America’s Car-Mart, Inc. (NASDAQ:CRMT) Q2 2024 Earnings Call Transcript
America's Car-Mart, Inc. (NASDAQ:CRMT) Q2 2024 Earnings Call Transcript December 5, 2023
America's Car-Mart, Inc. misses on earnings expectations. Reported EPS is $-4.3 EPS, expectations were $0.74.
Operator: Thank you for standing by, and welcome to America's Car-Mart Second Quarter 2024 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speakers’ presentation, there will be a question-and-answer session. [Operator Instructions] As a reminder, today's call is being recorded. I will now turn the call over to your host, Ms. Vickie Judy, America's Car-Mart CFO. Please begin.
Vickie Judy : Thank you, and welcome to America's Car-Mart's second quarter 2024 earnings call. Joining me today is Doug Campbell, who took over as our company's CEO on October 1, 2023. We've issued our news release earlier this morning, and it is available on our website. We've updated our reporting format with a simplified look, providing an efficient and easy comparison of important metrics against the prior corresponding quarter and commentary about our results. In addition, we will post a transcript of our prepared remarks following this call. And we are also going to be posting some slides to our website some supplementary materials. We are having some technical difficulties this morning, but those should be up shortly.
And those will help further illustrate many of the talking points that we're going to cover in our call today. The Q&A session will be available through the webcast after the call. We believe that this process will help enhance how we share our quarterly results with you, and we welcome your feedback. During today's call, certain statements we make may be considered forward-looking and inherently involve risks and uncertainties that could cause actual results to differ materially from management's present view. These statements are made pursuant to the safe harbor provision of the Private Securities Litigation Reform Act of 1995. The company cannot guarantee the accuracy of any forecast or estimates nor does it undertake any obligation to update such forward-looking statements.
For more information, including important cautionary notes, please see Part 1 of the company's annual report on Form 10-K for the fiscal year ended April 30, 2023, and our current and quarterly reports furnished to or filed with the Securities and Exchange Commission on Forms 8-K and 10-Q. I will now turn it over to Doug for his introductory comments about our second quarter.
Doug Campbell : Good morning, and thank you for joining us and for your interest in our company. First, I'd like to thank our associates for their relentless focus on keeping our customers on the road. I also appreciate all the many messages I've received on my appointment as CEO. It means a lot. So thanks for that. I want to take a moment to recognize the passing of Hank Henderson, one of our board members and CEO prior to Jeff Williams. His contributions here at the company and in the community, to his family will leave an indelible mark. He was a valued board member and a longtime shareholder. His pointed advice to me about the opportunity to be a CEO has a different meaning today. So thank you, Hank. During the quarter, we identified someone with a similar profile that has a long-term view of the business.
As such, we've recently added Jonathan Bupa from Nantahala Capital Management to our board. He brings many years of experience within specialty finance, including subprime installment lending, on lending and lease to own retail. He is a shareholder as well, and we're excited to have him join our board. Now I'd like to address the quarter. If I'm on the other end of this call, I'd had a lot of questions about the results and particularly credit losses. I'd ask you to bring into context that GAAP accounting requires us to report our results as a retailer with an accounts receivable balance of almost $1.5 billion originated over the last four years. As the business grows, the impact of reserves and credit adjustments on our portfolio originated over a four-year period becomes even larger in relation to the quarterly results.
The way we measure our business is the cash we collect over time, relative to the money that we put out on the street. And if you look over time, we've never had a pool of loans in which we earn cumulative cash returns less than 50% in excess of the cash outlay over the life of the contracts. What has changed is that it takes longer to recognize it. But 10 years ago, we put $1 out on the street and get approximately $1.60 back over time, and that's still the case. Let me also tell you why I came to Car-Mart. Over the last 5 or 6 fiscal years, the business has generated almost $600 million in free cash flow. The company has repurchased $156 million in shares, growing, the net AR balance by $739 million, funded various capital expenditures of almost $78 million, while funding increased inventory of $79 million in a growing business.
They've been able to do this because of the underlying pools of receivables that the company has originated, have consistently produced cash flows in excess of the cost to operate the business over time. This remains the case. Additionally, this segment of automotive is large and a growing part of our industry. The ability to really help consumers who have little to no access to credit from an industry leader with a great track record and abundance of opportunity made it attractive, especially when you consider the opportunity to feather in my skill set and industry best practices with Car-Mart's unique culture, it has power to take the business to the next level. And that's what I'm focused on. Today, we reported revenue increase of 2.8%. That was primarily driven from a 23% increase in interest income.
Sales volumes were down 4.6% and but sales revenue only saw a decline of 0.4%. Diluted sales revenue was a product of a 5.6% increase in the quarterly average selling price, moving from $18,025 to $19,035 year-over-year. Approximately 40% of this increase was related to the vehicle selling price, but 60% was related to the increased revenue for ancillary products. Sequentially, the quarterly average selling price was relatively flat. As far as sales volumes, we finished the quarter with 15,162 units versus 15,885 units sold last year. August and September had respectable volumes and collectively posted a gain in sales year-over-year, but October sales results were down. Several items contributed to the sales decline witnessed in October, and I'll talk about that not here.
Web traffic was consistent and still posted gains year-over-year. And online credit applications for the quarter were also positive by 19%, yet there was a decrease in showroom traffic. Additionally, launching several states onto our new loan origination system, or LOS, was a contributing factor, I'll speak to more in a minute. Overall, we're trying to balance sales volume with our new system, onboarding new stores and introducing new underwriting guidelines. We spent the better part of last year rolling out the consumer application portal for LOS which allows the consumer to apply faster, have a soft credit pool during the application process and get a response via text as to the status of their application as well as centralized appointment setting.
We're now in the second phase of our LOS rollout, which is related to underwriting and how sales are being originated. During the quarter, we onboarded three additional states, bringing the total to five states, which accounts for about 45% of our revenue at quarter end. We started out the fiscal year rolling out the dealer-facing portion of this tool. As a reference, our legacy system had limited ability to influence outcomes but served as a stable platform to originate deals and manage associated costs. Our original intent was to roll the system out with similar underwriting rules as our legacy system analyst, allowing users to learn the system over time but giving us enhanced data and visibility. However, with a backdrop of increasing credit losses, we made the strategic decision to implement new underwriting rules, which primarily sought to decrease terms and increased down payments.
The initial results were very positive. When looking at originating terms, we finished at 44.1 months for the quarter. While this is up year-over-year, it's down sequentially by 0.6 months. It's the largest decrease we've seen since July 2019. The originating terms during the quarter for our legacy system were approximately 44 months and 42 months on the new LOS. Originating terms were down in both systems and both trended downward throughout the quarter. Average down payments for the quarter were 4.9% and relatively flat when viewed sequentially, but down 30 basis points year-over-year. Yet when comparing the two originating systems, we collected nearly 1 point more inbound payment on the new LOS generating 5.5% down and 4.6% at ALIS. This demonstrates how effective the system is and our teams are pushing for improved deal structures despite the seasonality we normally see with cash down payment percentages.
The benefits of LOS are no longer theoretical. It's deployed in about half of our stores already and we couldn't think of a more opportune time to begin testing its capabilities. These combined results show that we can more quickly and precisely adjust parameters. And with any new system, there are growing pins. We are projecting to have the LOS completely rolled out in the third quarter prior to tax season. Ultimately, we're striving to achieve higher volumes with better deal structures to help our customers be more successful, and we're confident the investment will have long-term positive impacts. While adding a level of sophistication to our underwriting is critical, a large part of our result is a function of our servicing efforts after the sale, which we must continue to execute at a high level.
The gross margin initiatives we are focused on continue to bear fruit and improved materially year-over-year. Sequentially, there was a small decrease, but this was a function of the sales mix I discussed earlier. We also continue to improve the age and mileage of vehicles we're purchasing compared to the prior year. During the quarter, we were able to bring down our purchase cost average of vehicles despite the UAW strike and any noise it created. If you reference Slide 4 in the supplemental material on the website, I've included two charts. In the first chart, our put our purchase cost average up against Cox’s MMR Index, which tracks price movement throughout the year on a set basket of goods. We're improving our timing here, which ultimately will reduce how we own that vehicle relative to a given book value at the time of contract origination.
It's evident we're moving with the market better, despite us doing this with lead times of three to four weeks. The second chart shows during the same period that we've improved the quality of the assets by purchasing newer and lower mileage vehicles. These are material changes, which lower repair costs during initial reconditioning and while under a service contract contributing to better gross margins. When combined with the inventory procurement and our marketing management processes implemented last year, we're delivering operational improvements for our customers and the company. We've made great strides in both our procurement and remarketing capabilities and a key driver going forward will be our ability to resell more of these vehicles that are repossessed.
The opportunity today is considerable and continues to grow as newer vehicles cycled through our portfolio. We've engaged a national provider to perform reconditioning and improved vehicle quality, which will in turn help drive the overall average cost down, improve gross margin, reduced credit loss and enhance cash flow. We will launch this during the third quarter. This is also critically important to addressing the affordability headwinds for our consumers. I want to touch on net charge-offs and overall credit losses. Although the macro environment has seen some cooling of inflation over the quarter, the lingering financial and psychological effects of the worst part of inflation of 4 decades continues to impact our consumers. Goods and services are still far pricier than they are just three years ago, with the economic inflationary pressures on our customers now more prevalent in all areas of their lives.
Things like higher energy costs, food, housing and auto insurance, just to name a few. This is the largest contributing factor that drove an increase to the frequency of losses during the quarter of 24%. The unit losses on repossessions peaked in September and came down slightly in October. Our 30-day plus delinquencies also improved during that same time frame, which are both positive signs, but we remain cautiously optimistic about this movement. I will now turn things over to Vickie on more details on the financials.
Vickie Judy : Thank you, Doug. In my commentary, the comparisons that I will cover will be the second quarter of 2024 versus second quarter of 2023, unless otherwise noted. Our revenues for the second quarter were $361.6 million, up 2.8% from last year's prior period. The year-over-year increase is primarily due to the 23% higher interest income. As Doug mentioned, we did have a decrease in unit volumes. Our sales volumes became more challenging as we moved throughout the quarter, and most of this decline came in the last month of the quarter. Although we did have some operational challenges as we implemented our new LOS, there was also a dampening in the overall used vehicle market because of continued affordability challenges for our consumer.
When combined, the softness in the market, the continued elevated vehicle prices and onboarding stores to the LOS, we have less predictability in short-term sales volumes than we would have otherwise expected to have. With that said, the application volumes remain robust. Our LOS onboarding will be completed in the third quarter and the work we are doing to improve affordability should mitigate some of these challenges. The gross profit dollars per retail unit sold improved by 11.5% and the gross profit percentage increased 220 basis points, a result of the initiatives around inventory life cycle efficiencies from the procurement, reconditioning, wholesaling efforts and repairs after the sale. Sequentially, gross profit dollars improved slightly by 1% and the gross margin percentage was 30 basis points lower, primarily due to the lower sales volumes in October.
We expect further improvements in our gross margin percentage as volumes improve, and we scale and fully operationalize our initial -- our initiatives. Due to our operational efficiencies, our inventory dollars decreased $16.5 million from the prior year quarter. Quarterly inventory turns improved to 7.1 compared to 6.7 annualized was $44.9 million or 14.9% of sales, up from the prior year quarter of $42.9 million, but down sequentially $1.6 million, from $46.5 million. The primary reduction sequentially was a $3.2 million stock reduction in stock-based compensation, partially offset by increased cost and collection expenses and professional fees related to the implementation of our new technologies. Since the quarter end, we have made adjustments to our operating expense structure.
First, we reduced the size of our corporate workforce by 10% through a series of strategic decisions. We've also limited hiring, reduced our marketing spend and curtailed the use of some professional services. We will continue to evaluate spend at both the dealership and the corporate level, and we're committed to driving cost efficiencies in the business and implementing cost savings initiatives over the next quarter. That when combined with our technology and business investments, we expect to provide SG&A cost leveraging opportunities as we move forward. However, we continue to serve an expanding customer base with over 104,000 customers, a 6% increase over the prior year quarter. SG&A per average account improved and was $424 compared to $439 in the prior year and $449 sequentially.
On the credit losses, our net charge-offs as a percentage of average finance receivables were 7.2% versus 5.8%. This compares to our prior 10-year average for second quarter of 6.2%, and that includes the positive COVID periods. As a comparison to pre-COVID periods, our average net charge-offs for the five-year period pre-pandemic were 7% for second quarter. The frequency of losses accounted for over two thirds of the credit loss increase. Severity was also higher than usual, caused by some rapid vehicle depreciation exhibited last year that made some of the originations in the calendar year of '21 and '22 pools experienced both higher frequency and severity of losses.
Doug Campbell : That's a great point, Vicki. If you reference Chart 1 on Slide 5, we've indexed wholesale prices back to 2017 to show what happens over a three-year period with price in a normalized environment. I specifically called out two points to illustrate what happens with price between an origination and a default as an example. In Chart 1, the periods I've identified for origination and default show approximately a 9% or 10% reduction in depreciation. Chart 2 reflects the wholesale price movement from 2021 to 2023 year-to-date. I've shown similar timing of origination and defaults and it clearly shows the price degrading in excess of 25%. This is why severity is more pronounced than normal. This is not a dynamic that's specific to Car-Mart but an industry-wide issue, which most lenders will have to contend with at some point.
Vickie Judy : Yeah. Thank you, Doug. Because of the nature of our contracts being shorter, it's our belief that we are witnessing some of this first. Many industry metrics, which measure delinquency and default rates, which have historically moved in tandem now show delinquencies continuing to rise without defaults moving at a similar rate. As a management team, we've decided not to deviate from our historical collection practices because of our deep experience in dealing with subprime customers. The good news is that we are through the largest percentage of losses expected from these pools. While these pools are challenging, nonetheless, they produce over 50% cash-on-cash returns and approximately a 35% IRR. As a result of the increased losses in our quarterly analysis, the company did increase the allowance for credit loss from 23.91% to 26.04% sequentially.
The resulting in a $28 million charge to the provision expense. It's an earnings per loss -- earnings per share loss of $3.40 after tax. The structural changes to our portfolio over recent years, driven by higher vehicle costs and longer-term length as well as the current economic state of our customer continue to drive an increase in the provision for credit losses. As our allowance represents an expectation of losses on a $1.5 billion portfolio, the result of a change can have a large impact on any period's quarterly earnings, especially based on our retail businesses sales in a given quarter. Our pools have consistently produced positive cash-on-cash returns and attractive IRRs. As vehicle prices have risen and terms have increased from approximately 30 months to approximately 44 months, our time to breakeven has been pushed out and IRRs have declined, although still at very good returns.
Please refer to Slides 3 and 6 on our website to see how these pools have performed over time. Our accounts, 30-plus days past due were 3.6%, consistent with last year's quarter and improved from 4.4% sequentially. As a percentage of accounts receivable, our total dollars past due improved 213 basis points sequentially. This is especially important given that the quarter closed on a Tuesday which is historically the highest delinquency day of the week. The average originating contract term for the quarter was 44.1 months compared to 42.6 months and improved sequentially from 44.7. The lower delinquency should result in improved losses over the next quarter. Our weighted average contract term for the entire portfolio, including modifications, was 47.3 months compared to 44.8 for the prior year quarter and 46.9 sequentially.
The weighted average age of the portfolio improved to 10.8 months. The percentage of our portfolio held by the highest credit quality customers continues to improve compared to the prior year and was flat sequentially. You should expect us to be more aggressive on capital allocation going forward. During this quarter, we closed another location, bringing the total to three for the fiscal year. We will be adding a newly acquired dealership during the third quarter, moving capital from underperforming stores to higher performing assets, which has cascading benefits throughout the company. We will continue to review and monitor capital invested in each dealership and other investments to maximize returns. Our interest expense continues to significantly impact our earnings potential.
Over 60% of the increase is due to higher interest rates, with the remaining as a result of an increase in average borrowings. The company's total securitized non-recourse notes payable was $489 million, net of $90 million in restricted cash related to these notes. We are also currently considering redeeming our first series of asset-backed nonrecourse notes issued in April of 2022 as we have satisfied the conditions to repurchase the securitized receivable under the terms of the note, subject to notification to the noteholders. This will free up some well-seasoned collateral. At quarter end, we had $4.3 million in unrestricted cash and approximately $86 million in additional availability under our revolving credit facilities based on our current borrowing base of receivables and inventory.
Access to capital with our $600 million revolving credit facility, a successful securitization program and an active shelf registration gives us flexibility and a distinct advantage over many competitors. Many competitors may experience even more pressure in accessing capital in the future. Our non-recourse securitized notes represent the bulk of our funding and our cost of funds fluctuate with the level of interest rates and credit spreads. We've summarized the key drivers and their impact on EPS in the quarter on Slide 7. In conclusion, we remain committed to growth and prudent financial management. We're focused on delivering value to our shareholders through strategic investments, operational efficiency and a steadfast dedication to keep our customers on the road.
Thanks, and I'll let Doug close this out.
Doug Campbell : Thanks, Vickie. We continue to optimize our footprint and leverage our investments in technology and infrastructure. Our ERP implementation begins next calendar year, which will reduce the need for several manual and redundant processes. We are excited to have central auto sales as a new addition to our dealership group that we expect to close in December. We're actively evaluating several opportunities in our market geographies to acquire productive stores, which offer operators an exit strategy and continue their great work on servicing customers in their communities. This last acquisition has sales volume on par with our largest stores in the country, and we're excited to have some new partners to help us grow.
Before we take questions, I want to reiterate that our team is extremely focused on executing our strategy for the back half of fiscal year 2024. Overall, we believe our keen focus on operational efficiencies, reducing costs and prudent capital management will enhance our competitive advantages. The overall macro environment remains challenging for Car-Mart's core customers, both existing and prospective, but they need the service we provide. While we're disappointed to show a loss during the current quarter, the underlying cash-generative nature of our business continues to position us for long-term profitable growth. Now we'll open up the line for questions. Operator, please provide instructions to do so.
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