Where is OppFi going? (NYSE: OPFI)

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Subprime lending platform OppFi (NYSE:OPFI) continues to struggle against a hostile macro environment that has not only reduced its commons to a fraction of their previous highs. This should always be the case expected outcome for the bears forming the 20% short stake in the company’s float, with concerns heavily focused on OppFi’s increasingly poor record amid a protracted recession. In fact, the company’s cash position was down to $14 million, down for six consecutive quarters from a peak of $77 million in early 2021.

However, the company’s bulls are right to draw attention to the summer’s shift of the business to a customer mix more oriented toward those with better credit ratings. This should halt the successive surge in charge-offs that threatened to reduce receivables, which now account for 80% of OppFi’s total assets. Lending model tightening hasn’t slowed growth as OppFi’s most recently reported fiscal 2022 third quarter revenue is up 35% year over year. A lawsuit by the California consumer finance regulator is still pending his way through the court OppFi faces charges for its lending practices in the golden state during the pandemic. The outcome of the legal dispute is still pending, but increases the risk for an already strained balance sheet. Therefore, the Pivot OppFi has brought two key benefits.

First, it reduces the likelihood of further legal action, since the previous model relied on charging material interest rates only to break even after large writedowns. Interest rates on loans between $2,500 and $10,000 are capped at 36% plus the federal funds rate in California, and OppFi would have struggled to break even with such a low rate for its previously targeted market segment. Second, the company expects profitability to recover over the next year as a result of these changes. Default rates for new and refinanced loans have already fallen significantly.

Sales are a hit, but net income continues to fall

OppFi’s revenue for the third quarter of fiscal 2022 was $124.2 million, a 35% increase from the year-ago quarter and a huge $14.59 million above consensus estimates. This came as net lending rose to $182.7 million, an 11% increase from the year-ago quarter. Receivables increased to $407.7 million, a 39% increase over the same period last year.

The company’s target market remains 60 million American adults who are unable to access traditional credit as banks rapidly reduced their exposure to certain market segments following the 2008 global financial crisis. 64% of US consumers live paycheck to paycheck and 56% of adults have no savings to cover a $1,000 unplanned expense. Providing finance to these relatively underserved individuals remains OppFi’s core goal, even amidst its turnaround. The company charges no late payment or NSF fees on its loans, all of which come with a no-fee prepayment option.

US Federal Reserve interest rate

trade economics

Funding its accounts receivable is the difficult part, as the company depends on the difference between the cost of financing and the interest charged on the accounts receivable. This net interest rate spread is influenced by the rising interest rate of the Fed, which was last raised by 75 basis points to 4%. The company’s ability to charge higher interest rates on its receivables is being tested by the limitations of its business pivot. A rising interest rate environment would fundamentally increase defaults while increasing OppFi funding costs.

Data from YCharts

This is combined with a fall in real incomes and negative economic growth to confound a business that was still posting net write-offs as a percentage of average receivables of 66% in the third quarter. That was up from 36% in the prior-year period and reflected the legacy customer segments the company shed as a result of its move.

A strategic hub

The company posted a net loss of $700,000 for the quarter, beating consensus but still marking a continuation of what has now been six straight quarterly trends of falling profitability. The business model was profitable in the pre-rate hike period, with management aiming to get it back to that point next year, with the commons down 57% year-to-date at a 0.17x PS ratio.

Bulls first touted deteriorating economic conditions as an opportunity, as it would inherently boost underlying demand for its subprime products. Indeed, in a previous earnings call, management stated that macroeconomic conditions of multi-decade inflation peaks and rising Fed interest rates would boost credit growth. A point that supported a decision to launch a $20 million share buyback that is now almost certainly trading at a loss. And while that was happening, billings skyrocketed accordingly.

The fulcrum should help OppFi curb payment defaults and return to profitability as revenue continues to grow. But the short-term outlook for the common stock isn’t positive, and OppFi isn’t a prudent investment right now.

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