Flexshopper - Q2 2023

Transcript

Operator (participant)

Greetings, welcome to the FlexShopper Second Quarter 2023 Financial Results Call. At this time, all participants are in a listen-only mode. A question and answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Carlos Sanchez, Investor Relations for FlexShopper. Thank you. You may begin.

Carlos Sanchez (Head of Investor Relations)

Thank you. Good morning, everyone. Welcome to FlexShopper's Second Quarter 2023 Financial Results Conference Call. With me today are Russ Heiser, our Chief Executive Officer, and John Davis, our Chief Operating Officer. We issued our earnings release on Monday and corresponding investor relations presentation this morning. We'll be referencing these during the call today. Both can be found in our Investor Relations section of our website. We'll be available for question and answers today following today's prepared remarks. Before we begin, I would like to remind everyone that this call will contain forward-looking statements regarding future events and our financial performance, including statements regarding our market opportunity, the impact of our growth initiatives, and future financial performance.

These should be considered in conjunction with cautionary statements contained in our earnings release and the company's most recent periodic SEC, including our 10-Q quarter ending June 30th, 2023. These statements reflect management's current beliefs, assumptions, and expectations and are subject to a number of factors that may cause actual results to differ materially from those statements. Except as required by law, we undertake no obligation to publicly update or revise any of these statements. During today's discussion of our financial performance, we will provide certain financial information that contains non-GAAP financial measures under SEC rules. These include measures such as EBITDA, net income, adjusted net income, and non-GAAP financial measures. These should not be considered replacements and should be read together with our GAAP results.

Reconciliation for these GAAP measurements and certain additional information is also included in yesterday's earnings release, which is available in the Investor section of our website. This call is being recorded, and a webcast will be available for replay on our Investor section of our website. I will now turn the call over to our CEO, Russ Heiser.

Russ Heiser (CEO and CFO)

Thanks, Carlos. Good morning. I appreciate everyone dialing in. Before we dive into the results of the second quarter, I'd like to share with listeners the primary initiatives of the company this year, our progress on achieving those goals. On the direct-to-consumer front, through our FlexShopper.com marketplace, we've been focused on two initiatives: improving asset-level performance and growing originations. On the first of these, improving asset-level performance, we have achieved the highest levels in the history of this company through a combination of both growing relationships with wholesalers to increase the retail margin on the products on our site and staying disciplined on our underwriting cutoffs to provide a cushion as our consumer segment continues to face significant economic headwinds. Investors can expect to see these wholesale margins continue to grow as we onboard more distributor partners.

This impact will be seen as further decreases in cost of lease revenues relative to lease revenues. In addition, as underwriting changes continue to mature, expense as a percentage of gross lease revenues will decrease over the next several quarters. The flip side of this disciplined underwriting is that our approval rate is substantially lower than it's been over the last several years. The silver lining to this, though, is that we have noticed that only a small percentage of visitors to our site end up even applying for our lease product. As a result, we are in the process of adding additional checkout and financing options to our site to monetize a larger percentage of the incoming traffic and expect this launch to occur in time to take advantage of the holiday season.

On this broader set of customers, FlexShopper will not only capture the margin on the product, but will receive origination fees from the other financing sources. Our expectation is that this will provide the financial catalyst for much higher marketing spends on a year-round basis, resulting in much higher lease origination through this channel, and the higher marketing spend will be offset by the product margins on items facilitated with other financing options. Shifting to our brick-and-mortar-based retailer business, we continue to see significant growth on the store count of our enterprise partnerships. Rollout timing never goes as quickly as we would like, but this summer has seen significant, significant growth as one of our tenured retailer partners has grown substantially, and one of our longer-running pilots is moving into a full rollout.

In addition, we are in late-stage discussions with another large enterprise partner as the potential to increase their originations on this portion of the, our business by 50%. Of course, as we have mentioned many times previously, the sales cycle for these large partners can be long, and the rollout process can be equally as long. Therefore, over the summer, we have added an internal team to complement the external teams to focus on growing our exposure to smaller retailers. In most cases, selling to smaller retailers is the easy part. Supporting them with training and answering their questions is the heavier lift. We will continue to add to our internal team as we optimize the proper support levels for both our enterprise and smaller retailer initiatives.

The final piece to discuss is the storefront lending business acquired in late 2022.We have been successful there on a few fronts in terms of stabilizing asset level performance and are on our way to optimizing the product offerings for each state. Now we need to grow both originations within our current footprint and expand our footprint by rolling out more locations. To that end, we are making some modifications to the leadership structure to accomplish that more quickly. Given the operating leverage inherent in the store-based business, once we're able to gain significant traction on originations, we should start to see earnings from this business grow measurably. I will now hand the call to John to walk through our quarterly results.

John Davis (COO)

Thanks, Russ. To begin, I wanted to review our quarterly financial performance in comparison to last year. FlexShopper earned approximately $300,000 in EBITDA, compared to $6.4 million in EBITDA in Q2 of 2022. Breaking this down, there are some one-time items last year that increased last year's performance, that should be taken into account when reviewing underlying performance of the business. Starting with our lease-to-own business, gross lease billings and fees were $32.5 million in 2023, versus $39.6 million in 2022, with net lease billing and fees of $22.9 million versus $30.5 million last year for the quarter. Q2 2022 lease net lease number included approximately $6.6 million in revenue from a bulk sale of past due lease receivables.

In 2023, we had approximately $1.3 million in revenue from past due receivable sales from a forward flow arrangement. Excluding these sales, net lease revenue was approximately down 9% year-over-year, versus the 25% unadjusted number. This accounted for most of the year-over-year EBITDA variance. Lease origination volume was slightly higher in versus Q1 of this year, but was $6.5 million lower year-over-year in Q2, primarily due to tighter year-over-year credit standards. As we have discussed in previous calls, we had subsequent tightening rounds last year due to the increasing inflationary environment, which negatively impacted our customers. This tightening continued into Q3 of last year, so we expect that the lapping of these changes will be fully realized next quarter.

We are also currently accelerating the rollout of enterprise partnership lease programs in Q3 of this year, which we expect will provide significant origination growth from current levels. We have launched new sales initiatives on both enterprise and smaller partnership lease programs, which we expect will continue to drive continued growth in the number of storefronts that use our leasing products over the balance of the year. As we generate lease unit growth, we will have tailwind from higher average lease sales, which were $668 in Q2 this year, versus $579 in Q2 last year. Results of our credit tightening have resulted in a significant reduction in our bad debt expense. Provision for doubtful accounts expense dropped by $4.9 million year-over-year, or a 31% decrease versus Q2 of last year.

While the reduction in dollar expense is in part due to the lower revenue number, the 31% drop in expense greatly exceeded the 18% drop in gross lease revenue, with a 33% bad debt percentage this year versus 40% last year. Payment performance has improved as a result of our credit tightening, as well as a moderation in inflation increases, which is resulting in a more profitable lease asset versus last year. Also contributing to improving lease profitability, is the continuing seasoning of retail product margins with the introduction of product sourced from manufacturers and distributors launched last year. Depreciation and impairment of lease merchandise expense in Q2 of 2023 was $14.5 million, versus $18.2 million last year, or a 20% decrease versus last year.

Similar to bad debt expense, lower revenue results in lower dollar expense, but the % drop was larger than the drop in revenue. The realization of product margin over the term of our lease continues to season into our financials, which is resulting in lower expense levels on our lease revenue. Excluding the impacts of the sales of past debt, past due receivables, net lease revenue consisted of gross billings, less provision and depreciation costs, was $7.2 million in Q2 of this year, versus $5.7 million in Q2 of last year. Even with lower gross lease revenues year-over-year, we actually made more net revenue this year with our lease product, with the improvement in loss rates and product costs.

Asset quality has always been a top priority for us. Now that we have moved our underlying profitability ratios to more favorable levels, our focus as a leadership team is to grow originations through both our marketplace and partnership channels. On our lending front, we originated $14 million in Q2 through our Revolution Financial platform and $0.1 million through our loan participation program. This compares to $12.9 million in Q2 of last year in our loan participation program, with no originations through Revolution, which we acquired in Q4 of last year. As a reminder, we issue consumer loans within approximately 100 storefronts, consisting of own physical locations and virtual locations within Liberty Tax stores using state lending licenses. We have pivoted our go-forward lending strategy towards our Revolution platform.

We are planning on further origination growth there through various investments in people, IT, and new generation of risk modeling and marketing strategies. As is the case with our lease business, we are happy with the underlying asset performance of our loan business and are now focused on growing originations and revenue. Overall operating expenses were $1.3 million lower year-over-year for Q2, which is primarily driven by lower marketing costs. Well, we have conservative underwriting standards in place. We have been prudent in our marketing spending within our marketplace lease segment. As we make progress on initiatives that will increase conversion rates of visitors to FlexShopper.com, we expect to increase marketing spend that will result in higher revenue at the improved revenue levels discussed earlier.

To summarize, we have made a lot of progress on getting asset level returns to levels that we are happy with. Our focus in the second half of 2023 is to originate more of these profitable customers and generate top line growth. With that, let me turn the call back over to Russ.

Russ Heiser (CEO and CFO)

Thanks, John. The team at FlexShopper continues to focus on improvements to our business in order to position ourselves for long-term earnings growth. With that, I'll take any questions you might have.

Operator (participant)

Thank you. At this time, we'll be conducting a question and answer session. If you'd like to ask a question, please press star one on your telephone keypad. A confirmation tone will indicate your line is in the question queue. You may press star two if you'd like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. Our first question comes from the line of Scott Buck with H.C. Wainwright. Please proceed with your question.

Scott Buck (Managing Director of Equity Research and Technology)

Hi, good morning, guys. Thanks for taking my questions. Russ, on the smaller, retail initiative, I guess, what qualifies as a small retailer and, and how large is this, you know, market in terms of opportunity?

Russ Heiser (CEO and CFO)

Good morning, Scott. We, we define the, the smaller retailer, as different from our enterprise customers. Our enterprise customers typically have 250 or more locations. The smaller retailer typically ends up being 15 individual locations or less. You know, in terms of the size of that market, I think it's the sky's the limit. As I've mentioned, though, this really requires a lot more handholding. There's not as much internal resources at these retailers to handle training, et cetera. What we've implemented is a bit of a farming methodology with some of these internal salespeople, where they are assigned to a fairly large number of locations, but the thought process is, you know, how can they increase the number of lease originations within that footprint that they're assigned?

That's by visiting the stores, constant contact with managers, training new employees that come in, et cetera. Like I said, that could be a very large initiative for us. A good number of our peers have, you know, grown entirely through that process, so we look forward to, now that we have the technology, to be able to compete in that environment also.

Scott Buck (Managing Director of Equity Research and Technology)

Thanks. That's helpful, Russ. Then second one, I'm curious, in the, the macro environment, what, what could happen to take some pressure off your core consumer? I mean, what, what do they need to occur to get more, I guess, active?

Russ Heiser (CEO and CFO)

Well, as I mentioned, we've been focused on making sure there's a good cushion. One of the things that I think caught a good number of us in this industry was the severe impact of the end of stimulus. I think in the back of our minds, we're always concerned, you know, what's the next thing that can happen? Obviously, significant inflation is still out there, starting to decrease, but now that we have some other federal programs that are turning off, whether it's about, you know, repaying school loans, et cetera, that we just want to make sure that we're not in a position that we're going to be on our heels if there is a significant change in consumer behavior.

Scott Buck (Managing Director of Equity Research and Technology)

Thanks. That makes sense. That's it for me, guys. Thanks for the time.

Russ Heiser (CEO and CFO)

Thank you, Scott.

Operator (participant)

Thank you. Our next question comes from the line of Michael Diana with Maxim Group. Please proceed with your question.

Michael Diana (Managing Director and Senior Research Analyst)

Thank you. Hey, Russ. You obviously have multiple channels, and in-- for one of the channels, you were describing some changes you're making that should really kick in, in the fourth quarter holiday season. I, I think it was your FlexShopper channel. Could, could you just go over that again?

Russ Heiser (CEO and CFO)

Sure. Of course. One of the what we have noticed is that the number of visitors to our site that eventually either convert, because they're new unique visitors or, you know, repeat because they're existing customers, is just a very small % of the traffic that comes to our site. The hypothesis is that consumers are looking for a credit option, when they see the lease-to-own costs, that they're clicking around, they're examining the site, eventually they decide that they feel like it's too expensive, given their what they think their cost of credit should be. By adding additional financing options to checkout, it's not necessarily a choice for the consumer. Based upon the scoring that we do internally, we'll decide what is the financing option that makes the most sense for them.

What that will enable us to do is have a range of options. Some of which might be as low as 10% APR, and then expanding into our lease-to-own product. By having a wider net, you know, we're no longer, FlexShopper will no longer just be a place where people come and get lease-to-own financing. It's a site where consumers can come and receive a variety of different credit options from, like I said, a very low APR, the ability to use their own credit card if they decide to do so, and then also being able to transition, in case of what our core consumers do now, into this higher price lease-to-own product. I think by giving a wider assortment of options, we really are providing flexible shopping options to these consumers and should hopefully increase conversion rates substantially.

Michael Diana (Managing Director and Senior Research Analyst)

Okay, that's, that's gonna be rolled out and ready to go for the fourth quarter holiday season. Is that the idea?

Russ Heiser (CEO and CFO)

That's correct.

Michael Diana (Managing Director and Senior Research Analyst)

Okay. Then in, in your enterprise, I think you were saying your, your two biggest customers are, those programs are growing, just, just because the, the, the customers themselves or the, the enterprise entities themselves are doing more business. Is, is that part of the growth there?

Russ Heiser (CEO and CFO)

Correct. Not only doing more business, but they're also, large tenured partners that are growing through acquisitions themselves.

Michael Diana (Managing Director and Senior Research Analyst)

Okay.

Russ Heiser (CEO and CFO)

We've had one partner that is increased their store count from about 900 locations to 1,500 locations through acquisitions, and we benefit from that also.

Michael Diana (Managing Director and Senior Research Analyst)

Okay, great. All right. Thank you.

Russ Heiser (CEO and CFO)

Thank you.

Operator (participant)

Thank you. Ladies and gentlemen, that concludes our question and answer session. I'll turn the floor back to Mr. Heiser for any final comments.

Russ Heiser (CEO and CFO)

Thanks, everyone, for dialing in this morning. We look forward to a terrific second half of the year.

Operator (participant)

Thank you. This concludes today's conference call. You may disconnect your lines at this time. Thank you for your participation.