A group of lenders is reducing its loan commitment to World Acceptance. Under terms of an agreement announced last week, Wells Fargo and its partner lenders will shrink World's revolving line of credit from $680 million to $430 million. In conjunction with that, World Acceptance will issue $250 million in notes due in 2015.
In my opinion, two things stand out about this announcement.
The first is that it will change the cost and flexibility of their financing.
A revolving line of credit only cost money when you need to use it. But with notes, the borrower has to make payments semi-annually regardless of the situation. Revolving credit is the ideal mode of capital for a company like World, as it gives the company the ability to borrow as it needs. The consumer finance segment is similar to most in the underbanked sector in that all tend to exhibit seasonality as a function of the EITC. Sellers of goods (Buy-Here Pay-Here) do well after the beginning of tax season, while lenders see a surge beforehand.
The $680 million revolving line had been a flexible source of relatively low-cost corporate debt for the South Carolina consumer finance company. Last week's filing suggests that the company had drawn about $592 million at the end of 2014. Thus, it does matter that their line is now only $430 million.
The impact is not just on liquidity, but also on the cost of capital. Recent reports from World on annual interest expense would suggest that they were paying about 4.6 percent. Back when I reviewed a group of high-cost consumer finance companies for their weighted average cost of capital, World came in at 5.83 percent.
Perhaps it fits that World also agreed to a prepayment penalty. The company will have to pay 1 percent not just if the line is extinguished but also if the company defaults.
FINRA is yet to report on the pricing of the notes. Not knowing for sure, though, it is still possible to speculate on how it will be received. Some of the debt issued by their consumer finance brethren is selling at very distressed prices. At the moment, the 10.75 percent notes due in 2019 from Community Choice Financial yield 30 percent. Enova's recent issue yields 10.2 percent. The yield on callable First Cash Financial notes is 5.5 percent. That is not very high, but it is still above the rate that World was getting from its revolving line. To be fair, though, some high-cost lenders do very well when they issue debt. To that point, the yield on Dollar Financial debt is only 3 percent.
Yield matters, because it influences how much a company receives when it sells those cash flows. If 10 percent notes yield 30 percent, then it means that the bonds are trading at about 60 cents on the dollar. Ouch.
Would a few percentage points make a difference on an ongoing basis? Well, consider that the average return on assets at World has been between 10.9% and 14.0% during the last ten years. A marginally higher cost of capital does impact the company.
Furthermore, World believes that its profitability is dependent upon its ability to expand its loan portfolio.
The second is that another bank has decided to pull back from World.
TD Bank is no longer a part of this loan. In doing so, they follow on BB&T's decision last year. At this point, only six banks are on board: Wells Fargo ($125 million), Capital One ($45 million), Texas Capital Bank ($25 million), Bank of America ($110 million), First Tennessee Bank ($30 million), and Bank of Montreal ($95 million).
About World Acceptance
I would like to add a review of how World's business model is meant to serve its customers. According to the company, World intends to charge customers as much as is legally allowed in the state where the transaction is consummated. As a result, their receivables held at the end of 2014 had rates of as high as 199 percent. During 2014, 82.5 percent of its loans were generated through the refinance of outstanding loans or from originations to previous customers. With regard to that pattern, World comments:
"The Company actively markets the opportunity for qualifying customers to refinance existing loans prior to maturity.....This in turn may increase the fees and other income realized for a particular customer."