Author Topic: CACC - Credit Acceptance Corp  (Read 27689 times)

wknecht

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CACC - Credit Acceptance Corp
« on: May 18, 2014, 01:57:21 PM »
CACC is an indirect subprime auto lender. I started a position recently, modest thus far. At ~4.5x book, it is definitely not the cheapest stock I’ve ever purchased. My rationale:
  • Track record: Their track record is very strong. The last 5y/10y, they have compounded BVPS 23.5%/14.7%, adjusted EPS 31.5%/34.2%, and unit volumes 10.8%/12.7%.
  • Management ethos: I am very impressed by management. They (a) strike me as very rational, focused, and disciplined; operate on margin of safety/value investing principles, (b) strong capital allocation; have also bought back a lot of stock (24%/42% of the stock the last 5y/10y), and (c) seem to be shareholder friendly; quite clear and transparent communication
  • At 11.9x TTM NI (management’s “adjusted” earnings), the price seems reasonable, or at least not unreasonable. For context, historically CACC has sold for 13.5x-14x earnings on average the last decade; competitors currently trade in ranges of 9x (CPSS) to 15x (SC). My thinking is you're not paying a lot, if anything, for growth which they have delivered plenty of.
Some thoughts on risks:
  • The main risk that CACC faces in my view is funding. They are highly dependent on the capital markets, which no question is not ideal. While I cannot dismiss this risk entirely, the 2008 credit crisis was a very good stress test of their business model, and they passed with flying colors. They grew adjusted earnings per share 30.5%, 52.1%, and 41.4% in 2008, 2009, and 2010 respectively. This is in spite of decreasing loan volume in 2009 due to capital constraints imposed by the crisis.
  • Competitive environment:
    • The competitive environment is characterized by (1) saturation - there are many competitors (NICK, SC, CPSS, commercial banks, savings banks, credit unions, WFC moving more into subprime space etc), and (2) reduced volumes due to trailing off of pent up demand during the crisis. This combination of forces is a concern. Are we at the top of the cycle with a slow motion crash ahead (rates decrease and losses rise slowly, but dramatically)? I'm not one to predict cycles, but I actually don't think this would be so bad for CACC because they strike me as very disciplined, and over time it would weed out weaker players and tighten supply. Anecdotal commentary I’ve read though indicates that (a) on the supply side, while loose historically, it is still tighter than 2006-2007, and (b) losses in subprime credits remain at historical lows. Overall, while a very legitimate concern, I take comfort in the fact that management has navigated these cycles successfully in the past by sticking to their principles and staying disciplined on price. I also take comfort in the ‘skin in the game’ portfolio program approach CACC takes (rather than outright purchases). This significantly reduces credit risk relative to the alternative, and gives dealers an additional revenue source.
    • While SCUSA appears quite strong, on a lot of operating metrics (e.g., efficiency ratio, ROE), CACC seems very well positioned relative to its competitors.
  • Collection forecasting accuracy is critical to their success. Competition threatens the accuracy of their forecasts by way of adverse selection. They include running backtests of their performance in their reports.
  • Specialty finance companies do not sell for premium earnings multiples. I'm not sure if this is due to some stigma, or just the fact that they're balance sheet lenders (commodity). Other than companies in trough/unusual earnings situations, only a couple companies currently trade at earnings multiples in the high teens (e.g., FCFS at 17x).
  • Don Foss (founder and chairman, age 69) is selling all of his shares. Mr. Foss owns roughly 4.4mm shares, and per disclosures in recent tender offers, he intends to sell 100% of these. I'm not exactly sure what to make of this, but I think it's doubtful that he is opportunistically selling based on his view that the price as currently high, and also doubtful that he thinks the company’s prospects long term are poor (after going for 41 years, through multiple cycles, and recent performance etc).
  • Regulation - Dodd-Frank established the Consumer Finance Protection Bureau (CFPB). While the CFPB is a potential wildcard, at the moment it does not seem to be cause of much concern from CACC's perspective. To date their main focus seems to be fair lending practices (i.e., not discriminating based on race, religion etc). Something to keep a close eye on.
Here's a link to FAQs answered by management, it has a lot of good information: http://www.ir.creditacceptance.com/faq.cfm?faq=shareholder.


writser

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Re: CACC - Credit Acceptance Corp
« Reply #1 on: May 19, 2014, 02:22:08 AM »
Nice first post. I spent some time looking at CACC a while back. The share buybacks looked compelling and their track record is very good. Their disclosure to stockholders is exemplary, I really appreciated the stockholder letters. If I remember correctly, they still have a bit of room to grow even though per dealer revenue is declining. They did very good during the recession.

Nevertheless, I passed on it. A minor reason is that the founder is indeed selling out but the major reason was that it wasn't _extremely_ cheap and this business is too hard for me to understand thoroughly. Or phrased differently, to be sure I have an edge in valuing this company. I have no clue about the business cycles, their 'black box' credit score card model, future prospects, sustainability of margins etc. Combined with the fact that there is no margin of safety in the balance sheet I had to throw it on the 'too hard' pile.

Nevertheless I'm very interested in what more capable investors think of this company so I'll follow this topic closely :) . Also, I might consider some speculative operations (re-reading Security Analysis) around tender offers once in a while.
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writser

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Re: CACC - Credit Acceptance Corp
« Reply #2 on: May 20, 2014, 04:21:27 PM »
Somebody just released the bear case: link.
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wknecht

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Re: CACC - Credit Acceptance Corp
« Reply #3 on: May 20, 2014, 08:16:45 PM »
A few thoughts I had on the article are below. I have more, but am short on time.
  • The author seems to be thinking quite short term. I have no clue what will happen as a result of the tender offer but I don't care at all about +/-10% until mid June.
  • It's true, as he points out, that the advance rate is the highest it has been in the decade. But, what matters is the spread. The spreads (and yields) were lower in 2006 (23.4%), 2007 (21.4%), and 2008 (25.5%). This of course assumes their collection forecasts are accurate. In the past, their forecast has been conservative. Supposing they're not being conservative this time, in order for spreads to reach 2007 levels, their forecasts would need to be inaccurate by an absolute percentage that is greater than they have been off the last decade (on the downside of the projection).
  • Mr. Foss has been selling for a long time, somewhat consistently. I haven't gone through all the tenders, but he was tendering large quantities of shares both in October 2006 and July 2010 (two totally different points of the cycle).
  • The author showed a graph of P/B. If one had purchased at the peak on April 18, 2007 (5.5x bvps, which is higher than the 4.5x book today), and held through today, CACC would have returned 23.5% compounded annually versus the S&P of 5.7% (including dividends). I'm not saying this will repeat, but am merely pointing out that the valuation then was higher, when the metrics looked worse (e.g., spread), and things turned out just fine. Can we count on similar growth? Probably not, but I think steady unit volumes would produce reasonably good results as the loans are still yielding 27%.

ItsAValueTrap

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Re: CACC - Credit Acceptance Corp
« Reply #4 on: July 07, 2014, 08:21:01 PM »
I'm starting to dig into this company and I'm very impressed by what I see.  This company seems to be a wonderful company at a fair price.
- Compounded book value per share at a very high rate.  17.80%/yr over the past 10 years according to gurufocus.com.
- Management is non-promotional
- Management's communication with shareholders is excellent.
- Constant tender offers to repurchase shares.

The company seems to be a success due to the current CEO, Brett Rogers.  He became the CEO in 2002 and the stock has taken off since then.

I think that the CEO really understands lending discipline and isn't showing short-term profits at the expense of a possible future bankruptcy.  The company seems like it will be one of the least likely companies to blow up.
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ItsAValueTrap

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Re: CACC - Credit Acceptance Corp
« Reply #5 on: July 07, 2014, 10:30:55 PM »
How do you guys feel about the interest rates that they charge?  These guys seem like uh... loan sharks.

http://www.ir.creditacceptance.com/common/download/download.cfm?companyid=CACC&fileid=141188&filekey=4E0B72D3-D052-4EA2-ACF4-8182D23E4CC1&filename=Investor%20Question%20-%20November%202%202007.pdf
Quote
1. What are current range of interest rates that you offer in the US, ie what rate
would a person get if they had horrible or no credit and what rate if they had
perfect credit?


Generally, consumers that get financed under our program have either bad credit or no
credit at all. For consumers with perfect credit, dealers would likely seek financing
through a lender or finance company that focuses on providing financing to low risk
consumers because it would generally result in better economics for both themselves and
the consumer purchasing the vehicle.

On our program the dealer-partner sets the interest rate on the retail installment contract
(referred to as “consumer loans”) and we maintain controls within our systems to ensure
consumers are not charged an interest rate that exceeds their states maximum allowable
interest rate. In states where there isn’t a maximum limitation, we have an internal
maximum interest rate allowable of 29.0%. The average interest rate for 2006
originations was 22.4%
.

Because we retain 20% of every dollar collected as a servicing fee and remit the
remaining 80% to our dealer-partners, the amount we actually collect is far more
important than the underlying interest rate on the contract. In fact, one could think of the
20% servicing fee as the interest rate on the consumer loan from our perspective.
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peter1234

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Re: CACC - Credit Acceptance Corp
« Reply #6 on: July 07, 2014, 11:45:00 PM »
Not as high as some pay day lenders....
 ;D

Apparently, they are lender of last resort.

When no one else provides a loan, they will and the person is able to buy a car.
If this car is your ticket to a job, looks like a trade-off worth taking.
 ;)

writser

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Re: CACC - Credit Acceptance Corp
« Reply #7 on: July 08, 2014, 01:18:09 AM »
Honestly, probably a nice chunk of their returns is made by ripping off poor and/or unsuspecting consumers. If you have moral qualms about that you shouldn't invest in it.
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wachtwoord

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Re: CACC - Credit Acceptance Corp
« Reply #8 on: July 08, 2014, 06:37:52 AM »
Loan sharking is an attractive business to be in as long as you're skilled in collecting. If their main customer base consists of the lower part of society, how worried should I be about that?
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ItsAValueTrap

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Re: CACC - Credit Acceptance Corp
« Reply #9 on: July 08, 2014, 10:15:13 AM »
Honestly, probably a nice chunk of their returns is made by ripping off poor and/or unsuspecting consumers. If you have moral qualms about that you shouldn't invest in it.

Hmm looking into it a bit more, I don't think it is a rip-off.  Subprime auto lending actually isn't that profitable for the car dealer.  Many car dealers stop doing subprime because they find it isn't worth the effort (or they aren't good at it).  This isn't like other areas of finance where retail consumers are charged well above cost (e.g. title insurance, currency conversion, etc.).

It is definitely a bad deal for the consumer.  Basically... subprime auto lending enables people to do financially irresponsible things with their money.  Is that really so bad though?  I think that these auto loans are fairly harmless compared to gambling, alcohol, toxic mortgage backed securities, etc.

In terms of deception... I don't think that there is much deception involved.  I think that these consumers know what they're getting into.  I don't know if the salespeople are sleazy and omit certain facts about how these loans work.  I don't know if CACC has structured the loans in a way that charges lots and lots of hidden fees and fine print.
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