Canadian Subprime Auto Lender Stock Crashes 60% as Portfolio Losses Accelerate Risk Reassessment

Canadian subprime lender Goeasy’s shares were down as much as 60% after the announcement by the company that it would suspend paying a dividend to shareholders and withdraw its guidance after reporting hundreds of millions of dollars in vehicle-finance losses.

This news has increased investor concerns regarding the risk of lending to subprime car buyers.

Goeasy, a subprime auto lender through its easyFinancial and LendCare product lines that primarily service subprime customers, is viewed as a benchmark for assessing creditworthiness in the non-prime space.

Warning signs are flashing for lenders across all of North America. The rapid decline in credit quality at one of Canada’s largest subprime lenders suggests that similar portfolios in the U.S. could see a significant increase in delinquency pressure on their respective portfolios.

Declining values of used vehicles and historically high interest rates will continue to squeeze both consumers and lenders, and increase delinquency trends in many consumer credit product areas.

Goeasy’s net charge-off losses amount to approximately $131 million based on reports from Bloomberg and Financial Post and are associated with the company’s lending business. According to Bloomberg, these net charge-off amounts represent a significant proportion of the total related to Goeasy Inc.’s LendCare business. 

LendCare offers consumers financing for large items, including cars, via merchant partner financing. “We have experienced much poorer credit performance in recent periods than we expected,” Goeasy stated in its announcement regarding the removal of its forward-looking guidance.

As such, a subprime lender providing automotive financing presents many unique risk exposures. If an auto loan borrower fails to make payments, the subprime lender typically relies upon repossessing and selling the vehicle to recover some or all of the loss. 

But if used car values decline from levels established during the pandemic (i.e., higher values), a subprime lender receives significantly reduced proceeds when repossessed vehicles are sold. Some believe this was one of the main reasons for Goeasy’s net charge-offs.

Over the past several years, subprime auto lending has been growing at an incredible pace by offering extended payment plans (longer loan terms) and much higher loan amounts to individuals who are considered to have poor credit.

The increased length of time of extended loan terms creates a greater risk of loss for the lender. As borrowers carry out long-term loans (typically 72 months or longer), the borrower may owe more on the loan than the total amount owed on the vehicle for a longer period of time.

Another factor creating stress is inflation. With rising costs for housing, food, and insurance, many families will have fewer dollars available in their household budget to pay off loan payments.

Higher borrowing costs also affect how much it costs for consumers to borrow money. The cost to borrow money remains high compared to the historic lows during the early part of the decade, which is why many borrowers are making higher loan payments.

Collectively, these factors provide a challenging business climate for lenders who serve non-prime borrowers.

Goeasy’s issues can be viewed as a canary in the coal mine for lenders in North America as both Canada and the United States have a similar subprime auto financing market.

In both markets, the borrower will typically have a higher loan balance per income level than in the prime market, and subprime lenders in these two countries use a combination of securitization (sale) of loans to investors (such as mutual funds) or other forms of external funding to fund their loan portfolios.

Several large U.S. lenders use similar business models, including companies like Santander Consumer USA, Credit Acceptance Corp., and Westlake Financial that specialize in making vehicle loans to consumers who have poor credit histories.

If the credit quality of subprime auto loans worsens, lenders may face pressure to raise loan loss provisions or tighten lending standards.

Industry observers are going to pay close attention to future quarterly earnings releases by subprime auto lenders for any indicators of similar issues occurring in this industry. If they experience increasing levels of charge-offs or if they increase their loan loss reserve provisions, it could indicate that stress in the industry is expanding.

The fact that Goeasy is suspending its dividends shows how much strain subprime automotive lending is under. As delinquencies rise and used car prices fall, the recovery on loans will decline. And if this trend continues, lenders across North America will experience a similar amount of pressure.