this “Risk Factors” section, many of which are beyond our control and may not be related to our operating performance. These fluctuations could cause you to lose all or part of your investment in our common stock, because you might be unable to sell your shares at or above the price you paid. Factors that could cause fluctuations in the trading price of our common stock include the following:
•failure to meet quarterly or annual guidance with regard to revenue, margins, earnings or other key financial or operational metrics;
•fluctuations in the trading volume of our share or the size of our public float;
•price and volume fluctuations in the overall stock market from time to time;
•changes in operating performance and market valuations of similar companies;
•failure of financial analysts to maintain coverage of us, changes in financial estimates by any analysts who follow our company, or our failure to meet these estimates or the expectations of investors;
•speculation in the press or investment community
•any major change in our management;
•sales of shares of our common stock by us or our stockholders;
•actual or anticipated fluctuations in our results of operations;
•actual or perceived data security breaches or incidents impacting us or our third-party service providers;
•changes in prevailing interest rates;
•quarterly fluctuations in demand for our loans;
•actual or anticipated developments in our business or our competitors’ businesses or the competitive landscape generally;
•developments or disputes concerning our intellectual property or other proprietary rights;
•litigation, government investigations and regulatory actions;
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•passage of legislation or other regulatory developments that adversely affect us or our industry; and
•other general market, political and economic conditions.
If financial or industry analysts do not publish research or reports about our business, or if they issue an adverse or misleading opinion regarding our stock, our stock price and trading volume could decline.
The trading market for our common stock is influenced by the research and reports that industry or financial analysts publish about us or our business. We do not control these analysts or the content and opinions included in their reports. If any of the analysts who cover us issue an adverse or misleading opinion regarding our stock price, our stock price would likely decline. If one or more of these analysts cease coverage of our company or fail to publish reports on us regularly, we could lose visibility in the financial markets, which in turn could cause our stock price or trading volume to decline.
Our directors, officers, and principal stockholders have substantial control over our company, which could limit your ability to influence the outcome of key transactions, including a change of control.
Our directors, executive officers, and each of our 5% stockholders and their affiliates, in the aggregate, beneficially own a significant number of the outstanding shares of our common stock. As a result, these stockholders, if acting together, will be able to influence or control matters requiring approval by our stockholders, including the election of directors and the approval of mergers, acquisitions or other extraordinary transactions. They may also have interests that differ from yours, and they may vote in a way with which you disagree or which may be adverse to your interests. This concentration of ownership may have the effect of delaying, preventing or deterring a change of control of our company, could deprive our stockholders of an opportunity to receive a premium for their common stock as part of a sale of our company and might ultimately affect the market price of our common stock.
We may need to raise additional funds in the future, including through equity, debt, or convertible debt financings, to support business growth and those funds may not be available on acceptable terms, or at all.
We intend to continue to make investments to support our business growth and may require additional funds to respond to business challenges, including the need to develop new financial products and services, enhance our risk management model, improve our operating infrastructure, or acquire complementary businesses and technologies. Accordingly, we may need to engage in equity, debt or convertible debt financings to secure additional funds. If we raise additional funds by issuing equity securities or securities convertible into equity securities, our stockholders may experience dilution. Debt financing, if available, may involve covenants restricting our operations or our ability to incur additional debt. Any debt or additional equity financing that we raise may contain terms that are not favorable to us or our stockholders.
If we do not have sufficient capital, we may be unable to pursue certain opportunities and our ability to continue to support our growth and to respond to challenges could be impaired.
The requirements of being a public company may strain our resources, divert management’s attention and affect our ability to attract and retain qualified Board members.
As a public company, we are subject to the reporting requirements of the Securities Exchange Act of 1934, as amended ( the "Exchange Act"), the Sarbanes-Oxley Act, the Dodd-Frank Act, the listing standards of the Nasdaq Stock Market, and other applicable securities rules and regulations, including changes in corporate governance practices and the establishment and maintenance of effective disclosure and financial controls. Compliance with these rules and regulations increases our legal and financial compliance costs, makes some activities more difficult, time-consuming or costly and increases demand on our systems and resources.
In addition, changing laws, regulations and standards or interpretations thereof relating to corporate governance and public disclosure are creating uncertainty for public companies, increasing legal and financial compliance costs and making some activities more time-consuming. We intend to invest resources to comply with evolving laws, regulations and standards, and this investment may result in increased general and administrative expenses and a diversion of management’s time and attention. If our efforts to comply with new laws, regulations and standards differ from the activities intended by regulatory or governing bodies due to ambiguities related to their application and practice, regulatory authorities may initiate legal proceedings against us.
Certain of our market opportunity estimates, growth forecasts, and key metrics could prove to be inaccurate, and any real or perceived inaccuracies may harm our reputation and negatively affect our business.
Market opportunity estimates and growth forecasts, including those we have generated ourselves, are subject to significant uncertainty and are based on assumptions and estimates that may not prove to be accurate. The estimates and forecasts relating to the size and expected growth of our target market may prove to be inaccurate. It is impossible to offer every loan product, term or feature that every member wants, and our competitors may develop and offer loan products, terms or features that we do not offer. The variables that go into the calculation of our market opportunity are subject to change over time, and there is no guarantee that any particular number or percentage of the individuals covered by our market opportunity estimates will generate any particular level of revenues for us. Even if the markets in which we compete meet our size estimates and growth forecasts, our business could fail to grow at similar rates, if at all, for a variety of reasons outside of our control, including competition in our industry. Furthermore, in order for us to successfully address this broader market opportunity, we will need to successfully expand into new geographic regions where we do not currently operate. Our key metrics may differ from estimates published by third parties or from similarly titled metrics of
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our competitors due to differences in methodology. If investors or analysts do not perceive our metrics to be accurate representations of our business, or if we discover material inaccuracies in our metrics, our reputation, business, results of operations, and financial condition would be adversely affected.
Certain provisions in our charter documents and under Delaware law could limit attempts by our stockholders to replace or remove our Board, delay or prevent an acquisition of our company, and adversely affect the market price of our common stock.
Provisions in our amended and restated certificate of incorporation, and amended and restated bylaws may have the effect of delaying or preventing a change of control or changes in our Board. These provisions include the following:
•a classified Board with three-year staggered terms, which may delay the ability of stockholders to change the membership of a majority of our Board;
•our Board has the right to elect directors to fill a vacancy created by the expansion of the Board or the resignation, death or removal of a director, which prevents stockholders from being able to fill Board vacancies;
•our stockholders may not act by written consent or call special stockholders’ meetings;
•our amended and restated certificate of incorporation prohibits cumulative voting in the election of directors, which limits the ability of minority stockholders to elect director candidates;
•stockholders must provide advance notice and additional disclosures in order to nominate individuals for election to the Board or to propose matters that can be acted upon at a stockholders’ meeting, which may discourage or deter a potential acquiror from conducting a solicitation of proxies to elect the acquiror’s own slate of directors or otherwise attempting to obtain control of our company; and
•our Board may issue, without stockholder approval, shares of undesignated preferred stock, which may make it possible for our Board to issue preferred stock with voting or other rights or preferences that could impede the success of any attempt to acquire us.
As a Delaware corporation, we are also subject to certain Delaware anti-takeover provisions. Under Delaware law, a corporation may not engage in a business combination with any holder of 15% or more of its capital stock unless the holder has held the stock for three years or, among other things, the Board has approved the transaction. Such provisions could allow our Board to prevent or delay an acquisition of our company.
Certain of our executive officers may be entitled, pursuant to the terms of their employment arrangements, to accelerated vesting of their stock options following a change of control of our company under certain conditions. In addition to the arrangements currently in place with some of our executive officers, we may enter into similar arrangements in the future with other officers. Such arrangements could delay or discourage a potential acquisition.
Any provision of our amended and restated certificate of incorporation or amended and restated bylaws or Delaware law that has the effect of delaying or deterring a potential acquisition could limit the opportunity for our stockholders to receive a premium for their shares of our common stock in connection with such acquisition, and could also affect the price that some investors are willing to pay for our common stock.
Our amended and restated certificate of incorporation provides that the Court of Chancery of the State of Delaware or the U.S. federal district courts will be the exclusive forums for substantially all disputes between us and our stockholders, which could limit our stockholders’ ability to obtain a favorable judicial forum for disputes with us or our directors, officers or other employees.
Our amended and restated certificate of incorporation provides that the Court of Chancery of the State of Delaware is the sole and exclusive forum for the following types of actions or proceedings under Delaware statutory or common law: (1) any derivative action or proceeding brought on our behalf, (2) any action asserting a claim of breach of a fiduciary duty owed by any of our directors, officers or other employees to us or our stockholders, (3) any action asserting a claim against us or any of our directors, officers or other employees arising pursuant to any provisions of the Delaware General Corporation Law, our amended and restated certificate of incorporation or our amended and restated bylaws, (4) any action to interpret, apply, enforce or determine the validity of our amended and restated certificate of incorporation or our amended and restated bylaws, or (5) any action asserting a claim against us or any of our directors, officers or other employees that is governed by the internal affairs doctrine. This provision would not apply to suits brought to enforce a duty or liability created by the Exchange Act or the rules and regulations thereunder. Furthermore, Section 22 of the Securities Act of 1933, as amended (“Securities Act”), creates concurrent jurisdiction for federal and state courts over all such Securities Act actions. Accordingly, both state and federal courts have jurisdiction to entertain such claims. To prevent having to litigate claims in multiple jurisdictions and the threat of inconsistent or contrary rulings by different courts, among other considerations, our amended and restated certificate of incorporation further provides that U.S. federal district courts will be the exclusive forum for resolving any complaint asserting a cause of action arising under the Securities Act. While the Delaware courts have determined that such choice of forum provisions are facially valid, a stockholder may nevertheless seek to bring a claim in a venue other than those designated in the exclusive forum provisions. In such instance, we would expect to vigorously assert the validity and enforceability of the exclusive forum provisions of our amended and restated certificate of incorporation. This may require significant additional costs associated with resolving such action in other jurisdictions, which could adversely affect our business and financial condition, and there can be no assurance that the provisions will be enforced by a court in those other jurisdictions.
These exclusive forum provisions may limit a stockholder’s ability to bring a claim in a judicial forum that it finds favorable for disputes with us or our directors, officers, or other employees, which may discourage lawsuits against us and our directors, officers and other employees. If a court
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were to find either exclusive-forum provision in our amended and restated certificate of incorporation to be inapplicable or unenforceable in an action, we may incur further significant additional costs associated with resolving the dispute in other jurisdictions, all of which could seriously harm our business.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
Unregistered Sale of Equity Securities
None.
Use of Proceeds
None.
Item 3. Defaults Upon Senior Securities
None.
Item 4. Mine Safety Disclosures
None.
Item 5. Other Information
None.
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GLOSSARY
Terms and abbreviations used in this report are defined below.
| Term or Abbreviation | Definition | |||||||
| 30+ Day Delinquency Rate | Unpaid principal balance for our owned loans and credit card receivables that are 30 or more calendar days contractually past due as of the end of the period divided by Owned Principal Balance as of such date | |||||||
| Adjusted EBITDA | Adjusted EBITDA is a non-GAAP financial measure calculated as net income (loss), adjusted to eliminate the effect of the following items: income tax expense (benefit), stock-based compensation expense, depreciation and amortization, certain non-recurring charges, origination fees for Loans Receivable at Fair Value, net and fair value mark-to-market adjustments | |||||||
| Acquisition Financing | Asset-backed floating rate variable funding note and asset-backed residual certificate secured by certain residual cash flows of the Company's securitizations. The Acquisition Financing was used to fund the cash consideration for the Digit acquisition | |||||||
| Adjusted Earnings Per Share ("EPS") | Adjusted EPS is a non-GAAP financial measure calculated by dividing Adjusted Net Income by adjusted weighted-average diluted common shares outstanding | |||||||
| Adjusted Net Income | Adjusted Net Income is a non-GAAP financial measure calculated by adjusting our net income (loss) adjusted to exclude income tax expense (benefit), stock-based compensation expense, and certain non-recurring charges | |||||||
| Adjusted Operating Efficiency | Adjusted Operating Efficiency is a non-GAAP financial measure calculated by dividing adjusted total operating expenses (excluding stock-based compensation expense and certain non-recurring charges) by total revenue | |||||||
| Adjusted Return on Equity ("ROE") | Adjusted Return on Equity is a non-GAAP financial measure calculated by dividing annualized Adjusted Net Income by average total stockholders’ equity | |||||||
| Aggregate Originations | Aggregate amount disbursed to borrowers and credit granted on credit cards during a specified period, including amounts originated by us through our Lending as a Service partners or under our bank partnership programs. Aggregate Originations exclude any fees in connection with the origination of a loan | |||||||
| Annualized Net Charge-Off Rate | Annualized loan and credit card principal losses (net of recoveries) divided by the Average Daily Principal Balance of owned loans and credit card receivables for the period | |||||||
| APR | Annual Percentage Rate | |||||||
| Average Daily Debt Balance | Average of outstanding debt principal balance at the end of each calendar day during the period | |||||||
| Average Daily Principal Balance | Average of outstanding principal balance of owned loans and credit card receivables at the end of each calendar day during the period | |||||||
| Board | Oportun’s Board of Directors | |||||||
| Cost of Debt | Annualized interest expense divided by Average Daily Debt Balance | |||||||
| Credit Card Warehouse (or "CCW") | Revolving credit card warehouse debt facility, collateralized by credit card accounts. Included as "Secured Financing" on the Consolidated Balance Sheets | |||||||
| Customer Acquisition Cost (or "CAC") | Sales and marketing expenses, which include the costs associated with various paid marketing channels, including direct mail, digital marketing and brand marketing and the costs associated with our telesales and retail operations divided by number of loans originated and new credit cards activated to new and returning borrowers during a period | |||||||
| Emergency Hardship Deferral | Any receivable that currently has one or more payments deferred and added at the end of the loan payment schedule in connection with a local or wide-spread emergency declared by local, state or federal government | |||||||
| FICO® score or FICO® | A credit score created by Fair Isaac Corporation | |||||||
| GAAP | Generally Accepted Accounting Principles | |||||||
| Leverage | Average Daily Debt Balance divided by Average Daily Principal Balance | |||||||
| Loans Receivable at Fair Value | All loans receivable held for investment. Loans Receivable at Fair Value include loans receivable on our unsecured and secured personal loan products and credit card receivable balances | |||||||
| Managed Principal Balance at End of Period | Total amount of outstanding principal balance for all loans and credit card receivables, including loans sold, which we continue to service, at the end of the period. Managed Principal Balance at End of Period also includes loans and accounts originated under a bank partnership program that we service | |||||||
| Members | Members include borrowers with an outstanding or successfully paid off loan, originated by us or under a bank partnership program that we service, or individuals who have been approved for a credit card issued under a bank partnership program. Members also include individuals who have signed-up to use or are using any of our Digit Savings, Digit Direct, Digit Investing and/or Digit Retirement products | |||||||
| Net Revenue | Net Revenue is calculated by subtracting interest expense from total revenue and adding the net increase (decrease) in fair value | |||||||
| Operating Efficiency | Total operating expenses divided by total revenue | |||||||
| Owned Principal Balance at End of Period | Total amount of outstanding principal balance for all loans and credit card receivables, excluding loans and receivables sold or loans retained by a bank partner, at the end of the period | |||||||
| Personal Loan Warehouse (or "PLW") | Revolving personal loan warehouse debt facility, collateralized by unsecured personal loans and secured personal loans that replaced the VFN facility. Included as "Secured Financing" on the Consolidated Balance Sheets | |||||||
| Portfolio Yield | Annualized interest income as a percentage of Average Daily Principal Balance | |||||||
| Principal Balance | Original principal balance reduced by principal payments received and principal charge-offs to date for our personal loans. Purchases and cash advances, reduced by returns and principal payments received and principal charge-offs to date for our credit cards | |||||||
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| Term or Abbreviation | Definition | |||||||
| Products | Products refers to the aggregate number of personal loans and/or credit card accounts that our Members have had or been approved for that have been originated by us or through one of our bank partners. Products also include the aggregate number of digital banking products we offer as a result of our acquisition of Digit, including Digit Savings, Digit Direct, Digit Investing and Digit Retirement, that our Members use or have signed-up to use | |||||||
| Return on Equity | Annualized net income divided by average stockholders' equity for a period | |||||||
| Secured Financing | Asset-backed revolving debt facilities, including (1) the VFN facility which was collateralized by unsecured personal loans, terminated September 8, 2021 and replaced with the PLW facility that is collateralized by unsecured personal loans and secured personal loans and (2) the CCW facility that is collateralized by credit card accounts | |||||||
| Variable Funding Note Warehouse (or "VFN") | Asset-backed revolving debt facility, collateralized by unsecured personal loans, terminated on September 8, 2021. Formerly defined solely as "Secured Financing" on the Consolidated Balance Sheets | |||||||
| VIEs | Variable interest entities | |||||||
| Weighted Average Interest Rate | Annualized interest expense as a percentage of average debt | |||||||
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Item 6. Exhibit Index
| Incorporated by Reference | ||||||||||||||||||||||||||
| Exhibit | Description | Form | File No. | Exhibit | Filing Date | Filed Herewith | ||||||||||||||||||||
10.1+ | S-8 | 333-26196 | 4.3 | 1/3/2022 | ||||||||||||||||||||||
| 10.2.1¥ | x | |||||||||||||||||||||||||
| 10.2.2¥ | x | |||||||||||||||||||||||||
| 31.1 | x | |||||||||||||||||||||||||
| 31.2 | x | |||||||||||||||||||||||||
| 32.1* | x | |||||||||||||||||||||||||
| 101 | Interactive data files pursuant to Rule 405 of Regulation S-T: | |||||||||||||||||||||||||
| (i) Condensed Consolidated Balance Sheets, | ||||||||||||||||||||||||||
| (ii) Condensed Consolidated Statements of Operations and Comprehensive Income, | ||||||||||||||||||||||||||
| (iii) Condensed Consolidated Statements of Changes in Stockholders' Equity, | ||||||||||||||||||||||||||
| (iv) Condensed Consolidated Statements of Cash Flows, and | ||||||||||||||||||||||||||
| (v) Notes to the Condensed Consolidated Financial Statements | ||||||||||||||||||||||||||
| 104 | Cover Page Interactive Data File in Inline XBRL format (Included in Exhibit 101). | |||||||||||||||||||||||||
+ Management contract or compensatory plan.
¥ Portions of this exhibit have been omitted from the exhibit because they are both not material and would be competitively harmful if publicly disclosed.
* The certifications attached as Exhibit 32.1 that accompany this Quarterly Report on Form 10-Q are not deemed filed with the Securities and Exchange Commission and are not to be incorporated by reference into any filing of the Registrant under the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended, whether made before or after the date of this Quarterly Report on Form 10-Q, irrespective of any general incorporation language contained in such filing.
The instance document does not appear in the interactive data file because its XBRL tags are embedded within the Inline XBRL document.
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Signature
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, on the date set forth below.
| OPORTUN FINANCIAL CORPORATION | |||||||||||
| (Registrant) | |||||||||||
| Date: | May 10, 2022 | By: | /s/ Jonathan Coblentz | ||||||||
| Jonathan Coblentz | |||||||||||
| Chief Financial Officer and Chief Administrative Officer | |||||||||||
| (Principal Financial Officer and duly authorized signatory of the Registrant) | |||||||||||
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