Following up on Neil McCabe’s article in which the Consumer Financial Protection Bureau came after payday lending, the other CFPB target in private lending is World Acceptance Corporation (NASDAQ:WRLD).
The CFPB had to split its attack, since the companies have different models. Payday loans are two week loans, and World makes longer term loans.
To get rid of World Acceptance Corporation, the CFPB chose a different avenue: issuing a Civil Investigative Demand, which is basically a broad subpoena that requires a company to turn over whatever the CFPB wants.
I’ll tell you exactly what the CFPB is looking for, and what it will use to kill this lender as well.
Almost all of World Acceptance Corporation’s revenue is generated via refinancings. In fact, according to the WRLD 10-K, 71% of loan originations are refinancings.
According to the WRLD 10-K, its average loan is $1,374 for 13 months, with an average interest rate is 100% APR, and uses the Rule of 78s to calculate interest. This means it front loads the interest such that about a third of it is paid in just the first two months.
Then, according to multiple sources such as ProPublica, it aggressively pushes consumers to refinance these loans. So after two payments, they roll the remaining principal (about 85% is still outstanding) into a new loan, having already collected about 33% of the interest on the original amount. Now there’s a new loan, they collect 33% of the interest on that principal, and re-fi repeatedly.
So, on that initial loan of $1,374, after four months, the principal is only reduced $394 while they've paid $811 in interest.
Given how the CFPB's payday lending rules make it clear that it despises refinancings, you can bet it will declare this process “abusive” under its insanely broad interpretative powers. It arguably is, but let’s permit consumers to have a choice about making decisions, good or bad.
Given that the payday loan rules require a 60-day cooling-off period if a loan gets renewed twice, you can bet the CFPB will probably tell WRLD that instead of renewing loans every third month or so, it won't be able to seek customer refinancings until after 180 days…at the earliest.
That blows up its entire revenue model, and does so by design.
According to its 10-K and a report from Citron Research, WRLD sells credit insurance provided by a third-party insurance entity, and is paid a commission of 64% of the actual premium itself. A 64% commission suggests that not very many claims get paid out on, and that’s likely the case. Not only that, credit insurance for unsecured loans like these are not really needed, because the worst-case scenario is the borrower gets sent to a collection agency. As I have written for years on the topic of consumer finance, defaults are not reported to the credit bureaus.
Also, according to the WRLD 10-K, the company finances the insurance premium, which the CFPB has already ruled to be illegal.
The CFPB hates credit insurance, and hates when a company sells something that someone doesn’t need. The CFPB didn't like how Discover Financial Services (NYSE:DFS), American Express (NYSE:AXP) and Capital One (NYSE:COF) sold credit insurance products. It levied restitution payments of $200 million, $60 million, and $114 million, respectively, plus tens of millions in fines, on the companies.
Expect the CFPB to kill the credit insurance product altogether, which wipes out about 40% of the company’s net income, according to its net income statements. Add that to the devastating change in the re-finance model, and WRLD will no longer be able to operate profitably.
With that taken care of, it’s only a matter of forcing the company into bankruptcy.
Liquidation – The Ultimate Goal
The company’s creditors believe in this possibility. That’s why, in last week's 8-K, World Acceptance Corporation’s credit facility was trimmed, with an important clause which telegraphs its demise: "material regulatory orders will, if not discharged with in 60 days, result in an event of default."
i.e. The creditors expect this to happen, and they’ll want their $575 million back immediately (debt due is per the 10-K). When you subtract that from the $780 million in net receivables it will be able to recover, it will be left with $205 million.
Then comes the CFPB’s fines and restitution. If what we saw with the other companies were any indicator, I believe the CFPB will try and take it all.
Because it can. Because it has no oversight. Because it’s an Obama creation.
What to Do?
Neil McCabe is exactly right. These are easy wins for the CFPB because everyone hates short-term lenders that charge high interest rates. Nor is the CFPB just going for a headline. It wants the entire business of lending dead, so it can help out Elizabeth Warren with her crazy plan to move private lending to the post office.
All you can do is complain to your congressman, and if you want to make some money, short the heck out of World Acceptance Corporation stock.