EDGAR 10-K Filing

Company CIK: 1538716
Filing Year: 2021
Filename: 1538716_10-K_2021_0001538716-21-000030.json

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ITEM 1. BUSINESS
Item 1. Business
Our Mission
Our mission is to provide inclusive, affordable financial services that empower our customers to build a better future.
Overview
We leverage our digital platform to provide responsible consumer credit to hardworking people. Using models that are developed with Artificial Intelligence ("A.I.") and built on over 15 years of proprietary consumer insights and billions of data points, we have extended more than $9.8 billion in affordable credit, providing our customers with alternatives to payday and auto title loans. In recognition of our responsibly designed products, which help consumers build their credit history, and our service to the community, we have been certified as a Community Development Financial Institution (CDFI) by the U.S. Department of the Treasury, since 2009. CDFIs must have a primary mission of promoting community development, providing financial products and services, serving one or more defined low-income target markets, and maintaining accountability to the communities they serve.
Since our founding in 2005, we have empowered more than 1.8 million customers, through more than 4.1 million loans, saving them more than an estimated $1.8 billion in aggregate interest and fees compared to alternative products available to them, based on a study commissioned by us and conducted by the Financial Health Network (formerly known as the Center for Financial Services Innovation). We have helped over 890,000 customers who came to us without a FICO® score begin establishing a credit history. In addition, our proprietary credit scoring model and continually evolving data analytics have enabled us to maintain strong absolute and relative performance through varying stages of an economic cycle with net charge-off rates ranging between 7% and 9% from 2011 to 2019 and a 9.8% net charge-off rate for 2020.
Our Market Opportunity
We estimate that there are 100 million people living in the United States who find themselves outside the credit mainstream. According to a December 2016 study by the Consumer Financial Protection Bureau (“CFPB”), an estimated 45 million people in the United States are unable to access affordable credit options because they do not have credit scores. We believe there are another 55 million people in the United States who are "mis-scored," primarily because they have a credit history that is too limited to be accurately scored by the credit bureaus. Mainstream financial services such as banks typically rely on credit records maintained by nationwide credit bureaus and credit scores such as FICO® when making credit decisions. Online marketplace lenders, which have emerged as alternatives to banks, often are focused on customers with credit scores and robust credit histories. Other non-bank finance companies, including national and regional branch-based installment loan businesses, may serve those with damaged credit, but also place significant emphasis on credit scores and credit history. These lenders may also sell products such as credit insurance, which we believe may be ill-suited to meet the needs of our target customers.
Consequently, people outside the credit mainstream have to turn to alternatives with high rates and opaque payment terms ill-suited to their needs. These alternative lenders include high-cost installment, auto title, payday and pawn lenders. According to the Financial Health Network study that we commissioned, those products are on average more than four times more expensive with some options ranging up to eight times more expensive, than the cost of our offerings. These products may also be less transparent and structured with balloon repayments or carry fees that make the loan costly and difficult for the borrower to repay without rolling over into a subsequent loan. These lenders typically do not perform any ability-to-pay analysis to make sure that the borrower can repay the loan and often do not report the loans to the nationwide credit bureaus to help the customer establish a credit history. Establishing a credit history is important-it extends beyond just access to capital to various aspects of day-to-day life, such as credit checks by potential employers, landlords, internet and cell phone providers and beyond.
We also believe a significant portion of our customers proactively avoid many traditional and alternative financial service providers due to their distrust resulting from lack of pricing transparency and impersonal service; inability to provide service and loan disclosures in their preferred language; and inability to service customers through the channel of their choice. At Oportun, we strive to build strong, long-term relationships with our customers based on transparency and superior service across our convenient omni-channel platform.
In 2019, the U.S. market for consumers underserved by mainstream financial services was estimated by the Financial Health Network to be $196 billion. We believe our opportunity for future growth remains substantial, as our estimated share of the total market in 2019 was less than one percent based on our total revenue of $583.7 million for 2020 compared to an estimated $196 billion market for consumers underserved by mainstream financial services.
Beyond our core direct-to-consumer lending business, we believe that our proprietary credit scoring and underwriting model can be offered as a service to other companies. This Lending as a Service model is currently being piloted with our strategic partner, DolEx Dollar Express, Inc. (“DolEx”). In this partnership, DolEx will market loans and enter customer applications into Oportun’s system, and Oportun will underwrite, originate and service the loans. If successful, we believe we will be able to offer Lending as a Service to additional partners and thereby expand our reach into new consumer markets.
Our Solution
Consistent with our mission of financial inclusion, we design our products and services to be financially responsible and lower cost compared to market alternatives. We take a holistic approach to solve the needs of our customers and view it as our purpose to responsibly meet their current capital needs, help grow our customer’s financial profile, increase their financial awareness and put them on a path to establish a credit score.
Our application of A.I., specifically machine learning, to our unique alternative data set, allows us to rapidly build, test and develop our underwriting, pricing, marketing, fraud and servicing models across our business. This provides us with a strong competitive advantage and unique credit performance which allows us to offer a lower cost option to millions of customers. The current versions of our credit and fraud models were developed using 8.4 billion data points, and our targeted marketing models were developed making use of over 100 billion data points. Our solution delivers the following benefits:
•Expands access to affordable credit-Our A.I-driven technology platform is central to our business and we ingest billions of data points into our risk model development using traditional (e.g., credit bureau data) and alternative (e.g., transactional information, public records) data. This helps us to score 100% of the applicants who come to us, enabling us to serve more customers while minimizing risk. In comparison, incumbent financial institutions relying on traditional credit bureau-based and in some cases qualitative underwriting and/or legacy systems and processes either decline or inaccurately underwrite loans due to their inability to credit score our customers accurately.
•Quick and easy lending process-Our fully centralized and automated digital underwriting platform powers our ability to successfully preapprove borrowers in seconds after they complete an application process that typically takes as little as 8-10 minutes. Customers who are approved can receive their loan proceeds the same day.
•Transparent and trustworthy-Our loans are transparent, simple to understand, and are designed for customer success. We cap the APR for all newly originated loans at 36%, and our loans do not have prepayment penalties or balloon payments. As part of our responsible lending philosophy, we verify income for 100% of our personal loan customers, and we only make loans that our ability-to-pay model indicates customers should be able to afford after meeting their other debts and regular living expenses. To make sure a customer is comfortable with his or her repayment terms, the customer has the option to choose a lower loan amount or alternative repayment terms prior to the execution of the loan documents.
•Significant savings compared to alternatives-According to a study commissioned by us and conducted by the Financial Health Network, we save our customers an estimated $1,000 on their first loan with us compared to typically available alternative credit products, which are on average more than four times the cost of our loans, and some options range up to more than eight times the cost of our loans. For a typical new customer of ours, this equates to approximately one-third of their monthly net take-home pay. These savings create substantial benefits for our customers, allowing them access to liquidity during times of need, such as to help cover unexpected medical bills, repair their car that they rely upon to drive to work or to help pay off more expensive debt.
•Superior customer experience-We are available to work with our customers in the way they prefer and when it is convenient for them, online, over-the-phone, and in person seven days a week. In addition, our customers can make their loan payments via ACH, debit card or can pay online and in cash at Oportun retail locations, our partner locations, and at more than 55,000 third-party payment sites across the nation. Our employees embody our mission-driven approach, and, along with the speed and ease of use of our digital platform allows us to maintain a strong Net Promoter® Score, (“NPS”) that places us among the top consumer companies and is exceptional compared to legacy financial services companies.
•Rewarding customers when they demonstrate successful repayment behavior-We report payment history on every loan we make to nationwide credit bureaus, and since inception, have helped over 890,000 customers who came to us without a FICO® score begin establishing a credit history. In addition, we generally are able to offer customers who repay their loan and return to us for a subsequent loan a new loan that is on average, approximately $1,200 larger than their previous loan.
Our Lending Platform
Over the last 15 years of lending, we have developed a deep data-driven understanding of our customers’ needs through a combination of the rigorous application of A.I., the use of alternative data sets and continuous customer engagement, allowing us to continuously refine and tailor our platform and product set to our customers. Our technology is crucial to our approach and provides us a competitive advantage, unique credit performance, and a lower cost option to millions of consumers.
In response to the COVID-19 pandemic, we initiated a series of refinements to our scoring and decisioning platform based on real-time data and analysis. This serves as a testament to the adaptability and nimbleness of our scoring and decisioning platform. In response to changing macroeconomic conditions, we are able to respond, implement, and test the updates to our model quickly due to the adaptability of our underwriting, risk management, and fraud models. As a result, our 2020 annualized net charge-off rate rose to only 9.8% which was above our targeted range of 7 to 9% which we had maintained since 20.
Our lending platform has the following key attributes:
•Unique, large and growing data set that fuels our risk scoring models-In developing our risk scoring models, we leverage billions of data points derived from our research and development of alternative data sources and our proprietary data accumulated from more than 9.5 million customer applications, 4.1 million loans and 88.7 million customer payments to score 100% of the applicants who come to us, enabling us to serve millions of consumers others cannot.
•Virtuous cycle of risk model improvement-Our lending platform leverages machine learning processes large amounts of alternative along with traditional credit bureau data to assess creditworthiness across over 1,000 end nodes. The speed at which we can incorporate new data sources, test, learn, and implement changes into our scoring and decisioning platform allows for highly managed risk outcomes and timely
adjustments to changes in consumer behavior or economic conditions. As our data set grows, our proprietary risk models can more accurately assess, price and manage risk, so we can diversify our product offerings, and grow our customer base.
•Scalable and rapidly evolving-Powered by A.I., our automated model development workflows enable us to develop and deploy a new credit risk model in as little as 25 days. We believe this is a process that can typically take 6-12 months for traditional lenders with legacy technology platforms. This quick turnaround time for a new scoring model allows us to quickly incorporate new data sources into our models or to react to changes in consumer behavior or the macroeconomic environment. We use this platform to rapidly build and test strategies across the customer lifecycle, including through direct mail and digital marketing targeting, underwriting, pricing, fraud and customer servicing.
•Refined fraud management-Our A.I.-driven fraud model helps us prevent fraud and manage risk. Our technology enables our model to learn how to deal with fraudulent and unusual activity by ingesting extensive data points including customer information as well as information from credit bureaus, fraud detection databases and other alternative data sources. Based on our calculations, early results indicate that our fraud model performs twice as effectively than commercially available alternatives.
•100% automated and centralized decision making-Fully automated and centralized decision making that does not allow any manual intervention enables us to achieve highly predictable credit performance and rapid, efficient scaling of our business.
Our Products
Personal Loans
Our personal loan serves as a responsible alternative to payday loans; a simple-to-understand, affordable, unsecured, fully amortizing personal installment loan with fixed payments throughout the life of the loan. We charge fixed interest rates on our loans, which vary based on the amount disbursed and applicable state law, with a cap of 36% annual percentage rate (“APR”) in all cases. As of December 31, 2020, for all active loans in our portfolio and at time of disbursement, the weighted average term and APR at origination was 34 months and 32.7%, respectively. The average loan size for loans we originated in 2020 was $3,058. Our loans do not have prepayment penalties or balloon payments, and range in size from $300 to $10,000 with terms of six to 51 months. Generally, loan payments are structured on a bi-weekly or semi-monthly basis to coincide with our customers' receipt of their wages. As part of our underwriting process, we verify income for all applicants and only approve loans that meet our ability-to-pay criteria.
We fully re-underwrite all loans to returning customers and require all customers to have successfully repaid their previous loan before disbursing their new loan, with the exception of our “Good Customer Program.” Under our Good Customer Program, for certain of our best performing, low-risk customers, we will extend a new loan prior to receiving full repayment of their existing loan. In accordance with our policy to allow a customer to have only one personal loan outstanding, the new loan proceeds are used to pay off the prior loan and the excess amount is disbursed to the customer. Customers qualify for the Good Customer Program if they have made substantial progress in repaying their current loan, meaning they have repaid at least 40% of the original principal balance of the loan, are current on their loan and have made timely payments throughout the term of the loan. In recognition of good payment behavior, we typically grant returning customers, whether under the Good Customer Program or not, a lower rate on subsequent loans. As of December 31, 2020, returning customers, including Good Customer Program customers as well as customers who pay us off and return later for another loan, comprised 85% of our owned principal balance outstanding at the end of the period.
Credit Cards and Auto Loans
Since we launched the Oportun® Visa® Credit Card, issued by WebBank, in December 2019, we now offer our credit card product in 33 states. In addition, in April 2020, we launched personal loans secured by an automobile (“secured personal loan”) on a limited basis in California and expect to expand into additional states. In order to focus our resources on our secured personal loan product, we shifted our strategy away from purchase money auto loans. Due to the recent introduction of our credit card and secured personal loan products, the percentage of our principal balance attributable to these products is minimal compared to our core personal loan product.
Our Business Model
Our A.I.-driven technology platform derives data-driven customer insights to deliver a low cost of acquisition, enabling customer loan growth with low levels of credit losses and high risk-adjusted yields. Low and stable losses allow us to access capital at an attractive cost of funds, and our technology-driven approach generates improvements in our operating efficiency. Growing our high risk-adjusted yielding portfolio at low cost of funds, with improving operating efficiency, drives our profitability and enables increased investment in technology which only furthers our mission-aligned growth.
Components of the business model include:
Efficient customer acquisition-Through the application of A.I., we aim to increase our brand awareness, penetrate a greater percentage of our serviceable market and acquire customers at a low cost. Similar to our lending platform, our marketing engine applies machine learning and ingests billions of data points derived from millions of customer interactions, which enables us to rapidly build and test strategies across the customer lifecycle and drastically shorten processing time for campaigns across various marketing channels, including targeted digital and direct mail marketing.
We believe our Customer Acquisition Cost of $134 and $199 in 2019 and 2020, respectively, compares favorably to other lenders. We are applying our experience and use of A.I. and alternative data from our direct marketing campaigns to leverage aggregators like Credit Karma. We are enabling new marketing and acquisition channels, such as partnership channels, and intend to continue investing in marketing capabilities that can be applied to increase the volume and effectiveness of our targeted digital campaigns. We believe that utilizing these new marketing capabilities will allow us to efficiently scale the partnership with MetaBank, N.A. and to drive origination growth in all states. In addition, our exceptional NPS and success with customer referrals should help accelerate our brand recognition.
High Risk Adjusted Yields-Our A.I.-driven credit models enable us to originate loans with low and stable loss rates. Our net-charge-off rate ranged between 7% and 9% from 2011 to 2019 and was 9.8% in 2020, a modest variance above this range during the pandemic. Because the borrowing options typically available to our customers are on average four times the rates we charge, our loans with an average APR of 32.7% provide our customers with significant savings while providing us with an attractive risk adjusted yield in the mid-20's.
Low-cost term funding-Our consistent and strong credit performance has enabled us to build a large, scalable and low-cost debt funding program to support the growth of our loan originations. To fund our growth at a low and efficient Cost of Debt, we have built a diversified and well-established capital markets funding program which allows us to partially hedge our exposure to rising interest rates by locking in our interest expense for up to three years. Over the past seven years, we have executed 14 bond offerings in the asset-backed securities market, the last 11 of which include tranches that have been rated investment grade. We also have a committed three-year, $400 million secured line of credit, which funds our loan portfolio growth. Additionally, we sell between 10% to 15% of our core personal loan originations to an institutional investor under a forward commitment at a fixed price to demonstrate the value of our loans, increase our liquidity and further diversify our sources of funding. For the year ended December 31, 2020, our Cost of Debt was 4.1%. As of December 31, 2020, over 80% of our debt was at a fixed cost.
Operating Efficiency-To build our business, we have made, and will continue to make, significant investments in A.I., our proprietary digital platform, technology infrastructure, compliance and controls. We believe those investments will continue to enhance our Operating Efficiency and will improve our profit margins as we grow. Prior to the pandemic, we drove consistent improvements in operating efficiency from 2016 to 2019, as we scaled our business. We had Operating Efficiency of 67.4% and 60.4% for the years ended December 31, 2020 and 2019, respectively. We had Adjusted Operating Efficiency of 61.1% and 57.2% for the years ended December 31, 2020 and 2019, respectively. For more information about the non-GAAP financial measures discussed above, and for a reconciliation of these non-GAAP financial measures to their corresponding GAAP financial measures, see "Non-GAAP Financial Measures."
Our Growth Strategy
Our virtuous cycle centers around our customers, with A.I. and our digital platform accelerating our momentum and ability to efficiently, responsibly, and responsively serve even more customers. By improving each of our competitive advantages, we are able to grow our addressable market and increase customer satisfaction and loyalty.
Grow our loyal customer base
We leverage machine learning to rapidly build and test strategies across the customer lifecycle, including through targeted digital and direct mail marketing, underwriting, pricing, fraud and customer servicing. We plan to invest in technology and mobile-first experiences to further simplify the loan process for returning customers. We are also investing in our targeted digital marketing capabilities in 2021 to drastically shorten the processing time for campaigns and leveraging these capabilities in partnerships. In 2020, we enhanced our mobile platform, which is our fastest growing channel, to add additional features that simplified and expedited the origination and payment processes, including focusing on automated verification, touchless loans and increasing approval rates, in order to improve the customer experience. We also believe that as we scale new products and services, such as secured personal loans and credit cards, we will further improve customer loyalty and increase customer lifetime value. All of these new capabilities will be important in scaling the MetaBank partnership, and we expect that the partnerships with both MetaBank and DolEx will enhance our ability to attract new customers in our expanding geographic footprint.
Build on our data and technology strengths
We expect to continue to invest significantly in our credit, data analytics and technology capabilities. The evolution of our proprietary risk model enables us to underwrite more customers and make more credit available to new and returning customers, while maintaining consistent credit quality, which we believe benefits our direct-to-consumer lending as well as our ability to offer partners our Lending as a Service capability. The continuous development and rapid deployment of our credit models enabled by machine learning creates a virtuous cycle that increases our customer base and our alternative data set, improving our underwriting tools and ability to grow profitably.
We also intend to invest further in our digital origination and servicing platform as these capabilities give us a path for continued growth in a capital efficient manner. A shift to mobile preference among our customers was occurring gradually prior to 2020. The pandemic further accelerated the adoption of our digital channels, and we believe that for many of our customers, this shift will be permanent. We believe we can increase conversion rates in our fastest growing channel, mobile, by further developing our automatic verification and touchless loan capabilities. In addition, we utilize the application of machine learning to our proprietary data set identify ways to increase approval rates while keeping risk stable.
Along with enhancing our origination capabilities, we are planning to further expand our digital self-service processes. During the pandemic, we have built out a robust communications engine that delivers solutions such as hardship deferrals and rewrites to customers through multiple channels. Customers can self-serve on a mobile device for easy payments with a few clicks, execute a hardship restructure or an Emergency Hardship Deferral. Clearly communicated benefits, along with customized offers and the ability to self-serve, have improved contact rates and customer outcomes. In 2021, we plan on further leveraging A.I. to determine the best communication channel for reaching a customer and offering them a solution that best fits their situation to further drive improved customer outcomes.
Use our technology to power our channel ecosystem
Our digital platform enables end-to-end process management, from loan application through disbursement, to servicing and collections, allowing our customers to interact with us and seamlessly move between online, over-the-phone, and in person experiences seven days a week. With 65% of our new applications initiated online in the fourth quarter of 2020, we will continue to enhance our digital capabilities to simplify and expedite the origination and payment processes which we believe will improve the customer experience and increase customer lifetime value.
In addition, we believe we can drive additional customer growth by enabling new marketing and acquisition channels. For example, we will leverage our underwriting capabilities through our strategic partnership with DolEx, where DolEx will provide certain loan origination services, including marketing, using Oportun-approved materials; collecting information and assisting consumers with Oportun’s loan application and loan document execution; and certain customers can receive loan proceeds at a DolEx location. Oportun will underwrite, originate and service all loans made pursuant to this partnership, which started with an initial launch in stores in Florida in December 2020 and will be expanding to other states soon. As a pilot for our Lending as a Service offering, the DolEx relationship represents a new channel for growth in Oportun’s business, and we believe this initial offering can serve as the foundation for signing up additional strategic partners.
Expand our geographic reach
We are continuing to expand our geographic presence in existing states and enter new states. We currently offer our personal loan product in 12 states and offer our Oportun® Visa® Credit Card in 33 states. Our secured personal loans are currently available in California and we plan to expand the product into additional states. In addition through a partnership with MetaBank, N.A., a national bank, we are working to offer our personal loans in 30 additional states around mid-2021, initially through our mobile channel. Our intention is to offer loan products that are the same as our state-licensed, unsecured personal loans, with APRs capped at 36%. We estimate that by expanding across the nation through the MetaBank partnership we can nearly double our serviceable addressable market. In November 2020, we began the application process to obtain a national bank charter. If approved, we will be able to provide service to customers in all 50 states.
Expand product and service offerings
In line with our mission, we are constantly evaluating the needs of our customers. Our data indicates that approximately 50% of our customers who come to us initially without a credit score eventually take out a revolving credit card and approximately 30% take out an auto secured loan. To meet this demand, we are leveraging our unique business model, including our technology and risk models, to develop additional consumer financial services and products, including secured personal loans and credit cards. In December 2019, we launched the Oportun® Visa® Credit Card, issued by WebBank, Member FDIC, and currently offer this product in 33 states states. In addition, in April 2020, we launched personal loans secured by an automobile ("secured personal loans") on a limited basis in California and expect to expand into additional states. Over time, we expect to continue to evaluate opportunities both organically and through acquisition to provide a broader suite of products and services that address our customers’ financial needs in a cost effective and transparent manner, leveraging the efficiency of our existing business model. For example, if our application to obtain a national bank charter is approved, in addition to our consumer lending offerings, we intend to provide customers with FDIC-insured deposit services.
Giving at Oportun
We understand that our long-term success is linked to the success of our customers and the communities we serve. That is why we annually dedicate one percent of our net profits to support charitable programs and nonprofit partnerships that help strengthen the communities in which we operate, and in which our employees live and work. Our employee volunteer program enables global team members to donate their time to support charitable organizations and the Company matches employee contributions to eligible non-profit organizations.
Our Competition
We primarily compete with other consumer finance companies, credit card issuers, financial technology companies and financial institutions, as well as other nonbank lenders serving credit-challenged consumers, including online marketplace lenders, point-of-sale lending, payday lenders, and auto title lenders and pawn shops focused on low-and-moderate income customers. We may also face competition from companies that have not previously competed in the consumer lending market for customers with little or no credit history. For example, it is possible that the companies commonly referred to as “challenger banks” offering low-cost digital only deposit accounts may also begin to offer lending products catered to low- and middle-income customers. In addition, it is possible that, in competitive reaction to the challenger banks, traditional banks may introduce new approaches to small-dollar lending. While the consumer lending market is competitive, we believe that we can serve our target market with products that lead to better outcomes for consumers because they help establish credit and accelerate their entrance into the mainstream financial system. On the contrary, the offerings of payday, auto title and pawn lenders, for example, are provided at rates that are too expensive relative to the borrowers’ ability to pay, are often structured in a way that forces borrowers to become overextended, and typically lack the personalized touch that is essential to cultivating the trust of our target customer base. Few banks or traditional financial institutions lend to individuals who do not have a credit score. Those individuals that do have a credit score, but have a relatively limited credit history, also typically face constrained access and low approval rates for credit products.
The principal competitive factors in our sector include customer approval parameters (often described informally as “credit box”), price, flexibility of loan terms offered, customer convenience and customer satisfaction. We believe our technology, responsible construction of our products, omni-channel network and superior customer value proposition allow us to compete favorably on each of these factors. Going forward, however, our competition could include large traditional financial institutions that have more substantial financial resources than we do, and which can leverage established distribution and infrastructure channels. Additionally, new companies are continuing to enter the financial technology space and could deploy innovative solutions that compete for our customers. See “Risk Factors - If we do not compete effectively in our target markets, our results of operations could be harmed” and “Risk Factors - Competition for our highly skilled employees is intense, and we may not be able to attract and retain the employees we need to support the growth of our business.”
Regulations and Compliance
The U.S. consumer lending industry is highly regulated under state and federal law. We are subject to examination, supervision and regulation by each state in which we are licensed. We are also currently, and expect in the future, to be regulated by the Consumer Financial Protection Bureau, (CFPB). In addition to the CFPB, other state and federal agencies have the ability to regulate aspects of our business. For example, the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”), as well as many state statutes provide a mechanism for state attorneys general to investigate us. In addition, the Federal Trade Commission has jurisdiction to investigate aspects of our business. Federal consumer protection laws that these regulators may enforce include laws related to the use of credit reports and credit reporting accuracy, data privacy and security, disclosure of applicable loan terms, anti-discrimination laws, laws protecting members of the military, laws governing payments, including recurring ACH payments and laws regarding electronic signatures and disclosures.
We are also subject to inspections, examinations, supervision and regulation by applicable agencies in each state in which we do business. Many states have laws and regulations that are similar to the federal consumer protection laws referred to above, but the degree and nature of such laws and regulations vary from state to state. State laws also further dictate what state licenses we need to conduct business and also regulate how we conduct our business activities.
We are compliant with the USA PATRIOT Act, Office of Foreign Assets Control, Bank Secrecy Act, Anti-Money Laundering laws, and Know-Your-Customer requirements and certain state money transmitter laws.
We review our consumer contracts, policies and procedures and processes to ensure compliance with applicable laws and regulations. We have built our systems and processes with controls in place in order to ensure compliance with these laws on a consistent basis. In addition to ensure proper controls are in place, we have a compliance management system that leverages the four key control components of governance, compliance program risk assessments, customer complaint monitoring and internal compliance audits.
For more information with respect to the regulatory framework affecting our business, see "Risk Factors - Risks Related to our Industry and Regulation."
Information Technology, Infrastructure and Security
Our applications, including our proprietary workflow management system that handles loan application, document verification, loan disbursement and loan servicing, are architected to be highly available, resilient, scalable and secure. Supporting systems are deployed in a hybrid cloud environment hosted in industry-leading data center and cloud service providers that are N+1 compliant.
We deploy our information technology services and applications across multiple data centers using best of breed network, telephony, server, storage, database and end user services, hardware and operating systems. We design our infrastructure to be load balanced across multiple sites and automatically scale up and down to meet peaks in demand and maintain good application performance.
We have fully redundant data centers in place. Disaster recovery and business continuity plans and tests have been completed, which help to ensure our ability to recover in the event of a disaster or other unforeseen event. We back up our mission critical applications and production databases daily and retain them in compliance with our policies. In the event of a catastrophic disaster affecting one of our hosting facilities, we can restore production databases from a backup to minimize disruption of service. Furthermore, additional measures for operational recovery include
real-time replication of production databases for quick failover. In the event of database restores, we perform data consistency checks to validate the integrity of the data recovery process.
We believe that operating a secure business must span people, process, and technology. We build security awareness into our corporate communications and training efforts, and we routinely hold security roundtables with our department leads.
We have deep experience with deploying secure environments and have partnered with industry-leading cloud service providers to host, manage and monitor our mission-critical systems. If required, sensitive data at rest is encrypted with industry standard advanced encryption standards, using keys that we manage. We ensure our network security with redundant multi-protocol label switching, circuits and site-to-site virtual private networks that provide a secure, private cloud network and allow us to monitor our sites behind our secure firewalls. Because we collect and store large amounts of customer personally identifiable information, we have invested in industry-proven methods of information security and we take our obligations to protect that information and avoid data breaches very seriously. These activities are supplemented with real-time monitoring and alerting for potential intrusions.
Seasonality
Our quarterly results of operations may not necessarily be indicative of the results for the full year or the results for any future periods. Our business is highly seasonal, and the fourth quarter is typically our strongest quarter in terms of loan originations. For the three months ended December 31, 2020, our business exhibited growth in originations and revenue, normalization of our credit performance, and improved profitability. However, prior to the pandemic, we historically experienced a seasonal decline in credit performance in the fourth quarter primarily attributable to competing demand of our customers' available cash flow around the holidays. General increases in our customers’ available cash flow in the first quarter, including from cash received from tax refunds, temporarily reduces our customers’ borrowing needs. We experienced this seasonal trend in 2019, consistent with prior years. The economic impact of COVID-19 has disrupted these seasonal trends in March and for the remainder of 2020. The disruption to our typical seasonal trends may continue to occur in subsequent periods.
Our Intellectual Property
We protect our intellectual property through a combination of trademarks, trade dress, domain names, copyrights and trade secrets, as well as contractual provisions, confidentiality procedures, non-disclosure agreements with third parties, employee disclosure and invention assignment agreements and other contractual rights. We currently have no patent applications on our proprietary risk model, underwriting process or loan approval decision making process because applying for a patent would require us to publicly disclose such information, which we regard as trade secrets. We may pursue such protection in the future to the extent we believe it will be beneficial.
We have trademark rights in our name, our logo, and other brand indicia, and have trademark registrations for select marks in the United States and many other jurisdictions around the world. We will pursue additional trademark registrations to the extent we believe it will be beneficial. We also have registered domain names for websites that we use in our business. We may be subject to third party claims from time to time with respect to our intellectual property. See "Item 3. Legal Proceedings" for more information.
In addition to the protection provided by our intellectual property rights, we enter into confidentiality and intellectual property rights agreements with our employees, consultants, contractors and business partners. Under such agreements, our employees, consultants and contractors are subject to invention assignment provisions designed to protect our proprietary information and ensure our ownership in intellectual property developed pursuant to such agreements.
Our People
At Oportun, we are building a community of employees, partners, and customers who support each other on the path to new opportunities, because we believe that when we work together, we can make life better. To this end, below are some of the initiatives in which we are engaged:
•Employee Engagement - We conduct an annual engagement survey as a means of measuring employee engagement and satisfaction, as well as a tool for improving our people strategies for the year ahead. Approximately 73% of our employees participated in our 2020 employee engagement survey, of which 78% reported that they were satisfied with Oportun as a place to work and 82% reported that they were proud to work at Oportun. In addition, in response to the COVID-19 pandemic, we also conducted company-wide pulse surveys throughout 2020 to assess how employees were feeling, what support they needed from Oportun, and the progress of initiatives adopted by Oportun. In response to employee responses, we enhanced our internal communications efforts, such as opening an employee hotline for pandemic-related questions and sending out daily briefings to customer-facing teams. We also adopted measures focused on promoting employee health and providing additional safety and mental wellness, and other wellness topics.
•Diversity and Inclusion - The vast majority of Oportun employees identify as people of color or women and the majority of each level of Oportun’s leadership team(1) identifies as either women or people of color. We strive to promote and maintain a diverse and inclusive workforce that both enables us to better understand and serve the communities that we serve. In 2020, we launched a global diversity, equity, and inclusion (DEI) initiative to actively assess and build on the progress we have made as an organization, including establishing a DEI council comprising a representative group of employees. Our team members have also organized and launched several employee resource groups to support diversity initiatives that are each supported by senior Oportun leaders.
•Employee Health and Safety - As we continue to monitor the global spread of COVID-19, we have quickly implemented company-wide measures to create a “culture of safety,” and we will continue to adapt our efforts to prioritize the safety of our employees and our
customers. Our health and safety management system incorporates processes to proactively assess risks to the health and safety of our employees and the community, as well as tracking compliance, incidents, inspections, and corrective actions and we require employees to conduct extensive training every year on health and safety topics.
•Employee Hardship Support - Our Oportun Employee Assistance Fund is available to help employees who were experiencing hardships apply for cash support for emergency needs like food, rent and mortgage relief. Oportun matches any employee donations to this fund.
•Community Outreach and Engagement - Our community activities are focused on improving the communities of our customers and employees. We team with community and nonprofit partners to provide employees with opportunities to contribute directly to our local communities through our annual volunteer events, volunteer paid-time off and employee gift matching program.
During 2020, to address the safety and health of our employees due to the COVID-19 pandemic, we implemented the following, among other steps:
•Provided a meaningful short-term increase in the take-home pay of our hourly retail employees. We also offered supplemental pay of up to 14 days if that employee’s retail location was forced to close due to the COVID-19 pandemic and related governmental responses and that employee was unable to work from home due to the nature of their job. 
•Provided supplemental childcare expense reimbursements for our essential employees who worked in retail locations for a limited amount of time; and
•Transitioned more than 800 of our contact center employees to work remotely and implemented employee screening and social distancing requirements in contact centers that remained open. 
We had 2,725 full-time and 424 part-time employees worldwide as of December 31, 2020. This includes 577 corporate employees in the United States, of which 278 employees are dedicated to technology, risk, analytics, A.I., and data science.
(1) Leadership is defined as Directors, Senior Directors, Vice Presidents and above, inclusive of the Board of Directors. People of color is defined using the self-reported EEOC classifications of Black or African American, Hispanic or Latino, Asian, American Indian/Alaskan Native, Native Hawaiian or Other Pacific Islander, and Two or More Races.
Available Information
Our website address is www.oportun.com. Our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and amendments to reports filed pursuant to Section 13(a) and 15(d) of the Exchange Act, are filed with the SEC. The SEC’s website, www.sec.gov, contains these reports and other information that registrants (including OPRT) file electronically with the SEC.
These reports are also available free of charge through our website, www.investor.oportun.com, as soon as reasonably practicable after we file them with, or furnish them to, the SEC.
We announce material information to the public through a variety of means, including filings with the SEC, press releases, public conference calls, our website (www.oportun.com), the investor relations section of our website (investor.oportun.com), as well as social media, including our LinkedIn page (https://www.linkedin.com/company/oportun/) and Twitter account (@Oportun). The information on our website is not incorporated by reference into this report. The website addresses listed above are provided for the information of the reader and are not intended to be active links.

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ITEM 1A. RISK FACTORS
Item 1A. Risk Factors
Investing in our common stock involves a high degree of risk. Any of the following risks could have an adverse effect on our business, results of operations and financial condition. The following risks could cause the trading price of our common stock to decline, which would cause you to lose all or part of your investment. You should carefully consider these risks, all of the other information in this report, including our consolidated financial statements, the notes thereto and the section entitled “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” including our consolidated financial statements, the notes thereto and the section entitled “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” and general economic and business risks before making a decision to invest in our common stock. While we believe the risks described below include all material risks currently known by us, it is possible that these may not be the only ones we face. Additional risks and uncertainties not presently known to us or that we currently deem immaterial may also impair our business operations.
Risks Related to Our Business
The global COVID-19 pandemic has and may continue to adversely impact our business operations, financial performance and results of operations.
The ongoing COVID-19 pandemic has spread across the globe and is significantly impacting worldwide economic activity and increasing economic uncertainty. Concerns over the economic impact of the COVID-19 pandemic have caused extreme volatility in financial and other capital markets which has and may continue to adversely impact our stock price as well as our ability to access capital markets. If funds become unavailable, we cannot be sure that we will be able to maintain the necessary levels of funding to retain current levels of originations without incurring higher funding costs, a reduction in the term of funding instruments or increasing the rate of whole loan sales or be able to access funding at all. If we are unable to arrange financing on favorable terms, we may not be able to grow our business as planned and we may have to further curtail our origination of loans, which could result in volatility in our results of operations, financial condition and cash flows.
Many of our customers have been and may continue to become impacted by recommendations and/or mandates from federal, state, and local authorities to stay home ("shelter in place" or "safer at home" orders). These events have caused and may continue to cause a significant increase in unemployment, decreased consumer spending and economic deterioration. In addition, the continued impact of the COVID-19 pandemic has adversely affected our business in a number of ways, including a decreased demand for our products, which, combined with our credit tightening, has decreased originations, which could negatively impact our liquidity position and our growth strategy. This crisis has left some of our customers unable to make payments and has resulted in increased delinquencies and charge-offs and may cause other unpredictable and adverse events. If the pandemic continues or worsens, there may be continued or heightened impact on demand for our loans and on our customers’ ability to repay their loans.
Similar to relief options we have previously offered to customers impacted by natural disasters such as hurricanes and wildfires, we have and are continuing to offer payment relief options to customers impacted by the COVID-19 pandemic, including emergency hardship programs, reduced payment plans, late fee waivers and other customer accommodations. Unlike the relief options offered for natural disasters, which were limited to the affected geographies, COVID-19 related relief is being offered in all states in which we do business and has and may continue to adversely affect our business, financial condition, results of operations, and cash flows. Legal, regulatory and media concerns about the lending industry in general, or our practices, during the COVID-19 pandemic could result in additional restrictions affecting the conduct of our business in the future either due to regulatory requirements or made voluntarily due to reputational or other pressures. These changes could include, but not limited to, requirements that we waive or lower interest, payments, or otherwise alter our collection practices or forgive debt for those impacted by COVID-19. If we implement any of these changes, such changes could adversely affect our income and other results of operations in the near term, make collection of our personal loans more difficult, reduce income received from such loans or negatively affect our ability to comply with our current financing arrangements or obtain financing with respect to such loans.
We have incurred COVID-19 related expenses for items and services including sanitation kits, facilities equipment, contingency call center, payment option flyers, childcare relief, special medical enrollment, sick leave, emergency assistance fund and charitable contributions, among other things. Until the COVID-19 pandemic subsidies, we expect to continue to incur such expenses and may incur additional COVID-19 related expenses, which may adversely affect our results of operations, financial condition, and cash flows.
The majority of our retail locations remain open subject to local health orders. If one or more of our retail locations becomes unavailable, our ability to attract new customers, conduct business and collect payments from customers may be adversely affected, which could result in increased delinquencies and losses. In addition, changes in consumer behavior and health concerns may continue to impact demand for our loans and customer traffic at our retail locations. We are taking precautions to protect the safety and well-being of our employees and customers. However, no assurance can be given that the steps being taken will be deemed to be adequate or appropriate, nor can we predict the level of disruption which will occur to our employee’s ability to provide customer support and service. We may also face claims related to the pandemic, including claims from employees or customers who allege that they contracted COVID-19 at our retail locations or offices. Any such allegations of exposure or illness could result in litigation and harm to our reputation, which could negatively affect our business, results of operations, and financial condition.
Substantially all of our corporate non-retail employees in the United States are subject to varying shelter in place requirements and social distancing orders which have resulted in most of the team being required to work remotely. Our contact centers (either owned or through our outsourcing partners) are also located in various jurisdictions within three countries, all of which have varying shelter in place and social distancing orders in place. While we have been successful thus far in complying with these orders and keeping the contact centers operational, predominately by moving the majority of our contact center employees to home working environments, our ability to continue to originate loans and service our customers is highly dependent on the ability of contact center staff to continue to work, either in the contact center or remotely. If a significant percentage of our workforce is unable to work effectively as a result of the COVID-19 pandemic, including because of illness, quarantines, ineffective remote work arrangements or technology, availability of utilities, or other failures or limitations, our operations may be adversely impacted. The increase in remote working may also result in consumer or employee privacy, IT security, and fraud concerns as well as increase our exposure to potential regulatory or civil claims. Additionally, if any of our critical vendors are adversely impacted by the COVID-19 pandemic and unable to deliver services to us, our operations may be adversely impacted.
The duration and scope of the pandemic, and our ability to make necessary adjustments from it, is highly uncertain. The ultimate extent of the impact of the COVID-19 pandemic on our business and results of operations will depend on future developments that are highly uncertain and cannot be predicted, including the scope and duration of the pandemic, timing of global recovery, and economic normalization and responses taken by governmental authorities and other third parties due to the COVID-19 pandemic, including economic assistance programs and stimulus efforts,.
To the extent the COVID-19 pandemic continues to adversely affect our business and financial results, it may also have the effect of heightening many of the other risks described in this "Risk Factors" section, such as those relating to our losses, liquidity, our indebtedness, and our ability to comply with the covenants contained in the agreements that govern our indebtedness.
We have incurred net losses and may incur net losses in the future.
For the year ended December 31, 2020, we had a net loss of $45.1 million and we have experienced net losses in the past. As of December 31, 2020, our retained earnings were $36.4 million. We will need to generate and sustain increased revenue and net income levels in future periods in order to achieve and increase profitability, and, even if we do, we may not be able to maintain or increase our level of profitability over the long term. We intend to continue to expend significant funds to grow our business, and we may not be able to increase our revenue enough to offset our higher operating expenses. We may incur significant losses in the future for a number of reasons, including the other risks described in this report, and unforeseen expenses, difficulties, complications and delays, and other unknown events. We have implemented measures to reduce operating costs, and we continuously evaluate other opportunities to reduce costs further. If we are unable to achieve or sustain profitability, our business would suffer, and the market price of our common stock may decrease.
Our quarterly results are likely to fluctuate significantly and may not fully reflect the underlying performance of our business.
Our quarterly results of operations are likely to vary significantly in the future and period-to-period comparisons of our results of operations may not be meaningful, especially as a result of our election of the fair value option and now as a result of the COVID-19 pandemic. Accordingly, the results for any one quarter are not necessarily an indication of future performance. Our quarterly financial results may fluctuate due to a variety of factors, some of which are outside of our control and, as a result, may not fully reflect the underlying performance of our business. Factors that may cause fluctuations in our quarterly financial results include:
•loan volumes, loan mix and the channels through which our loans are originated;
•the effectiveness of our direct marketing and other marketing channels;
•the timing and success of new products and origination channels;
•the amount and timing of operating expenses related to acquiring customers and the maintenance and expansion of our business, operations and infrastructure;
•net charge-off rates;
•adjustments to the fair value of our Fair Value Loans and Fair Value Notes;
•our cost of borrowing money and access to the capital markets; and
•general economic, industry, and market conditions, including those stemming from the COVID-19 pandemic.
In addition, we experience significant seasonality in demand for our loans, which is generally lower in the first quarter. The seasonal slowdown is primarily attributable to high loan demand around the holidays in the fourth quarter and the general increase in our customers’ available cash flows in the first quarter, including cash received from tax refunds, which temporarily reduces their borrowing needs. While our growth has obscured this
seasonality from our overall financial results, we expect our results of operations to continue to be affected by such seasonality in the future. However, the impact of the COVID-19 pandemic has and may continue to disrupt the seasonal trends our business has consistently experienced.
We have experienced rapid growth in recent periods and our recent growth rates may not be indicative of future growth. If we fail to manage our growth effectively, our results of operations may suffer.
We have recently experienced rapid growth in our business and operations, and our recent growth rates may not be indicative of our future growth rates. Our revenue was $583.7 million and $600.1 million in 2020 and 2019, respectively. We believe our revenue growth depends on a number of factors, including but not limited to our ability to:
•increase the volume of loans originated through our various origination channels, including mobile, retail locations, direct mail marketing, contact centers, and partnerships;
•increase the effectiveness of our direct mail marketing, radio advertising, digital advertising and other marketing strategies;
•efficiently manage and expand our presence and activities in states in which we operate, as well as expand into new states;
•successfully build our brand and protect our reputation from negative publicity;
•manage our Annualized Net Charge-Off Rate;
•maintain the terms on which we lend to our customers;
•protect against increasingly sophisticated fraudulent borrowing and online theft;
•enter into new markets and introduce new products and services;
•continue to expand our customer demographic focus from our original customer base of Spanish- speaking customers;
•successfully maintain our diversified funding strategy, including loan warehouse facilities, whole loan sales, and securitization transactions;
•successfully manage our interest rate spread against our cost of capital;
•successfully adjust our proprietary credit risk models, products, and services in response to changing macroeconomic conditions and fluctuations in the credit market;
•effectively manage and expand the capabilities of our contact centers, outsourcing relationships, and other business operations abroad;
•effectively secure and maintain the confidentiality of the information provided and utilized across our systems;
•successfully compete with companies that are currently in, or may in the future enter, the business of providing consumer financial services to low- and moderate-income customers underserved by traditional, mainstream financial institutions;
•attract, integrate, and retain qualified employees; and
•successfully adapt to complex and evolving regulatory environments.
If we are unable to accomplish these tasks, our revenue growth may be harmed. In addition, our historical rapid growth has placed, and our future growth will continue to place significant demands on our management and our operational and financial resources. We will need to improve our operational, financial and management controls and our reporting systems and procedures as we continue to grow our business and add more personnel. If we cannot manage our growth effectively, our results of operations will suffer.
Further, many economic and other factors outside of our control, including general economic and market conditions, global pandemics, consumer and commercial credit availability, inflation, unemployment, consumer debt levels and other challenges affecting the global economy, may adversely affect our ability to sustain revenue growth consistent with recent history. For example, since the onset of the COVID-19 pandemic in March 2020, we have experienced a slowdown in our loan originations and it is uncertain how long this slowdown may continue. While we have seen some increase in loan originations since the start of the COVID-19 pandemic, our originations have not yet returned to pre-pandemic levels. If our loan originations and revenue growth do not return to pre-pandemic levels or we experience additional slowdown in our loan origination due to the COVID-19 pandemic or other factors outside of our control, our results of operations, financial condition, and cash flows will suffer.
Our risk management efforts may not be effective, which may expose us to market risks that harm our results of operations.
We could incur substantial losses and our business operations could be disrupted if we are unable to effectively identify, monitor and mitigate financial risks, such as credit risk, interest rate risk, prepayment risk and liquidity risk, as well as operational risks. Our risk management policies, procedures and models, may not be sufficient to identify all of the risks we are exposed to, mitigate the risks we have identified or identify additional risks that arise in the future.
As our loan mix changes and as our product offerings evolve, our risk management strategies may not always adapt to such changes. Some of our methods of managing risk are based upon our use of observed historical market behavior and management’s judgment. Other of our methods for managing risk depend on the evaluation of information regarding markets, customers or other matters that are publicly available or otherwise accessible to us. While we employ a broad and diversified set of risk monitoring and risk mitigation techniques, those techniques and the judgments that accompany their application cannot anticipate every economic and financial outcome or the timing of such outcomes. If our risk management efforts are ineffective, we could suffer losses that could harm our business, financial condition and results of operations.
We rely extensively on models in managing many aspects of our business. If our models contain errors or are otherwise ineffective, our business could be adversely affected.
Our ability to attract customers and to build trust in our loan products is significantly dependent on our ability to effectively evaluate a customer’s creditworthiness and likelihood of default. In deciding whether to extend credit to prospective customers, we rely heavily on our proprietary credit risk models, which are statistical models built using third-party alternative data, credit bureau data, customer application data and our credit experience gained through monitoring the performance of our customers over time. These models are built using forms of artificial intelligence ("A.I."), such as machine learning. If our credit risk models fail to adequately predict the creditworthiness of our customers or their ability to repay their loans due to programming or other errors, or if any portion of the information pertaining to the prospective customer is incorrect, incomplete or becomes stale (whether by fraud, negligence or otherwise), and our systems do not detect such errors, inaccuracies or incompleteness, or any of the other components of our credit decision process described herein fails, we may experience higher than forecasted loan losses. Also, if we are unable to access certain third-party data used in our credit risk models, or access to such data is limited, our ability to accurately evaluate potential customers may be compromised. Credit and other information that we receive from third parties about a customer may also be inaccurate or may not accurately reflect the customer’s creditworthiness, which may adversely affect our loan pricing and approval process, resulting in mispriced loans, incorrect approvals or denials of loans. In addition, this information may not always be complete, up-to-date or properly evaluated. As a result, these methods may not predict future risk exposures, which could be significantly greater than the historical measures or available information indicate.
Our reliance on our credit risk models and other models to manage many aspects of our business, including valuation, pricing, collections management, marketing targeting models, fraud prevention, liquidity and capital planning, direct mail and telesales, may prove in practice to be less predictive than we expect for a variety of reasons, including as a result of errors in constructing, interpreting or using the models or the use of inaccurate assumptions (including failures to update assumptions appropriately in a timely manner, or the use of AI). We rely on our credit risk models and other models to develop and manage new products and services with which we have limited development or operating experience as well as new geographies where we have not historically operated. Our assumptions may be inaccurate, and our models may not be as predictive as expected for many reasons, in particular because they often involve matters that are inherently difficult to predict and beyond our control, such as macroeconomic conditions, credit market volatility and interest rate environment, particularly in light of the COVID-19 pandemic, and they often involve complex interactions between a number of dependent and independent variables and factors. In particular, even if the general accuracy of our valuation models is validated, valuations are highly dependent upon the reasonableness of our assumptions and the predictability of the relationships that drive the results of the models. The errors or inaccuracies in our models may be material and could lead us to make wrong or sub-optimal decisions in managing our business, and this could harm our business, results of operations and financial condition.
Additionally, if we make errors in the development, validation or implementation of any of the models or tools we use to underwrite the loans that we then securitize or sell to investors, those investors may experience higher delinquencies and losses. We may also be subject to liability to those investors if we misrepresented the characteristics of the loans sold because of those errors. Moreover, future performance of our customers’ loans could differ from past experience because of macroeconomic factors, policy actions by regulators, lending by other institutions or reliability of data used in the underwriting process. To the extent that past experience has influenced the development of our underwriting procedures and proves to be inconsistent with future events, delinquency rates and losses on loans could increase. Errors in our models or tools and an inability to effectively forecast loss rates could also inhibit our ability to sell loans to investors or draw down on borrowings under our warehouse and other debt facilities, which could limit originations of new loans and could hinder our growth and harm our financial performance. Additionally, the use of AI in credit models is relatively new and its impact from a regulatory standpoint is unproven, and any negative regulatory action based upon this could have an adverse impact on our financial performance.
Our business may be adversely affected by disruptions in the credit markets, including reduction in our ability to finance our business.
We depend on securitization transactions, loan warehouse facilities and other forms of debt financing, as well as whole loan sales, in order to finance the principal amount of most of the loans we make to our customers. See more information about our outstanding debt in Note 8 to the Notes to the Consolidated Financial Statements. However, there is no assurance that these sources of capital will continue to be available in the future on terms favorable to us or at all, particularly in light of capital markets volatility stemming from the COVID-19 pandemic. The availability of debt financing and other sources of capital depends on many factors, some of which are outside of our control. The risk of volatility surrounding the
global economic system, including due to the COVID-19 pandemic and other disruptions, as well as uncertainty surrounding the future of regulatory reforms such as the Dodd-Frank Wall Street Reform and Consumer Protection Act (the "Dodd-Frank Act") continue to create uncertainty around access to the capital markets. Events of default or breaches of financial, performance or other covenants, as a result of the underperformance of certain pools of loans underpinning our securitizations or other debt facilities, could reduce or terminate our access to funding from institutional investors, including investment banks, traditional and alternative asset managers and other entities. Such events could also result in default rates at a higher interest rate and therefore increase our cost of capital. In addition, our ability to access future capital may be impaired because our interests in our financed pools of loans are “first loss” interests and so these interests will only be realized to the extent all amounts owed to investors or lenders and service providers under our securitizations and debt facilities are paid in full. In the event of a sudden or unexpected shortage or restriction on the availability of funds, we cannot be sure that we will be able to maintain the necessary levels of funding to retain current levels of originations without incurring higher funding costs, a reduction in the term of funding instruments or increasing the rate of whole loan sales or be able to access funding at all. If we are unable to arrange financing on favorable terms, we may not be able to grow our business as planned and we may have to curtail our origination of loans. In addition, the United Kingdom Financial Conduct Authority is planning to phase out the use of LIBOR by the end of 2021. It is not possible to predict whether LIBOR will cease to exist after calendar year 2021, whether additional reforms to LIBOR may be enacted, or whether alternative reference rates will gain market acceptance, and any of these outcomes could increase our interest rate risk related to our Secured Financing which is currently tied to LIBOR. Changes in interest rates or foreign currency exchange rates could affect our interest expense, which could result in volatility in our results of operations, financial condition, and cash flows.
We have elected the fair value option and we use estimates in determining the fair value of our loans and our asset-backed notes. If our estimates prove incorrect, we may be required to write down the value of these assets or write up the value of these liabilities, which could adversely affect our results of operations.
Our ability to measure and report our financial position and results of operations is influenced by the need to estimate the impact or outcome of future events on the basis of information available at the time of the issuance of the financial statements. We use estimates, assumptions, and judgments when certain financial assets and liabilities are measured and reported at fair value. Fair values and the information used to record valuation adjustments for certain assets and liabilities are based on quoted market prices and/or other observable inputs provided by independent third-party sources, when available. During periods of market disruption, including periods of significantly rising or high interest rates, rapidly widening credit spreads or illiquidity, it may be difficult to value certain assets if trading becomes less frequent or market data becomes less observable. In such cases, certain asset valuations may require significant judgment, and may include inputs and assumptions that require greater estimation, including credit quality, liquidity, interest rates, and other relevant inputs. If actual results differ from our judgments and assumptions, then it may have an adverse impact on the results of operations and cash flows. Management has processes in place to monitor these judgments and assumptions, including review by our internal valuation committee, but these processes may not ensure that our judgments and assumptions are correct.
We use estimates and assumptions in determining the fair value of our Fair Value Loans and Fair Value Notes. Our Fair Value Loans represented 84% of our total assets and Fair Value Notes represented 76% of our total liabilities as of December 31, 2020. Our Fair Value Loans are determined using Level 3 inputs and Fair Value Notes are determined using Level 2 inputs. Changes to these inputs could significantly impact our fair value measurements. Valuations are highly dependent upon the reasonableness of our assumptions and the predictability of the relationships that drive the results of our valuation methodologies. In addition, a variety of factors such as changes in the interest rate environment and the credit markets, changes in average life, higher than anticipated delinquency and default levels or financial market illiquidity, may ultimately affect the fair values of our loans receivable and asset-backed notes. Material differences in these ultimate values from those determined based on management’s estimates and assumptions may require us to adjust the value of certain assets and liabilities, including in a manner that is not comparable to others in our industry, which could adversely affect our results of operations.
If we are unable to collect payment and service the loans we make to customers, our net charge-off rates may exceed expected loss rates, and our business and results of operations may be harmed.
Our unsecured personal loans are not secured by any collateral, not guaranteed or insured by any third party and not backed by any governmental authority in any way. We are therefore limited in our ability to collect on these loans if a customer is unwilling or unable to repay them. A customer’s ability to repay us can be negatively impacted by increases in his or her payment obligations to other lenders under mortgage, credit card and other loans, or loss of employment due to economic turmoil, particularly in light of the COVID-19 pandemic. These changes can result from increases in base lending rates or structured increases in payment obligations and could reduce the ability of our customers to meet their payment obligations to other lenders and to us. In addition, the success of any economic assistance program or stimulus legislation due to COVID-19 is unknown, and we cannot determine the impact of any such program has had or will have on our net charge-off rates.
Our ability to adequately service our loans is dependent on our ability to grow and appropriately train our customer service and collections staff, our ability to expand our servicing capabilities as the number of our loans increase, and our ability to contact our customers when they default. Additionally, our customer service and collections staff are dependent upon maintaining adequate information technology, telephony, and internet
connectivity such that they can complete their job functions. If we fail to adequately leverage these technologies to service and collect amounts owed in respect of our loans, or if our customers opt to block us from calling, texting, emailing or otherwise contacting them, then payments to us may be delayed or reduced.
In August 2020, we changed in our small claims filing practices, which included the dismissal of all pending small claims court filings, suspension of all new small claims filings and the commitment to reduce court filings by 60% in the future. If we are unable to employ alternative means of engaging severely delinquent customers the effectiveness of our efforts to collect on defaulted loans may be impacted. Additionally, our contact centers, either owned or through our outsourcing partners, are located in various jurisdictions within three countries, all of which have varying shelter in place or social distancing orders in place. While we have been successful thus far in complying with these orders and keeping contact centers operational, predominantly by moving the majority of contact center staff to home working environments, our ability to perform collections activities is highly dependent on the ability of our contact center staff to continue to work, either in the contact center or remotely. If a significant percentage of our contact center workforce is unable to work as a result of the COVID-19 pandemic, including because of illness, quarantines, ineffective remote work environments or technology, utility, or other failures or limitations, our ability to collect payment may be adversely affected. Because our net charge-off rate depends on the collectability of the loans, if we experience an unexpected significant increase in the number of customers who fail to repay their loans or an increase in the principal amount of the loans that are not repaid, our revenue and results of operations could be adversely affected. Furthermore, personal unsecured loans are dischargeable in bankruptcy. If we experience an unexpected, significant increase in the number of customers who successfully discharge their loans in a bankruptcy action, our revenue and results of operations could be adversely affected.
We incorporate our estimate of lifetime loan losses in our measurement of fair value for our Fair Value Loans. While this evaluation process uses historical and other objective information, the classification of loans and the forecasts and establishment of loan losses and fair value are also dependent on our subjective assessment based upon our experience and judgment. Given the unprecedented nature of the COVID-19 pandemic and the rapid impact it has had on the economy, the amount of subjective assessment and judgment applied to develop our forecasts has increased materially, since no directly corresponding historical data set exists. Our methodology for establishing our fair value is based on the guidance in Accounting Standards Codification, 820 and 825, and, in part, on our historic loss experience. If customer behavior changes as a result of economic conditions and if we are unable to predict how the unemployment rate and general economic uncertainty may affect our estimate of lifetime loan losses, the fair value may be reduced for our Fair Value Loans, which will decrease Net Revenue. Our calculations of fair value are estimates, and if these estimates are inaccurate, our results of operations could be adversely affected. Neither state regulators nor federal regulators regulate our calculations of fair value, and unlike traditional banks, we are not subject to periodic review by bank regulatory agencies of our loss estimates or our calculations of fair value. In addition, because our debt financings include delinquency triggers as predictors of losses, increased delinquencies or losses may reduce or terminate the availability of debt financings to us.
Our results of operations and financial condition and our customers’ willingness to borrow money from us and ability to make payments on their loans have been, and may in the future be, adversely affected by economic conditions and other factors that we cannot control.
Uncertainty and negative trends in general economic conditions in the United States and abroad, historically have created a difficult operating environment for our business and other companies in our industry. Many factors, including factors that are beyond our control, may impact our results of operations or financial condition, our customers’ willingness to incur loan obligations and/or affect our customers’ willingness or capacity to make payments on their loans. These factors include: unemployment levels, housing markets, immigration policies, gas prices, energy costs, government shutdowns, delays in tax refunds, significant tightening of credit markets, and interest rates, as well as events such as natural disasters, acts of war, terrorism, social unrest, catastrophes, epidemics, and pandemics, including COVID-19.
In addition, major medical expenses, divorce, death, or other issues that affect our customers could affect our customers’ willingness or ability to make payments on their loans. Further, our business currently is heavily concentrated on consumer lending and, as a result, we are more susceptible to fluctuations and risks particular to U.S. consumer credit than a company with a more diversified lending portfolio. We are also more susceptible to the risks of increased regulations and legal and other regulatory actions that are targeted towards consumer credit. If the United States experiences an economic downturn, or if we become affected by other events beyond our control, we may experience a significant reduction in revenue, earnings and cash flows. If our customers default under a loan receivable held directly by us, we will experience loss of principal and anticipated interest payments, which could adversely affect our cash flow from operations. The cost to service our loans may also increase without a corresponding increase in our interest on loans. We may also become exposed to increased credit risk from our customers and third parties who have obligations to us. For example, since the beginning of January 2020, the COVID-19 pandemic has caused disruption and volatility in the global financial markets and the continued spread of COVID-19 has led to an economic slowdown resulting in an increase in unemployment levels and affecting our customers' ability to satisfy their obligations. In addition, the cost to service our loans has and may continue to increase without a corresponding increase in our interest on loans. As a result of the COVID-19 pandemic, we have and may continue to be exposed to increased credit risk from our customers and third parties who have obligations to us.
If aspects of our business, including the quality of our loan portfolio or our customers’ ability to pay, are significantly affected by economic changes or any other conditions in the future, we cannot be certain that we will adequately adapt our business to such changes, so our business would be adversely affected.
Negative publicity or public perception of our company or our industry could adversely affect our reputation, business, and results of operations.
Negative publicity about our industry or our company, including the terms of the consumer loans, effectiveness of the proprietary credit risk model, privacy and security practices, originations, marketing, servicing and collections, other business practices or initiatives, litigation, regulatory compliance and the experience of customers, even if inaccurate, could adversely affect our reputation and the confidence in our brand and business model or lead to changes in our business practices. For example, on July 28, 2020 we published a press release and a blog post announcing, among other things, changes to our legal collections practices to better align with our mission. In the blog post, we acknowledged that this move was partially the result of inquiries we received from certain consumer advocates and media outlets. Despite our responsiveness to the inquiries, certain media outlets and consumer advocates chose to highlight and have continued to highlight the very past practices that we had already modified. The proliferation of social media may increase the likelihood that negative public opinion will impact our reputation and business. Our reputation is very important to attracting new customers and retaining existing customers. While we believe that we have a good reputation and that we provide customers with a superior experience, there can be no assurance that we will continue to maintain a good relationship with customers.
Consumer advocacy groups, politicians, and certain government and media reports have on occasion advocated governmental action to prohibit or severely restrict the dollar amount, interest rate, or other terms of consumer loans, particularly “small dollar” loans and those with short terms. The consumer groups and media reports typically focus on the cost to a consumer for this type of loan, which may be higher than the interest typically charged by issuers to consumers with more historical creditworthiness; for example, some groups are critical of loans with APRs greater than 36%. The consumer groups, public officials and government and media reports frequently characterize these short-term consumer loans as predatory or abusive toward consumers. In August 2020, we implemented an APR cap of 36% for all newly originated loans, however, until such previously originated loans are paid-off, a portion of our portfolio will consist of loans with APRs greater than 36%. If the negative characterization of short-term consumer loans becomes associated with this remaining portion of our portfolio, or there are critiques of our business practices or loan terms, even if inaccurate, demand for our consumer loans could significantly decrease, and it could be less likely that investors purchase our loans or our asset-backed securities, or our lenders extend or renew lines of credit to us, any of which could adversely affect our results of operations and financial condition.
Negative perception of our consumer loans, our loan origination, marketing, servicing and collections practices, or other activities may also result in us being subject to more restrictive laws and regulations and potential investigations, enforcement actions and lawsuits. If there are changes in the laws affecting any of our consumer loans, or our marketing and servicing of such loans, or if we become subject to such investigations, enforcement actions and lawsuits, our financial condition and results of operations would be adversely affected.
Harm to our reputation can also arise from many other sources, including employee or former employee misconduct, misconduct by outsourced service providers or other counterparties, failure by us or our partners to meet minimum standards of service and quality, and inadequate protection of customer information and compliance failures and claims. Our reputation may also be harmed if we fail to maintain our certification as a Community Development Financial Institution ("CDFI"). Since the onset of the COVID-19 pandemic, we have been working with certain customers to waive fees and offer deferrals of loan payments and reduced payment plans. We believe our actions are consistent with our mission and regulatory guidance, but we cannot be certain that our approaches to servicing our customers will not lead to criticism which could harm our reputation.
If we do not compete effectively in our target markets, our results of operations could be harmed.
The consumer lending market is highly competitive and increasingly dynamic as emerging technologies continue to enter into the marketplace. Technological advances and heightened e-commerce activities have increased consumers’ accessibility to products and services, which has intensified the desirability of offering loans to consumers through digital-based solutions. We primarily compete with other consumer finance companies, credit card issuers, financial technology companies and financial institutions, as well as payday lenders and pawn shops focused on low- and moderate-income customers. Many of our competitors operate with different business models, such as lending as a service, lending through partners or point-of-sale lending, have different cost structures or participate selectively in different market segments. We may also face competition from companies that have not previously competed in the consumer lending market for customers with little or no credit history. For example, it is possible that the companies commonly referred to as “challenger banks” offering low-cost digital only deposit accounts may also begin to offer lending products catered to our target customers. In addition, it is possible that, in competitive reaction to the challenger banks, traditional banks may introduce new approaches to small-dollar lending. Many of our current or potential competitors have significantly more financial, technical, marketing and other resources than we do and may be able to devote greater resources to the development, promotion, sale and support of their platforms and distribution channels. We face competition in areas such as compliance capabilities, financing terms, promotional offerings, fees, approval rates, speed and simplicity of loan origination, ease-of-use, marketing expertise, service levels, products and services, technological capabilities and integration, customer service, strategic partnerships, brand and reputation. Our competitors may also have longer operating histories,
lower financing costs or costs of capital, more extensive customer bases, more diversified products and customer bases, operational efficiencies, more versatile technology platforms, greater brand recognition and brand loyalty, and broader customer and partner relationships than we have. Our competitors may be better at developing new products, responding more quickly to new technologies and undertaking more extensive marketing campaigns. Furthermore, our existing and potential competitors may decide to modify their pricing and business models to compete more directly with our model. If we are unable to compete with such companies or fail to meet the need for innovation in our industry, the demand for our products could stagnate or substantially decline, or our products could fail to maintain or achieve more widespread market acceptance.
Our success and future growth depend on our Oportun brand and our successful marketing efforts across channels, and if we are unable to attract or retain customers, our business and financial results may be harmed.
In connection with COVID-19, we have reduced our marketing spend. This decrease in marketing, in addition to the impact of the COVID-19 pandemic has resulted in a decreased demand for our products, which, we believe combined with our credit tightening, has decreased originations. Our business model relies on our ability to scale rapidly, and if our limited marketing efforts are not successful or if we are unsuccessful in developing our brand marketing campaigns, it could continue to have an adverse effect on our ability to attract customers. If we fail to successfully promote and maintain our brand or if we incur substantial expenses in an unsuccessful attempt to promote and maintain our brand, we may lose existing customers to our competitors or be unable to attract new customers, which in turn would harm our business, results of operations and financial condition. Even if our marketing efforts result in increased revenue, we may be unable to recover our marketing costs through increases in loan volume. Any incremental increases in Customer Acquisition Cost could have an adverse effect on our business, results of operations and financial condition. Furthermore, increases in marketing and other Customer Acquisition Costs may not result in increased loan originations at the levels we anticipate or at all, which could result in a higher Customer Acquisition Cost per account.
In the future, we intend to continue to dedicate significant resources to our marketing efforts, particularly as we develop our brand. Our ability to attract qualified customers depends in large part on the success of these marketing efforts and the success of the marketing channels we use to promote our products. In the past, we marketed primarily through word of mouth at our retail locations and direct mail, and more recently, through radio and digital advertising, such as paid and unpaid search, e-mail marketing and paid display advertisements. Our future marketing programs may include direct mail, radio, television, print, online display, video, digital advertising, search engine optimization, search engine marketing, social media, events and other grassroots activities, as well as retail and digital sources of leads, such as lead aggregators and retail referral partners. The marketing channels that we employ may become more crowded and saturated by other lenders or the methodologies, policies and regulations applicable to marketing channels may change, which may decrease the effectiveness of our marketing campaigns and increase our Customer Acquisition Costs, which may in turn adversely affect our results of operations.
As we continue to expand our loan origination and acquisition channels, introduce new products and services and enter into new states, we also face the risks that our mobile and other channels could be unprofitable, increase costs, decrease operating margins or take longer than anticipated to achieve our target margins due to: difficulties with user interface or disappointment with the user experience; defects, errors or failures in our mobile service; negative publicity about our financial products and services or our mobile service’s performance or effectiveness; delays in releasing to the market new mobile service enhancements; uncertainty in applicable consumer protection laws and regulations to the mobile loan environment; and increased risks of fraudulent activity associated with our mobile channel.
If we are unable to effectively execute our retail optimization strategy, our business and results of operations may be adversely affected..
Our future growth strategy depends in part on our ability to optimize the mix of our channel ecosystem and serve our customers in their preferred channel. Based on current customer trends and the increased adoption of our mobile channel, as well as our new partners channel, we are executing a retail optimization strategy and planning to close 136 retail locations as well as implementing a workforce reduction of certain employees who manage and operate the impacted retail locations. For additional information, see Note 16, Subsequent Events, to the Notes to the Consolidated Financial Statements included elsewhere in this report. If we are unable to optimize our channel mix, our ability to serve and attract customers may be harmed and our profit margins may decline. Further, our brand and reputation may be harmed in connection with these location closings. If we are unsuccessful in transitioning customers from the closed locations to other retail locations or to out-of-store alternatives, our results of operations could be adversely affected. We will continue to assess our growth strategy and our channel mix will continue to evolve and may change as the business grows.
We could experience a decline in repeat customers.
As of December 31, 2020 and 2019, returning customers comprised 85% and 80%, respectively, of our Owned Principal Balance at End of Period. In order for us to maintain or improve our operating results, it is important that we continue to extend loans to returning customers who have successfully repaid their previous loans. Our repeat loan rates may decline or fluctuate as a result of pricing changes, our expansion into new products and markets or because our customers are able to obtain alternative sources of funding based on their credit history with us, and new customers we acquire in the future may not be as loyal as our current customer base. If our repeat loan rates decline, including due to COVID-19 related issues, we may not realize consistent or improved operating results from our existing customer base.
We are, and intend in the future to continue, developing new financial products and services, and our failure to accurately predict their demand or growth could have an adverse effect on our business.
We are, and intend in the future to continue, developing new financial products and services, such as credit cards and auto loans. We intend to continue investing significant resources in developing new tools, features, services, products and other offerings. New initiatives are inherently risky, as each involves unproven business strategies and new financial products and services with which we have limited or no prior development or operating experience.
We can provide no assurance that we will be able to develop, commercially market and achieve acceptance of our new products and services. In addition, our investment of resources to develop new products and services may either be insufficient or result in expenses that are excessive in light of revenue actually originated from these new products and services. Product or service introductions may not always be successful and we have previously invested resources to develop and launch new products and services and subsequently decided to discontinue these products and services in order to strategically realign our resources. For example, in order to focus our resources on our secured personal loan product we have shifted our strategy away from purchase money auto loans. In addition, the borrower profile of customers using our new products and services may not be as attractive as the customers that we currently serve, which may lead to higher levels of delinquencies or defaults than we have historically experienced. Failure to accurately predict demand or growth with respect to our new products and services could adversely impact our business, and these new products and services may be unprofitable, which would increase our costs or decrease operating margins or increase the time it takes us to achieve target margins. Additionally, due to the economic impact of COVID-19, we expect the growth of revenue from new products to be much slower than previously anticipated in the near term. New products and services may not become profitable, and even if they are profitable, operating margins of some new products may not be as high as the margins we have experienced historically. Further, our development efforts with respect to these initiatives could distract management from current operations and will divert capital and other resources from our existing business.
We may change our strategy or underwriting and servicing practices, which may adversely affect our business.
We may change our strategy or any of our underwriting guidelines at any time without notice or the consent of our stockholders. For example, given the economic crisis resulting from the COVID-19 pandemic, in late March 2020, we significantly tightened our underwriting criteria. In addition, in August 2020, we implemented a nationwide 36% APR cap for newly originated loans which may have a potential impact on our yield or other unanticipated impacts that could adversely affect our results of operations and financial condition. We may also decide to retain more loans rather than sell them to third parties. We continue to evaluate our business strategies and underwriting and servicing practices and in the future, may make additional changes, including due to changing economic conditions, regulatory requirements and industry practices. For example, on July 28, 2020, we published a press release and a blog post announcing, among other things, changes to our legal collections practices to better align with our mission, including a reduction in future case filings. Any of these changes could result in us holding a loan portfolio with a different risk profile from our current risk profile. Additionally, a change in our strategy or underwriting and servicing practices may reduce our credit spread and may increase our exposure to interest rate risk, default risk and liquidity risk, all of which could adversely affect our business, results of operations and financial condition.
We are, and intend in the future to continue, expanding into new geographic regions, and our failure to comply with applicable laws or regulations, or accurately predict demand or growth, related to these geographic regions could have an adverse effect on our business.
We intend to continue expanding into new geographic regions, including through strategic partnerships. We can provide no assurance that we will achieve similar levels of success, if any, in the new geographic regions where we do not currently operate. In addition, each of the new states where we do not currently operate may have different laws and regulations that apply to our products and services. As such, we expect to be subject to significant additional legal and regulatory requirements, including various federal and state consumer lending laws. We have limited experience in managing risks and the compliance requirements attendant to these additional legal and regulatory requirements in new geographies or related to strategic partnerships. The costs of compliance and any failure by us to comply with such regulatory requirements in new geographies could harm our business. If our partners decide to or are no longer able to provide their services, we could incur temporary disruptions in our loan transactions or we may be unable to do business in certain states or certain locations.
Our proprietary credit risk models rely in part on the use of third-party data to assess and predict the creditworthiness of our customers, and if we lose the ability to license or use such third-party data, or if such third-party data contain inaccuracies, it may harm our results of operations.
We rely on our proprietary credit risk models, which are statistical models built using third-party alternative data, credit bureau data, customer application data and our credit experience gained through monitoring the payment performance of our customers over time. If we are unable to access certain third-party data used in our credit risk models, or our access to such data is limited, our ability to accurately evaluate potential customers will be compromised, and we may be unable to effectively predict probable credit losses inherent in our loan portfolio, which would negatively impact our results of operations. Third-party data sources include credit bureau data and other alternative data sources. Such data is electronically obtained from third parties and is aggregated by our risk engine to be used in our credit risk models to score applicants and make credit decisions and in our verification processes to confirm customer reported information. Data from consumer reporting agencies and other information that we receive from third parties about a customer may be inaccurate or may not accurately reflect the customer’s creditworthiness, which may cause us to provide loans to higher risk customers than we intend through our underwriting process and/or inaccurately price the loans we make. In response to the economic impact of COVID-19, regulators may require banks and other lenders to not report negative performance data to the credit bureaus. As a result, credit bureau data may prove less reliable in predicting credit risk for borrowers. We use numerous third-party data sources and multiple credit factors within our proprietary credit risk models, which helps mitigate, but does not eliminate, the risk of an inaccurate individual report. In addition, there are risks that the costs of our access to third-party data may increase or our terms with such third-party data providers could worsen. In recent years, well-publicized allegations involving the misuse or inappropriate sharing of personal information have led to expanded governmental scrutiny of practices relating to the safeguarding of personal information and the use or sharing of personal data by companies in the U.S. and other countries. That scrutiny has in some cases resulted in, and could in the future lead to, the adoption of stricter laws and regulations relating to the use and sharing of personal information. These types of laws and regulations could prohibit or significantly restrict our third-party data sources from sharing information, or could restrict our use of personal data when developing our proprietary credit risk models, or for fraud prevention purposes. These restrictions could also inhibit our development or marketing of certain products or services, or increase the costs of offering them to customers or make the models less effective at predicting credit outcomes or preventing fraud.
We follow procedures to verify each customer’s identity, income, and address, which are designed to minimize fraud. These procedures may include visual inspection of customer identification documents to ensure authenticity, review of paystubs or bank statements for proof of income and employment, and review of analysis of information from credit bureaus, fraud detection databases and other alternative data sources for verification of identity, employment, income and other debt obligations. If any of the information that is considered in the loan review process is inaccurate, whether intentional or not, and such inaccuracy is not detected prior to loan funding, the loan may have a greater risk of default than expected. If any of our procedures are not followed, or if these procedures fail, fraud may occur. Additionally, there is a risk that following the date of the loan application, a customer may have defaulted on, or become delinquent in the payment of, a pre-existing debt obligation, taken on additional debt, lost his or her job or other sources of income or experienced other adverse financial events. Fraudulent activity or significant increases in fraudulent activity could also lead to regulatory intervention, negatively impact our results of operations, brand and reputation and require us to take additional steps to reduce fraud risk, which could increase our costs.
We are exposed to geographic concentration risk.
The geographic concentration of our loan originations may expose us to an increased risk of loss due to risks associated with certain regions. Certain regions of the United States from time to time will experience weaker economic conditions and higher unemployment and, consequently, will experience higher rates of delinquency and loss than on similar loans nationally. In addition, natural, man-made disasters or health epidemics or pandemics such as the COVID-19 pandemic in specific geographic regions may result in higher rates of delinquency and loss in those areas. A significant portion of our outstanding receivables is originated in certain states, and within the states where we operate, originations are generally more concentrated in and around metropolitan areas and other population centers. Therefore, economic conditions, natural, man-made disasters, health epidemics or pandemics or other factors affecting these states or areas in particular could adversely impact the delinquency and default experience of the receivables and could adversely affect our business. Further, the concentration of our outstanding receivables in one or more states would have a disproportionate effect on us if governmental authorities in any of those states take action against us or take action affecting how we conduct our business.
As of December 31, 2020, 55.9%, 26.2%, 5.2%. and 5.0% of our Owned Principal Balance at End of Period related to customers from California, Texas, Florida, and Illinois, respectively. If any of the events noted in these risk factors were to occur in or have a disproportionate impact in regions where we operate or plan to commence operations, it may negatively affect our business in many ways, including increased delinquencies and loan losses or a decrease in future originations.
Changes in immigration patterns, policy or enforcement could affect some of our customers, including those who may be undocumented immigrants, and consequently impact the performance of our loans, our business and results of operations.
Some of our customers are immigrants and some may not be U.S. citizens or permanent resident aliens. We follow appropriate customer identification procedures as mandated by law, including accepting government issued picture identification that may be issued by non-U.S. governments, as permitted by the USA PATRIOT Act, but we do not verify the immigration status of our customers, which we believe is consistent with industry best practices and is not required by law. While our credit models look to approve customers who have stability of residency and employment, it is possible that a significant change in immigration patterns, policy or enforcement could cause some customers to emigrate from the United States, either voluntarily or involuntarily, or slow the flow of new immigrants to the United States. Changes to current laws or the adoption of new laws could make it more difficult or less desirable for immigrants to work in the United States, resulting in increased delinquencies and losses on our loans or a decrease in future originations due to more difficulty for potential customers to earn income. In addition, if we or our competitors receive negative publicity around making loans to undocumented immigrants, it may draw additional attention from regulatory bodies or consumer advocacy groups, all of which may harm our brand and business. We cannot predict the likelihood, nature or extent of government regulation that may arise from future legislation or administrative action.
Our current level of interest rate spread may decline in the future. Any material reduction in our interest rate spread could adversely affect our results of operations.
We earn over 90% of our revenue from interest payments on the loans we make to our customers. Financial institutions and other funding sources provide us with the capital to fund a substantial portion of the principal amount of our loans to customers and charge us interest on funds that we borrow. In the event that the spread between the interest rate at which we lend to our customers and the rate at which we borrow from our lenders decreases, our Net Revenue will decrease. The interest rates we charge to our customers and pay to our lenders could each be affected by a variety of factors, including our ability to access capital markets, the volume of loans we make to our customers, loan mix, competition and regulatory limitations. See “Part II, Item 7A. Quantitative and Qualitative Disclosures About Market Risk”.
Market interest rate changes may adversely affect our business forecasts and expectations and are highly sensitive to many macroeconomic factors beyond our control, such as inflation, recession, the state of the credit markets, global economic disruptions, unemployment and the fiscal and monetary policies of the federal government and its agencies. Interest rate changes may require us to make adjustments to the fair value of our Fair Value Loans or Fair Value Notes, which may in turn adversely affect our results of operations. For instance, interest rates recently declined significantly. When interest rates fall, the fair value of our Fair Value Loans increases, which increases Net Revenue. In addition, decreasing interest rates also increase the fair value of our Fair Value Notes, which reduces Net Revenue. Because the duration and fair value of our loans and asset- backed notes are different, the respective changes in fair value did not fully offset each other resulting in a negative impact on Net Revenue. Any reduction in our interest rate spread could have an adverse effect on our business, results of operations and financial condition. In August 2020, we implemented a nationwide 36% APR cap for newly originated loans, which we expect will reduce our interest rate spread and may have an adverse effect on our business, results of operations and financial condition. We do not currently hedge our interest rate exposure associated with our debt financing or fair market valuation of our loans.
Fraudulent activity could negatively impact our business, operating results, brand and reputation and require us to take steps to reduce fraud risk.
Fraud is prevalent in the financial services industry and is likely to increase as perpetrators become more sophisticated, as well as during the COVID-19 pandemic due to fraud with COVID-19 related themes. We are subject to the risk of fraudulent activity associated with customers and third parties handling customer information. Also, we continue to develop and expand our mobile origination channel, which involves the use of internet and telecommunications technologies (including mobile devices) to offer our products and services. These new mobile technologies may be more susceptible to the fraudulent activities of organized criminals, perpetrators of fraud, hackers, terrorists and others. Our resources, technologies and fraud prevention tools may be insufficient to accurately detect and prevent fraud. If the level of our fraud losses increases, our results of operations could be harmed, our brand and reputation may be negatively impacted, we may be subjected to higher regulatory scrutiny and our costs may increase as we attempt to reduce such fraud.
Security breaches of customers’ confidential information that we store may harm our reputation, adversely affect our results of operations, and expose us to liability.
We are increasingly dependent on information technology systems and infrastructure, including mobile and cloud-based technologies, to operate our business. In the ordinary course of our business, we collect, process, transmit and store large amounts of sensitive information, including the personal information, credit information and other sensitive data of our customers and potential customers. It is critical that we do so in a secure manner to maintain the confidentiality, integrity and availability of such sensitive information. We also have arrangements in place with certain of our third-party vendors that require us to share consumer information. We have also outsourced elements of our operations (including elements of our
information technology infrastructure) to third parties, and as a result, we manage a number of third-party vendors who may have access to our computer networks or our confidential information. In addition, many of those third parties may in turn subcontract or outsource some of their responsibilities to third parties. As a result, our information technology systems, including the functions of third parties that are involved or have access to those systems, is very large and complex. While all information technology operations are inherently vulnerable to inadvertent or intentional security breaches, incidents, attacks and exposures, the size, complexity, accessibility and distributed nature of our information technology systems, and the large amounts of sensitive information stored on those systems, make such systems potentially vulnerable to unintentional or malicious, internal and external attacks on our technology environment. Potential vulnerabilities can be exploited from inadvertent or intentional actions of our employees, third-party vendors, business partners, or by malicious third parties. Attacks of this nature are increasing in their frequency, levels of persistence, sophistication and intensity, and are being conducted by sophisticated and organized groups and individuals with a wide range of motives (including, but not limited to, industrial espionage) and expertise, including organized criminal groups, “hacktivists,” nation states and others. In addition to the extraction of sensitive information, such attacks could include the deployment of harmful malware, ransomware, denial-of-service attacks, social engineering and other means to affect service reliability and threaten the confidentiality, integrity and availability of information and systems. In addition, the prevalent use of mobile devices increases the risk of data security incidents. Significant disruptions of our, our third-party vendors’ and/ or business partners’ information technology systems or other similar data security incidents could adversely affect our business operations and result in the loss, misappropriation, or unauthorized access, use or disclosure of, or the prevention of access to, sensitive information, which could result in financial, legal, regulatory, business and reputational harm to us. The automated nature of our business may make us attractive targets for hacking and potentially vulnerable to computer malware, physical or electronic break-ins and similar disruptions. Despite efforts to ensure the integrity of our systems, it is possible that we may not be able to anticipate or to implement effective preventive measures against all security breaches of these types, in which case there would be an increased risk of fraud or identity theft, and we may experience losses on, or delays in the collection of amounts owed on, a fraudulently induced loan.
While we regularly monitor data flow inside and outside the company, techniques used to obtain unauthorized access or to sabotage systems change frequently and are difficult to detect. As a result, we and our third-party hosting facilities may be unable to anticipate these techniques or to implement adequate preventative measures. Any event that leads to unauthorized access, use or disclosure of personal information, including but not limited to personal information regarding our customers, loan applicants, and employees, could disrupt our business, harm our reputation, compel us to comply with applicable federal and/or state breach notification laws and foreign law equivalents, subject us to litigation, regulatory investigation and oversight, mandatory corrective action, require us to verify the correctness of database contents, or otherwise subject us to liability under laws, regulations and contractual obligations, including those that protect the privacy and security of personal information. This could result in increased costs for us, and result in significant legal and financial exposure and/or reputational harm. In particular, these mandatory disclosures regarding a security breach are costly to implement and often lead to widespread negative publicity, which may cause our customers to lose confidence in the effectiveness of our data security measures. In addition, any failure or perceived failure by us or our vendors to comply with our privacy, confidentiality, or data security-related legal or other obligations to third parties, or any security incidents or other inappropriate access events that result in the unauthorized access, release or transfer of sensitive information, which could include personally identifiable information, may result in governmental investigations, enforcement actions, regulatory fines, litigation, or public statements against us by advocacy groups or others and could cause third parties, to lose trust or we could be subject to claims by third parties that have breached our privacy- and confidentiality-related obligations, which could harm our business and prospects. Moreover, cybersecurity experts are warning about a growing use of COVID-19-related themes by malicious cyber actors. At the same time, the surge of in teleworking has increased the use of potentially vulnerable services, such as virtual private networks, amplifying the threat to individuals and organizations. Cybercriminals are targeting individuals and organizations with COVID-19-related cyberattacks.
We also face indirect technology, cybersecurity and operational risks relating to the customers, clients and other third parties with whom we do business or upon whom we rely to facilitate or enable our business activities, including vendors, payment processors, and other parties who have access to confidential information due to our agreements with them. In addition, any security compromise in our industry, whether actual or perceived, or information technology system disruptions, natural disasters, terrorism, war and telecommunication and electrical failures, could interrupt our business or operations, harm our reputation, erode customer confidence, negatively affect our ability to attract new customers, or subject us to third-party lawsuits, regulatory fines or other action or liability.
Like other financial services firms, we have been and continue to be the subject of actual or attempted unauthorized access, mishandling or misuse of information, computer viruses or malware, and cyber-attacks that could obtain confidential information, destroy data, disrupt or degrade service, sabotage systems or cause other damage, distributed denial of service attacks, data breaches and other infiltration, exfiltration or other similar events. In August 2019, we identified an incident involving unauthorized access to a small number of company email accounts. Forensic investigation indicated that a small amount of consumer and employee sensitive information was contained in these email accounts. As a result, we sent breach notices and provided credit monitoring services provided to approximately 700 consumers, and sent notices to employees in Mexico in accordance with Mexican law.
Our retail locations also process physical customer loan documentation that contain confidential information about our customers, including financial and personally identifiable information. We retain physical records in various storage locations outside of our retail locations. The loss or
theft of customer information and data from our retail locations or other storage locations could subject us to additional regulatory scrutiny, possible civil litigation and possible financial liability and losses.
We maintain errors, omissions, and cyber liability insurance policies covering certain security and privacy damages. However, we cannot be certain that our coverage will continue to be available on economically reasonable terms or will be available in sufficient amounts to cover one or more large claims, or that the insurer will not deny coverage as to any future claim. The successful assertion of one or more large claims against us that exceed available insurance coverage, or the occurrence of changes in our insurance policies, including premium increases or the imposition of large deductible or co-insurance requirements, could have an adverse effect on our business, financial condition and results of operations.
Any significant disruption in our computer systems could prevent us from processing or posting payments on loans, reduce the effectiveness of our credit risk models and result in a loss of customers.
In the event of a system outage and physical data loss, our ability to service our loans, process applications or make loans available would be adversely affected. We also rely on facilities, components, and services supplied by third parties, including data center facilities and cloud storage services. Any interference or disruption of our technology and underlying infrastructure or our use of our third-party providers’ services could materially and adversely affect our business, relationships with our customers and our reputation. Also, as our business grows, we may be required to expand and improve the capacity, capability and reliability of our infrastructure. If we are not able to effectively address capacity constraints, upgrade our systems as needed and continually develop our technology and infrastructure to reliably support our business, our results of operations may be harmed.
In addition, the software that we have developed to use in our daily operations is highly complex and may contain undetected technical errors that could cause our computer systems to fail. Because each loan that we make involves our proprietary automated underwriting process and depends on the efficient and uninterrupted operation of our computer systems, and all of our loans are underwritten using an automated underwriting process that does not require manual review, any failure of our computer systems involving our automated underwriting process and any technical or other errors contained in the software pertaining to our automated underwriting process could compromise our ability to accurately evaluate potential customers, which would negatively impact our results of operations. Our computer systems may encounter service interruptions at any time due to system or software failure, natural disasters, severe weather conditions, health epidemics or pandemics, terrorist attacks, cyber-attacks, computer viruses, physical or electronic break-ins, technical errors, power outages or other events, and any failure of our computer systems could cause an interruption in operations and result in disruptions in, or reductions in the amount of, collections from the loans we make to our customers. While we have taken steps to prevent such activity from affecting our systems, if we are unable to prevent such activity, we may be subject to significant liability, negative publicity and a loss of customers, all of which may negatively affect our business.
Additionally, in the event of damage or interruption, our insurance policies may not adequately compensate us for any losses that we may incur. Our disaster recovery plan has not been tested under actual disaster conditions, and we may not have sufficient capacity to recover all data and services in the event of an outage. These factors could prevent us from processing or posting payments on the loans, damage our brand and reputation, divert our employees’ attention, subject us to liability and cause customers to abandon our business, any of which could adversely affect our business, results of operations and financial condition.
We may not be able to make technological improvements as quickly as demanded by our customers, including to address their needs during the COVID-19 pandemic, which could harm our ability to attract customers and adversely affect our results of operations, financial condition and liquidity.
The financial services industry is undergoing rapid technological changes, with frequent introductions of new technology-driven products and services. The effective use of technology increases efficiency and enables financial and lending institutions to better serve customers and reduce costs. Our future success will depend, in part, upon our ability to address the needs of our customers by using technology, such as mobile and online services, to provide products and services that will satisfy customer demands for convenience, as well as to create additional efficiencies in our operations. We may not be able to effectively implement new technology-driven products and services as quickly as competitors or be successful in marketing these products and services to our customers. Furthermore, our technology may become obsolete or uncompetitive, and there is no guarantee that we will be able to successfully develop, obtain or use new technologies to adapt our models and systems. Failure to successfully keep pace with technological change affecting the financial services industry could harm our ability to attract customers and adversely affect our results of operations, financial condition and liquidity. Additionally, the economic impact of the COVID-19 pandemic has required and continues to require us to make rapid changes to our systems in order to be able to offer our customers appropriate reduced payment plans and alternative payment options. If we are not able to implement these changes quickly enough, it could impact our credit performance.
Because we receive a significant amount of cash in our retail locations through customer loan repayments, we may be subject to theft and cash shortages due to employee errors.
Since our business requires us to receive a significant amount of cash in each of our retail locations, we are subject to the risk of theft (including by or facilitated by employees) and cash shortages due to employee errors. Although we have implemented various procedures and programs to reduce these risks, maintain insurance coverage for theft and provide security measures for our facilities, we cannot make assurances that theft and employee error will not occur. We have experienced theft and attempted theft in the past.
A deterioration in the financial condition of counterparties, including financial institutions, could expose us to credit losses, limit access to liquidity or disrupt our business operations.
We have entered into, and may in the future enter into, financing and derivative transactions with counterparties in the financial services industry, including brokers and dealers, commercial banks, investment banks, hedge funds, and other financial institutions. Furthermore, the operations of U.S. and global financial services institutions are interconnected, and a decline in the financial condition of one or more financial services institutions, or the perceived lack of creditworthiness of such financial institutions, may expose us to credit losses or defaults, limit access to liquidity or otherwise disrupt the operations of our business. As such, our financing and derivative transactions expose us to credit risk in the event of a default by the counterparty, which can be exacerbated during periods of market illiquidity, such as is currently being experienced due to the COVID-19 pandemic.
Our vendor relationships subject us to a variety of risks, and the failure of third parties to comply with legal or regulatory requirements or to provide various services that are important to our operations could have an adverse effect on our business.
We have vendors that, among other things, provide us with key services, including financial, technology and other services to support our loan servicing and other activities. The CFPB issued guidance stating that institutions under its supervision may be held responsible for the actions of the companies with which they contract. Accordingly, we could be adversely impacted to the extent our vendors fail to comply with the legal requirements applicable to the particular products or services being offered. Our use of third-party vendors is subject to increasing regulatory attention.
The CFPB and other regulators have issued regulatory guidance that has focused on the need for financial institutions to perform increased due diligence and ongoing monitoring of third-party vendor relationships, thus increasing the scope of management involvement and decreasing the benefit that we receive from using third-party vendors. Moreover, if our regulators conclude that we have not met the heightened standards for oversight of our third-party vendors, we could be subject to enforcement actions, civil monetary penalties, supervisory orders to cease and desist or other remedial actions.
In some cases, third-party vendors are the sole source, or one of a limited number of sources, of the services they provide to us. Most of our vendor agreements are terminable on little or no notice, and if our current vendors were to stop or were unable to continue providing services to us on acceptable terms, we may be unable to procure alternatives from other vendors in a timely and efficient manner on acceptable terms or at all. If any third-party vendor fails to provide the services we require, due to factors outside our control, we could be subject to regulatory enforcement actions, suffer economic and reputational harm and incur significant costs to resolve any such disruptions in service.
If we lose the services of any of our key management personnel, our business could suffer.
Our future success significantly depends on the continued service and performance of our key management personnel. Competition for these employees is intense and we may not be able to replace, attract and retain key personnel. We do not maintain key-man insurance for every member of our senior management team. The loss of the service of our senior management team or key team members, and the process to replace any of them, or the inability to attract additional qualified personnel as needed, all of which would involve significant time and expense, could harm our business.
Competition for our highly skilled employees is intense, and we may not be able to attract and retain the employees we need to support the growth of our business.
Competition for highly skilled personnel, including engineering and data analytics personnel, is extremely intense, particularly in the San Francisco Bay Area where our headquarters is located. We have experienced and expect to continue to face difficulty identifying and hiring qualified personnel in many areas, especially as we pursue our growth strategy. We may not be able to hire or retain such personnel at compensation levels consistent with our existing compensation and salary structure. Many of the companies with which we compete for experienced employees have greater resources than we have and may be able to offer more attractive terms of employment. In particular, employee candidates, specifically in high-technology industries, often consider the value of any equity they may receive in connection with their employment so significant volatility or a
decline in the price of our stock may adversely affect our recruitment strategies. Additionally, changes to U.S. immigration policies, as well as restrictions on global travel due to public health crises requiring quarantines or other precautions to limit exposure to infectious diseases, may limit our ability to hire and/or retain talent.
In addition, we invest significant time and expense in training our employees, which increases their value to competitors who may seek to recruit them. If we fail to retain our employees, we could incur significant expenses in hiring and training their replacements and the quality of our services and our ability to serve our customers could be adversely affected.
We are dependent on hiring an adequate number of hourly bilingual employees to run our business and are subject to government regulations concerning these and our other employees, including minimum wage laws.
Our workforce is comprised primarily of bilingual employees who work on an hourly basis. In certain areas where we operate, there is significant competition for hourly bilingual employees and the lack of availability of an adequate number of hourly bilingual employees could adversely affect our operations. In addition, we are subject to applicable rules and regulations relating to our relationship with our employees, including minimum wage and break requirements, health benefits, unemployment and sales taxes, overtime and working conditions and immigration status. We are from time to time subject to employment-related claims, including wage and hour claims. Further, legislated increases in minimum wage, as well as increases in additional labor cost components, such as employee benefit costs, workers’ compensation insurance rates, compliance costs and fines would increase our labor costs, which could have an adverse effect on our business.
Our mission to provide inclusive, affordable financial services that empower our customers to build a better future may conflict with the short-term interests of our stockholders.
Our mission is to provide inclusive, affordable financial services that empower our customers to build a better future. Therefore, we have made in the past, and may make in the future, decisions that we believe will benefit our customers and therefore provide long-term benefits for our business, even if our decision negatively impacts our short-term results of operations. For example, we constrain the maximum interest rates we charge in order to further our goal of making our loans affordable for our target customers. Our decisions may negatively impact our short-term financial results or not provide the long-term benefits that we expect and may decrease the spread between the interest rate at which we lend to our customers and the rate at which we borrow from our lenders.
If we cannot maintain our corporate culture as we grow, we could lose the innovation, collaboration and focus on the mission that contribute to our business.
We believe that a critical component of our success is our corporate culture and our deep commitment to our mission. We believe this mission-based culture fosters innovation, encourages teamwork and cultivates creativity. Our mission defines our business philosophy as well as the emphasis that we place on our customers, our people and our culture and is consistently reinforced to and by our employees. As we develop the infrastructure of a public company and continue to grow, we may find it difficult to maintain these valuable aspects of our corporate culture and our long-term mission. In addition, the widespread stay-at-home orders resulting from the COVID-19 pandemic have required us to make substantial changes to the way that the vast majority of our employee population does their work. Any failure to preserve our culture, including a failure due to the growth from becoming a public company or resulting from remote work arrangements, could negatively impact our future success, including our ability to attract and retain employees, encourage innovation and teamwork, and effectively focus on and pursue our mission and corporate objectives.
Misconduct by our employees could harm us by subjecting us to monetary loss, significant legal liability, regulatory scrutiny and reputational harm.
Our reputation is critical to maintaining and developing relationships with our existing and potential customers and third parties with whom we do business. There is a risk that our employees, including our employees that are working from home due to COVID-19, could be accused of or engage in misconduct that adversely affects our business, including fraud, theft, the redirection, misappropriation or otherwise improper execution of loan transactions, disclosure of personal and business information and the failure to follow protocol when interacting with customers that could lead us to suffer direct losses from the activity as well as serious reputational harm. Employee misconduct could also lead to regulatory sanctions and prompt regulators to allege or to determine based upon such misconduct that we have not established adequate supervisory systems and procedures to inform employees of applicable rules or to detect and deter violations of such rules. Misconduct by our employees, or even unsubstantiated allegations of misconduct, could harm our reputation and our business.
Our international operations and offshore service providers involve inherent risks which could result in harm to our business.
As of December 31, 2020, we had 1,591 employees in three contact centers in Mexico. These employees provide certain English/Spanish bilingual support related to customer-facing contact center activities, administrative and technology support of the contact centers and back-office support services. We have also engaged outsourcing partners in the United States that provide offshore customer-facing contact center activities in Mexico, Colombia, and Jamaica, and may in the future include additional locations in other countries. In addition, we opened a technology development center in India in 2019. We have engaged vendors that utilize employees or contractors based outside of the United States. As of December 31, 2020, our outsourcing partners have provided us, on an exclusive basis, the equivalent of 579 full-time equivalents in Mexico, Colombia, Jamaica, and India. These international activities are subject to inherent risks that are beyond our control, including:
•risks related to government regulation or required compliance with local laws;
•local licensing and reporting obligations;
•difficulties in developing, staffing and simultaneously managing a number of varying foreign operations as a result of distance, language and cultural differences;
•different, uncertain, overlapping or more stringent local laws and regulations;
•political and economic instability, tensions, security risks and changes in international diplomatic and trade relations;
•state or federal regulations that restrict offshoring of business operational functions or require offshore partners to obtain additional licenses, registrations or permits to perform services on our behalf;
•geopolitical events, including natural disasters, public health issues, epidemics or pandemics, acts of war, and terrorism;
•the impact of, and response of local governments to, the COVID-19 pandemic;
•compliance with applicable U.S. laws and foreign laws related to consumer protection, intellectual property, privacy, data security, corruption, money laundering, and export/trade control;
•misconduct by our outsourcing partners and their employees or even unsubstantiated allegations of misconduct;
•risks due to lack of direct involvement in hiring and retaining personnel; and
•potentially adverse tax developments and consequences.
Violations of the complex foreign and U.S. laws, rules and regulations that apply to our international operations and offshore activities of our service providers may result in heightened regulatory scrutiny, fines, criminal actions or sanctions against us, our directors, our officers or our employees, as well as restrictions on the conduct of our business and reputational damage.
If we discover a material weakness in our internal control over financial reporting that we are unable to remedy or otherwise fail to maintain effective internal control over financial reporting or disclosure controls and procedures, our ability to report our financial results on a timely and accurate basis and the market price of our common stock may be adversely affected.
The Sarbanes-Oxley Act requires, among other things, that, as a public company, we maintain effective internal control over financial reporting and disclosure controls and procedures including implementation of financial systems and tools. Any failure to maintain effective disclosure controls and procedures or internal control over financial reporting could have an adverse effect on our ability to accurately report our financial information on a timely basis and result in material misstatements in our consolidated financial statements.
To comply with Section 404A of the Sarbanes-Oxley Act, we may incur substantial cost, expend significant management time on compliance-related issues and hire additional accounting, financial and internal audit staff with appropriate public company experience and technical accounting knowledge. Moreover, if we are not able to comply with the requirements of Section 404A in a timely manner or if we or our independent registered public accounting firm identify deficiencies in our internal control over financial reporting that are deemed to be material weaknesses, we could be subject to sanctions or investigations by the Securities and Exchange Commission (the "SEC") or other regulatory authorities, adversely affect our ability to access the credit markets and sell additional equity and commit additional financial and management resources to remediate deficiencies.
Our business is subject to the risks of natural disasters, public health crises and other catastrophic events, and to interruption by man-made problems.
A significant natural disaster, such as an earthquake, fire, hurricanes, flood or other catastrophic event (many of which are becoming more acute and frequent as a result of climate change), or interruptions by strikes, crime, terrorism, social unrest, cyber-attacks, pandemics or other public health crises, power outages or other man-made problems, could have an adverse effect on our business, results of operations and financial condition. Our headquarters is located in the San Francisco Bay Area, and our systems are hosted in multiple data centers across Northern California, a region
known for seismic activity and wildfires and related power outages. Additionally, certain of our contact centers and retail locations are located in areas prone to natural disasters, including earthquakes, tornadoes, and hurricanes, and certain of our retail locations and our contact centers may be located in areas with high levels of criminal activities.
Our IT systems are backed up regularly to highly available, alternate data centers in a different region, and we have conducted disaster recovery testing of our mission critical systems. Despite any precautions we may take, however, the occurrence of a natural disaster or other unanticipated problems at our data centers could result in lengthy interruptions in our services. In addition, acts of war, terrorism, and other geopolitical unrest could cause disruptions in our business and lead to interruptions, delays or loss of critical data.
In addition, a large number of customers make payments and apply for loans at our retail locations. If one or more of our retail locations becomes unavailable for any reason, including as a result of the COVID-19 pandemic or other public health crisis, localized weather events, or natural or man-made disasters, our ability to conduct business and collect payments from customers on a timely basis may be adversely affected, which could result in lower loan originations, higher delinquencies and increased losses. For example, from time to time we have temporarily closed a few of our retail locations due to public health orders or other concerns relating to the COVID-19 pandemic, which we believe partially contributed to the decrease in Aggregate Originations in the three months and twelve months December 31, 2020 as compared to the three months and twelve months ended December 31, 2019. We may have to close retail locations as necessary due to public health orders or other concerns relating to the COVID-19 pandemic. The closure of additional retail locations would further adversely affect our loan originations, results of operations and financial condition.
All of the aforementioned risks may be further increased if our business continuity plans prove to be inadequate and there can be no assurance that both personnel and non-mission critical applications can be fully operational after a declared disaster within a defined recovery time. If our personnel, systems or primary data center facilities are impacted, we may suffer interruptions and delays in our business operations. In addition, to the extent these events impact our customers or their ability to timely repay their loans, our business could be negatively affected.
We may not maintain sufficient business interruption or property insurance to compensate us for potentially significant losses, including potential harm to our business that may result from interruptions in our ability to provide our financial products and services.
Unfavorable outcomes in legal proceedings may harm our business and results of operations.
We are, and may in the future become, subject to litigation, claims, investigations, legal and administrative cases and proceedings, whether civil or criminal, or lawsuits by governmental agencies or private parties, which may affect our results of operations. See Item 3. "Legal Proceedings” for more information regarding this and other proceedings.
If the results of any pending or future legal proceedings are unfavorable to us or if we are unable to successfully defend against third-party lawsuits, we may be required to pay monetary damages or fulfill our indemnification obligations or we may be subject to fines, penalties, injunctions or other censure. Even if we adequately address the issues raised by an investigation or proceeding or successfully defend a third-party lawsuit or counterclaim, we may have to devote significant financial and management resources to address these issues.
Risks Related to Our Intellectual Property
It may be difficult and costly to protect our intellectual property rights, and we may not be able to ensure their protection.
Our ability to lend to our customers depends, in part, upon our proprietary technology. We may be unable to protect our proprietary technology effectively which would allow competitors to duplicate our products and adversely affect our ability to compete with them. We rely on a combination of copyright, trade secret, trademark laws and other rights, as well as confidentiality procedures and contractual provisions to protect our proprietary technology, processes and other intellectual property and do not have patent protection. However, the steps we take to protect our intellectual property rights may be inadequate. For example, a third party may attempt to reverse engineer or otherwise obtain and use our proprietary technology without our consent. The pursuit of a claim against a third party for infringement of our intellectual property could be costly, and there can be no guarantee that any such efforts would be successful. Our failure to secure, protect and enforce our intellectual property rights could adversely affect our brand and adversely impact our business.
We have been, and may in the future be, sued by third parties for alleged infringement of their proprietary rights.
Our proprietary technology, including our credit risk models, may infringe upon claims of third-party intellectual property, and we may face intellectual property challenges from such other parties. The expansion of our product suite and our potential expansion into banking services may create additional trademark risk. We may not be successful in defending against any such challenges or in obtaining licenses to avoid or resolve any
intellectual property disputes. If we are unsuccessful, such claim or litigation could result in a requirement that we pay significant damages or licensing fees, which would negatively impact our financial performance. We may also be obligated to indemnify parties or pay substantial legal settlement costs, including royalty payments, and to modify applications or refund fees. Even if we were to prevail in such a dispute, any litigation regarding our intellectual property could be costly and time consuming and divert the attention of our management and key personnel from our business operations.
For example, in January 2018, we received a complaint by a third party alleging various claims for trademark infringement, unfair competition, trademark dilution and misappropriation against us. The complaint calls for monetary damages and injunctive relief requiring us to cease using our trademarks. We believe this claim is without merit and intend to vigorously defend this matter. The final outcome with respect to the claims in the lawsuits, including our liability, if any, is uncertain. Furthermore, we cannot be certain that any of these claims would be resolved in our favor. For example, an adverse litigation ruling against us could result in a significant damages award against us, could result in injunctive relief, could result in a requirement that we make substantial royalty payments, and could result in the cancellation of certain Oportun trademarks which would require that we rebrand. Moreover, an adverse finding could cause us to incur substantial expense, could be a distraction to management, and any rebranding as a result may not be well received in the market. To the extent that we reach a negotiated settlement, the settlement could require that we pay substantial compensation and could require that we make modifications to our name, branding, marketing materials, and advertising that may not be well received in the market. See Item 3. "Legal Proceedings for more information regarding these proceedings.
Moreover, it has become common in recent years for individuals and groups to purchase intellectual property assets for the sole purpose of making claims of infringement and attempting to extract settlements from companies such as ours. Even in instances where we believe that claims and allegations of intellectual property infringement against us are without merit, defending against such claims is time consuming and expensive and could result in the diversion of time and attention of our management and employees. In addition, although in some cases a third party may have agreed to indemnify us for such costs, such indemnifying party may refuse or be unable to uphold its contractual obligations. In other cases, our insurance may not cover potential claims of this type adequately or at all, and we may be required to pay monetary damages, which may be significant.
Our credit risk models and internal systems rely on software that is highly technical, and if it contains undetected errors, our business could be adversely affected.
Our credit risk models and internal systems rely on internally developed software that is highly technical and complex. In addition, our models and internal systems depend on the ability of such software to store, retrieve, process and manage immense amounts of data. The software on which we rely has contained, and may now or in the future contain, undetected errors, bugs or other defects, which risk may be heightened in light of the numerous changes we have implemented to our systems in a short amount of time in reaction to the COVID-19 pandemic. Some errors may only be discovered after the code has been released for external or internal use. Errors, bugs or other defects within the software on which we rely may result in a negative experience for our customers, result in errors or compromise our ability to protect customer data or our intellectual property. Specifically, any defect in our credit risk models could result in the approval of unacceptably risky loans. Such defects could also result in harm to our reputation, loss of customers, loss of revenue, adjustments to the fair value of our Fair Value Loans or Fair Value Notes, challenges in raising debt or equity, or liability for damages, any of which could adversely affect our business and results of operations.
Some aspects of our business processes include open source software, and any failure to comply with the terms of one or more of these open source licenses could negatively affect our business.
We incorporate open source software into processes supporting our business. Such open source software may include software covered by licenses like the GNU General Public License and the Apache License. The terms of various open source licenses have not been interpreted by U.S. courts, and there is a risk that such licenses could be construed in a manner that limits our use of the software, inhibits certain aspects of our systems and negatively affects our business operations.
Some open source licenses contain requirements that we make source code available at no cost for modifications or derivative works we create based upon the type of open source software we use. We may face claims from third parties claiming ownership of, or demanding the release or license of, such modifications or derivative works (which could include our proprietary source code or credit risk models) or otherwise seeking to enforce the terms of the applicable open source license. If portions of our proprietary credit risk models are determined to be subject to an open source license, or if the license terms for the open source software that we incorporate change, we could be required to publicly release the affected portions of our source code, re-engineer all or a portion of our model or change our business activities, any of which could negatively affect our business operations and our intellectual property rights.
In addition to risks related to license requirements, the use of open source software can lead to greater risks than the use of third-party commercial software, as open source licensors generally do not provide warranties or controls on the origin of the software. Use of open source
software may also present additional security risks because the public availability of such software may make it easier for hackers and other third parties to determine how to breach our website and systems that rely on open source software.
Risks Related to Our Industry and Regulation
The lending industry is highly regulated. Changes in regulations or in the way regulations are applied to our business could adversely affect our business.
Our business is subject to numerous federal, state and local laws and regulations. Statutes, regulations and policies affecting lending institutions are continually under review by Congress, state legislatures and federal and state regulatory agencies. Changes in laws or regulations, or the regulatory application or interpretation of the laws and regulations applicable to us, could adversely affect our ability to operate in the manner in which we currently conduct business. Such changes in, and in the interpretation and enforcement of, laws and regulations may also make it more difficult or costly for us to originate additional loans, or for us to collect payments on our loans to customers or otherwise operate our business by subjecting us to additional licensing, registration and other regulatory requirements in the future. For instance, bills have been introduced in Congress and in several states in recent years proposing various usury caps and other provisions that could otherwise greatly restrict the rates and fees that lenders can charge customers for late and returned payments. If such a bill were to be enacted, it would greatly restrict profitability for us.
Furthermore, judges or regulatory agencies could interpret current rules or laws differently than the way we do, leading to such adverse consequences as described above. A failure to comply with any applicable laws or regulations could result in regulatory actions, loss of licenses, lawsuits and damage to our reputation, any of which could have an adverse effect on our business and financial condition and our ability to originate and service loans and perform our obligations to investors and other constituents. It could also result in a default or early amortization event under our debt facilities and reduce or terminate availability of debt financing to us to fund originations.
Our failure to comply with the regulations in the jurisdictions in which we conduct our business could harm our results of operations.
Federal and state agencies have broad enforcement powers over us, including powers to periodically examine and continuously monitor our operations and to investigate our business practices and broad discretion to deem particular practices unfair, deceptive, abusive or otherwise not in accordance with the law. All of our operations are subject to regular examination by state regulators and, in the future, may be subject to regular examination by federal regulators. These examinations may result in requirements to change our policies or practices, and in some cases, we may be required to pay monetary fines or make reimbursements to customers.
State attorneys general have a variety of legal mechanisms at their disposal to enforce state and federal consumer financial laws. For example, Section 1042 of the Dodd-Frank Act grants state attorneys general the ability to enforce the Dodd-Frank Act and regulations promulgated under the Dodd-Frank Act’s authority and to secure remedies provided in the Dodd-Frank Act against entities within their jurisdiction. State attorneys general also have enforcement authority under state law with respect to unfair or deceptive practices. Also, the California Consumer Financial Protection Law expands the jurisdiction of and reorganizes the existing state regulator to have broad authority over providers of financial services and products and gives the regulator broad enforcement authority against covered persons with respect to unfair, deceptive or abusive act and discrimination violations. Generally, under these statutes, state attorneys general may conduct investigations, bring actions, and recover civil penalties or obtain injunctive relief against entities engaging in unfair, deceptive, or fraudulent acts. Attorneys general may also coordinate among themselves to enter into multi-state actions or settlements. Finally, several consumer financial laws like the Truth in Lending Act and Fair Credit Reporting Act grant enforcement or litigation authority to state attorneys general.
We believe that we maintain all material licenses and permits required for our current operations and are in substantial compliance with all applicable federal, state and local regulations, but we may not be able to maintain all requisite licenses and permits, and the failure to satisfy those and other regulatory requirements could have an adverse effect on our operations. There is also a chance that a regulator will believe that we or our service providers or strategic partners should obtain additional licenses above and beyond those currently held by us or our service providers, if any. Changes in laws or regulations applicable to us could subject us or our service providers to additional licensing, registration and other regulatory requirements in the future or could adversely affect our ability to operate or the manner in which we conduct business, including restrictions on our ability to open retail locations in certain counties, municipalities or other geographic locations.
A failure to comply with applicable laws and regulations could result in additional compliance requirements, limitations on our ability to collect all or part of the principal of or interest on loans, fines, an inability to continue operations, regulatory actions, loss of our license to transact business in a particular location or state, lawsuits, potential impairment, voiding, or voidability of loans, rescission of contracts, civil and criminal liability and damage to our reputation.
A proceeding relating to one or more allegations or findings of our violation of law could also result in modifications in our methods of doing business, including our servicing and collections procedures. It could result in the requirement that we pay damages and/or cancel the balance or other amounts owing under loans associated with such violation. It could also result in a default or early amortization event under certain of our debt facilities and reduce or terminate availability of debt financing to us to fund originations. To the extent it is determined that the loans we make to our customers were not originated in accordance with all applicable laws as we are required to represent under our securitization and other debt facilities and in loan sales to investors, we could be obligated to repurchase for cash, or swap for qualifying assets, any such loan determined not to have been originated in compliance with legal requirements. We may not have adequate liquidity and resources to make such cash repurchases or swap for qualifying assets.
For more information with respect to the regulatory framework affecting our businesses, see “Business - Regulations and Compliance.”
Financial regulatory reform relating to asset-backed securities has not been fully implemented and could have a significant impact on our ability to access the asset-backed securities market.
We rely upon asset-backed financing for a significant portion of our funds with which to carry on our business. Asset-backed securities and the securitization markets were heavily affected by the Dodd-Frank Act and have also been a focus of increased regulation by the SEC. For example, the Dodd-Frank Act mandates the implementation of rules requiring securitizers or originators to retain an economic interest in a portion of the credit risk for any asset that they securitize or originate. Furthermore, sponsors are prohibited from diluting the required risk retention by dividing the economic interest among multiple parties or hedging or transferring the credit risk the sponsor is required to maintain. Rules relating to securitizations rated by nationally-recognized statistical rating agencies require that the findings of any third-party due diligence service providers be made publicly available at least five business days prior to the first sale of securities, which has led and will continue to lead us to incur additional costs in connection with each securitization.
However, some of the regulations to be implemented under the Dodd-Frank Act relating to securitization have not yet been finalized. Additionally, there is general uncertainty regarding what changes, if any, may be implemented with regard to the Dodd-Frank Act. Any new rules or changes to the Dodd-Frank Act (or the current rules thereunder) could adversely affect our ability and our cost to access the asset-backed securities market.
Litigation, regulatory actions and compliance issues could subject us to significant fines, penalties, judgments, remediation costs and/or requirements resulting in increased expenses.
In the ordinary course of business, we have been named as a defendant in various legal actions, including class actions and other litigation. Generally, this litigation arises from the dissatisfaction of a consumer with our products or services; some of this litigation, however, has arisen from other matters, including claims of violation of do-not-call, credit reporting and collection laws, bankruptcy and practices. All such legal actions are inherently unpredictable and, regardless of the merits of the claims, litigation is often expensive, time-consuming, disruptive to our operations and resources, and distracting to management. In addition, certain of those actions include claims for indeterminate amounts of damages. Our involvement in any such matter also could cause significant harm to our reputation and divert management attention from the operation of our business, even if the matters are ultimately determined in our favor. If resolved against us, legal actions could result in excessive verdicts and judgments, injunctive relief, equitable relief, and other adverse consequences that may affect our financial condition and how we operate our business. We have in the past chosen to settle (and may in the future choose to settle) certain matters in order to avoid the time and expense of litigating them. Although none of the settlements has been material to our business, there is no assurance that, in the future, such settlements will not have a material adverse effect on our business.
In addition, a number of participants in the consumer financial services industry have been the subject of putative class action lawsuits, state attorney general actions and other state regulatory actions, federal regulatory enforcement actions, including actions relating to alleged unfair, deceptive or abusive acts or practices, violations of state licensing and lending laws, including state usury laws, actions alleging discrimination on the basis of race, ethnicity, gender or other prohibited bases, and allegations of noncompliance with various state and federal laws and regulations relating to originating and servicing consumer finance loans and other consumer financial services and products. The current regulatory environment, increased regulatory compliance efforts, and enhanced regulatory enforcement have resulted in significant operational and compliance costs and may prevent us from providing certain products and services. There is no assurance that these regulatory matters or other factors will not, in the future, affect how we conduct our business or adversely affect our business. In particular, legal proceedings brought under state consumer protection statutes or under several of the various federal consumer financial services statutes subject to the jurisdiction of the CFPB may result in a separate fine for each violation of the statute, which, particularly in the case of class action lawsuits, could result in damages substantially in excess of the amounts we earned from the underlying activities.
Some of our consumer financing agreements include arbitration clauses. If our arbitration agreements were to become unenforceable for any reason, we could experience an increase to our consumer litigation costs and exposure to potentially damaging class action lawsuits.
In addition, from time to time, through our operational and compliance controls, we identify compliance issues that require us to make operational changes and, depending on the nature of the issue, result in financial remediation to impacted customers. These self-identified issues and voluntary remediation payments could be significant, depending on the issue and the number of customers impacted, and could generate litigation or regulatory investigations that subject us to additional risk.
Internet-based and electronic signature-based loan origination processes may give rise to greater risks than paper-based processes.
We use the internet and internet-enabled mobile phones to obtain application information, distribute certain legally required notices to applicants for, and borrowers of, the loans, and to obtain electronically signed loan documents in lieu of paper documents with tangible borrower signatures. In addition, we have introduced the use of electronic signature-based loan origination processes with a tablet in our retail locations. These processes may entail greater risks than would paper-based loan origination processes, including risks regarding the sufficiency of notice for compliance with consumer protection laws, risks that borrowers may challenge the authenticity of their signature or of the loan documents, risks that a court of law may not enforce electronically signed loan documents and risks that, despite controls, unauthorized changes are made to the electronic loan documents. If any of those factors were to cause any loans, or any of the terms of the loans, to be unenforceable against the borrowers, our ability to service these loans could be adversely affected.
The CFPB has sometimes taken expansive views of its authority to regulate consumer financial services, creating uncertainty as to how the agency’s actions or the actions of any other new agency could impact our business.
The CFPB has broad authority to create and modify regulations under federal consumer financial protection laws and regulations, such as the Truth in Lending Act and Regulation Z, the Equal Credit Opportunity Act and Regulation B, the Fair Credit Reporting Act, the Electronic Funds Transfer Act and Regulation E, and to enforce compliance with those laws. The CFPB is charged with the examination and supervision of certain participants in the consumer financial services market, including short-term, small dollar lenders, and larger participants in other areas of financial services. The CFPB is also authorized to prevent “unfair, deceptive or abusive acts or practices” through its regulatory, supervisory and enforcement authority. To assist in its enforcement, the CFPB maintains an online complaint system that allows consumers to log complaints with respect to various consumer finance products, including our loan products and our prepaid debit card program. This system could inform future CFPB decisions with respect to its regulatory, enforcement or examination focus. The CFPB may also request reports concerning our organization, business conduct, markets and activities and conduct on-site examinations of our business on a periodic basis if the CFPB were to determine, through its complaint system, that we were engaging in activities that pose risks to consumers.
Actions by the CFPB could result in requirements to alter or cease offering affected financial products and services, making them less attractive and restricting our ability to offer them. The CFPB could also implement rules that restrict our effectiveness in servicing our financial products and services. Future actions by the CFPB (or other regulators) against us or our competitors that discourage the use of our or their services or restrict our business activities could result in reputational harm and adversely affect our business. If the CFPB changes regulations that were adopted in the past by other regulators and transferred to the CFPB by the Dodd-Frank Act, or modifies through supervision or enforcement past regulatory guidance or interprets existing regulations in a different or stricter manner than they have been interpreted in the past by us, the industry or other regulators, our compliance costs and litigation exposure could increase materially. If future regulatory or legislative restrictions or prohibitions are imposed that affect our ability to offer certain of our products or that require us to make significant changes to our business practices, and if we are unable to develop compliant alternatives with acceptable returns, our business could be adversely affected.
The collection, processing, storage, use and disclosure of personal data could give rise to liabilities as a result of existing or new governmental regulation, conflicting legal requirements or differing views of personal privacy rights.
We receive, transmit and store a large volume of personally identifiable information and other sensitive data from customers and potential customers. There are federal, state and foreign laws regarding privacy and the storing, sharing, use, disclosure and protection of personally identifiable information and sensitive data. Specifically, cybersecurity and data privacy issues, particularly with respect to personally identifiable information are increasingly subject to legislation and regulations to protect the privacy and security of personal information that is collected, processed and transmitted. For example, in June 2018, California enacted the California Consumer Privacy Act (the "CCPA"), which broadly defines personal information and took effect on January 1, 2020. The CCPA gives California residents expanded privacy rights and protections and provides for civil penalties for CCPA violations, in addition to providing for a private right of action for data breaches. On November 3, 2020, California approved the California Privacy Rights Act (the "CPRA"), that amends the CCPA to create new and additional privacy rights and obligations in California and creates the California Privacy Protection Agency to enforce the laws. Whereas we have implemented the CCPA, compliance with other current and future customer privacy data protection and information security laws and regulations could result in higher compliance, technical or operating costs. Further, any violations of these laws and regulations may require us to change our business practices or operational structure, address legal claims and sustain monetary penalties and/or other harms to our business. We could also be adversely affected if new legislation or regulations are adopted or if existing legislation or regulations are modified such that we are required to alter our systems or require changes to our business practices or privacy policies.
We may have to constrain our business activities to avoid being deemed an investment company under the Investment Company Act.
The Investment Company Act of 1940, as amended (the "Investment Company Act") contains substantive legal requirements that regulate the manner in which “investment companies” are permitted to conduct their business activities. We believe we have conducted, and we intend to continue to conduct, our business in a manner that does not result in our company being characterized as an investment company, including by relying on certain exemptions from registration as an investment company. We rely on guidance published by the Securities and Exchange Commission's (the "SEC") staff or on our analyses of such guidance to determine our qualification under these and other exemptions. To the extent that the SEC staff publishes new or different guidance with respect to these matters, we may be required to adjust our business operations accordingly. Any additional guidance from the SEC staff could provide additional flexibility to us, or it could inhibit our ability to conduct our business operations. There can be no assurance that the laws and regulations governing our Investment Company Act status or SEC guidance regarding the Investment Company Act will not change in a manner that adversely affects our operations. If we are deemed to be an investment company, we may attempt to seek exemptive relief from the SEC, which could impose significant costs and delays on our business. We may not receive such relief on a timely basis, if at all, and such relief may require us to modify or curtail our operations. If we are deemed to be an investment company, we may also be required to institute burdensome compliance requirements and our activities may be restricted.
Our bank sponsorship products may lead to regulatory risk and may increase our regulatory burden.
We currently have a bank sponsorship program with WebBank for our credit card product. On November 10, 2020, we announced that we had entered into a bank sponsorship program agreement with MetaBank, N.A. to offer unsecured installment loans, currently anticipated to launch in mid-2021. State and federal agencies have broad discretion in their interpretation of laws and their interpretation of requirements related to bank sponsorship programs and may elect to alter standards or the interpretation of the standards applicable to these programs. For instance, the Colorado Credit Commissioner recently settled its lawsuit challenging two bank sponsorship programs requiring certain restrictions on such programs in order for them to continue in Colorado. Additionally, the OCC and FDIC recently issued "Valid when made" rules for which both regulators were sued by various states. The OCC also recently finalized a "true lender" rule but that rule is also expected to be challenged in court. The uncertainty of the federal and state regulatory environments around bank sponsorship programs means that our efforts to launch an installment loan product through a bank sponsor may not ultimately be successful, or it may be challenged by one or more states in which we launch such a program. Furthermore, federal regulation of the banking industry, along with tax and accounting laws, regulations, rules and standards may limit the business activity of banks and affiliates under these structures and control the method by which we can conduct business. Regulation by a federal banking regulator may also subject us to increased compliance, legal and operational costs, and could subject our business model to scrutiny or limit our ability to expand the scope of our activities in a manner that could have a material adverse effect on us.
We are pursuing a national bank charter which could subject us to significant new regulation.
We recently applied to obtain a national bank charter through the establishment of a de novo bank to, among other things, allow us to offer additional products and services, provide us with new sources of lower cost funding and give our business regulatory clarity. If we were to obtain a national bank charter, we would be subject to supervision and regulation by the OCC under the National Bank Act, by the Federal Deposit Insurance Corporation (the “FDIC”) and by the Board of Governors of the Federal Reserve System (the “Federal Reserve”) under the Bank Holding Company Act which could be subject to certain restrictions and requirements, including capital requirements and shareholder requirements.
Our efforts to comply with such additional regulation may require substantial time and monetary commitments. If any new regulations or interpretations of existing regulations to which we are subject impose requirements on us that are impractical or that we cannot satisfy, our financial performance may be adversely affected.
In addition, as a bank holding company, we would generally be prohibited from engaging, directly or indirectly, in any activities other than those permissible for bank holding companies. This restriction might limit our ability to pursue future business opportunities which we might otherwise consider but which might fall outside the scope of permissible activities.
If we are able to obtain a national bank charter, certain of our stockholders may need to comply with applicable federal banking statutes and regulations, including the Change in Bank Control Act and the Bank Holding Company Act. Specifically, stockholders holding 10.0% or more of our voting interests may be required to provide certain information and/or commitments on a confidential basis to, among other regulators, the Federal Reserve. This requirement may deter certain existing or potential stockholders from purchasing shares of our common stock, which may suppress demand for the stock and cause the price to decline.
If we are unable to obtain or decide not to pursue a national bank charter, our ability to grow, improve our capital efficiency, or funding resilience, may be adversely affected. Without a national bank charter, we would be required to continue to maintain several state licenses and our business, including our ability to offer a broader range of products and services, may be adversely affected.
Anti-money laundering, anti-terrorism financing and economic sanctions laws could have adverse consequences for us.
We maintain a compliance program designed to enable us to comply with all applicable anti-money laundering and anti-terrorism financing laws and regulations, including the Bank Secrecy Act and the USA PATRIOT Act and U.S. economic sanctions laws administered by the Office of Foreign Assets Control. This program includes policies, procedures, processes and other internal controls designed to identify, monitor, manage and mitigate the risk of money laundering and terrorist financing and engaging in transactions involving sanctioned countries persons and entities. These controls include procedures and processes to detect and report suspicious transactions, perform customer due diligence, respond to requests from law enforcement, and meet all recordkeeping and reporting requirements related to particular transactions involving currency or monetary instruments. No assurance is given that our programs and controls will be effective to ensure compliance with all applicable anti-money laundering and anti-terrorism financing laws and regulations, and our failure to comply with these laws and regulations could subject us to significant sanctions, fines, penalties and reputational harm.
We are subject to governmental export and import controls that could subject us to liability, impair our ability to compete in international markets and adversely affect our business.
Although our business does not involve the commercial sale or distribution of hardware, software or technology, in the normal course of our business activities we may from time to time ship general commercial equipment outside the United States to our subsidiaries or affiliates for their internal use. In addition, we may export, transfer or provide access to software and technology to non-U.S. persons such as employees and contractors, as well as third-party vendors and consultants engaged to support our business activities. In all cases, the sharing of software and/or technology is solely for the internal use of the company or for the use by business partners to provide services to us, including software development. However, such shipments and transfers may be subject to U.S. and foreign regulations governing the export and import of goods, software and technology. If we fail to comply with these laws and regulations, we and certain of our employees could be subject to significant sanctions, fines, penalties and reputational harm. Further, any change in applicable export, import or economic sanctions regulations or related legislation, shift in approach to the enforcement or scope of existing regulations or change in the countries, persons or technologies targeted by these regulations could adversely affect our business.
Risks Related to Our Indebtedness
We have incurred substantial debt and may issue debt securities or otherwise incur substantial debt in the future, which may adversely affect our financial condition and negatively impact our operations.
We have in the past incurred, and expect to continue to incur, substantial debt to fund our loan activities. We depend on securitization transactions, warehouse facilities, whole loan sales and other forms of debt financing in order to finance the growth of our business and the origination of most of the loans we make to our customers. The incurrence of debt could have a variety of negative effects, including:
•default and foreclosure on our and our subsidiaries’ assets if asset performance and our operating revenue are insufficient to repay debt obligations;
•mandatory repurchase obligations for any loans conveyed or sold into a debt financing or under a whole loan purchase facility if the representations and warranties we made with respect to those loans were not correct when made;
•acceleration of obligations to repay the indebtedness (or other outstanding indebtedness to the extent of cross default triggers), even if we make all principal and interest payments when due, if we breach any covenants that require the maintenance of certain financial ratios with respect to us or the loan portfolio securing our indebtedness or the maintenance of certain reserves or tangible net worth and do not obtain a waiver for such breach or renegotiate our covenant;
•our inability to obtain necessary additional financing if the debt security contains covenants restricting our ability to obtain such financing while the debt security is outstanding;
•our inability to obtain necessary additional financing if changes in the characteristics of our loans or our collection and other loan servicing activities change and cease to meet conditions precedent for continued or additional availability under our debt financings;
•diverting a substantial portion of cash flow to pay principal and interest on such debt, which would reduce the funds available for expenses, capital expenditures, acquisitions, and other general corporate purposes;
•creating limitations on our flexibility in planning for and reacting to changes in our business and in the industry in which we operate;
•defaults based on loan portfolio performance or default in our collection and loan servicing obligations could result in our being replaced by a third-party or back-up servicer and notification to our customers to redirect payments;
•downgrades or revisions of agency ratings for our debt financing; and
•monitoring, administration and reporting costs and expenses, including legal, accounting and other monitoring reporting costs and expenses, required under our debt financings.
In addition, our Secured Financing carries a floating rate of interest linked to LIBOR. In July 2017, the U.K. announced the discontinuation of LIBOR which could result in interest rate increases on our Secured Financing which could adversely affect our results of operations.
A breach of early payment triggers or covenants or other terms of our agreements with lenders could result in an early amortization, default, and/or acceleration of the related funding facilities.
The primary funding sources available to support the maintenance and growth of our business include, among others, asset-backed securitization, revolving debt facilities (including the Secured Financing facility) and whole loan sale facilities. Our liquidity would be adversely affected by our inability to comply with various conditions precedent to availability under these facilities (including the eligibility of our loans), covenants and other specified requirements set forth in our agreements with our lenders which could result in the early amortization, default and/or acceleration of our existing facilities. Such covenants and requirements include financial covenants, portfolio performance covenants and other events. For example, our securitizations contain collateral performance threshold triggers related to the three-month average annualized gross charge-off or net charge-off rate which, if exceeded, would lead to early amortization. We expect the economic impact of the COVID-19 pandemic to continue to cause our charge-offs to increase; depending upon how high charge-offs increase, the thresholds on our securitizations could be exceeded leading to an early amortization event. In addition, in response to the COVID-19 pandemic, we implemented certain credit tightening measures. Those measures, combined with lower customer demand, have led to lower originations. As such, to support our collateral requirements under our financing agreements, we have been using a random selection process to take loans off our warehouse line to pledge to our securitizations. An inability to originate enough loans to meet the collateral requirements in our financing arrangements, could result in the early amortization, default and/or acceleration of our existing facilities. Moreover, we currently act as servicer with respect to the unsecured consumer loans held by our subsidiaries. If we default in our servicing obligations or fail to meet certain financial covenants, an early amortization event or event of default could occur, and/or we could be replaced by our backup servicer or another replacement servicer. If we are replaced as servicer to these loans, there is no guarantee that the backup services will be adequate. Any disruptions in services may cause the inability to collect and process repayments. For more information on covenants, requirements and events, see Note 8 of the Notes to the Consolidated Financial Statements included elsewhere in this report.
During an early amortization period or if an event of default exists, principal and interest collections from the loans in our asset-backed facilities would be applied to repay principal under such facilities and principal collections would no longer be available on a revolving basis to fund purchases of newly originated loans. If an event of default exists under our revolving debt or loan sale facilities, the applicable lenders’ or purchasers’ commitments to extend further credit or purchase additional loans under the related facility would terminate. If loan collections were insufficient to repay the amounts due under our securitizations and our revolving debt facility, the applicable lenders, trustees and noteholders could seek remedies, including against the collateral pledged under such facilities.
An early amortization event or event of default would negatively impact our liquidity, including our ability to originate new loans, and require us to rely on alternative funding sources. This may increase our funding costs or alternative funding sources might not be available when needed. If
we were unable to arrange new or alternative methods of financing on favorable terms, we might have to curtail the origination of loans, and we may be replaced by our backup servicer or another replacement servicer.
Our securitizations and whole loan sales may expose us to certain risks, and we can provide no assurance that we will be able to access the securitization or whole loan sales market in the future, which may require us to seek more costly financing.
We have securitized, and may in the future securitize, certain of our loans to generate cash to originate new loans or pay our outstanding indebtedness. In each such transaction and in connection with our warehouse facilities, we sell and convey a pool of loans to a special purpose entity ("SPE"). Concurrently, each SPE issues notes or certificates pursuant to the terms of an indenture. The securities issued by the SPE are secured by the pool of loans owned by the SPE. In exchange for the sale of a portion of the pool of loans to the SPE, we receive cash, which are the proceeds from the sale of the securities. We also contribute a portion of the pool of loans in consideration for the equity interests in the SPE. Subject to certain conditions in the indenture governing the notes issued by the SPE (or the agreement governing the SPE’s revolving loan), the SPE is permitted to purchase additional loans from us or distribute to us residual amounts received by it from the loan pool, which residual amounts are the cash amounts remaining after all amounts payable to service providers and the noteholders have been satisfied. We also have the ability to swap pools of loans with the SPE. Our equity interest in the SPE is a residual interest in that it entitles us as the equity owner of the SPE to residual cash flows, if any, from the loans and to any assets remaining in the SPE once the notes are satisfied and paid in full (or in the case of a revolving loan, paid in full and all commitments terminated). As a result of challenging credit and liquidity conditions, the value of the subordinated securities we retain in our securitizations might be reduced or, in some cases, eliminated.
During the financial crisis that began in 2008, the securitization market was constrained, and we can give no assurances that we will be able to complete additional securitizations in the future. Similar to 2008, there is no assurance that sources of capital will continue to be available in the future on terms favorable to us or at all, particularly in light of capital markets volatility stemming from the COVID-19 pandemic. The availability of debt financing and other sources of capital depends on many factors, some of which are outside of our control. The risk of volatility surrounding the global economic system, including due to other disruptions and uncertainty surrounding the COVID-19 pandemic, continue to create uncertainty around access to the capital markets. Further, other matters, such as (i) accounting standards applicable to securitization transactions and (ii) capital and leverage requirements applicable to banks and other regulated financial institutions holding asset-backed securities, could result in decreased investor demand for securities issued through our securitization transactions, or increased competition from other institutions that undertake securitization transactions. In addition, compliance with certain regulatory requirements may affect the type of securitizations that we are able to complete.
If it is not possible or economical for us to securitize our loans in the future, we would need to seek alternative financing to support our operations and to meet our existing debt obligations, which may not be available on commercially reasonable terms, or at all. If the cost of such alternative financing were to be higher than our securitizations, we would likely reduce the fair value of our Fair Value Loans, which would negatively impact our results of operations.
The gain on sale generated by our whole loan sales and servicing fees earned on sold loans also represents a significant source of our earnings. Demand for our loans at the current premiums may be impacted by factors outside our control, including availability of loan pools, demand by investors for whole loan assets and attractiveness of returns offered by competing investment alternatives offered by other loan originators with more attractive characteristics than our loan pools and loan purchaser interest.
Our results of operations are affected by our ability to sell our loans for a premium over their net book value. Potential loan purchasers might reduce the premiums they are willing to pay, or even require a discount to principal balance, for the loans that they purchase during periods of economic slowdown or recession to compensate for any increased risks. A reduction in the sale price of the loans we sell under our whole loan sale program would likely result in a reduction in the fair value of our Fair Value Loans, which would negatively impact our results of operations. Any sustained decline in demand for our loans or increase in delinquencies, defaults or foreclosures may reduce the price we receive on future loan sales below our loan origination cost.
In connection with our securitizations, Secured Financing facility, and whole loan sales, we make representations and warranties concerning these loans. If those representations and warranties are not correct, we could be required to repurchase the loans. Any significant required repurchases could have an adverse effect on our ability to operate and fund our business.
In our asset-backed securitizations, our Secured Financing facility, and our whole loan sales, we make numerous representations and warranties concerning the characteristics of the loans we transfer and sell, including representations and warranties that the loans meet the eligibility requirements of those facilities and investors. If those representations and warranties are incorrect, we may be required to repurchase the loans. Failure to repurchase so-called ineligible loans when required would constitute an event of default under our securitizations, our Secured Financing facility and our whole loan sales and a termination event under the applicable agreement. We can provide no assurance, however, that we would have adequate cash or other qualifying assets available to make such repurchases.
Risks Related to Ownership of Our Common Stock
You may be diluted by the future issuance of additional common stock in connection with our equity incentive plans, acquisitions or otherwise.
Our amended and restated certificate of incorporation authorizes us to issue shares of common stock authorized but unissued and rights relating to common stock for the consideration and on the terms and conditions established by our Board in its sole discretion, whether in connection with acquisitions or otherwise. We have authorized 8,152,800 shares for issuance under our 2019 Equity Incentive Plan and 996,217 shares for issuance under our 2019 Employee Stock Purchase Plan, subject to adjustment in certain events. Any common stock that we issue, including under our 2019 Equity Incentive Plan, our 2019 Employee Stock Purchase Plan or other equity incentive plans that we may adopt in the future, could dilute your percentage ownership.
The price of our common stock may be volatile, and you could lose all or part of your investment.
The trading price of our common stock has been and may continue to be volatile and will depend on a number of factors, including those described in this “Risk Factors” section, many of which are beyond our control and may not be related to our operating performance. These fluctuations could cause you to lose all or part of your investment in our common stock, because you might be unable to sell your shares at or above the price you paid. Factors that could cause fluctuations in the trading price of our common stock include the following:
•failure to meet quarterly or annual guidance with regard to revenue, margins, earnings or other key financial or operational metrics;
•fluctuations in the trading volume of our share or the size of our public float;
•price and volume fluctuations in the overall stock market from time to time;
•changes in operating performance and stock market valuations of similar companies;
•failure of financial analysts to maintain coverage of us, changes in financial estimates by any analysts who follow our company, or our failure to meet these estimates or the expectations of investors;
•public reaction to our press releases, other public announcements, and filings with the SEC;
•any major change in our management;
•sales of shares of our common stock by us or our stockholders;
•rumors and market speculation involving us or other companies in our industry;
•actual or anticipated changes in our results of operations or fluctuations in our results of operations;
•changes in prevailing interest rates;
•quarterly fluctuations in demand for our loans;
•actual or anticipated developments in our business or our competitors’ businesses or the competitive landscape generally;
•litigation, government investigations and regulatory actions;
•developments or disputes concerning our intellectual property or other proprietary rights;
•new laws or regulations or new interpretations of existing laws or regulations applicable to our business;
•changes in accounting standards, policies, guidelines, interpretations, or principles;
•widespread public health crises such as the COVID-19 pandemic; and
•other general market, political and economic conditions, including any such conditions and local conditions in the markets in which our customers, employees, and contractors are located.
If financial or industry analysts do not publish research or reports about our business, or if they issue an adverse or misleading opinion regarding our stock, our stock price and trading volume could decline.
The trading market for our common stock is influenced by the research and reports that industry or financial analysts publish about us or our business. We do not control these analysts or the content and opinions included in their reports. Because we are a new public company, the analysts who publish information about our common stock have had relatively little experience with our company, which could affect their ability to
accurately forecast our results and make it more likely that we fail to meet their estimates. If any of the analysts who cover us issue an adverse or misleading opinion regarding our stock price, our stock price would likely decline. If one or more of these analysts cease coverage of our company or fail to publish reports on us regularly, we could lose visibility in the financial markets, which in turn could cause our stock price or trading volume to decline.
Our directors, officers, and principal stockholders have substantial control over our company, which could limit your ability to influence the outcome of key transactions, including a change of control.
Our directors, executive officers, and each of our 5% stockholders and their affiliates, in the aggregate, beneficially own a significant number of the outstanding shares of our common stock. As a result, these stockholders, if acting together, will be able to influence or control matters requiring approval by our stockholders, including the election of directors and the approval of mergers, acquisitions or other extraordinary transactions. They may also have interests that differ from yours, and they may vote in a way with which you disagree or which may be adverse to your interests. This concentration of ownership may have the effect of delaying, preventing or deterring a change of control of our company, could deprive our stockholders of an opportunity to receive a premium for their common stock as part of a sale of our company and might ultimately affect the market price of our common stock.
We may need to raise additional funds in the future, including through equity, debt, or convertible debt financings, to support business growth and those funds may not be available on acceptable terms, or at all.
We intend to continue to make investments to support our business growth and may require additional funds to respond to business challenges, including the need to develop new loan products, enhance our risk management model, improve our operating infrastructure, expand to new retail locations or acquire complementary businesses and technologies. Accordingly, we may need to engage in equity, debt or convertible debt financings to secure additional funds. If we raise additional funds by issuing equity securities or securities convertible into equity securities, our stockholders may experience dilution. Debt financing, if available, may involve covenants restricting our operations or our ability to incur additional debt. Any debt or additional equity financing that we raise may contain terms that are not favorable to us or our stockholders.
If we are unable to obtain adequate financing or on terms satisfactory to us when we require it, we may be unable to pursue certain opportunities and our ability to continue to support our growth and to respond to challenges could be impaired.
The requirements of being a public company may strain our resources, divert management’s attention and affect our ability to attract and retain qualified Board members.
As a public company, we are subject to the reporting requirements of the Securities Exchange Act of 1934, as amended ( the "Exchange Act"), the Sarbanes-Oxley Act, the Dodd-Frank Act, the listing standards of the Nasdaq Stock Market, and other applicable securities rules and regulations, including changes in corporate governance practices and the establishment and maintenance of effective disclosure and financial controls. Compliance with these rules and regulations increases our legal and financial compliance costs, makes some activities more difficult, time-consuming or costly and increases demand on our systems and resources. We cannot predict or estimate the amount of additional costs we may incur as a result of being a public company or the timing of such costs.
Being a public company also makes it more expensive for us to obtain director and officer liability insurance, and we may be required to accept reduced coverage, incur substantially higher costs to obtain coverage or only obtain coverage with a significant deductible. These factors could also make it more difficult for us to attract and retain qualified executive officers and qualified members of our Board, particularly to serve on our audit and risk committee and compensation and leadership committee.
In addition, changing laws, regulations and standards or interpretations thereof relating to corporate governance and public disclosure are creating uncertainty for public companies, increasing legal and financial compliance costs and making some activities more time-consuming. We intend to invest resources to comply with evolving laws, regulations and standards, and this investment may result in increased general and administrative expenses and a diversion of management’s time and attention. If our efforts to comply with new laws, regulations and standards differ from the activities intended by regulatory or governing bodies due to ambiguities related to their application and practice, regulatory authorities may initiate legal proceedings against us.
Certain of our market opportunity estimates, growth forecasts, and key metrics could prove to be inaccurate, and any real or perceived inaccuracies may harm our reputation and negatively affect our business.
Market opportunity estimates and growth forecasts, including those we have generated ourselves, are subject to significant uncertainty and are based on assumptions and estimates that may not prove to be accurate. The estimates and forecasts relating to the size and expected growth of our
target market may prove to be inaccurate. It is impossible to offer every loan product, term or feature that every customer wants, and our competitors may develop and offer loan products, terms or features that we do not offer. The variables that go into the calculation of our market opportunity are subject to change over time, and there is no guarantee that any particular number or percentage of the individuals covered by our market opportunity estimates will generate any particular level of revenues for us. Even if the markets in which we compete meet our size estimates and growth forecasts, our business could fail to grow at similar rates, if at all, for a variety of reasons outside of our control, including competition in our industry. Furthermore, in order for us to successfully address this broader market opportunity, we will need to successfully expand into new geographic regions where we do not currently operate. Our key metrics may differ from estimates published by third parties or from similarly titled metrics of our competitors due to differences in methodology. If investors or analysts do not perceive our metrics to be accurate representations of our business, or if we discover material inaccuracies in our metrics, our reputation, business, results of operations, and financial condition would be adversely affected.
Certain provisions in our charter documents and under Delaware law could limit attempts by our stockholders to replace or remove our Board, delay or prevent an acquisition of our company, and limit the market price of our common stock.
Provisions in our amended and restated certificate of incorporation, and amended and restated bylaws may have the effect of delaying or preventing a change of control or changes in our Board. These provisions include the following:
•a classified Board with three-year staggered terms, which may delay the ability of stockholders to change the membership of a majority of our Board;
•our Board has the right to elect directors to fill a vacancy created by the expansion of the Board or the resignation, death or removal of a director, which prevents stockholders from being able to fill Board vacancies;
•our stockholders may not act by written consent or call special stockholders’ meetings;
•our amended and restated certificate of incorporation prohibits cumulative voting in the election of directors, which limits the ability of minority stockholders to elect director candidates;
•stockholders must provide advance notice and additional disclosures in order to nominate individuals for election to the Board or to propose matters that can be acted upon at a stockholders’ meeting, which may discourage or deter a potential acquiror from conducting a solicitation of proxies to elect the acquiror’s own slate of directors or otherwise attempting to obtain control of our company; and
•our Board may issue, without stockholder approval, shares of undesignated preferred stock, which may make it possible for our Board to issue preferred stock with voting or other rights or preferences that could impede the success of any attempt to acquire us.
As a Delaware corporation, we are also subject to certain Delaware anti-takeover provisions. Under Delaware law, a corporation may not engage in a business combination with any holder of 15% or more of its capital stock unless the holder has held the stock for three years or, among other things, the Board has approved the transaction. Such provisions could allow our Board to prevent or delay an acquisition of our company.
Certain of our executive officers may be entitled, pursuant to the terms of their employment arrangements, to accelerated vesting of their stock options following a change of control of our company under certain conditions. In addition to the arrangements currently in place with some of our executive officers, we may enter into similar arrangements in the future with other officers. Such arrangements could delay or discourage a potential acquisition.
Any provision of our amended and restated certificate of incorporation or amended and restated bylaws or Delaware law that has the effect of delaying or deterring a potential acquisition could limit the opportunity for our stockholders to receive a premium for their shares of our common stock in connection with such acquisition, and could also affect the price that some investors are willing to pay for our common stock.
Our amended and restated certificate of incorporation provides that the Court of Chancery of the State of Delaware or the U.S. federal district courts will be the exclusive forums for substantially all disputes between us and our stockholders, which could limit our stockholders’ ability to obtain a favorable judicial forum for disputes with us or our directors, officers or other employees.
Our amended and restated certificate of incorporation provides that the Court of Chancery of the State of Delaware is the sole and exclusive forum for the following types of actions or proceedings under Delaware statutory or common law: (1) any derivative action or proceeding brought on our behalf, (2) any action asserting a claim of breach of a fiduciary duty owed by any of our directors, officers or other employees to us or our stockholders, (3) any action asserting a claim against us or any of our directors, officers or other employees arising pursuant to any provisions of the Delaware General Corporation Law, our amended and restated certificate of incorporation or our amended and restated bylaws, (4) any action to interpret, apply, enforce or determine the validity of our amended and restated certificate of incorporation or our amended and restated bylaws, or (5) any action asserting a claim against us or any of our directors, officers or other employees that is governed by the internal affairs doctrine. This
provision would not apply to suits brought to enforce a duty or liability created by the Exchange Act or the rules and regulations thereunder. Furthermore, Section 22 of the Securities Act of 1933, as amended (“Securities Act”), creates concurrent jurisdiction for federal and state courts over all such Securities Act actions. Accordingly, both state and federal courts have jurisdiction to entertain such claims. To prevent having to litigate claims in multiple jurisdictions and the threat of inconsistent or contrary rulings by different courts, among other considerations, our amended and restated certificate of incorporation further provides that U.S. federal district courts will be the exclusive forum for resolving any complaint asserting a cause of action arising under the Securities Act. While the Delaware courts have determined that such choice of forum provisions are facially valid, a stockholder may nevertheless seek to bring a claim in a venue other than those designated in the exclusive forum provisions. In such instance, we would expect to vigorously assert the validity and enforceability of the exclusive forum provisions of our amended and restated certificate of incorporation. This may require significant additional costs associated with resolving such action in other jurisdictions, which could adversely affect our business and financial condition, and there can be no assurance that the provisions will be enforced by a court in those other jurisdictions.
These exclusive forum provisions may limit a stockholder’s ability to bring a claim in a judicial forum that it finds favorable for disputes with us or our directors, officers, or other employees, which may discourage lawsuits against us and our directors, officers and other employees. If a court were to find either exclusive-forum provision in our amended and restated certificate of incorporation to be inapplicable or unenforceable in an action, we may incur further significant additional costs associated with resolving the dispute in other jurisdictions, all of which could seriously harm our business.

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ITEM 1B. UNRESOLVED STAFF COMMENTS
Item 1B. Unresolved Staff Comments
None.

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ITEM 2. PROPERTIES
Item 2. Properties
Our corporate headquarters is located in San Carlos, California pursuant to a lease expiring in February 2026. We are currently subleasing a portion of our headquarters space to third parties. As of December 31, 2020, we leased additional facilities and office space in California, Texas, Mexico, and India. We also operate retail locations and co-locations across California, Illinois, Texas, Utah, Nevada, Arizona, New Mexico, New Jersey, and Florida.

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ITEM 3. LEGAL PROCEEDINGS
Item 3. Legal Proceedings
For a description of legal proceedings, see Note 15, Leases, Commitments and Contingencies, in the accompanying Notes to the Consolidated Financial Statements. From time to time, we may bring or be subject to other legal proceedings and claims in the ordinary course of business, including legal proceedings with third parties asserting infringement of their intellectual property rights and consumer litigation. Other than as described in this report, we are not presently a party to any legal proceedings that, if determined adversely to us, we believe would individually or taken together have a material adverse effect on our business, financial condition, cash flows or results of operations.

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ITEM 4. MINE SAFETY DISCLOSURE
Item 4. Mine Safety Disclosures
None.
PART II

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ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY
Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Market Information and Stockholders
Oportun's common stock has been listed for trading on the Nasdaq Global Select Market since September 26, 2019 under the symbol "OPRT". As of February 16, 2021, we had 148 record holders of our common stock. This figure does not reflect the beneficial ownership of shares held in nominee name or held in trust by other entities. Therefore, the actual number of stockholders is greater than this number of registered stockholders of record.
Dividend Policy
We have never declared or paid any cash dividends on our capital stock, and we do not currently intend to pay any cash dividends on our capital stock in the foreseeable future. We currently intend to retain all available funds and any future earnings to support operations and to finance the growth and development of our business. Any future determination to pay dividends will be made at the discretion of our Board subject to applicable laws, and will depend upon, among other factors, our results of operations, financial condition, contractual restrictions and capital requirements. Our future ability to pay cash dividends on our capital stock may also be limited by the terms of any future debt or preferred securities or future credit facility.
Stock Performance
As a “Smaller Reporting Company” as defined by Item 10 of Regulation S-K, the Company is not required to provide this information.
Issuer Purchases of Equity Securities
None.
Unregistered Sales of Equity Securities
We had no unregistered sales of our securities in the reporting period not previously reported.
Use of Proceeds
On September 30, 2019, we completed our initial public offering, (the "IPO"). The offer and sale of all of the shares in the IPO were registered under the Securities Act pursuant to a registration statement on Form S-1 (File No. 333-232685), which was declared effective by the SEC on September 25, 2019. There has been no material change in the use of proceeds from our IPO as described in our final prospectus filed with the SEC pursuant to Rule 424(b) of the Securities Act and other periodic reports previously filed with the SEC.

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ITEM 6. SELECTED FINANCIAL DATA
Item 6. Selected Financial Data
As a “Smaller Reporting Company” as defined by Item 10 of Regulation S-K, the Company is not required to provide this information.

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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
An index to our management's discussion and analysis follows:
Topic
Overview
Key Financial and Operating Metrics
Historical Credit Performance
Results of Operations
Fair Value Estimate Methodology for Loans Receivable at Fair Value
Non-GAAP Financial Measures
Liquidity and Capital Resources
Off-Balance Sheet Arrangements
Critical Accounting Policies and Significant Judgments and Estimates
Recently Issued Accounting Pronouncements
The following Management’s Discussion and Analysis of Financial Condition and Results of Operations (this “MD&A”) is intended to help the reader understand our results of operations and financial condition. This MD&A is provided as a supplement to, and should be read together with, our audited consolidated financial statements and the related notes thereto and other disclosures included elsewhere in this Annual Report on Form 10-K. Some of the information contained in this MD&A, including information with respect to our plans and strategy for our business, includes forward-looking statements that involve risks and uncertainties. You should review the information contained in Part I, Item 1A. “Risk Factors” of this Annual Report on Form 10-K for a discussion of important factors that could cause actual results to differ materially from the results described in or implied by the forward-looking statements contained in this MD&A.
Overview
We offer responsible consumer credit through our A.I.-driven digital platform at a lower cost compared to market alternatives available to individuals that are not well served by the financial mainstream. In our 15-year lending history, we have originated more than 4.1 million loans, representing over $9.8 billion of credit extended, to more than 1.8 million customers. We have developed a deep data-driven understanding of our customers' needs through a combination of the rigorous application of machine learning, the use of alternative data sets and continuous customer engagement. We have been certified as a Community Development Financial Institution ("CDFI") by the U.S. Department of the Treasury since 2009.
Our core offering is a simple-to-understand, affordable, unsecured, fully amortizing personal installment loan with fixed payments and fixed interest rates throughout the life of the loan. Our personal loans do not have prepayment penalties or balloon payments and range in size from $300 to $10,000 with terms ranging from six to 51 months. As part of our commitment to be a responsible lender, we verify income for 100% of our personal loan customers and only make loans to customers that our ability-to-pay model indicates should be able to afford a loan after meeting their other debts and regular living expenses. We execute our sales and marketing strategy through a variety of acquisition channels including our digital platform, retail locations, direct mail and digital marketing, and partnerships. We also benefit from customers learning about Oportun from friends or family members and other word-of-mouth referrals. Our omni-channel network enables us to serve our customers in the way they prefer and when it is convenient for them, online, over-the-phone, and in person. We have seen our customers' usage and preference for our digital channels accelerate during 2020 and we are continuing to invest in our digital origination and servicing platform, as well as building out customer self-service capabilities. Our personal loan serves as an alternative to high-cost installment, auto title, payday and pawn lenders. According to the Financial Health Network study that we commissioned, we estimate that, as of December 31, 2020, our customers have saved more than $1.8 billion in aggregate interest and fees compared to alternative products available to them.
Through our recently announced partnership with MetaBank, N.A,, a national bank, we will be able to offer a uniform product across the nation, while minimizing operational complexity and generating cost savings that can be passed on to our customers. We plan to offer loan products that are the same as our unsecured personal loans with APRs capped at 36%. We are currently working on the technology that will enable the rollout of our MetaBank, N.A. partnership by mid-2021. In November 2020, we began the application process to obtain a national bank charter.
Beyond our core direct-to-consumer lending business, we believe that our proprietary credit scoring and underwriting model can be offered as a service to other companies. This Lending as a Service model is currently being piloted with our strategic partner, DolEx. In this partnership, DolEx will market loans and enter customer applications into Oportun’s system, and Oportun will underwrite, originate and service the loans. If successful, we believe we will be able to offer Lending as a Service to additional partners and thereby expand our reach into new consumer markets.
We have begun expanding beyond our core offering of unsecured installment loans into other financial services that a significant portion of our customers already use and have asked us to provide, such as auto loans and credit cards. We launched the Oportun Visa Credit Card, issued by WebBank, Member FDIC, in 2019 and offered credit cards in 33 states as of December 31, 2020. In April 2020, we launched a personal installment loan secured by an automobile, which we refer to as secured personal loans.
The map below show the states in which we offer our products as of December 31, 2020.
To fund our growth at a low and efficient cost, we have built a diversified and well-established capital markets funding program, which allows us to partially hedge our exposure to rising interest rates or credit spreads by locking in our interest expense for up to three years. Over the past seven years, we have executed 14 bond offerings in the asset-backed securities market, the last 11 of which include tranches that have been rated investment grade. We issued two- and three-year fixed rate bonds which have provided us committed capital to fund future loan originations at a fixed Cost of Debt. In November 2014, we entered into a whole loan sale agreement with an institutional investor, which agreement has been amended from time to time. The term of the current agreement was set to expire on November 10, 2020. The parties have agreed to extend the agreement on the same terms through February 26, 2021. Additional extensions may be considered on a month-to-month basis. Pursuant to this agreement, we have committed to sell at least 10% of our unsecured loan originations, with an option to sell an additional 5%, subject to certain eligibility criteria and minimum and maximum volumes. In addition, from July 2017 to August 2020, we were party to a separate whole loan sale arrangement with an institutional investor providing for a commitment to sell 100% of our loans originated under our loan program for customers who do not meet the qualifications of our core loan origination program. We chose not to renew the arrangement and allowed the agreement to expire on its terms on August 5, 2020. In addition to our whole loan sale program, we also have a $400.0 million Secured Financing facility committed through October 2021, which also helps to fund our loan portfolio growth. In October 2020 we raised $39.8 million, net of fees and expenses, by selling $41.3 million of retained bonds related to our 2019-A and 2018-B asset-backed notes.
We closely manage our operating expenses, which consist of technology and facilities, sales and marketing, personnel, outsourcing and professional fees and general, administrative and other expenses, with the goal of increasing investments in our data analytics, technology and mobile-first experiences, and our digital marketing capabilities.
We previously elected the fair value option to account for all loans receivable held for investment that were originated on or after January 1, 2018 (the "Initial Fair Value Loans"), and for all asset-backed notes issued on or after January 1, 2018 (the "Fair Value Notes"). As compared to the loans held for investment that were originated prior to January 1, 2018 (the "Loans Receivable at Amortized Cost"), we believe the fair value option enables us to report GAAP net income that more closely approximates our net cash flow generation and provides increased transparency into our profitability and asset quality. Loans Receivable at Amortized Cost issued prior to January 1, 2018 are accounted for in our 2019 financial statements at amortized cost, net. Upon adoption of ASU 2019-05 effective January 1, 2020, we elected the fair value option on all remaining loans receivable previously measured at amortized cost (the "Subsequent Fair Value Loans," and together with the Initial Fair Value Loans, the "Fair Value Loans"). Upon adoption of ASU 2019-05 effective January 1, 2020, we (i) released the remaining allowance for loan losses on Loan Receivables at Amortized Cost as of December 31, 2019; (ii) recognized the unamortized net originations fee income as of December 31, 2019; and (iii) measured the remaining loans originated prior to January 1, 2018 at fair value. Loans that we designate for sale are accounted for as held for sale and recorded at
the lower of cost or fair value until the loans receivable are sold. Asset-backed notes issued prior to January 1, 2018 are accounted for in our financial statements at amortized cost, net. After the redemption of our Series 2017-B asset-back notes on July 8, 2020, we no longer have any asset-backed notes at amortized cost as of December 31, 2020. We estimate the fair value of the Fair Value Loans using a discounted cash flow model, which considers various factors such as the price that we could sell our loans to a third party in a non-public market, credit risk, net charge-offs, customer payment rates and market conditions such as interest rates. We estimate the fair value of our Fair Value Notes based upon the prices at which our or similar asset-backed notes trade. We reevaluate the fair value of our Fair Value Loans and our Fair Value Notes at the close of each measurement period.
Retail Network Optimization
During the past few years, we have seen a growing customer preference for our online and mobile channels. After a careful analysis of our customer trends and the overlapping geographic footprint of certain existing retail locations, we are planning to close 136 retail locations and implement a workforce reduction of certain employees who manage and operate the retail locations. By optimizing our retail channel, we estimate we will generate projected operating expense savings of approximately $19 million per year, after one-time charges. As customers have increasingly shifted to mobile and we are broadening our partners channel, we are planning to invest in the technology to continue to enhance our mobile channel and digital platform. We expect that we can continue to serve our existing customer base and scale to serve new customers with a more efficient retail footprint. For additional information, see Note 16, Subsequent Events, to the Notes to the Consolidated Financial Statements included elsewhere in this report.
COVID-19 Update
We continue to monitor and proactively navigate the COVID-19 pandemic, taking actions to manage our business in a thoughtful and conservative manner throughout this fluid situation, while ensuring the health and safety of our employees and customers. The actions taken since the beginning of the pandemic have resulted in improving credit trends, steadily increasing originations, and a continued strong balance sheet. We believe we remain well-positioned strategically and financially in the current environment, however, factors such as economic conditions, the unemployment rate, and further stimulus measures may impact our future performance. As of December 31, 2020, 99% of our retail locations were open to serve customers. While we recognize and still believe that our retail channel is a key differentiator in our customer experience, a shift from in-store to mobile was occurring gradually prior to 2020. The pandemic further accelerated the adoption of our digital channels, and we believe that for many of our customers, this shift will be permanent. Our investment in digital capabilities gives us a path for continued growth in a more capital efficient manner. In the fourth quarter of 2020, 65% of new applicants chose to apply online, up from 46% in the fourth quarter of 2019. Additionally, 73% of all payments were made outside of our stores whereas this figure was 60% as of December 31, 2019.
Improving Credit Trends
Deferrals We believe that our rapid implementation of emergency hardship programs and reduced payment plans have been effective in providing impacted customers sufficient time to return to repayment status. We may consider Emergency Hardship Deferrals, granted one month at a time, for borrowers who continue to be impacted by the COVID-19 pandemic. As of December 31, 2020, 1.4% of our Owned Principal Balance at End of Period was in active deferral status under the Emergency Hardship Deferral program, down from a peak of 14.6% at the end of April 2020. We believe that our customers are currently managing through the crisis and most have returned to repayment status.
Delinquencies We ended the fourth quarter of 2020 with a 30+ Day Delinquency Rate of 3.7%, compared to 4.0% at the end of the fourth quarter of 2019. Borrowers who are less than 30 days delinquent when they received an Emergency Hardship Deferral are counted at zero days delinquent, and customers that were more than 30 days delinquent continue to be in the same delinquency status as they were prior to receiving an Emergency Hardship Deferral. As a standard practice, we offer a grace period ranging between 7 and 15 days before a late fee is assessed, allowing customers extra time to make a payment if needed. We monitor our early stage delinquencies very closely and attempt to contact delinquent customers before the grace period expires to provide them with payment options.
Delinquencies and Deferrals
(Percentage of Outstanding Principal Balance of Owned Receivables)
Days Delinquent As of 3/31/2020 As of 4/30/2020 As of 5/31/2020 As of 6/30/2020 As of 7/31/2020 As of 8/31/2020 As of 9/30/2020 As of 10/31/2020 As of 11/30/2020 As of 12/31/2020
0 88.9% 90.2% 87.8% 89.5% 90.8% 90.0% 90.3% 91.3% 90.0% 90.7%
1-7 3.3 2.6 3.5 3.2 2.6 3.2 2.9 2.4 3.3 2.6
8-14 2.2 1.6 1.9 1.8 1.5 1.5 1.6 1.2 1.6 1.5
15-29 1.8 1.6 2.8 1.9 1.8 1.8 1.7 1.5 1.6 1.6
30-59 1.7 1.8 1.7 1.7 1.6 1.8 1.7 1.7 1.5 1.6
60-89 1.2 1.3 1.3 1.0 1.0 1.0 1.1 1.1 1.1 1.1
90-119 0.9 1.0 1.0 1.0 0.8 0.7 0.7 0.8 0.9 0.9
120+ (1)
- - - - - - - - - -
30+ 3.8 4.0 4.0 3.7 3.4 3.5 3.5 3.6 3.5 3.7
Emergency Hardship Deferrals (2)
6.1 14.6 7.6 5.0 3.9 2.8 1.5 1.0 0.9 1.4
(1) The 120+ delinquent balances are excluded from the 30+ delinquency rate and percent current rate calculations because these balances are charged off on the last day of a given month.
(2) Emergency Hardship Deferrals excluded from delinquent balances.
Net Charge-Offs Our Annualized Net Charge-Off Rate for the fourth quarter ended December 31, 2020 was 9.4%, down from 10.4% for the third quarter ended September 30, 2020. Consistent with our charge-off policy, we evaluate our loan portfolio and charge a loan off at the earlier of when the loan is determined to be uncollectible or when loans are 120 days contractually past due. As a result of the pandemic and based upon our analysis of loan performance following natural disasters or other emergencies, more loans have been determined to be uncollectible prior to reaching 120 days contractually past due, resulting in $6.3 million and $21.6 million of higher charge-offs for the three months and year ended December 31, 2020, respectively.
Steadily Increasing Originations
Loan originations in the fourth quarter ended December 31, 2020 increased 48.3% as compared to the third quarter ended September 30, 2020 due to increasing approval rates, the refinement of our marketing efforts, including increased digital initiatives and optimization of direct mail, and by maintaining the availability of our omni-channel network. We have seen a rebound in originations following the decline that began in the second-half of March 2020 as a result of the COVID-19 pandemic. Originations for the month of December 2020 were down 28% year over year; however, we have seen steady improvement in each month following the low in April 2020.
Start of
Pandemic (1)
Recovery Quarterly Comparison
P/P (2)
-23% -64% 12% 46% 24% 19% 14% 15% 13% 6% 92% 48%
Y/Y -16% -71% -71% -60% -54% -45% -33% -31% -25% -28% -44% -28%
CAC $215 $574 $461 $298 $240 $210 $180 $162 $160 $146 $207 $155
(1) On March 11, 2020, the World Health Organization declared COVID-19 a global pandemic. This coincided with a decline in originations.
(2) 'P/P' refers to period-over-period and is month-over-month from March '20 through December '20 and quarter-over-quarter for the quarterly comparisons for 3Q20 and 4Q20.
Credit Trends of New Originations
Due to our credit tightening in mid-March, loans originated after that time had First Payment Defaults below pre-pandemic levels. Based upon this performance, we prudently increased our approval rates in mid-June and have focused on increasing approval rates for our returning customers. First Payment Defaults on newly-originated loans are normalizing to 2019 levels. We calculate First Payment Defaults, shown below, as the principal balance of any loan whose first payment becomes 30 days past due, divided by the aggregate principal balance of all loans originated during that same week. We regard First Payment Defaults to be an early indicator of credit performance as the outstanding principal balance of loans that have their first payment past due are regarded as more likely to default and result in a charge off. We continue to monitor the external environment and intend to continue to adjust approval rates, verification procedures and loan sizes accordingly.
Owned Principal Balance at December 31, 2020 was $1.64 billion, which was up from $1.57 billion at September 30, 2020. The increase is primarily driven by an increase in originations due to higher application and approval rates compared to last quarter. Average Daily Principal Balance for the three months ended December 31, 2020 and September 30, 2020 was $1.61 billion and $1.60 billion, respectively.
Impact on Net Change in Fair Value
Our net increase or decrease in fair value, {or "net change in fair value"), includes our current period principal net charge-offs and mark-to-market adjustments on our Fair Value Loans and our Fair Value Notes.
The fair value of our Loans Receivable at Fair Value increased $26.7 million in the fourth quarter of 2020 from the third quarter of 2020 driven by an increase in the fair value price of our loans from 101.9% as of September 30, 2020 to 103.5% as of December 31, 2020. The increase in the fair value price of our loans is due to (a) a decrease in the discount rate from 7.84% as of September 30, 2020 to 6.85% as of December 31, 2020 caused by declining interest rates and credit spreads, (b) a decrease in remaining cumulative charge-offs from 10.61% as of September 30, 2020 to 10.03% as of December 31, 2020 due to customers returning to repayment, and (c) an increase in average life from 0.77 years as of September 30, 2020 to 0.80 years as of December 31, 2020 due to longer terms for our returning customers.
The fair value of our Asset-Backed Notes at Fair Value decreased $1.6 million in the fourth quarter of 2020 from the third quarter of 2020 driven by a slight increase in the weighted average price of our asset-backed notes from 101.10% at September 30, 2020 to 101.12% as of December 31, 2020.
Investment in New Products
We ended the fourth quarter of 2020 with $5.7 million of credit card receivables issued through a partner bank, with our credit card product available in 33 states. In addition, we ended the fourth quarter of 2020 with $6.0 million of auto loans. In November 2020, we decided to cease originating direct auto loans used to purchase a vehicle. We continue to invest in developing our secured personal loan product following the launch of the pilot of this new product in the second quarter of 2020. We believe that secured personal loans will complement our unsecured product and provide us with the opportunity to serve additional customers and offer larger loans. In the near term we expect to continue to make investments in both our credit card and secured personal loan products to expand the features and availability of these offerings.
COVID-19 Expenses
Our top priority throughout the crisis has been protecting the health, safety and welfare of our employees and customers. As a result, the three and twelve months ended December 31, 2020 includes approximately $0.6 million and $4.6 million, respectively, in COVID-19 expenses for items and services including sanitation kits, facilities equipment, contingency call center, payment option flyers, childcare relief, special medical enrollment, sick leave, emergency assistance fund and charitable contributions. The COVID-19 expenses were separable from our normal business operations and are not expected to recur once the pandemic subsides. These one-time COVID-19 related expenses are included in our adjustments to derive our Non-GAAP measures and our business practices have been updated to operate in the current environment. As such, we expect no further COVID-19 related adjustments in future periods.
Capital and Liquidity
Our balance sheet is characterized by relatively low leverage, and our term securitizations and warehouse line are non-recourse to Oportun Financial Corporation and our operating subsidiaries. Our term securitizations allow us to fund new loan originations for the remainder of each securitization’s revolving period. To provide sufficient collateral to maintain our outstanding low-cost securitization bonds, on July 8, 2020, the issuer redeemed all $200.0 million of outstanding Series 2017-B asset-backed notes. The revolving periods for the remaining securitizations have end
dates which range from February 2021 to July 2022. In October 2020, due to the strong market demand for asset-backed notes, we raised $39.8 million, net of fees and expenses, by selling $41.3 million of retained bonds related to our 2019-A and 2018-B asset-backed securitizations.
As of December 31, 2020, we had $168.6 million of cash, cash equivalents and restricted cash with $438.2 million of Adjusted Tangible Book Value. Additionally, our business generated $152.9 million of cash from operations in the twelve months ended December 31, 2020. As of December 31, 2020, we had $153.0 million undrawn capacity on our $400.0 million warehouse line that is committed through October 2021. Based upon our recent projections, we have determined that we have more than 12 months of liquidity runway.
See Item 1A. Risk Factors included elsewhere in this report for further discussion of the risks and uncertainties relating to the COVID-19 pandemic. See "Results of Operations" included elsewhere in this report for further discussion of how certain trends and conditions impacted the three and twelve months ended December 31, 2020.
Key Financial and Operating Metrics
We monitor and evaluate the following key metrics in order to measure our current performance, develop and refine our growth strategies, and make strategic decisions.
For a presentation of the actual impact of the election of the fair value option for the periods presented in the financial statements included elsewhere in this report, please see the next section, "Non-GAAP Financial Measures". The Fair Value Pro Forma information is presented in that section because it is non-GAAP presentation.
The following table and related discussion set forth key financial and operating metrics for our operations as of and for the years ended December 31, 2020 and 2019. For similar financial and operating metrics and discussion of the our 2019 results compared to our 2018 results, refer to Part II. Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” of our Annual Report on Form 10-K for the year ended December 31, 2019 as filed with the SEC on February 28, 2020 (File No. 001-39050).
As of or for the Year Ended December 31,
(in thousands of dollars, except CAC) 2020 2019
Aggregate Originations $ 1,347,994 $ 2,051,836
Number of Loans Originated 449,362 726,964
Active Customers 651,600 793,254
Customer Acquisition Cost $ 199 $ 134
Owned Principal Balance at End of Period
$ 1,639,626 $ 1,842,928
Managed Principal Balance at End of Period
$ 1,895,410 $ 2,198,950
Average Daily Principal Balance $ 1,701,665 $ 1,624,347
30+ Day Delinquency Rate 3.7 % 4.0 %
Annualized Net Charge-Off Rate 9.8 % 8.3 %
Operating Efficiency 67.4 % 60.4 %
Adjusted Operating Efficiency 61.1 % 57.2 %
Return on Equity (9.4) % 14.7 %
Adjusted Return on Equity (3.0) % 14.9 %
See “Glossary” at the beginning of this report for formulas and definitions of our key performance metrics.
Aggregate Originations
Aggregate Originations decreased to $1.35 billion for the year ended December 31, 2020 from $2.05 billion for the year ended December 31, 2019, representing a 34.3% decrease. The decrease is primarily driven by a reduced number of applications attributable both to increased economic uncertainty surrounding the COVID-19 pandemic, as well as a redirection of our marketing efforts. Further, the decrease is due to the reduced number of loans originated attributable to the proactive measures we implemented to tighten our lending criteria and underwriting practices given the current COVID-19 pandemic. We originated 449,362 and 726,964 loans for the year ended December 31, 2020 and 2019, respectively, representing a decrease of 38.2%. The decrease in Aggregate Originations was partially offset by an increase in average loan size, as our updated underwriting criteria favors returning customers who generally receive larger loans.
Active Customers
As of December 31, 2020, Active Customers decreased by 17.9% from December 31, 2019 due to lower originations as a result of a reduction in application volume attributable to economic uncertainty surrounding the COVID-19 pandemic, tightened lending criteria and underwriting practices, as well as a redirection in marketing efforts.
Customer Acquisition Cost
For the year ended December 31, 2020 and 2019, our Customer Acquisition Cost was $199 and $134 respectively, representing an increase of 48.6% for the year ended December 31, 2020. The increase is primarily due to the decline in number of loans originated period over period due to the COVID-19 pandemic. The increase is partially offset by the lower sales and marketing expenses due to the temporary redeployment of retail employees to assist with customer service, which concluded August 31, 2020, and the reduction in direct mail volume due to the redirection of our marketing efforts.
Managed Principal Balance at End of Period
Managed Principal Balance at End of Period as of December 31, 2020 decreased by 13.8% from December 31, 2019 driven by fewer loans originated year-over-year. This decline is a result of a reduced number of applications attributable both to increased economic uncertainty surrounding the COVID-19 pandemic, the proactive measures we implemented to tighten our lending criteria and underwriting practices, as well as a redirection of our marketing efforts.
Average Daily Principal Balance
Average Daily Principal Balance increased by 4.8% from $1.62 billion for the year ended December 31, 2019 to $1.70 billion for the year ended December 31, 2020. This increase is primarily driven by increases in average loan size and growth in originations prior to the issuance of shelter in place orders which began in March 2020 as a result of the onset of the COVID-19 pandemic. These increases are partially offset by a decrease in Aggregate Originations, which has declined due to the impact of the COVID-19 pandemic.
30+ Day Delinquency Rate
Our 30+ Day Delinquency Rate was 3.7% and 4.0% as of December 31, 2020 and 2019, respectively. The decrease is due to the effectiveness of our collections tools and payment options that have helped our customers manage through the pandemic as well as tighter underwriting criteria for loans originated since the pandemic began.
Annualized Net Charge-Off Rate
Annualized Net Charge-Off Rate for the years ended December 31, 2020 and 2019 was 9.8% and 8.3%, respectively. Net charge-offs increased due to both increased unemployment caused by the economic uncertainty surrounding the COVID-19 pandemic and additional charge-offs for some loans impacted by the COVID-19 pandemic deemed unlikely to be collectible. Consistent with our charge-off policy, we evaluate our loan portfolio and charge a loan off at the earlier of when the loan is determined to be uncollectible or when loans are 120 days contractually past due. As a result of the pandemic and based upon our analysis of loan performance following natural disasters or other emergencies, more loans have been determined to be uncollectible prior to reaching 120 days contractually past due, resulting in $21.6 million of higher charge-offs for the year ended December 31, 2020.
Operating Efficiency and Adjusted Operating Efficiency
For the year ended December 31, 2020 and 2019, Operating Efficiency was 67.4%, and 60.4%, respectively and Adjusted Operating Efficiency was 61.1% and 57.2%, respectively. The increase in Operating Efficiency is due to operating expenses growing faster than total revenue. Increased operating expenses were driven by $21.9 million in investments in new products, as well as accelerated investments in new products and channels, technology, data and digital capabilities. Adjusted Operating Efficiency excludes COVID-19 expenses, stock-based compensation expense and litigation reserve. For a reconciliation of Operating Efficiency to Adjusted Operating Efficiency, see “Non-GAAP Financial Measures-Fair Value Pro Forma.”
Return on Equity and Adjusted Return on Equity
For the year ended December 31, 2020 and 2019, Return on Equity was (9.4)% and 14.7%, respectively, and Adjusted Return on Equity was (3.0)% and 14.9%, respectively. The decreases in Return on Equity and Adjusted Return on Equity are primarily due to lower net income. Net income was lower due to higher charge-offs and the decrease in fair value of our Far Value Loans and Fair Value Notes on an aggregate basis as a result of macro-economic changes associated with the COVID-19 pandemic. For a reconciliation of Return on Equity to Adjusted Return on Equity, see “Non-GAAP Financial Measures-Fair Value Pro Forma.”
Historical Credit Performance
In addition to monitoring our loss and delinquency performance on an owned portfolio basis, we also monitor the performance of our loans by the period in which the loan was disbursed, generally years or quarters, which we refer to as a vintage. We calculate net lifetime loan loss rate by vintage as a percentage of original principal balance. Net lifetime loan loss rates equal the net lifetime loan losses for a given year through December 31, 2020 divided by the total origination loan volume for that year. Loans are charged off no later than after becoming 120 days contractually delinquent.
The below table shows our net lifetime loan loss rate for each annual vintage since we began lending in 2006. We have managed to stabilize cumulative net lifetime loan losses since the financial crisis that started in 2008. We even achieved a net lifetime loan loss rate of 5.5% during the peak of the recession in 2009. The evolution of our credit models has allowed us to increase our average loan size and commensurately extend our average loan terms. Cumulative net lifetime loan losses for the 2015, 2016, 2017, and 2018 vintages increased partially due to the delay in tax
refunds in 2017 and 2019, the impact of natural disasters such as Hurricane Harvey, and the longer duration of the loans. The 2018 and 2019 vintages are increasing due to the COVID-19 pandemic. The chart below includes all personal loan originations by vintage, excluding loans originated under our previous access loan program for customers who do not meet the qualifications of our core loan origination program.
Year of Origination
2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019
Net lifetime loan losses as of December 31, 2020 as a percentage of original principal balance 7.7 % 8.9 % 5.5 % 6.4 % 6.2 % 5.6 % 5.6 % 6.1 % 7.1 % 8.0 % 8.3 % 9.4 %* 5.7 %*
Outstanding principal balance as of December 31, 2020 as a percentage of original amount disbursed - % - % - % - % - % - % - % - % - % - % 0.6 % 11.5 % 50.5 %
Dollar weighted average original term for vintage in months 9.3 9.9 10.2 11.7 12.3 14.5 16.4 19.1 22.3 24.2 26.3 29.0 30.0
* Vintage is not yet fully mature from a loss perspective.
Results of Operations
The following tables and related discussion set forth our Consolidated Statements of Operations for the years ended December 31, 2020 and 2019. For a discussion regarding our operating and financial data for the year ended December 31, 2019, as compared to the same period in 2018, refer to Part II, Item 7. “Management's Discussion and Analysis of Financial Condition and Results of Operations” of our Annual Report on Form 10-K for the year ended December 31, 2019, as filed with the SEC on February 28, 2020 (File No. 001-39050).
Years Ended December 31,
(in thousands of dollars) 2020 2019
Revenue
Interest income $ 545,466 $ 544,126
Non-interest income 38,268 56,022
Total revenue 583,734 600,148
Less:
Interest expense 58,368 60,546
Provision (release) for loan losses - (4,483)
Total net increase (decrease) in fair value (190,306) (97,237)
Net revenue 335,060 446,848
Operating expenses:
Technology and facilities 129,795 101,981
Sales and marketing 89,375 97,153
Personnel 106,446 90,647
Outsourcing and professional fees 47,067 57,243
General, administrative and other 20,471 15,392
Total operating expenses 393,154 362,416
Income (loss) before taxes (58,094) 84,432
Income tax expense (benefit) (13,012) 22,834
Net income (loss) $ (45,082) $ 61,598
Total revenue
Year Ended December 31, 2020 vs. 2019 Change
(in thousands of dollars) 2020 2019 $ %
Revenue
Interest income $ 545,466 $ 544,126 $ 1,340 0.2 %
Non-interest income 38,268 56,022 (17,754) (31.7) %
Total revenue $ 583,734 $ 600,148 $ (16,414) (2.7) %
Percentage of total revenue:
Interest income 93.4 % 90.7 %
Non-interest income 6.6 % 9.3 %
Total revenue 100.0 % 100.0 %
Total Revenue. Total revenue decreased by $16.4 million, or 2.7%, from $600.1 million for 2019 to $583.7 million for 2020.
Interest income. Total interest income increased by $1.3 million, or 0.2%, from $544.1 million for 2019 to $545.5 million for 2020. The increase is primarily attributable to growth in our Average Daily Principal Balance, which grew from $1.62 billion for 2019 to $1.70 billion for 2020, an increase of 4.8%. The increase is the result of the stabilization of the portfolio subsequent to the issuance of shelter in place orders which began in March 2020 as a result of the onset of the COVID-19 pandemic and a strong rebound in originations beginning in the second quarter of 2020 and continuing through year-end. This was offset by a decrease in portfolio yield of 143 basis points as we originated more loans to returning customers, who generally receive lower rates, due to having tightened our underwriting criteria in response to the COVID-19 pandemic and our decision to cap the APR at 36% on all new originations as of August 6, 2020, which reduced the interest rates and origination fees on new loans.
Non-interest income. Total non-interest income decreased by $17.8 million, or 31.7%, from $56.0 million for 2019 to $38.3 million for 2020. Under our whole loan sale programs, gain on loans sold decreased by $16.2 million, or 44.4% due to a decline in loans sold resulting from lower originations as a result of the impact of the COVID-19 pandemic and our decision to sell 10% versus 15% of originated loans.
See Note 2, Summary of Significant Accounting Policies, and Note 12, Revenue, of the Notes to the Consolidated Financial Statements included elsewhere in this report for further discussion on our interest income, non-interest income and revenue.
Interest expense
Year Ended December 31, 2020 vs. 2019 Change
(in thousands of dollars) 2020 2019 $ %
Interest expense $ 58,368 $ 60,546 $ (2,178) (3.6) %
Percentage of total revenue 10.0 % 10.1 %
Cost of Debt 4.1 % 4.4 %
Leverage as a percentage of Average Daily Principal Balance 83.8 % 85.5 %
Interest expense. Interest expense decreased by $2.2 million, or 3.6%, from $60.5 million for 2019 to $58.4 million for 2020. We financed approximately 83.8% of our loans receivable through debt for 2020 as compared to 85.5% for 2019, and our Average Daily Debt Balance increased from $1.39 billion to $1.43 billion for 2020, an increase of 2.7%. Our Cost of Debt has decreased as interest rates have declined since the start of the COVID-19 pandemic.
See Note 2, Summary of Significant Accounting Policies, and Note 8, Borrowings, in the Notes to the Consolidated Financial Statements included in this report for further information on our Interest expense and the our Secured Financing facility and asset-backed notes.
Provision (release) for loan losses
Upon adoption of ASU 2019-05, effective January 1, 2020, we elected the fair value option on all loans receivable previously measured at amortized cost as of December 31, 2019. There is no provision for loan losses for the Fair Value Loans because lifetime loan losses are incorporated in the measurement of fair value for loans receivable. Accordingly, for the year ended December 31, 2020, we did not have any loans receivable measured at amortized cost and, therefore, the provision (release) for loan losses is not applicable for the year ended December 31, 2020.
Year Ended December 31, 2020 vs. 2019 Change
(in thousands of dollars) 2020 2019 $ %
Charge-offs, net of recoveries on loans receivable at amortized cost $ - $ 17,871 $ (17,871) *
Excess provision on loans receivable at amortized cost - (22,354) 22,354 *
Provision (release) for loan losses $ - $ (4,483) $ 4,483 *
Allowance for loan losses rate on amortized cost portfolio - % 9.45 %
Percentage of total revenue: - % (0.7) %
* Not meaningful
Total net increase (decrease) in fair value
Net increase (decrease) in fair value reflects changes in fair value of Fair Value Loans and Fair Value Notes on an aggregate basis and is based on a number of factors, including benchmark interest rates, credit spreads, remaining cumulative charge-offs and customer payment rates. Increases in the fair value of loans increase Net Revenue. Conversely, decreases in the fair value of loans decrease Net Revenue. Increases in the fair value of asset-backed notes decrease Net Revenue. Decreases in the fair value of asset-backed notes increase Net Revenue.
Year Ended December 31, 2020 vs. 2019 Change
(in thousands of dollars) 2020 2019 $ %
Fair value mark-to-market adjustment:
Fair value mark-to-market adjustment on fair value loans $ (25,548) $ 31,670 $ (57,218) *
Fair value mark-to-market adjustment on asset-backed notes 2,137 (11,974) 14,111 *
Total fair value mark-to-market adjustment (23,411) 19,696 (43,107) *
Charge-offs, net of recoveries on loans receivable at fair value (1)
(166,895) (116,933) (49,962) *
Total net increase (decrease) in fair value $ (190,306) $ (97,237) $ (93,069) *
Percentage of total revenue:
Fair value mark-to-market adjustment (4.0) % 3.3 %
Charge-offs, net of recoveries on loans receivable at fair value (28.6) % (19.5)
Total net increase (decrease) in fair value (32.6) % (16.2) %
Discount rate 6.85 % 7.77 %
Remaining cumulative charge-offs 10.03 % 9.61 %
Average life in years 0.80 0.81
* Not meaningful
(1) The loan related balances are not comparable between 2020 and 2019 as a result of the adoption of ASU 2019-05, effective January 2020.
Net increase (decrease) in fair value. Net decrease in fair value for 2020 was $190.3 million. This amount represents a total fair value mark-to-market decrease of $23.4 million, and $166.9 million of charge-offs, net of recoveries on Fair Value Loans. The total fair value mark-to-market adjustment consists of a $(25.5) million mark-to-market adjustment on Fair Value Loans due to (a) an increase in remaining cumulative charge-offs from 9.61% as of December 31, 2019 to 10.03% as of December 31, 2020 due to the impact of the pandemic, partially offset by (b) a decrease in the discount rate from 7.77% as of December 31, 2019 to 6.85% as of December 31, 2020 caused by declining interest rates and credit spreads and (c) a slight decrease in average life from 0.81 years as of December 31, 2019 to 0.80 years as of December 31, 2020. The $2.1 million mark-to-market adjustment on Fair Value Notes is due to a widening of credit spreads due to illiquidity and increase in risk premiums in the secondary market for asset-backed notes due to the pandemic.
Charge-offs, net of recoveries
Year Ended December 31, 2020 vs. 2019 Change
(in thousands of dollars) 2020 2019 $ %
Charge-offs, net of recoveries on loans receivable at amortized cost $ - $ 17,871 $ (17,871) (100.0) %
Charge-offs, net of recoveries on loans receivable at fair value (1)
166,895 116,933 49,962 *
Total charge-offs, net of recoveries $ 166,895 $ 134,804 $ 32,091 23.8 %
Average Daily Principal Balance 1,701,665 1,624,347 77,318 4.8 %
Annualized Net Charge-Off Rate 9.8 % 8.3 %
* Not meaningful
(1) The loan related balances are not comparable between 2020 and 2019 as a result of the adoption of ASU 2019-05, effective January 2020.
Charge-offs, net of recoveries.
Our Annualized Net Charge-Off Rate increased to 9.8% for the year ended December 31, 2020 from 8.3% for the year ended December 31, 2019. Consistent with our charge-off policy, we evaluate our loan portfolio and charge a loan off at the earlier of when the loan is determined to be uncollectible or when loans are 120 days contractually past due. As a result of the pandemic and based upon our analysis of loan performance following natural disasters or other emergencies, more loans have been determined to be uncollectible prior to reaching 120 days contractually past due, resulting in $21.6 million of additional charge-offs for the year ended December 31, 2020.
Operating expenses
Operating expenses consist of technology and facilities, sales and marketing, personnel, outsourcing and professional fees and general, administrative and other expenses. Operating expenses include $21.9 million and $14.3 million related to new products for the years ended December 31, 2020 and 2019, respectively. For Fair Value Loans, we no longer capitalize direct loan origination expenses, instead expensing them in operating expenses as incurred. For Fair Value Notes, we no longer capitalize financing expenses, instead including them within operating expenses as incurred.
Technology and facilities
Technology and facilities expenses are the largest component of our operating expenses, representing the costs required to build our omni-channel network and technology platform, and consist of three components. The first component is comprised of costs associated with our technology, engineering, information security, cybersecurity, platform development, maintenance, and end user services, including fees for software licenses, consulting, legal and other services as a result of our efforts to grow our business, as well as personnel expenses. The second includes rent for retail and corporate locations, utilities, insurance, telephony costs, property taxes, equipment rental expenses, licenses and fees and depreciation and amortization. Lastly, this category also includes all software licenses, subscriptions, and technology service costs to support our corporate operations, excluding sales and marketing.
Year Ended December 31, 2020 vs. 2019 Change
(in thousands of dollars) 2020 2019 $ %
Technology and facilities $ 129,795 $ 101,981 $ 27,814 27.3 %
Percentage of total revenue 22.2 % 17.0 %
Technology and facilities. Technology and facilities expense increased by $27.8 million, or 27.3%, from $102.0 million for 2019 to $129.8 million for 2020. The increase is primarily due to $8.1 million higher compensation expense and benefits and $2.8 million higher rent expense and higher depreciation on leasehold improvements due to the increased number of retail locations as we have continued to build our omni-channel network. Our retail locations grew from 337 at December 31, 2019 to 361 at December 31, 2020, or 7.1%. We also had a $6.4 million increase in service costs related to higher usage of software and cloud services, $5.8 million higher depreciation of additions related to internally developed software and a $1.7 million increase in professional services and other related costs to supplement staffing for the year ended December 31, 2020 from the corresponding costs for the year ended December 31, 2019. In November 2020, we decided to cease originating direct auto loans used to purchase a vehicle and recorded an impairment charge of $3.7 million related to fixed assets and system development costs. We continue to invest in developing our secured personal loan product.
Sales and marketing
Sales and marketing expenses consist of two components and represent the costs to acquire our customers. The first component is comprised of the expense to acquire a customer through various paid marketing channels including direct mail, radio, television, digital marketing and brand marketing. The second component is the costs associated with our telesales, lead generation and retail operations, including personnel expenses, but excluding costs associated with retail locations.
Year Ended December 31, 2020 vs. 2019 Change
(in thousands of dollars, except CAC) 2020 2019 $ %
Sales and marketing $ 89,375 $ 97,153 $ (7,778) (8.0) %
Percentage of total revenue 15.3 % 16.2 %
Customer Acquisition Cost (CAC) $ 199 $ 134 $ 65 48.6 %
Sales and marketing. Sales and marketing expenses to acquire our customers decreased by $7.8 million, or 8.0%, from $97.2 million for 2019 to $89.4 million for 2020. As a result of the COVID-19 pandemic, during the year ended December 31, 2020, we had a $5.9 million decrease related to a 20% decline in direct mail volume, a decrease of $2.7 million in personnel-related costs due to the redeployment of retail employees to assist with customer service and $3.5 million in savings due to discontinued use of radio media buys in 2020. These decreases were partially offset by $3.6 million of increased marketing spend related to investment in marketing initiatives across various marketing channels, including digital advertising channels, lead aggregators, and brand marketing and an increase of $0.7 million in other personnel-related costs primarily attributable to certain COVID-19 expenses on behalf of our retail employees. CAC increased by 48.6%, from $134 for the year ended December 31, 2019 to $199 for the year ended December 31, 2020, as a result of our 38.2% decline in number of loans originated during the period due to the COVID-19 pandemic. Our sales-related costs decreased from $53.1 million for the year ended December 31, 2019 to $51.1 million for the year ended December 31, 2020. We were also able to reduce our marketing-related costs from $44.0 million for the year ended December 31, 2019 to $38.3 million for the year ended December 31, 2020.
Personnel
Personnel expenses represent compensation and benefits that we provide to our employees, and include salaries, wages, bonuses, commissions, related employer taxes, medical and other benefits provided and stock-based compensation expense for all of our staff with the exception of our telesales, lead generation, retail operations and technology which are included in sales and marketing expenses and technology and facilities, respectively.
Year Ended December 31, 2020 vs. 2019 Change
(in thousands of dollars) 2020 2019 $ %
Personnel $ 106,446 $ 90,647 $ 15,799 17.4 %
Percentage of total revenue 18.2 % 15.1 %
Personnel. Personnel expense increased by $15.8 million, or 17.4%, from $90.6 million for 2019 to $106.4 million for 2020, primarily driven by a 14.7% increase in corporate employee headcount associated with risk management, data analytics and finance, $2.7 million increase due to redeployment of retail employees to assist with customer service attributed to COVID-19 pandemic and $0.7 million in severance pay related to the corporate reorganization of direct auto and ceasing of legal collections. These increases were partially offset by a lower stock compensation expense of $0.7 million.
Outsourcing and professional fees
Outsourcing and professional fees consist of costs for various third-party service providers and contact center operations, primarily for the sales, customer service, collections and store operation functions. Our contact centers located in Mexico and our third-party contact centers located in Colombia and Jamaica provide support for the business including application processing, verification, customer service and collections. We utilize third parties to operate the contact centers in Colombia and Jamaica and include the costs in outsourcing and other professional fees. Professional fees also include the cost of legal and audit services, credit reports, recruiting, cash transportation, collection services and fees and consultant expenses. For Fair Value Loans, direct loan origination expenses related to application processing are expensed when incurred. In addition, outsourcing and professional fees include any financing expenses, including legal and underwriting fees, related to our Fair Value Notes.
Year Ended December 31, 2020 vs. 2019 Change
(in thousands of dollars) 2020 2019 $ %
Outsourcing and professional fees $ 47,067 $ 57,243 $ (10,176) (17.8) %
Percentage of total revenue 8.1 % 9.5 %
Outsourcing and professional fees. Outsourcing and professional fees decreased by $10.2 million, or 17.8%, from $57.2 million for 2019 to $47.1 million for 2020. This decrease resulted primarily from higher professional services fees of $3.9 million incurred in 2019 for public company readiness, a $3.6 million decrease related to ceasing legal collection on default loans beginning in August 2020, $2.2 million of lower legal fees, $1.9 million decrease in debt financing fees in August 2019 related to an asset-backed securitization and $1.1 million decrease in credit reporting costs due to lower application volume attributed to the COVID-19 pandemic. The decrease was partially offset by a $2.8 million increase due to 17.8% growth
in contact center outsourced headcount. This increase in headcount is expected to be temporary, and is the result of collections contingency staffing due to the uncertainty around the COVID-19 pandemic and the potential impact on delinquencies.
General, administrative and other
General, administrative and other expenses include non-compensation expenses for employees, who are not a part of the technology and sales and marketing organization, which include travel, lodging, meal expenses, office supplies, printing and shipping. Also included are franchise taxes, bank fees, foreign currency gains and losses, transaction gains and losses, debit card expenses and litigation reserve.
Year Ended December 31, 2020 vs. 2019 Change
(in thousands of dollars) 2020 2019 $ %
General, administrative and other $ 20,471 $ 15,392 $ 5,079 33.0 %
Percentage of total revenue 3.5 % 2.6 %
General, administrative and other. General, administrative and other expense increased by $5.1 million, or 33.0%, from $15.4 million for 2019 to $20.5 million for 2020, primarily due to an $8.8 million litigation settlement. These increases were partially offset by a $1.1 million decrease related to legal expenses in December 2019 and by decreases in travel expenses and postage/printing costs due to travel restrictions and remote working arrangements resulting from the COVID-19 pandemic.
Income taxes
Income taxes consist of U.S. federal, state and foreign income taxes, if any. For the years ended December 31, 2020 and 2019 we recognized tax expense (benefit) attributable to U.S. federal, state and foreign income taxes.
Year Ended December 31, 2020 vs. 2019 Change
(in thousands of dollars) 2020 2019 $ %
Income tax expense (benefit) $ (13,012) $ 22,834 $ (35,846) (157.0) %
Percentage of total revenue (2.2) % 3.8 %
Effective tax rate 22.4 % 27.0 %
Income tax expense (benefit). Income tax expense decreased by $35.8 million or 157.0%, from an expense of $22.8 million for 2019 to a benefit of $13.0 million for 2020, primarily as a result of a pretax loss for the year ended December 31, 2020. Other factors contributing to the decrease in income tax expense are the impacts of certain provisions in the CARES Act, including the ability to carry back net operating losses to prior tax periods that had a higher statutory tax rate.
See Note 2, Summary of Significant Accounting Policies, and Note 13, Income Taxes, of the Notes to the Consolidated Financial Statements included elsewhere in this report for further discussion on our income taxes.
Fair Value Estimate Methodology for Loans Receivable at Fair Value
Election of Fair Value Option
We have elected the fair value option to account for loans receivable held for investment ("Fair Value Loans"), and for all asset-backed notes issued on or after January 1, 2018 (the "Fair Value Notes"). We believe the fair value option for loans held for investment and asset-backed notes is a better fit for us given our high growth, short duration, high quality assets and funding structure. We believe the fair value option enables us to report GAAP net income that more closely approximates our net cash flow generation and provides increased transparency into our profitability and asset quality. Loans Receivable at Amortized Cost issued prior to January 1, 2018 are accounted for in our 2019 financial statements at amortized cost, net. Upon adoption of ASU 2019-05 effective January 1, 2020, we elected the fair value option on all remaining loans receivable previously measured at amortized cost ("Subsequent Fair Value Loans"). Upon the adoption of ASU 2019-05 effective January 1, 2020, we (i) released the remaining allowance for loan losses on Loans Receivable at Amortized Cost as of December 31, 2019; (ii) recognized the unamortized net originations fee income as of December 31, 2019; and (iii) measured the remaining loans originated prior to January 1, 2018 at fair value. Loans that we designate for sale will continue to be accounted for as held for sale and recorded at the lower of cost or fair value until the loans receivable are sold. Asset-backed notes issued prior to January 1, 2018 are accounted for in our financial statements at amortized cost, net. After the redemption of our Series 2017-B asset-back notes on July 8, 2020, we no longer have any asset-backed notes at amortized cost as of December 31, 2020.
Fair Value Estimate Methodology for Loans Receivable at Fair Value
We calculate the fair value of Fair Value Loans using a model that projects and discounts expected cash flows. The fair value is a function of:
•Portfolio yield;
•Average life;
•Prepayments;
•Remaining cumulative charge-offs; and
•Discount rate.
Portfolio yield is the expected interest and fees collected from the loans as an annualized percentage of outstanding principal balance. Portfolio yield is based upon (a) the contractual interest rate, reduced by expected delinquencies and interest charge-offs and (b) late fees, net of late fee charge-offs based upon expected delinquencies. Origination fees are not included in portfolio yield since they are generally capitalized as part of the loan’s principal balance at origination.
Average life is the time-weighted average of expected principal payments divided by outstanding principal balance. The timing of principal payments is based upon the contractual amortization of loans, adjusted for the impact of prepayments, Good Customer Program refinances, and charge-offs.
Prepayments are the expected remaining cumulative principal payments that will be repaid earlier than contractually required over the life of the loan, divided by the outstanding principal balance.
Remaining cumulative charge-offs is the expected net principal charge-offs over the remaining life of the loans, divided by the outstanding principal balance.
Discount rate is the sum of the interest rate and the credit spread. The interest rate is based upon the interpolated LIBOR/swap curve rate that corresponds to the average life. The credit spread is based upon the credit spread implied by the whole loan purchase price at the time the flow sale agreement was entered into, updated for observable changes in the fixed income markets, which serve as a proxy for how a whole loan buyer would adjust their yield requirements relative to the originally agreed price.
Our internal valuation committee provides governance and oversight over the fair value pricing and related financial statement disclosures. Additionally, this committee provides a challenge of the assumptions used and outputs of the model, including the appropriateness of such measures and periodically reviews the methodology and process to determine the fair value pricing. Any significant changes to the process must be approved by the committee.
It is also possible to estimate the fair value of our loans using a simplified calculation. The table below illustrates a simplified calculation to aid investors in understanding how fair value may be estimated using the last eight quarters:
•Subtracting the servicing fee from the weighted average portfolio yield over the remaining life of the loans to calculate net portfolio yield;
•Multiplying the net portfolio yield by the weighted average life in years of the loans receivable, which is based upon the contractual amortization of the loans and expected remaining prepayments and charge-offs to calculate net cash flow;
•Subtracting the remaining cumulative charge-offs from the net portfolio yield to calculate the net cash flow;
•Subtracting the product of the discount rate and the average life from the net cash flow to calculate the gross fair value premium as a percentage of loan principal balance; and
•Subtracting the accrued interest and fees as a percentage of loan principal balance from the gross fair value premium as a percentage of loan principal balance to calculate the fair value premium as a percentage of loan principal balance.
The table below reflects the application of this methodology for the eight quarters since January 1, 2019, on loans held for investment effective as of January 1, 2018. Upon adoption of ASU 2019-05, effective January 1, 2020, we elected the fair value option on the Subsequent Fair Value Loans, which were previously measured at amortized cost. Accordingly, we did not have any loans receivable measured at amortized cost, and as a result, there are no Fair Value Pro Forma adjustments related to loans receivable for any period in 2020 shown below. The data in the table below represents our unsecured personal loan portfolio which is the primary driver of fair value.
Three Months Ended
Dec 31, 2020 Sep 30, 2020 Jun 30, 2020 Mar 31, 2020 Dec 31, 2019 Sep 30, 2019 Jun 30, 2019 Mar 31, 2019
Weighted average portfolio yield over the remaining life of the loans 30.17 % 30.50 % 30.78 % 30.74 % 31.45 % 32.08 % 32.43 % 32.59 %
Less: Servicing fee (5.00) % (5.00) % (5.00) % (5.00) % (5.00) % (5.00) % (5.00) % (5.00) %
Net portfolio yield 25.17 % 25.50 % 25.78 % 25.74 % 26.45 % 27.08 % 27.43 % 27.59 %
Multiplied by: Weighted average life in years
0.796 0.775 0.797 0.903 0.814 0.781 0.792 0.804
Pre-loss cash flow 20.03 % 19.75 % 20.54 % 23.25 % 21.53 % 21.13 % 21.67 % 22.07 %
Less: Remaining cumulative charge-offs (10.03) % (10.61) % (12.73) % (14.56) % (9.61) % (9.87) % (10.05) % (10.00) %
Net cash flow 10.00 % 9.14 % 7.81 % 8.69 % 11.92 % 11.26 % 11.62 % 12.07 %
Less: Discount rate multiplied by average life (5.45) % (6.07) % (7.04) % (11.54) % (6.33) % (6.19) % (6.62) % (7.09) %
Gross fair value premium (discount) as a percentage of loan principal balance 4.55 % 3.07 % 0.77 % (2.85) % 5.59 % 5.07 % 5.00 % 4.98 %
Less: Accrued interest and fees as a percentage of loan principal balance (1.06) % (1.15) % (1.35) % (1.11) % (1.05) % (0.97) % (0.93) % (0.97) %
Fair value premium (discount) as a percentage of loan principal balance 3.49 % 1.92 % (0.58) % (3.96) % 4.54 % 4.10 % 4.07 % 4.01 %
Discount Rate 6.85 % 7.84 % 8.84 % 12.78 % 7.77 % 7.93 % 8.38 % 8.86 %
The table below reflects the application of this methodology for the eight quarters since January 1, 2019 under Fair Value Pro Forma, as if we had elected the fair value option since inception. Upon adoption of ASU 2019-05, effective January 1, 2020, we elected the fair value option on the Subsequent Fair Value Loans, which were previously measured at amortized cost. Accordingly, we did not have any loans receivable measured at amortized cost, and as a result, there are no Fair Value Pro Forma adjustments related to loans receivable for any period in 2020 shown below. The data in the table below represents our unsecured personal loan portfolio which is the primary driver of fair value.
Three Months Ended
Dec 31, 2020 Sep 30, 2020 Jun 30, 2020 Mar 31, 2020 Dec 31, 2019 Sep 30, 2019 Jun 30, 2019 Mar 31, 2019
Weighted average portfolio yield over the remaining life of the loans 30.17 % 30.50 % 30.78 % 30.74 % 31.47 % 31.89 % 32.37 % 32.45 %
Less: Servicing fee (5.00) % (5.00) % (5.00) % (5.00) % (5.00) % (5.00) % (5.00) % (5.00) %
Net portfolio yield 25.17 % 25.50 % 25.78 % 25.74 % 26.47 % 26.89 % 27.37 % 27.45 %
Multiplied by: Weighted average life in years
0.796 0.775 0.797 0.903 0.804 0.765 0.764 0.754
Pre-loss cash flow 20.03 % 19.75 % 20.54 % 23.25 % 21.28 % 20.71 % 20.80 % 20.59 %
Less: Remaining cumulative charge-offs (10.03) % (10.61) % (12.73) % (14.56) % (9.51) % (9.83) % (9.94) % (9.83) %
Net cash flow 10.00 % 9.14 % 7.81 % 8.69 % 11.77 % 10.88 % 10.86 % 10.76 %
Less: Discount rate multiplied by average life (5.45) % (6.07) % (7.04) % (11.54) % (6.25) % (6.11) % (6.37) % (6.65) %
Gross fair value premium (discount) as a percentage of loan principal balance 4.55 % 3.07 % 0.77 % (2.85) % 5.52 % 4.77 % 4.49 % 4.11 %
Less: Accrued interest and fees as a percentage of loan principal balance (1.06) % (1.15) % (1.35) % (1.11) % (1.04) % (0.96) % (0.92) % (0.96) %
Fair value premium (discount) as a percentage of loan principal balance 3.49 % 1.92 % (0.58) % (3.96) % 4.48 % 3.81 % 3.57 % 3.15 %
Discount Rate 6.85 % 7.84 % 8.84 % 12.78 % 7.77 % 7.93 % 8.38 % 8.86 %
The illustrative tables included above are designed to assist investors in understanding the impact of our election of the fair value option. For a presentation of the actual impact of the election of the fair value option for the periods presented in the financial statements included elsewhere in this report, please see the next section, “Non-GAAP Financial Measures.” The Fair Value Pro Forma information is presented in that section because they are non-GAAP presentations, as they show the impact of Fair Value Pro Forma adjustment as if we had elected the fair value option since inception.
Sensitivity to Key Drivers
Upon adoption of ASU 2019-05, effective January 1, 2020, we elected the fair value option on the Subsequent Fair Value Loans, which were previously measured at amortized cost. Accordingly, as of December 31, 2020, we did not have any loans receivable measured at amortized cost and as a result there are no Fair Value Pro Forma adjustments related to loans receivable. Further, after the redemption of our Series 2017-B asset-back notes on July 8, 2020, we no longer have any asset-backed notes at amortized cost as of December 31, 2020. Therefore, the tables below present estimates at December 31, 2019 under Fair Value Pro Forma as if we had elected the fair value option since inception. Further, the data in the tables below for Fair Value Loans represents our unsecured personal loan portfolio which is the primary driver of fair value.
Credit Performance Sensitivity
Increases in expected future charge-offs will decrease expected cash flow and decrease fair value of the loans. Conversely, decreases in expected future charge-offs will increase expected cash flow and increase fair value of the loans.
The following table presents estimates at December 31, 2019 under Fair Value Pro Forma as if we had elected the fair value option since inception:
Remaining Cumulative Charge-offs Projected percentage change in the fair value of our Fair Value Loans Projected change in net fair value recorded in earnings
($ in thousands)
120% of expected (1.6) % $ (29,838)
110% of expected (0.8) % (15,099)
100% of expected - % -
90% of expected 0.8 % 15,288
80% of expected 1.6 % 30,971
Interest Rate Sensitivity
Changes in benchmark interest rates are likely to impact the discount rate the market uses to value our loans and notes. Decreases in discount rate increase the fair value of the loans and notes and increases in the discount rate decrease the fair value of the loans and notes. Because an increase in the fair value of a liability is a net decrease in fair value, if the discount rate decreases for both the loans and notes then Net Revenue will be reduced; and if the discount rate increases for both, then Net Revenue will be increased.
The following table presents estimates at December 31, 2019 under Fair Value Pro Forma as if we had elected the fair value option since inception:
Change in Interest Rates Projected percentage change in the fair value of our Fair Value Loans Projected percentage change in the fair value of our Fair Value Notes Projected change in net fair value recorded in earnings
($ in thousands)
-100 Basis Points 0.7 % 1.5 % $ (8,661)
-50 Basis Points 0.4 % 0.8 % (4,465)
-25 Basis Points 0.2 % 0.4 % (2,390)
Basis Interest Rate - % - % -
+25 Basis Points (0.2) % (0.3) % 1,719
+50 Basis Points (0.4) % (0.7) % 3,752
+100 Basis Points (0.7) % (1.4) % 7,776
Prepayment Sensitivity
Increases in prepayments will decrease the average life and thus decrease the fair value of the loans. Conversely, decreases in prepayments will increase the average life of the loans and thus increase the fair value of the loans.
The following table presents estimates at December 31, 2019 under Fair Value Pro Forma as if we had elected the fair value option since inception:
Remaining Cumulative Prepayments Projected percentage change in the fair value of our Fair Value Loans Projected change in net fair value recorded in earnings
($ in thousands)
120% of expected (0.2) % $ (3,268)
110% of expected (0.1) % (1,709)
100% of expected - % -
90% of expected 0.1 % 1,679
80% of expected 0.2 % 3,523
Drivers of Fair Value for Fair Value Notes
We calculate the fair value of the Fair Value Notes using independent pricing services and broker price indications, which are based on quoted prices for identical or similar notes. Debt investors trade a bond based upon the interpolated swap curve rate that corresponds to the bond’s average life plus a credit spread (the bond yield or discount rate).
For an analysis of the effects of changes in Interest Rates, Remaining Cumulative Charge-offs, and Remaining Cumulative Prepayments on GAAP financial information, see Item 7A. Quantitative and Qualitative Disclosures About Market Risk.
Non-GAAP Financial Measures
We believe that the provision of non-GAAP financial measures in this report, including Fair Value Pro Forma information, Adjusted EBITDA, Adjusted Net Income, Adjusted EPS, Adjusted Tangible Book Value Per Share, Adjusted Operating Efficiency and Adjusted Return on Equity, can provide useful measures for period-to-period comparisons of our core business and useful information to investors and others in understanding and evaluating our operating results. However, non-GAAP financial measures are not calculated in accordance with United States GAAP and should not be considered as an alternative to any measures of financial performance calculated and presented in accordance with GAAP. There are limitations related to the use of these non-GAAP financial measures versus their most directly comparable GAAP measures, which include the following:
▪Other companies, including companies in our industry, may calculate these measures differently, which may reduce their usefulness as a comparative measure.
▪These measures do not consider the potentially dilutive impact of stock-based compensation.
▪Adjusted Net Income and Adjusted EBITDA do not include COVID-19 expenses not expected to recur once the pandemic subsides.
▪Although depreciation and amortization are non-cash charges, the assets being depreciated and amortized may have to be replaced in the future and Adjusted EBITDA does not reflect cash capital expenditure requirements for such replacements or for new capital expenditure requirements.
▪Although excess provision represents the portion of provision for loan losses not attributable to net principal charge-offs occurring in the current period, it is expected that net principal charge-offs in the amount of the excess provision will occur in future periods.
▪Although the fair value mark-to-market adjustment is a non-cash adjustment, it does reflect our estimate of the price a third party would pay for our Fair Value Loans or our Fair Value Notes.
▪Adjusted EBITDA does not reflect tax payments that may represent a reduction in cash available to us.
Reconciliations of non-GAAP to GAAP measures can be found below.
Fair Value Pro Forma
We previously elected the fair value option to account for all Initial Fair Value Loans held for investment and all Fair Value Notes issued on or after January 1, 2018. In order to facilitate comparisons to prior periods, we have provided below unaudited financial information for the years ended December 31, 2020 and 2019 on a pro forma basis, (or the "Fair Value Pro Forma"), as if we had elected the fair value option since our inception for all loans originated and held for investment and all asset-backed notes issued. Upon adoption of ASU 2019-05, effective January 1, 2020, we elected the fair value option on the Subsequent Fair Value Loans which were previously measured at amortized cost. Accordingly, for the year ended December 31, 2020, we did not have any loans receivable measured at amortized cost. Therefore, there are no Fair Value Pro Forma adjustments related to assets or revenue as of and for the year ended December 31, 2020. After the redemption of our Series 2017-B asset-back notes on July 8, 2020, we no longer have any asset-backed notes at amortized cost as of December 31, 2020.
Fair Value Pro Forma Consolidated Statements of Operations Data:
Year Ended December 31, 2020 Year Ended December 31, 2019 Period-to-period Change in FVPF
(in thousands) As Reported FV Adjustments FV Pro Forma As Reported FV Adjustments FV Pro Forma $ %
Revenue:
Interest income $ 545,466 $ - $ 545,466 $ 544,126 $ (1,755) $ 542,371 $ 3,095 1 %
Non-interest income 38,268 - 38,268 56,022 - 56,022 (17,754) (32) %
Total revenue 583,734 - 583,734 600,148 (1,755) 598,393 (14,659) (2) %
Less:
Interest expense 58,368 (889) 57,479 60,546 (1,412) 59,134 (1,655) (3) %
Provision (release) for loan losses - - - (4,483) 4,483 - - - %
Net decrease in fair value (190,306) 667 (189,639) (97,237) (13,361) (110,598) (79,041) 71 %
Net revenue 335,060 1,556 336,616 446,848 (18,187) 428,661 (92,045) (21) %
Operating expenses:
Technology and facilities 129,795 - 129,795 101,981 - 101,981 27,814 27 %
Sales and marketing 89,375 - 89,375 97,153 - 97,153 (7,778) (8) %
Personnel 106,446 - 106,446 90,647 - 90,647 15,799 17 %
Outsourcing and professional fees 47,067 - 47,067 57,243 - 57,243 (10,176) (18) %
General, administrative and other 20,471 - 20,471 15,392 - 15,392 5,079 33 %
Total operating expenses 393,154 - 393,154 362,416 - 362,416 30,738 8 %
Income (loss) before taxes (58,094) 1,556 (56,538) 84,432 (18,187) 66,245 (122,783) (185) %
Income tax expense (benefit) (13,012) 682 (12,330) 22,834 (5,018) 17,816 (30,146) (169) %
Net income (loss) $ (45,082) $ 874 $ (44,208) $ 61,598 $ (13,169) $ 48,429 $ (92,637) (191) %
Fair Value Pro Forma Consolidated Balance Sheet Data:
December 31, 2020 December 31, 2019 Period-to-period Change in FVPF
(in thousands) As Reported FV Adjustments FV Pro Forma As Reported FV Adjustments FV Pro Forma $ %
Cash and cash equivalents $ 136,187 $ - $ 136,187 $ 72,179 $ - $ 72,179 $ 64,008 89 %
Restricted cash 32,403 - 32,403 63,962 - 63,962 (31,559) (49) %
Loans receivable (1)
1,696,526 - 1,696,526 1,920,559 5,011 1,925,570 (229,044) (12) %
Other assets 143,935 - 143,935 145,174 (6,579) 138,595 5,340 4 %
Total assets 2,009,051 - 2,009,051 2,201,874 (1,568) 2,200,306 (191,255) (9) %
Total debt (2)
1,413,694 - 1,413,694 1,549,223 1,557 1,550,780 (137,086) (9) %
Other liabilities
128,990 682 129,672 163,885 (1,621) 162,264 (32,592) (20) %
Total liabilities
1,542,684 682 1,543,366 1,713,108 (64) 1,713,044 (169,678) (10) %
Total stockholder's equity 466,367 (682) 465,685 488,766 (1,504) 487,262 (21,577) (4) %
Total liabilities and stockholders' equity $ 2,009,051 $ - $ 2,009,051 $ 2,201,874 $ (1,568) $ 2,200,306 $ (191,255) (9) %
(1) The information included in the As Reported figure includes loans receivable at fair value and loans receivable at amortized cost, net of unamortized deferred origination costs and fees and allowance for loan losses.
(2) The information included in the As Reported figure includes asset-backed notes at fair value and asset-backed notes at amortized cost, net of deferred financing costs. As Reported and FV Pro Forma figures include our Secured Financing facility measured under amortized cost accounting.
Adjusted EBITDA
Adjusted EBITDA is a non-GAAP financial measure defined as our net income (loss), adjusted for the impact of our election of the fair value option and further adjusted to eliminate the effect of certain items as described below. We believe that Adjusted EBITDA is an important measure because it allows management, investors and our Board to evaluate and compare our operating results, including our return on capital and operating efficiencies, from period-to-period by making the adjustments described below. In addition, it provides a useful measure for period-to-period comparisons of our business, as it removes the effect of taxes, certain non-cash items, variable charges and timing differences.
•We believe it is useful to exclude the impact of income tax expense (benefit), as reported, because historically it has included irregular income tax items that do not reflect ongoing business operations.
•We believe it is useful to exclude the impact of depreciation and amortization and stock-based compensation expense because they are noncash charges.
•We believe it is useful to exclude the impact of COVID-19 expenses, impairment charges and litigation reserve because these items do not reflect ongoing business operations.
•We also reverse origination fees for Fair Value Loans, net. As a result of our election of the fair value option for our Fair Value Loans, we recognize the full amount of any origination fees as revenue at the time of loan disbursement in advance of our collection of origination fees through principal payments. As a result, we believe it is beneficial to exclude the uncollected portion of such origination fees, because such amounts do not represent cash that we received.
•We also reverse the fair value mark-to-market adjustment because it is a non-cash adjustment as shown in the table below.
Components of Fair Value Mark-to-Market Adjustment - Fair Value Pro Forma (in thousands)
Year Ended December 31,
2020 2019
Fair value mark-to-market adjustment on Fair Value Loans $ (25,548) $ 39,460
Fair value mark-to-market adjustment on asset-backed notes 2,804 (15,253)
Total fair value mark-to-market adjustment - Fair Value Pro Forma $ (22,744) $ 24,207
The following table presents a reconciliation of net income (loss) to Adjusted EBITDA for the years ended December 31, 2020 and 2019 as if the fair value option had been in place since inception for all loans held for investment and all asset-backed notes:
Year Ended December 31,
Adjusted EBITDA (in thousands)
2020 2019
Net income (loss) $ (45,082) $ 61,598
Adjustments:
Fair Value Pro Forma net income adjustment 874 (13,169)
Income tax expense (benefit) (12,330) 17,816
COVID-19 expenses 4,632 -
Depreciation and amortization 20,220 14,101
Impairment 3,702 -
Stock-based compensation expense 19,488 19,183
Litigation reserve 8,750 905
Origination fees for Fair Value Loans, net (900) (1,908)
Fair value mark-to-market adjustment 22,744 (24,207)
Adjusted EBITDA (1)
$ 22,098 $ 74,319
(1) For the years ended December 31, 2020 and 2019, Adjusted EBITDA includes a pre-tax impact of 18.2 million and $12.6 million , respectively, related to the launch of new products and services (such as auto and credit card).
Adjusted Net Income (Loss)
We define Adjusted Net Income (Loss) as our net income (loss), adjusted for the impact of our election of the fair value option, and further adjusted to exclude income tax expense (benefit), COVID-19 expenses, stock-based compensation expenses and litigation reserve. We believe that Adjusted Net Income (Loss) is an important measure of operating performance because it allows management, investors, and our Board to evaluate and compare our operating results, including our return on capital and operating efficiencies, from period to period.
•We believe it is useful to exclude the impact of income tax expense (benefit), as reported, because historically it has included irregular tax items that do not reflect our ongoing business operations.
•We believe it is useful to exclude the impact of COVID-19 expenses, impairment charges and litigation reserve because these items do not reflect ongoing business operations.
•We believe it is useful to exclude stock-based compensation expense because it is a non-cash charge.
•We include the impact of normalized statutory income tax expense by applying the income tax rate noted in the table.
The following table presents a reconciliation of net income (loss) to Adjusted Net Income (Loss) for the years ended December 31, 2020 and 2019 as if the fair value option had been in place since inception for all loans held for investment and all asset-backed notes:
Year Ended December 31,
Adjusted Net Income (Loss) (in thousands)
2020 2019
Net income (loss) $ (45,082) $ 61,598
Adjustments:
Fair Value Pro Forma net income adjustment 874 (13,169)
Income tax expense (benefit) (12,330) 17,816
COVID-19 expenses 4,632 -
Impairment 3,702 -
Stock-based compensation expense 19,488 19,183
Litigation reserve 8,750 905
Adjusted income (loss) before taxes (19,966) 86,333
Normalized income tax expense (benefit) (5,738) 23,548
Adjusted Net Income (Loss) (1)
$ (14,228) $ 62,785
Income tax rate (2)
28.7 % 27.0 %
(1) For the years ended December 31, 2020 and 2019, Adjusted Net Income includes an after-tax impact of $14.2 million and $9.6 million, respectively, related to the launch of new products and services (such as auto and credit card).
(2) Income tax rate for the year ended December 31, 2020 is based on a normalized statutory rate and for the year ended December 31, 2019 is based on the effective tax rate.
Adjusted Earnings Per Share (“Adjusted EPS”)
Adjusted Earnings Per Share is a non-GAAP financial measure that allows management, investors and our Board to evaluate the operating results, operating trends and profitability of the business in relation to diluted adjusted weighted-average shares outstanding post initial public offering. In addition, it provides a useful measure for period-to-period comparisons of our business, as it considers the effect of conversion of all convertible preferred shares as of the beginning of each annual period.
The following table presents a reconciliation of Diluted EPS to Diluted Adjusted EPS for the years ended December 31, 2020 and 2019. For the reconciliation of net income (loss) to Adjusted Net Income (Loss), see the immediately preceding table “Adjusted Net Income (Loss).”
Year Ended December 31,
(in thousands, except share and per share data) 2020 2019
Diluted earnings (loss) per share $ (1.65) $ 0.40
Adjusted EPS
Adjusted Net Income (Loss) $ (14,228) $ 62,785
Basic weighted-average common shares outstanding 27,333,271 9,347,103
Weighted-average common shares outstanding based on assumed convertible preferred conversion - 14,005,753
Weighted average effect of dilutive securities:
Stock options - 1,300,758
Restricted stock units (1)
- 101,671
Warrants - 12,320
Diluted adjusted weighted-average common shares outstanding 27,333,271 24,767,605
Adjusted Earnings (Loss) Per Share $ (0.52) $ 2.53
(1) The restricted stock units included in the diluted adjusted weighted-average common shares outstanding for the year ended December 31, 2019 relate to the performance-based condition relating to certain awards being considered probable on the effective date of the IPO, the voluntary stock option exchange offer and the issuance of restricted stock units for annual awards.
Adjusted Tangible Book Value Per Share (“Adjusted TBVPS”)
Adjusted Tangible Book Value Per Share is a non-GAAP financial measure that provides management, investors and our Board with an assessment of value that is more conservative than Book Value Per Share in order to evaluate the financial position, capitalization, and valuation of the business in relation to total shares outstanding at the end of the period. We believe it is important to exclude intangibles, as these would not have standalone value outside the context of the business. In addition, it provides a useful measure for period-to-period comparisons of our business, as it considers the effect of fair value adjustments made to both our asset-backed notes at amortized cost and Loans Receivable at Amortized Cost, net as if they were carried at fair value.
The following table presents a reconciliation of stockholders' equity to Adjusted TBVPS as of December 31, 2020 and December 31, 2019 as if the fair value option had been in place since inception for all loans held for investment and all asset-backed notes:
December 31, December 31,
Adjusted TBVPS (in thousands, except share and per share data)
2020 2019
Stockholders' equity $ 466,367 $ 488,766
Adjustments:
Fair Value Pro Forma stockholders' equity adjustment (682) (1,504)
Intangible assets, net (1)
(27,483) (18,455)
Adjusted Tangible Book Value $ 438,202 $ 468,807
Total common shares outstanding 27,679,263 27,003,157
Book Value Per Share $ 16.85 $ 18.10
Adjusted Tangible Book Value Per Share $ 15.83 $ 17.36
(1) Intangible assets, net consists of trademarks and internally developed software, net.
Adjusted Return on Equity
We define Adjusted Return on Equity as annualized Adjusted Net Income (loss) divided by average Fair Value Pro Forma total stockholders’ equity. Average Fair Value Pro Forma stockholders’ equity is an average of the beginning and ending Fair Value Pro Forma stockholders’ equity balance for each period. We believe Adjusted Return on Equity is an important measure because it allows management, investors and our Board to evaluate the profitability of the business in relation to equity and how well we generate income from the equity available.
The following table presents a reconciliation of Return on Equity to Adjusted Return on Equity for the years ended December 31, 2020 and 2019. For the reconciliation of net income (loss) to Adjusted Net Income (Loss), see the immediately preceding table “Adjusted Net Income (Loss).”
As of or for the Year Ended December 31,
(in thousands) 2020 2019
Return on Equity (9.4) % 14.7 %
Adjusted Return on Equity
Adjusted Net Income (Loss) $ (14,228) $ 62,785
Fair Value Pro Forma average stockholders' equity $ 476,474 $ 422,738
Adjusted Return on Equity (3.0) % 14.9 %
Adjusted Operating Efficiency
We define Adjusted Operating Efficiency as Fair Value Pro Forma total operating expenses (excluding COVID-19 expenses, stock-based compensation expense, impairment charges and litigation reserve) divided by Fair Value Pro Forma Total Revenue. We believe Adjusted Operating Efficiency is an important measure because it allows management, investors and our Board to evaluate how efficient we are at managing costs relative to revenue.
The following table presents a reconciliation of Operating Efficiency to Adjusted Operating Efficiency for the years ended December 31, 2020 and 2019:
As of or for the Year Ended December 30,
(in thousands) 2020 2019
Operating Efficiency 67.4 % 60.4 %
Adjusted Operating Efficiency
Total revenue $ 583,734 $ 600,148
Fair Value Pro Forma Total Revenue adjustments - (1,755)
Fair Value Pro Forma Total Revenue 583,734 598,393
Total operating expense 393,154 362,416
COVID-19 expenses (4,632) -
Impairment (3,702) -
Stock-based compensation expense (19,488) (19,183)
Litigation reserve (8,750) (905)
Total Fair Value Pro Forma adjusted operating expenses $ 356,582 $ 342,328
Adjusted Operating Efficiency 61.1 % 57.2 %
Liquidity and Capital Resources
Sources of liquidity
To date, we have funded our lending activities and operations primarily through debt and equity financings, cash from operating activities, and the sale of loans to a third-party institutional investor. We anticipate issuing additional securitizations, entering into additional secured financings and continuing whole loan sales.
Current debt facilities
The following table summarizes our current debt facilities available for funding our lending activities and our operating expenditures as of December 31, 2020:
Debt Facility Scheduled Amortization Period Commencement Date Interest Rate Principal (in thousands)
Secured Financing 10/1/2021 LIBOR (minimum of 0.00%) + 2.45% $ 246,994
Asset-Backed Securitization-Series 2019-A Notes 8/1/2022 3.46% 279,412
Asset-Backed Securitization-Series 2018-D Notes 12/1/2021 4.50% 175,002
Asset-Backed Securitization-Series 2018-C Notes 10/1/2021 4.39% 275,000
Asset-Backed Securitization-Series 2018-B Notes 7/1/2021 4.18% 225,001
Asset-Backed Securitization-Series 2018-A Notes 3/1/2021 3.83% 200,004
$ 1,401,413
The outstanding amounts set forth in the table above are consolidated on our balance sheet whereas loans sold to a third-party institutional investor are not on our balance sheet once sold. In October 2020, due to the strong market appetite for asset-backed notes, we raised $39.8 million, net of fees and expenses, by selling $41.3 million of retained bonds related to our 2019-A and 2018-B asset-backed notes. Additionally, we co-sponsored a $188 million securitization of our loans by the whole-loan purchaser, which closed on November 9, 2020; we will continue to receive a servicing fee for servicing the loans in the securitization but will not receive any other economics.
Lenders do not have direct recourse to Oportun Financial Corporation or Oportun, Inc.
Debt
Our ability to utilize our Secured Financing facility as described herein is subject to compliance with various requirements, including:
•Eligibility Criteria. In order for our loans to be eligible for purchase by Oportun Funding V, they must meet all applicable eligibility criteria;
•Concentration Limits. The collateral pool is subject to certain concentration limits that, if exceeded, would reduce our borrowing base availability by the amount of such excess; and
•Covenants and Other Requirements. The Secured Financing facility contains several financial covenants, portfolio performance covenants and other covenants or requirements that, if not complied with, may result in an event of default and/or an early amortization event causing the accelerated repayment of amounts owed. The Secured Financing facility also requires us to get lender consent prior to making material changes to our credit and collection policies.
As of December 31, 2020, we were in compliance with all covenants and requirements per the debt facility.
For more information regarding our Secured Financing facility, see Notes 4 and 8 of the Notes to the Consolidated Financial Statements included elsewhere in this report.
Our ability to utilize our asset-backed securitization facilities as described herein is subject to compliance with various requirements including:
•Eligibility Criteria. In order for our loans to be eligible for purchase by our wholly owned special purpose subsidiaries they must meet all applicable eligibility criteria; and
•Covenants and Other Requirements. Our securitization facilities contain pool concentration limits, pool performance covenants and other covenants or requirements that, if not complied with, may result in an event of default, and/or an early amortization event causing the accelerated repayment of amounts owed.
As of December 31, 2020, we were in compliance with all covenants and requirements of all our asset-backed notes.
For more information regarding our asset-backed securitization facilities, see Notes 4 and 8 of the Notes to the Consolidated Financial Statements included elsewhere in this report.
Whole loan sales
In November 2014, we entered into a whole loan sale agreement with an institutional investor, which agreement has been amended from time to time. The term of the current agreement was set to expire on November 10, 2020. The parties have agreed to extend the agreement on the same terms through February 26, 2021. Additional extensions may be considered on a month-to-month basis. Pursuant to the agreement, we sell at least 10% of our unsecured loan originations, with an option to sell an additional 5%, subject to certain eligibility criteria and minimum and maximum volumes. We retain all rights and obligations involving the servicing of the loans and earn servicing revenue of 5% of the daily average principal balance of loans sold each month. If either party decides not to renew the agreement and we are unable or we choose not to replace the agreement with an alternate whole loan sale opportunity, our revenue and liquidity may be negatively impacted in the short term by the loss of the gain on sale generated by our whole loan sales.
We will continue to evaluate additional loan sale opportunities in the future and have not made any determinations regarding the percentage of loans we may sell.
The loans are randomly selected and sold at the pre-determined contractual purchase price above par and we recognize a gain on the loans. We sell loans twice per week. We have not repurchased any of the loans sold related to this agreement and do not anticipate repurchasing loans sold in the future. We therefore do not record a reserve related to our repurchase obligations from the whole loan sale agreement.
In addition, from July 2017 to August 2020, we were party to a separate whole loan sale arrangement with an institutional investor with a commitment to sell 100% of our loans originated under our loan program for customers who do not meet the qualifications of our core loan origination program. We recognized servicing revenue of 5% of the daily average principal balance of sold loans for the month. We chose not to renew the arrangement and allowed the agreement to expire on its terms on August 5, 2020.
Cash, cash equivalents, restricted cash and cash flows
The following table summarizes our cash and cash equivalents, restricted cash and cash flows for the periods indicated:
Year Ended December 31,
(in thousands) 2020 2019
Cash, cash equivalents and restricted cash $ 168,590 $ 136,141
Cash provided by (used in)
Operating activities 152,869 218,374
Investing activities 16,379 (497,680)
Financing activities $ (136,799) $ 286,272
Our cash is held for working capital purposes and originating loans. Our restricted cash represents collections held in our securitizations and is applied currently after month-end to pay interest expense and satisfy any amount due to whole loan buyer with any excess amounts returned to us.
Cash flows
Operating Activities
Our net cash provided by operating activities was $152.9 million and $218.4 million for the years ended December 31, 2020 and 2019, respectively. Cash flows from operating activities primarily include net income or losses adjusted for (i) non-cash items included in net income or loss, including depreciation and amortization expense, amortization of deferred financing and loan costs, amortization of debt discount, fair value adjustments, net, origination fees for loans at fair value, net, gain on loan sales, stock-based compensation expense, provision for loan losses and deferred tax assets, (ii) originations of loans sold and held for sale, and proceeds from sale of loans and (iii) changes in the balances of operating assets and liabilities, which can vary significantly in the normal course of business due to the amount and timing of various payments.
Investing Activities
Our net cash provided by (used in) investing activities was $16.4 million and $(497.7) million for the years ended December 31, 2020 and 2019, respectively. Our investing activities consist primarily of loan originations and loan repayments. We currently do not own any real estate. We invest in purchases of property and equipment and incur system development costs. Purchases of property and equipment, and capitalization of system development costs may vary from period to period due to the timing of the expansion of our operations, the addition of employee headcount and the development cycles of our system development.
Financing Activities
Our net cash provided by (used in) financing activities was $(136.8) million and $286.3 million for the years ended December 31, 2020 and 2019, respectively. During those time periods, net cash provided by financing activities was primarily driven by borrowings on our Secured Financing facility and asset-backed notes, partially offset by repayments on those borrowings, and net proceeds from our initial public offering.
Operating and capital expenditure requirements
We believe that our existing cash balance, anticipated positive cash flows from operations and available borrowing capacity under our credit facilities will be sufficient to meet our anticipated cash operating expense and capital expenditure requirements through at least the next 12 months. We believe our liquidity position at December 31, 2020 remains strong as we continue to navigate through a period of uncertain economic conditions related to COVID-19, and we will continue to closely monitor our liquidity as economic conditions change. If our available cash balances are insufficient to satisfy our liquidity requirements, we will seek additional debt or equity financing. If we raise additional funds through the issuance of additional debt, the agreements governing such debt could contain covenants that would restrict our operations and such debt would rank senior to shares of our common stock. The sale of equity may result in dilution to our stockholders and those securities may have rights senior to those of our common stock. We may require additional capital beyond our currently anticipated amounts and additional capital may not be available on reasonable terms, or at all.
Contractual Obligations
As a “Smaller Reporting Company” as defined by Item 10 of Regulation S-K, the Company is not required to provide this information.
Off-Balance Sheet Arrangements
As of December 31, 2020, we had no off-balance sheet financing arrangements that have, or are reasonably likely to have, a current or future effect on our financial condition, changes in financial condition, total revenue or expenses, results of operations, liquidity, capital expenditures or capital resources.
Critical Accounting Policies and Significant Judgments and Estimates
Our Management's Discussion and Analysis of Financial Condition and Results of Operations is based on our consolidated financial statements, which have been prepared in accordance with GAAP. The preparation of these consolidated financial statements requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue, expenses and the related disclosures. In accordance with GAAP, we base our estimates on historical experience and on various other assumptions that we believe are reasonable under the circumstances. Actual results may differ from these estimates under different assumptions or conditions.
While our significant accounting policies are more fully described in Note 2, Summary of Significant Accounting Policies, in our Notes to the Consolidated Financial Statements included elsewhere in this report, we believe fair value of loans held for investment as critical to the process of making significant judgments and estimates in the preparation of our consolidated financial statements.
Fair Value of Loans Held for Investment
We elected the fair value option for our Fair Value Loans. We primarily use a discounted cash flow model to estimate fair value based on the present value of estimated future cash flows. This model uses inputs that are not observable but reflect our best estimates of the assumptions a market participant would use to calculate fair value. The following describes the primary inputs that require significant judgment:
•Remaining Cumulative Charge-offs - Remaining cumulative charge-offs are estimates of the principal payments that will not be repaid over the life of a loan held for investment. Remaining cumulative loss expectations are adjusted to reflect the expected principal recoveries on charged-off loans. Remaining cumulative loss expectations are primarily based on the historical performance of our loans but also incorporate adjustments based on our expectations of future credit performance and are quantified by the remaining cumulative charge-off rate.
•Remaining Cumulative Prepayments - Remaining cumulative prepayments are estimates of the principal payments that will be repaid earlier than contractually required over the life of a loan held for investment. Remaining cumulative prepayment rates are primarily based on the historical performance of our loans but also incorporate adjustments based on our expectations of future customer behavior and refinancings through our Good Customer Program.
•Average Life - Average life is the time weighted average of the estimated principal payments divided by the principal balance at the measurement date. The timing of estimated principal payments is impacted by scheduled amortization of loans, charge-offs, and prepayments.
•Discount Rates - The discount rates applied to the expected cash flows of loans held for investment reflect our estimates of the rates of return that investors would require when investing in financial instruments with similar risk and return characteristics. Discount rates are based on our estimate of the rate of return likely to be received on new loans. Discount rates for aged loans are adjusted to reflect the market relationship between interest rates and remaining time to maturity.
We developed an internal model to estimate the fair value of Fair Value Loans. To generate future expected cash flows, the model combines receivable characteristics with assumptions about borrower behavior based on our historical loan performance. These cash flows are then discounted using a required rate of return that management estimates would be used by a market participant.
We test the fair value model by comparing modeled cash flows to historical loan performance to ensure that the model is complete, accurate and reasonable for our use. We also engaged a third party to create an independent fair value estimate for the Fair Value Loans, which provides a set of fair value marks using our historical loan performance data and whole loan sale prices to develop independent forecasts of borrower behavior. Their
model used these assumptions to generate expected cash flows which were then aggregated and compared to actual cash flows within an acceptable range.
Our internal valuation committee provides governance and oversight over the fair value pricing calculations and related financial statement disclosures. Additionally, this committee provides a challenge of the assumptions used and outputs of the model, including the appropriateness of such measures and periodically reviews the methodology and process to determine the fair value pricing. Any significant changes to the process must be approved by the committee.
Recently Issued Accounting Pronouncements
See Note 2, Summary of Significant Accounting Policies, of the Notes to the Consolidated Financial Statements included elsewhere in this report for a discussion of recent accounting pronouncements and future application of accounting standards.

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ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
Market risk represents the risk of loss that may impact our financial position due to adverse changes in financial market prices, credit performance of loans and interest rates. We do not use derivative financial instruments for speculative, hedging or trading purposes, although in the future we may enter into interest rate or exchange rate hedging arrangements to manage the risks described below. Certain unobservable inputs may (in isolation) have either a directionally consistent or opposite impact on the fair value of the financial instrument for a given change in that input. When multiple inputs are used within the valuation techniques for loans, a change in one input in a certain direction may be offset by an opposite change from another input.
Credit Performance Sensitivity
In a strong economic climate, credit losses may decrease due to low unemployment and rising wages, which will increase the fair value of our Fair Value Loans, which increases Net Revenue. In a weak economic climate, credit losses may increase due to high unemployment and falling wages, which will decrease the fair value of our Fair Value Loans, which decreases Net Revenue.
The following table presents estimates at December 31, 2020. Actual results could differ materially from these estimates:
Remaining Cumulative Charge-Offs Projected percentage change in the fair value of our Fair Value Loans Projected change in net fair value recorded in earnings
($ in thousands)
120% of expected (2.0) % $ (32,113)
110% of expected (1.0) % $ (16,286)
100% of expected - % $ -
90% of expected 1.0 % $ 16,814
80% of expected 2.1 % $ 34,211
The following table presents estimates at December 31, 2019. Actual results could differ materially from these estimates:
Remaining Cumulative Charge-Offs Projected percentage change in the fair value of our Fair Value Loans Projected change in net fair value recorded in earnings
($ in thousands)
120% of expected (1.6) % $ (29,324)
110% of expected (0.8) % $ (14,899)
100% of expected - % $ -
90% of expected 0.8 % $ 14,815
80% of expected 1.6 % $ 30,138
Market Rate Sensitivity
The fair values of our Fair Value Loans are estimated using a discounted cash flow methodology, where the discount rate considers various inputs such as the price that we can sell loans to a third party in a non-public market, market conditions such as interest rates, and credit spreads. The discount rates may change due to expected loan performance. We recorded a fair value mark-to-market adjustment related to our Fair Value Loans and Fair Value Notes of $(23.4) million for the year ended December 31, 2020, a decrease of approximately $43.1 million compared to the prior year.
Interest Rate Sensitivity
We charge fixed rates on our loans and the average life of our loan portfolio is approximately 0.8 years. The fair value of fixed rate loans will generally change when interest rates change, because interest rates will impact the discount rate the market uses to value our loans. As of December 31, 2020, we had $1.2 billion of fixed-rate asset-backed notes outstanding with an average life of 0.8 years. Our borrowing cost does not vary with interest rates for our asset-backed notes, but the fair value will generally change when interest rates change, because interest rates will impact the discount rate the market uses to value our notes.
As of December 31, 2020, we had $247.0 million of outstanding borrowings under our Secured Financing. The interest rate of the Secured Financing is 1-month LIBOR plus a spread of 2.45% with a LIBOR floor of 0.00% and the maximum borrowing amount is $400.0 million. Changes in interest rates in the future will likely affect our borrowing costs of our Secured Financing. While not carried at fair value on the Consolidated Balance Sheets, we do not expect change in interest rates to impact our Secured Financing line item.
In a strong economic climate, interest rates may rise, which will decrease the fair value of our Fair Value Loans, which reduces Net Revenue. Rising interest rates will also decrease the fair value of our Fair Value Notes, which increases Net Revenue. Conversely, in a weak economic climate, interest rates may fall, which will increase the fair value of our Fair Value Loans, which increases Net Revenue. Decreasing interest rates will also increase the fair value of our Fair Value Notes, which reduces Net Revenue. Because the duration and fair value of our loans and asset-backed notes are different, the respective changes in fair value will not fully offset each other. Our sensitivity to changes in interest rates has reversed at December 31, 2020 when compared to December 31, 2019 as the duration of our Fair Value Notes has shortened significantly year-over-year.
The following table presents estimates at December 31, 2020. Actual results could differ materially from these estimates:
Change in Interest Rates Projected percentage change in the fair value of our Fair Value Loans Projected percentage change in the fair value of our Fair Value Notes Projected change in net fair value recorded in earnings
($ in thousands)
-100 Basis Points 0.7 % 0.6 % $ 4,960
-50 Basis Points 0.4 % 0.3 % $ 2,451
-25 Basis Points 0.2 % 0.2 % $ 1,210
Basis Interest Rate - % - % $ -
+25 Basis Points (0.2) % (0.2) % $ (906)
+50 Basis Points (0.4) % (0.4) % $ (1,591)
+100 Basis Points (0.7) % (0.8) % $ (2,877)
The following table presents estimates at December 31, 2019. Actual results could differ materially from these estimates:
Change in Interest Rates Projected percentage change in the fair value of our Fair Value Loans Projected percentage change in the fair value of our Fair Value Notes Projected change in net fair value recorded in earnings
($ in thousands)
-100 Basis Points 0.7 % 1.8 % $ (6,257)
-50 Basis Points 0.4 % 0.9 % $ (3,103)
-25 Basis Points 0.2 % 0.4 % $ (1,545)
Basis Interest Rate - % - % $ -
+25 Basis Points (0.2) % (0.4) % $ 1,532
+50 Basis Points (0.4) % (0.9) % $ 3,052
+100 Basis Points (0.7) % (1.7) % $ 6,053
Prepayment Sensitivity
In a strong economic climate, customers’ incomes may increase which may lead them to prepay their loans more quickly. In a weak economic climate, customers incomes may decrease which may lead them to prepay their loans more slowly. The availability of government stimulus payments to consumers during a weak economy may cause prepayments to increase. Additionally, changes in the eligibility requirements for our Good Customer Program, which allows customers with existing loans to take out a new loan and use a portion of the proceeds to pay-off their existing loan, could impact prepayment rates. In the future, we may implement programs or products that may include a consolidation feature that would enable the customer to use the proceeds from one loan to pay off their personal loan, which could cause prepayment rates on personal loans to increase. Increased competition may also lead to increased prepayment, if our customers take out a loan from another lender to refinance our loan.
The following table presents estimates at December 31, 2020. Actual results could differ materially from these estimates:
Remaining Cumulative Prepayments Projected percentage change in the fair value of our Fair Value Loans Projected change in net fair value recorded in earnings
($ in thousands)
120% of expected (0.1) % $ (2,045)
110% of expected (0.1) % $ (1,025)
100% of expected - % $ -
90% of expected 0.1 % $ 1,027
80% of expected 0.1 % $ 2,054
The following table presents estimates at December 31, 2019. Actual results could differ materially from these estimates:
Remaining Cumulative Prepayments Projected percentage change in the fair value of our Fair Value Loans Projected change in net fair value recorded in earnings
($ in thousands)
120% of expected (0.2) % $ (3,340)
110% of expected (0.1) % $ (1,809)
100% of expected - % $ -
90% of expected 0.1 % $ 1,520
80% of expected 0.2 % $ 3,331
Foreign Currency Exchange Risk
All of our revenue and substantially all of our operating expenses are denominated in U.S. dollars. Our non-U.S. dollar operating expenses in Mexico made up 5.7% of total operating expenses in 2020. All of our interest income is denominated in U.S. dollars and is therefore not subject to foreign currency exchange risk.

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ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Item 8. Financial Statements and Supplementary Data
Report of Independent Registered Public Accounting Firm
To the stockholders and the Board of Directors of Oportun Financial Corporation
Opinion on the Financial Statements
We have audited the accompanying consolidated balance sheets of Oportun Financial Corporation and subsidiaries (the "Company") as of December 31, 2020 and 2019, the related consolidated statements of operations and comprehensive income, changes in stockholders' equity, and cash flows, for each of the two years in the period ended December 31, 2020, and the related notes (collectively referred to as the "financial statements"). In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2020 and 2019, and the results of its operations and its cash flows for each of the two years in the period ended December 31, 2020, in conformity with accounting principles generally accepted in the United States of America.
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the Company's internal control over financial reporting as of December 31, 2020, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated February 22, 2021, expressed an unqualified opinion on the Company's internal control over financial reporting.
Basis for Opinion
These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on the Company's financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.
Critical Audit Matter
The critical audit matter communicated below is a matter arising from the current-period audit of the financial statements that was communicated or required to be communicated to the audit committee and that (1) relates to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the accounts or disclosures to which it relates.
Loans Receivable at Fair Value - Refer to Notes 2 and 14 to the financial statements
Critical Audit Matter Description
The Company’s loans receivable at fair value were at $1,697 million as of December 31, 2020. The loans receivable at fair value were valued as Level 3 financial instruments. Level 3 financial instruments are valued utilizing pricing inputs that are unobservable and significant to the entire fair value measurement. The Company estimates the fair value of the Level 3 loans receivable using a discounted cash flow model based on estimated future cash flows, which considers various inputs that require significant judgment such as remaining cumulative charge offs, remaining cumulative prepayments, average life (years), and discount rate. The model uses inputs that are not observable and inherently judgmental and reflect management’s best estimates of the assumptions a market participant would use to calculate fair value.
We identified loans receivable at fair value as a critical audit matter because of the subjective process in determining significant inputs, assumptions, and judgments used to estimate the fair value. Auditing management’s assessment of loans receivable at fair value involved exercising subjective and complex judgments, required specialized skills and knowledge, and required an increased extent of audit effort, including obtaining audit evidence of the data sources used to estimate fair value and understanding the assumptions applied and the nature of significant inputs utilized.
How the Critical Audit Matter Was Addressed in the Audit
Our audit procedures related to the valuation of loans receivable at fair value included the following, among others:
•We tested the effectiveness of management’s controls covering the overall estimate and the review of the accuracy and completeness of the underlying loan data utilized in the model calculations.
•We subjected the significant unobservable inputs to sensitivity analyses to evaluate changes in the fair value that would result from changes in the assumptions.
•We tested the accuracy and completeness of the significant unobservable inputs used in the valuation of loans receivable at fair value by detail testing the segmentation of the portfolio and underlying payment history and historical performance of the loans.
•With the assistance of our fair value specialists, we developed independent estimates of the loans receivable at fair value and compared our estimates to the Company’s estimates.
•We performed a retrospective review of management’s ability to accurately estimate the loans receivable at fair value by comparing modeled monthly cash flows to actual past performance.
/s/ Deloitte & Touche LLP
San Francisco, CA
February 23, 2021
We have served as the Company's auditor since 2010.
OPORTUN FINANCIAL CORPORATION
Consolidated Balance Sheets
(in thousands, except share and per share data)
December 31,
2020 2019
Assets
Cash and cash equivalents $ 136,187 $ 72,179
Restricted cash 32,403 63,962
Loans receivable at fair value 1,696,526 1,882,088
Loans receivable at amortized cost - 42,546
Less:
Unamortized deferred origination costs and fees, net - (103)
Allowance for loan losses - (3,972)
Loans receivable at amortized cost, net - 38,471
Loans held for sale 1,158 715
Interest and fees receivable, net 15,426 17,185
Right of use assets - operating 46,820 50,503
Other assets 80,531 76,771
Total assets $ 2,009,051 $ 2,201,874
Liabilities and stockholders' equity
Liabilities
Secured financing $ 246,385 $ 60,910
Asset-backed notes at fair value 1,167,309 1,129,202
Asset-backed notes at amortized cost - 359,111
Amount due to whole loan buyer 6,781 33,354
Lease liabilities 49,684 53,357
Other liabilities 72,525 77,174
Total liabilities 1,542,684 1,713,108
Stockholders' equity
Common stock, $0.0001 par value - 1,000,000,000 shares authorized at December 31, 2020 and December 31, 2019; 27,951,286 shares issued and 27,679,263 shares outstanding at December 31, 2020; 27,262,639 shares issued and 27,003,157 shares outstanding at December 31, 2019
6 6
Common stock, additional paid-in capital 436,499 418,299
Common stock warrants - 63
Accumulated other comprehensive loss (261) (162)
Retained earnings 36,432 76,679
Treasury stock at cost, 272,023 and 259,482 shares at December 31, 2020 and December 31, 2019
(6,309) (6,119)
Total stockholders’ equity 466,367 488,766
Total liabilities and stockholders' equity $ 2,009,051 $ 2,201,874
See Notes to the Consolidated Financial Statements.
OPORTUN FINANCIAL CORPORATION
Consolidated Statements of Operations and Comprehensive Income
(in thousands, except share and per share data)
Year Ended December 31,
2020 2019
Revenue
Interest income $ 545,466 $ 544,126
Non-interest income 38,268 56,022
Total revenue 583,734 600,148
Less:
Interest expense 58,368 60,546
Provision (release) for loan losses - (4,483)
Net increase (decrease) in fair value (190,306) (97,237)
Net revenue 335,060 446,848
Operating expenses:
Technology and facilities 129,795 101,981
Sales and marketing 89,375 97,153
Personnel 106,446 90,647
Outsourcing and professional fees 47,067 57,243
General, administrative and other 20,471 15,392
Total operating expenses 393,154 362,416
Income (loss) before taxes (58,094) 84,432
Income tax expense (benefit) (13,012) 22,834
Net income (loss) $ (45,082) $ 61,598
Change in post-termination benefit obligation (99) (30)
Total comprehensive income (loss) $ (45,181) $ 61,568
Net income (loss) attributable to common stockholders $ (45,082) $ 4,262
Share data:
Earnings (loss) per share:
Basic $ (1.65) $ 0.46
Diluted $ (1.65) $ 0.40
Weighted average common shares outstanding:
Basic 27,333,271 9,347,103
Diluted 27,333,271 10,761,852
See Notes to the Consolidated Financial Statements.
OPORTUN FINANCIAL CORPORATION
Consolidated Statements of Changes in Stockholders' Equity
(in thousands, except share data)
For the Years Ended December 31, 2020 and 2019
Convertible Preferred Stock Convertible Preferred and Common Stock Warrants Common Stock
Shares Par Value Additional Paid-in Capital Shares Par Value Shares Par Value Additional Paid-in Capital Accumulated Other Comprehensive Income (Loss) Retained Earnings (Deficit) Treasury Stock Total Stockholders' Equity
Balance - January 1, 2020 - $ - $ - 23,512 $ 63 27,003,157 $ 6 $ 418,299 $ (162) $ 76,679 $ (6,119) $ 488,766
Issuance of common stock upon exercise of stock options - - - - - 58,722 - 216 - - - 216
Stock-based compensation expense - - - - - - - 19,488 - - - 19,488
Issuance of common stock upon exercise of warrants - - - (23,512) (63) 10,972 - 253 - - (190) -
Vesting of restricted stock units, net - - - - - 606,412 - (1,757) - - - (1,757)
Cumulative effect of adoption of ASU 2019-05 - - - - - - - - - 4,835 - 4,835
Change in post-termination benefit obligation - - - - - - - - (99) - - (99)
Net loss - - - - - - - - - (45,082) - (45,082)
Balance - December 31, 2020 - $ - $ - - $ - 27,679,263 $ 6 $ 436,499 $ (261) $ 36,432 $ (6,309) $ 466,367
Balance - January 1, 2019 14,043,977 $ 16 $ 257,887 24,959 $ 130 2,935,249 $ 3 $ 44,411 $ (132) $ 52,662 $ (8,428) $ 346,549
Issuance of common stock upon exercise of stock options - - - - - 105,909 - 791 - - - 791
Repurchase of stock options - - - - - - - (86) - - - (86)
Issuance of common stock upon initial public offering, net of offering costs - - - - - 4,873,356 - 60,479 - - - 60,479
Stock-based compensation expense - - - - - - - 19,183 - - - 19,183
Conversion of convertible preferred stock to common stock in connection with initial public offering (14,043,977) (16) (257,887) 7,643 - 19,075,167 3 295,356 - (37,456) - -
Issuance of convertible preferred stock and conversion to common stock upon exercise of warrants, net - - - (9,090) (67) 3,969 - 67 - - - -
Vesting of restricted stock units, net - - - - - 9,507 - (92) - - - (92)
Cumulative effect of adoption of ASC 842 - - - - - - - - - (125) - (125)
Change in post-termination benefit obligation - - - - - - - - (30) - - (30)
Secured non-recourse affiliate note - - - - - - - (1,810) - - 2,309 499
Net income - - - - - - - - - 61,598 - 61,598
Balance - December 31, 2019 - $ - $ - 23,512 $ 63 27,003,157 $ 6 $ 418,299 $ (162) $ 76,679 $ (6,119) $ 488,766
See Notes to the Consolidated Financial Statements.
OPORTUN FINANCIAL CORPORATION
Consolidated Statements of Cash Flow
(in thousands)
Year Ended December 31,
2020 2019
Cash flows from operating activities
Net income (loss) $ (45,082) $ 61,598
Adjustments to reconcile net income (loss) to net cash provided by operating activities:
Depreciation and amortization 20,220 14,101
Net decrease (increase) in fair value 190,306 97,237
Origination fees for loans receivable at fair value, net (900) (3,777)
Gain on loan sales (20,308) (36,537)
Stock-based compensation expense 19,488 19,183
Provision (release) for loan losses - (4,483)
Deferred tax provision (14,464) 10,419
Other, net 18,001 9,728
Originations of loans sold and held for sale (188,521) (355,617)
Proceeds from sale of loans 208,385 391,438
Changes in operating assets and liabilities:
Interest and fee receivable, net (4,010) (7,128)
Other assets (9,926) (47,628)
Amount due to whole loan buyer (26,573) 5,413
Other liabilities 6,253 64,427
Net cash provided by operating activities 152,869 218,374
Cash flows from investing activities
Originations of loans (1,011,845) (1,487,103)
Repayments of loan principal 1,054,821 1,015,646
Purchase of fixed assets (4,825) (8,875)
Capitalization of system development costs (21,772) (17,348)
Net cash provided by (used in) investing activities 16,379 (497,680)
Cash flows from financing activities
Borrowings under secured financing 469,000 144,000
Proceeds from initial public offering, net of offering costs - 60,479
Borrowings under asset-backed notes 40,244 249,951
Payments of secured financing (284,006) (169,000)
Repayment of asset-backed notes (360,001) -
Other, net (495) (270)
Net payments related to stock-based activities (1,541) 1,112
Net cash provided by (used in) financing activities (136,799) 286,272
Net increase (decrease) in cash and cash equivalents and restricted cash 32,449 6,966
Cash and cash equivalents and restricted cash, beginning of period 136,141 129,175
Cash and cash equivalents and restricted cash, end of period $ 168,590 $ 136,141
Supplemental disclosure of cash flow information
Cash and cash equivalents $ 136,187 $ 72,179
Restricted cash 32,403 63,962
Total cash and cash equivalents and restricted cash $ 168,590 $ 136,141
Cash paid for income taxes, net of refunds $ 2,829 $ 2,933
Cash paid for interest $ 57,140 $ 58,038
Cash paid for amounts included in the measurement of operating lease liabilities $ 16,244 $ 12,759
Supplemental disclosures of non-cash investing and financing activities
Right of use assets obtained in exchange for operating lease obligations $ 8,826 $ 59,564
Additional common stock issued to Series G shareholders upon initial public offering $ - $ 37,456
Non-cash investment in capitalized assets $ 550 $ 687
See Notes to the Consolidated Financial Statements.
OPORTUN FINANCIAL CORPORATION
Notes to the Consolidated Financial Statements
December 31, 2020
1. Organization and Description of Business
Oportun Financial Corporation (together with its subsidiaries, "Oportun" or the " Company") provides inclusive, affordable financial services to customers who do not have a credit score, known as credit invisibles, or who may have a limited credit history and are "mis-scored," primarily because they have a credit history that is too limited to be accurately scored by credit bureaus. The Company's primary product offerings are unsecured installment loans that are affordably priced and that help customers establish a credit history. The Company has begun to expand beyond its core offering into other financial services that a significant portion of its customers already use, such as personal loans secured by a vehicle and credit cards. The Company uses models that are developed with Artificial Intelligence ("A.I.") and built on over 15 years of proprietary consumer insights and billions of data points. This Company's proprietary scoring model and continually evolving data analytics have enabled it to underwrite the risk of the hardworking customers that it serves. The Company is headquartered in San Carlos, California. The Company has been certified by the United States Department of the Treasury as a Community Development Financial Institution ("CDFI") since 2009.
The Company uses securitization transactions, warehouse facilities and whole loan sales, to finance the principal amount of most of the loans it makes to its customers.
Segments
Segments are defined as components of an enterprise for which discrete financial information is available and evaluated regularly by the chief operating decision maker ("CODM") in deciding how to allocate resources and in assessing performance. The Company’s Chief Executive Officer and the Company's Chief Financial Officer are collectively considered to be the CODM. The CODM reviews financial information presented on a consolidated basis for purposes of allocating resources and evaluating financial performance. The Company’s operations constitute a single reportable segment.
2. Summary of Significant Accounting Policies
Basis of Presentation - The Company meets the SEC's definition of a "Smaller Reporting Company”, and therefore qualify for the SEC's reduced disclosure requirements for smaller reporting companies. The accompanying consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America ("GAAP"). These statements reflect all normal, recurring adjustments that are, in management's opinion, necessary for the fair presentation of results. The consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries. All intercompany accounts and transactions have been eliminated in consolidation. Certain prior-period financial information has been reclassified to conform to current period presentation. All share and per share amounts for all periods presented in the accompanying consolidated financial statements and notes thereto have been adjusted retroactively, where applicable, to reflect the Company's one-for-eleven reverse stock split.
Use of Estimates - The preparation of the consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements, and the reported amounts of income and expenses during the reporting period. These estimates are based on information available as of the date of the consolidated financial statements; therefore, actual results could differ from those estimates and assumptions.
Consolidation and Variable Interest Entities - The consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries. The Company’s policy is to consolidate the financial statements of entities in which it has a controlling financial interest. The Company determines whether it has a controlling financial interest in an entity by evaluating whether the entity is a voting interest entity or variable interest entity ("VIE") and if the accounting guidance requires consolidation.
VIEs are entities that, by design, either (i) lack sufficient equity to permit the entity to finance its activities without additional subordinated financial support from other parties, or (ii) have equity investors that do not have the ability to make significant decisions relating to the entity’s operations through voting rights, or do not have the obligation to absorb the expected losses, or do not have the right to receive the residual returns of the entity. The Company determines whether it has a controlling financial interest in a VIE by considering whether its involvement with the VIE is significant and whether it is the primary beneficiary of the VIE based on the following:
•The Company has the power to direct the activities of the VIE that most significantly impact the entity’s economic performance;
•The aggregate indirect and direct variable interests held by us have the obligation to absorb losses or the right to receive benefits from the entity that could be significant to the VIE; an
•Qualitative and quantitative factors regarding the nature, size, and form of the Company’s involvement with the VIE.
Foreign Currency Re-measurement - The functional currency of the Company’s foreign subsidiaries is the U.S. dollar. Monetary assets and liabilities of these subsidiaries are re-measured into U.S. dollars from the local currency at rates in effect at period-end and nonmonetary assets and liabilities are re-measured at historical rates. Revenue and expenses are re-measured at average exchange rates in effect during each period. Foreign
currency gains and losses from re-measurement and transaction gains and losses are recorded as other expense in the Consolidated Statements of Operations and Comprehensive Income.
Concentration of Credit Risk - Financial instruments that potentially subject the Company to concentrations of credit risk consist principally of cash and cash equivalents, restricted cash and loans receivable at fair value.
As of December 31, 2020, 56%, 26%, 5%, and 5% of the owned principal balance related to customers from California, Texas, Illinois and Florida, respectively. Owned principal balance related to customers from each of the remaining states of operation continues to be at or below 3%. As of December 31, 2019, 59%, 25%, 5%, 2%, 2%, 5% of the owned principal balance related to customers from California, Texas, Illinois, Nevada, Arizona and Florida, respectively, and the owned principal balance related to customers from Idaho, Missouri, New Jersey, New Mexico, Utah and Wisconsin were not material.
Cash and Cash Equivalents - Cash and cash equivalents consist of unrestricted cash balances and short-term, liquid investments with an original maturity date of three months or less at the time of purchase.
Restricted Cash - Restricted cash represents cash held at a financial institution as part of the collateral for the Company’s Secured Financing, asset-backed notes and loans designated for sale.
Loans Receivable at Fair Value - The Company elected the fair value option to account for new loan originations held for investment on or after January 1, 2018. Upon adoption of ASU 2019-05, effective January 1, 2020, the Company elected the fair value option on all loans receivable previously measured at amortized cost as of December 31, 2019. Accordingly, as of December 31, 2020 all loans receivable held for investment are accounted for under the fair value option. Under the fair value option, direct loan origination fees are taken into income immediately and direct loan origination costs are expensed in the period the loan originates. Loans are charged off at the earlier of when loans are determined to be uncollectible or when loans are 120 days contractually past due and recoveries are recorded when cash is received. The Company estimates the fair value of the loans using a discounted cash flow model, which considers various unobservable inputs such as remaining cumulative charge-offs, remaining cumulative prepayments, average life and discount rate. The Company re-evaluates the fair value of loans receivable at the close of each measurement period. Changes in fair value are recorded in "Net increase (decrease) in fair value" in the Consolidated Statements of Operations and Comprehensive Income in the period of the fair value changes.
Loans Receivable at Amortized Cost - Upon adoption of ASU 2019-05, effective January 1, 2020, the Company elected the fair value option on all loans receivable previously measured at amortized cost as of December 31, 2019. Accordingly, for the year ended December 31, 2020, the Company did not have any Loans Receivable at Amortized Cost.
Prior to the adoption of ASU 2019-05, loans originated before January 1, 2018 were carried at amortized cost, which is the outstanding unpaid principal balance, net of deferred loan origination fees and costs and the allowance for loan losses. The Company estimates direct loan origination costs associated with completed and successfully originated loans. The direct loan origination costs include employee compensation and independent third-party costs incurred to originate loans. Direct loan origination costs are offset against any loan origination fees and deferred and amortized over the life of the loan using effective interest rate method for loans originated before January 1, 2018.
Fair Value Measurements - The Company follows applicable guidance that establishes a fair value measurement framework, provides a single definition of fair value and requires expanded disclosure summarizing fair value measurements. Such guidance emphasizes that fair value is a market-based measurement, not an entity-specific measurement. Therefore, a fair value measurement should be determined based on the assumptions that market participants would use in pricing an asset or liability.
Fair value guidance establishes a three-level hierarchy for inputs used in measuring the fair value of a financial asset or financial liability.
•Level 1 financial instruments are valued based on unadjusted quoted prices in active markets for identical assets or liabilities, accessible by the Company at the measurement date.
•Level 2 financial instruments are valued using quoted prices for similar assets or liabilities, quoted prices in markets that are not active, or models using inputs that are observable or can be corroborated by observable market data of substantially the full term of the assets or liabilities.
•Level 3 financial instruments are valued using pricing inputs that are unobservable and reflect the Company’s own assumptions that market participants would use in pricing the asset or liability.
Loans Held for Sale - Loans held for sale are recorded at the lower of cost or fair value, applied on an aggregate basis, until the loans are sold. Loans held for sale are sold within four days of origination. Cost of loans held for sale is inclusive of unpaid principal plus net deferred origination costs.
Fixed Assets - Fixed assets are stated at cost, less accumulated depreciation. Depreciation is calculated using the straight-line method over the estimated useful lives of the respective assets, which is generally three years for computer and office equipment and furniture and fixtures, and three to five years for purchased software, vehicles and leasehold improvements. When assets are sold or retired, the cost and related accumulated depreciation are removed from the accounts and any resulting gain or loss, if any, is included in the Consolidated Statements of Operations and Comprehensive Income. Maintenance and repairs are charged to the Consolidated Statements of Operations and Comprehensive Income as incurred.
The Company does not own any buildings or real estate. The Company enters into term leases for its headquarters, call center and store locations. Leasehold improvements are capitalized and depreciated over the lesser of their physical life or lease term of the building.
Systems Development Costs - The Company capitalizes software developed or acquired for internal use. The Company has internally developed its proprietary Web-based technology platform, which consists of application processing, credit scoring, loan accounting, servicing and collections, debit card processing, and data and analytics.
The Company capitalizes its costs to develop software when preliminary development efforts are successfully completed; management has authorized and committed project funding; and it is probable the project will be completed and the software will be used as intended. Costs incurred prior to meeting these criteria, together with costs incurred for training and maintenance, are expensed as incurred. When the software developed for internal use has reached its technological feasibility, such costs are amortized on a straight-line basis over the estimated useful life of the assets, which is generally three years. Costs incurred for upgrades and enhancements that are expected to result in additional functionality are capitalized and amortized over the estimated useful life of the upgrades.
Impairment - We review long-lived assets, including fixed assets, right of use assets and system development costs, for impairment whenever events or changes in circumstances indicate that the carrying amount of the assets may not be fully recoverable. An impairment loss is recognized when estimated undiscounted future cash flows expected to result from the use of the asset and its eventual disposition are less than its carrying amount. We determined that there were no events or changes in circumstances that indicated our long-lived assets were impaired for the years ended December 31, 2020 and 2019, except as disclosed in Note 7, Other Assets.
Asset-Backed Notes at Fair Value - The Company elected the fair value option to account for all asset-backed notes issued on or after January 1, 2018. Asset-backed notes issued prior to January 1, 2018 are accounted for at amortized cost, net. After the redemption of our Series 2017-B asset-back notes on July 8, 2020, the Company no longer had any asset-backed notes at amortized cost. Accordingly, as of December 31, 2020 all asset-backed notes are accounted for under the fair value option. The Company calculates the fair value of the asset-backed notes using independent pricing services and broker price indications, which are based on quoted prices for identical or similar notes, which are Level 2 input measures. The Company re-evaluates the fair value of the asset-backed notes at the close of each measurement period. Changes in fair value are recorded in "Net increase (decrease) in fair value" in the Consolidated Statements of Operations and Comprehensive Income in the period of the fair value changes.
Revenue Recognition - The Company’s primary sources of revenue consist of interest and non-interest income.
Interest Income
Interest income includes interest on loans and fees on loans. Generally, the Company’s loans require semi- monthly or biweekly customer payments of interest and principal. Fees on loans include billed late fees offset by charged-off fees and provision for uncollectible fees. The Company charges customers a late fee if a scheduled installment payment becomes delinquent. Depending on the loan, late fees are assessed when the loan is eight to 16 days delinquent. Late fees are recognized when they are billed. When a loan is charged off, uncollected late fees are also written off. For Loans Receivable at Fair Value, interest income includes (i) billed interest and late fees, plus (ii) origination fees recognized at loan disbursement, less (iii) charged-off interest and late fees, less (iv) provision for uncollectable interest and late fees. Additionally, direct loan origination expenses are recognized in operating expenses as incurred. In comparison, for Loans Receivable at Amortized Cost, interest income includes: (a) billed interest and late fees, less (b) charged-off interest and late fees, less (c) provision for uncollectable interest and late fees, plus (d) amortized origination fees recognized over the life of the loan, less (e) amortized cost of direct loan origination expenses recognized over the life of the loan.
Interest income is recognized based upon the amount the Company expects to collect from its customers. When a loan becomes delinquent for a period of 90 days or more, interest income continues to be recorded until the loan is charged off. Delinquent loans are charged off at month-end during the month it becomes 120 days’ delinquent. For both loans receivable at amortized cost and loans receivable at fair value, the Company mitigates the risk of income recorded for loans that are delinquent for 90 days or more by establishing a 100% provision and the provision for uncollectable interest and late fees is offset against interest income. Previously accrued and unpaid interest is also charged off in the month the Company receives a notification of bankruptcy, a judgment or mediated agreement by the court, or loss of life, unless there is evidence that the principal and interest are collectible.
For Loans Receivable at Fair Value, loan origination fees and costs are recognized when incurred.
Non-Interest Income
Non-interest income includes gain on loan sales, servicing fees, debit card income, sublease income and other income.
Gain on Loan Sales - The Company recognizes a gain on sale from the difference between the proceeds received from the purchaser and the carrying value of the loans on the Company’s books. The Company sells a certain percentage of new loans twice weekly.
The Company accounts for loan sales in accordance with ASC No. 860, Transfers and Servicing. In accordance with this guidance, a transfer of a financial asset, a group of financial assets, or a participating interest in a financial asset is accounted for as a sale if all of the following conditions are met:
•The financial assets are isolated from the transferor and its consolidated affiliates as well as its creditors.
•The transferee or beneficial interest holders have the right to pledge or exchange the transferred financial assets.
•The transferor does not maintain effective control of the transferred assets.
For the years ended December 31, 2020 and 2019 all sales met the requirements for sale treatment. The Company records the gain on the sale of a loan at the sale date in an amount equal to the proceeds received less outstanding principal, accrued interest, late fees and net deferred origination costs.
Servicing Fees - The Company retains servicing rights on sold loans. Servicing fees comprise the 5.0% per annum servicing fee based upon the average daily principal balance of loans sold that the Company earns for servicing loans sold to a third-party financial institution. The servicing fee compensates the Company for the costs incurred in servicing the loans, including providing customer services, receiving customer payments and performing appropriate collection activities. Management believes the fee approximates a market rate and accordingly has not recognized a servicing asset or liability.
Debit card income is the revenue from interchange fees when customers use our reloadable debit card for purchases as well as the associated card user fees.
Sublease income is the rental income from subleasing a portion of our headquarters.
Other income includes marketing incentives paid directly to us by the merchant clearing company based on transaction volumes, interest earned on cash and cash equivalents and restricted cash, and gain (loss) on asset sales.
Interest expense - Interest expense consists of interest expense associated with the Company’s asset-backed notes and Secured Financing, and it includes origination costs as well as fees for the unused portion of the Secured Financing facility. Asset-backed notes at amortized cost are borrowings that originated prior to January 1, 2018, and origination costs are amortized over the life of the borrowing using the effective interest rate method. As of January 1, 2018, the Company elected the fair value option for all new borrowings under asset-backed notes issued on or after that date. Accordingly, all origination costs for such asset-backed notes at fair value are expensed as incurred. After the redemption of our Series 2017-B asset-back notes on July 8, 2020, we did not have any asset-backed notes at amortized cost remaining as of December 31, 2020.
Income Taxes - The Company accounts for income taxes under the asset and liability method. Under this method, deferred tax assets and liabilities are determined based on the difference between the consolidated financial statement and tax basis of assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to reverse. Valuation allowances are established when necessary to reduce deferred tax assets to an amount that is more likely than not to be realized.
Under the provisions of ASC No. 740-10, Income Taxes, the Company evaluates uncertain tax positions by reviewing against applicable tax law all positions taken by the Company with respect to tax years for which the statute of limitations is still open. ASC No. 740-10 provides that a tax benefit from an uncertain tax position may be recognized when it is more likely than not that the position will be sustained upon examination, including resolutions of any related appeals or litigation processes, based on the technical merits. The Company recognizes interest and penalties related to the liability for unrecognized tax benefits, if any, as a component of the income tax expense line in the accompanying Consolidated Statements of Operations and Comprehensive Income.
Stock-Based Compensation - The Company applies the provisions of ASC No. 718-10, Stock Compensation. ASC 718-10 establishes accounting for stock-based employee awards based on the fair value of the award which is measured at grant date. Accordingly, stock-based compensation cost is recognized in operating expenses in the Consolidated Statements of Operations and Comprehensive Income over the requisite service period. The fair value of stock options granted or modified is estimated using the Black-Scholes option pricing model.
The Company granted restricted stock units ("RSUs") to employees that vest upon the satisfaction of time-based criterion of up to four years and previously some included a performance criterion, a liquidity event in connection with an initial public offering or a change in control. These RSUs were not considered vested until both criteria were met and provided that the participant was in continuous service on the vesting date. Compensation cost for awards with performance criteria, measured on the grant date, was recognized when both the service and performance conditions were probable of being achieved. For grants and awards with just a service condition, the Company recognizes stock-based compensation expenses using the straight-line basis over the requisite service period net of forfeitures. For grants and awards with both service and performance conditions, the Company recognizes expenses using the accelerated attribution method.
Treasury Stock - From time to time, the Company repurchases shares of its common stock in a tender offer. Treasury stock is reported at cost, and no gain or loss is recorded on stock repurchase transactions. Repurchased shares are held as treasury stock until they are retired or re-issued. The Company did not retire or re-issue any treasury stock for the years ended December 31, 2020 and 2019.
Basic and Diluted Earnings per Share - Basic earnings per share is computed by dividing net income per share available to common stockholders by the weighted average number of common shares outstanding for the period and excludes the effects of any potentially dilutive securities. The Company computes earnings per share using the two-class method required for participating securities. The Company considers all series of convertible preferred stock to be participating securities due to their noncumulative dividend rights. As such, net income allocated to these participating securities which includes participation rights in undistributed earnings, are subtracted from net income to determine total undistributed net income to be allocated to common stockholders. All participating securities are excluded from basic weighted-average common shares outstanding.
Diluted earnings per share reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised. It is computed by dividing net income attributable to common stockholders by the weighted-average common shares plus the effect of dilutive potential common shares outstanding during the period using the treasury stock method or the two-class method, whichever is more dilutive.
Recently Adopted Accounting Standards
Allowance for Loan Losses and Fair Value Option - In June 2016, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") 2016-13, Financial Instruments-Credit Losses: Measurement of Credit Losses on Financial Instruments. This guidance significantly changes the way entities are required to measure credit losses. Under the new standard, estimated credit losses are based upon an expected credit loss approach rather than an incurred loss approach that was previously required. In May 2019, the FASB issued ASU 2019-05, Financial Instruments-Credit Losses (Topic 326): Targeted Transition. This ASU provides an option to irrevocably elect the fair value option applied on an instrument-by-instrument basis for certain financial assets upon the adoption of Topic 326. In November 2019, the FASB issued ASU 2019-10, Financial Instruments - Credit Loss (Topic 326), Derivatives and Hedging (Topic 815), and Leases (Topic 842), which deferred the effective date for public filers that are considered smaller reporting companies as defined by the SEC to fiscal years beginning after December 15, 2022, including interim periods within those fiscal years. Early adoption is permitted in fiscal years beginning after December 15, 2018, including interim periods in those fiscal years. The Company elected to early adopt ASU 2016-13 and ASU 2019-05 effective January 1, 2020.
The Company previously elected the fair value option for all loans originated after January 1, 2018. Upon adoption of ASU 2019-05, the Company elected the fair value option on all loans receivable originated prior to January 1, 2018 that were previously measured at amortized cost. As a result, adoption of ASU 2016-13 did not have impact on the Company's consolidated financial statements and disclosures. The Company made an accounting policy election not to measure an allowance for credit losses on accrued interest receivable amounts as the Company writes off the uncollectible accrued interest receivable balance in a timely manner and makes relevant disclosures.
The adoption of ASU 2019-05 and fair value election resulted in (i) the release of the remaining allowance for loan losses on Loans Receivable at Amortized Cost as of December 31, 2019; (ii) recognition of the unamortized net originations fee income as of December 31, 2019; and (iii) measurement of the remaining loans originated prior to January 1, 2018 at fair value. These adjustments resulted in an increase to opening retained earnings as of January 1, 2020 of approximately $4.8 million. ASU 2019-05 does not allow for the fair value option to be elected on the Company's asset-backed notes carried at amortized cost.
Fair Value Disclosures - In August 2018, the FASB issued ASU 2018-13, Disclosure Framework-Changes to the Disclosure Requirements for Fair Value Measurement, which amends ASC 820, Fair Value Measurement. This ASU simplifies the disclosure requirements for fair value measurements. The Company adopted this ASU effective January 1, 2020. The simplified disclosure requirements included a new disclosure for the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements and the narrative description of measurement uncertainty. These new disclosure requirements were applied prospectively.
Cloud Computing Arrangements - In August 2018, the FASB issued ASU 2018-15, Intangibles-Goodwill and Other-Internal-Use-Software (Subtopic 350-40): Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract. This ASU aligns the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software (and hosting arrangements that include an internal-use software license). The Company adopted the amendments of this ASU effective January 1, 2020 on a prospective basis with no impact upon adoption. All eligible implementation costs related to cloud computing arrangements are now recorded as part of "prepaid expenses" within "Other assets" on the Consolidated Balance Sheets. The amortization expense is presented in the same line on the income statement as the fees for the associated hosted service within "Operating expenses" on the Company's Consolidated Statements of Operations and Comprehensive Income, and the cash payments related to implementation of cloud computing arrangements are classified as "cash flows from operating activities" within the Consolidated Statements of Cash Flow.
Accounting Standards to be Adopted
Income Taxes - In December 2019, the FASB issued ASU 2019-12, Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes. This ASU is intended to simplify the accounting for income taxes by removing certain exceptions to the general principles of accounting for income taxes and to improve the consistent application of GAAP for other areas of accounting for income taxes by clarifying and amending existing guidance. The ASU is effective for fiscal years beginning after December 15, 2020. Early adoption is permitted. The Company has evaluated the effect of the new guidance and determined it will not have a material impact on its consolidated financial statements and disclosures.
Reference Rate Reform - In March 2020, the FASB issued ASU 2020-04, Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting. The amendments in this ASU provide optional expedients and exceptions for applying generally accepted accounting principles to contracts, hedging relationships, and other transactions that reference LIBOR or another reference rate expected to be discontinued because of reference rate reform if certain criteria are met. An entity may elect to apply the amendments for contract modifications as of any date from the beginning of an interim period that includes or is subsequent to March 12, 2020. The amendments in this ASU must be applied prospectively for all eligible contract modifications. The Company has evaluated the effect of the new guidance and determined it will not have a material impact on its consolidated financial statements and disclosures.
3. Earnings (Loss) per Share
Basic and diluted earnings (loss) per share are calculated as follows:
Year Ended December 31,
(in thousands, except share and per share data) 2020 2019
Net income (loss) $ (45,082) $ 61,598
Less: Additional common stock issued to Series G shareholders - (37,456)
Less: Net income allocated to participating securities (1)
- (19,880)
Net income (loss) attributable to common stockholders $ (45,082) $ 4,262
Basic weighted-average common shares outstanding 27,333,271 9,347,103
Weighted average effect of dilutive securities:
Stock options - 1,300,758
Restricted stock units (2)
- 101,671
Warrants - 12,320
Diluted weighted-average common shares outstanding 27,333,271 10,761,852
Earnings (loss) per share:
Basic $ (1.65) $ 0.46
Diluted $ (1.65) $ 0.40
(1) In a period of net income, both earnings and dividends (if any) are allocated to participating securities. In a period of net loss, only dividends (if any) are allocated to participating securities.
(2) The restricted stock units included in the diluted weighted-average common shares outstanding for the year ended December 31, 2019 relate to the performance-based condition relating to certain awards being considered probable on the effective date of the IPO, the voluntary stock option exchange offer and the issuance of restricted stock units for annual awards.
The following common share equivalent securities have been excluded from the calculation of diluted weighted-average common shares outstanding because the effect is anti-dilutive for the periods presented:
Year Ended December 31,
2020 2019
Stock options 4,369,664 2,231,060
Restricted stock units 2,280,829 -
Warrants 10,400 -
Convertible preferred stock - 12,630,249
Total anti-dilutive common share equivalents 6,660,893 14,861,309
The income available to common stockholders, which is the numerator in calculating diluted earnings (loss) per share, includes $7.9 million of compensation cost catch-up for the year ended December 31, 2019 relating to restricted stock units granted prior to the Company's IPO that included performance criterion which were not considered probable until the effective date of the IPO.
4. Variable Interest Entities
As part of the Company’s overall funding strategy, the Company transfers a pool of designated loans receivable to wholly owned special-purpose subsidiaries, or variable interest entities ("VIEs") to collateralize certain asset-backed financing transactions. The Company has determined that it is the primary beneficiary of these VIEs because it has the power to direct the activities that most significantly impact the VIEs’ economic performance and the obligation to absorb the losses or the right to receive benefits from the VIEs that could potentially be significant to the VIEs. Such power arises from the Company’s contractual right to service the loans receivable securing the VIEs’ asset-backed debt obligations. The Company has an obligation to absorb losses or the right to receive benefits that are potentially significant to the VIEs because it retains the residual interest of each asset-backed financing transaction either in the form of an asset-backed certificate or as an uncertificated residual interest. Accordingly, the Company includes the VIEs’ assets, including the assets securing the financing transactions, and related liabilities in its consolidated financial statements.
Each VIE issues a series of asset-backed securities that are supported by the cash flows arising from the loans receivable securing such debt. Cash inflows arising from such loans receivable are distributed monthly to the transaction’s noteholders and related service providers in accordance with the transaction’s contractual priority of payments. The creditors of the VIEs above have no recourse to the general credit of the Company as the primary beneficiary of the VIEs and the liabilities of the VIEs can only be settled by the respective VIE’s assets. The Company retains the most subordinated economic interest in each financing transaction through its ownership of the respective residual interest in each VIE. The Company has no obligation to repurchase loans receivable that initially satisfied the financing transaction’s eligibility criteria but subsequently became delinquent or defaulted loans receivable.
The following table represents the assets and liabilities of consolidated VIEs recorded on the Company’s consolidated balance sheets:
December 31,
(in thousands) 2020 2019
Consolidated VIE assets
Restricted cash $ 23,726 $ 28,821
Loans receivable at fair value 1,580,061 1,745,465
Loans receivable at amortized cost - 41,747
Interest and fee receivable 14,191 15,874
Total VIE assets 1,617,978 1,831,907
Consolidated VIE liabilities
Secured financing (1)
246,994 62,000
Asset-backed notes at fair value 1,167,309 1,129,202
Asset-backed notes at amortized cost (1)
- 360,001
Total VIE liabilities $ 1,414,303 $ 1,551,203
(1) Amounts exclude deferred financing costs. See Note 8, Borrowings for additional information.
5. Loans Receivable at Amortized Cost, Net
Upon adoption of ASU 2019-05, effective January 1, 2020, the Company elected the fair value option on all loans receivable previously measured at amortized cost as of December 31, 2019. Accordingly, for the year ended December 31, 2020, the Company did not have any loans receivable measured at amortized cost. Therefore, the relevant disclosures related to loans receivable at amortized cost, net, such as credit quality information, past due loans receivable, troubled debt restructurings, and allowance for loan losses are not applicable for the year ended December 31, 2020. As of December 31, 2019, loans receivable at amortized cost, net, of $38.5 million consisted of loans receivable at amortized cost of $42.5 million, deferred origination costs and fees, net, of $(0.1) million, and an allowance for loan losses of $(4.0) million.
Activity in the allowance for loan losses was as follows:
December 31,
(in thousands) 2020 2019
Balance - beginning of period 3,972 $ 26,326
ASU 2019-05 Adoption Adjustment (3,972) $ -
Provision (release) for loan losses - $ (4,483)
Loans charged off - $ (30,702)
Recoveries - $ 12,831
Balance - end of period $ - $ 3,972
6. Loans Held for Sale
The originations of loans sold and held for sale during the year ended December 31, 2020 was $188.5 million and the Company recorded a gain on sale of $20.3 million and servicing revenue of $15.3 million. The originations of loans sold and held for sale during the year ended December 31, 2019 was $355.6 million and the Company recorded a gain on sale of $36.5 million and servicing revenue of $15.4 million.
Whole Loan Sale Program - In November 2014, the Company entered into a whole loan sale agreement with an institutional investor, which agreement has been amended from time to time. Pursuant to the agreement, the Company sells at least 10% of its unsecured loan originations, with an option to sell an additional 5%, subject to certain eligibility criteria and minimum and maximum volumes. The term of the current agreement was set to expire on November 10, 2020. The parties have agreed to extend the agreement on the same terms through February 26, 2021. Additional extensions may be considered on a month-to-month basis.
In addition, from July 2017 to August 2020, the Company was party to a separate whole loan sale arrangement with an institutional investor providing for a commitment to sell 100% of the Company’s loans originated under its loan program for customers who do not meet the qualifications of the Company's core loan origination program. The Company chose not to renew the arrangement and allowed the agreement to expire on its terms on August 5, 2020.
7. Other Assets
Other assets consist of the following:
December 31,
(in thousands) 2020 2019
Fixed assets
Computer and office equipment $ 11,182 $ 10,432
Furniture and fixtures 11,019 10,768
Purchased software 1,992 4,527
Vehicles 53 171
Leasehold improvements 29,543 27,701
Total cost 53,789 53,599
Less: Accumulated depreciation (37,939) (30,765)
Total fixed assets, net $ 15,850 $ 22,834
System development costs:
System development costs $ 55,943 $ 36,795
Less: Accumulated amortization (28,524) (18,456)
Total system development costs, net $ 27,419 $ 18,339
Whole loan receivables $ - $ 5,136
Prepaid expenses 17,241 12,217
Deferred tax assets 1,716 1,563
Tax assets and other 18,305 16,682
Total other assets $ 80,531 $ 76,771
Fixed Assets
Depreciation and amortization expense for the years ended December 31, 2020 and 2019 was $9.4 million and $8.8 million, respectively.
System Development Costs
Amortization of system development costs for years ended December 31, 2020 and 2019 was $10.8 million and $4.9 million, respectively. System development costs capitalized in the years ended December 31, 2020 and 2019 were $21.7 million and $17.9 million, respectively.
In November 2020, the Company decided to cease originating direct auto loans used to purchase a vehicle. Accordingly, the Company has recorded impairment charge of $1.8 million related to system development costs and $1.9 million related to fixed assets. The impairment loss was included in Technology and facilities on the Consolidated Statements of Operations and Comprehensive Income for the year ended December 31, 2020.
8. Borrowings
The following table presents information regarding the Company's Secured Financing facility:
December 31, 2020
Variable Interest Entity Current Balance Commitment Amount Maturity Date Interest Rate
(in thousands)
Oportun Funding V, LLC $ 246,385 $ 400,000 October 1, 2021 LIBOR (minimum of 0.00%) + 2.45%
December 31, 2019
Variable Interest Entity Current Balance Commitment Amount Maturity Date Interest Rate
(in thousands)
Oportun Funding V, LLC $ 60,910 $ 400,000 October 1, 2021 LIBOR (minimum of 0.00%) + 2.45%
The Company elected the fair value option for all asset-backed notes issued on or after January 1, 2018. The following table presents information regarding asset-backed notes:
December 31, 2020
Variable Interest Entity Initial note amount issued (a)
Initial collateral balance (b)
Current balance (a)
Current collateral balance (b)
Weighted average interest
rate
Original revolving period
(in thousands)
Asset-backed notes recorded at fair value:
Oportun Funding XIII, LLC (Series 2019-A) $ 279,412 $ 294,118 $ 283,299 $ 299,237 3.46 % 3 years
Oportun Funding XII, LLC (Series 2018-D) 175,002 184,213 178,182 187,570 4.50 % 3 years
Oportun Funding X, LLC (Series 2018-C) 275,000 289,474 279,171 294,710 4.39 % 3 years
Oportun Funding IX, LLC (Series 2018-B) 225,001 236,854 226,653 241,237 4.18 % 3 years
Oportun Funding VIII, LLC (Series 2018-A) 200,004 222,229 200,004 226,242 3.83 % 3 years
Total asset-backed notes recorded at fair value $ 1,154,419 $ 1,226,888 $ 1,167,309 $ 1,248,996
December 31, 2019
Variable Interest Entity Initial note amount issued (a)
Initial collateral balance (b)
Current balance (a)
Current collateral balance (b)
Weighted average interest rate(c)
Original revolving period
(in thousands)
Asset-backed notes recorded at fair value:
Oportun Funding XIII, LLC (Series 2019-A) $ 279,412 $ 294,118 $ 251,090 $ 299,813 3.22 % 3 years
Oportun Funding XII, LLC (Series 2018-D) 175,002 184,213 178,980 187,447 4.50 % 3 years
Oportun Funding X, LLC (Series 2018-C) 275,000 289,474 280,852 294,380 4.39 % 3 years
Oportun Funding IX, LLC (Series 2018-B) 225,001 236,854 216,306 241,000 4.09 % 3 years
Oportun Funding VIII, LLC (Series 2018-A) 200,004 222,229 201,974 225,945 3.83 % 3 years
Total asset-backed notes recorded at fair value: $ 1,154,419 $ 1,226,888 $ 1,129,202 $ 1,248,585
Asset-backed notes recorded at amortized cost:
Oportun Funding VII, LLC (Series 2017-B) $ 200,000 $ 222,231 $ 199,413 $ 225,925 3.51 % 3 years
Oportun Funding VI, LLC (Series 2017-A) 160,001 188,241 159,698 191,223 3.36 % 3 years
Total asset-backed notes recorded at amortized cost $ 360,001 $ 410,472 $ 359,111 $ 417,148
(a) Initial note amount issued includes notes retained by the Company as applicable. The current balances are measured at fair value for asset-backed notes recorded at fair value and measured at carrying amount for asset-back notes recorded at amortized cost.
(b) Includes the unpaid principal balance of loans receivable, cash, cash equivalents and restricted cash pledged by the Company.
(c) Weighted average interest rate excludes notes retained by the Company.
On July 8, 2020, the Company redeemed its 2017-B asset-backed notes. The redemption was funded by drawing upon the Company's Secured Financing facility for $149.0 million and using $51.0 million of unrestricted cash. On March 9, 2020, the Company redeemed its Series 2017-A asset-backed notes. Advances under the Company's Secured Financing facility were the primary source of funds for the redemption. After the redemptions of our Series 2017-B and 2017-A asset-backed notes, the Company did not have any asset-backed notes recorded at amortized cost as of December 31, 2020.
As of December 31, 2020 and 2019, the Company was in compliance with all covenants and requirements of the Secured Financing facility and asset-backed notes.
In October 2020, the Company raised $39.8 million, net of fees and expenses, by selling $41.3 million of retained bonds related to our 2019-A and 2018-B asset-backed notes.
9. Other Liabilities
Other liabilities consist of the following:
December 31,
(in thousands) 2020 2019
Accounts payable $ 1,819 $ 5,919
Accrued compensation 32,681 22,226
Accrued expenses 17,830 12,965
Accrued interest 3,430 3,842
Deferred tax liabilities 10,557 24,868
Current tax liabilities and other 6,208 7,354
Total other liabilities $ 72,525 $ 77,174
10. Stockholders' Equity
Convertible Preferred Stock - Immediately prior to the completion of the IPO, all 14,043,977 shares of convertible preferred stock were converted into 19,075,167 shares of the Company's common stock. The conversion of all of the Company's convertible preferred stock included an additional 1,873,355 shares of common stock issued for the conversion of the Series G convertible preferred stock to reflect the conversion rate of the Series G convertible preferred stock. The additional 1,873,355 shares issued to Series G convertible preferred stock holders resulted in a $37.5 million reduction to retained earnings and a corresponding increase to additional paid-in capital. There were no shares of convertible preferred stock issued or outstanding as of December 31, 2020.
Preferred Stock - The Board has the authority, without further action by the Company's stockholders, to issue up to 100,000,000 shares of undesignated preferred stock with rights and preferences, including voting rights, designated from time to time by the Board. There were no shares of undesignated preferred stock issued or outstanding as of December 31, 2020 or 2019.
Common Stock - As of December 31, 2020 and 2019, the Company was authorized to issue 1,000,000,000 and 1,000,000,000 shares of common stock with a par value of $0.0001 per share, respectively. As of December 31, 2020, 27,951,286 and 27,679,263 shares were issued and outstanding, respectively, and 272,023 shares were held in treasury stock. As of December 31, 2019, 27,262,639 and 27,003,157 shares were issued and outstanding, respectively, and 259,482 shares were held in treasury stock.
Warrants - On September 26, 2019, 3,969 shares of convertible preferred stock were issued in connection with the cashless exercise of 9,090 Series convertible preferred stock warrants. All 3,969 shares were converted to common stock in connection with the IPO. Additionally, at the closing of the IPO, the outstanding 15,869 Series G convertible preferred stock warrants automatically converted into warrants exercisable for 23,512 shares of common stock. On June 9, 2020, 10,972 shares of common stock were issued in connection with the cashless exercise of the outstanding common stock warrants. No warrants were outstanding as of December 31, 2020.
11. Equity Compensation and Other Benefits
2019 Equity Incentive Plan
We currently have one stockholder-approved plan from which we can issue stock-based awards, which was approved by our stockholders in fiscal year 2019 (the "2019 Plan"). The 2019 Plan became effective on September 25, 2019 and replaced the Amended and Restated 2005 Stock Option / Stock Issuance Plan and the 2015 Stock Option/Stock Issuance Plan (collectively, the “Previous Plans”). The Previous Plans solely exist to satisfy outstanding options previously granted under those plans. The 2019 Plan provides for the grant of incentive stock options ("ISOs"), nonstatutory stock options ("NSOs"), stock appreciation rights, restricted stock awards, restricted stock unit awards, performance-based awards, and other awards (collectively, "awards"). ISOs may be granted only to the Company's employees, including officers, and the employees of its affiliates. All other awards may be granted to the employees, including officers, non-employee directors and consultants and the employees and consultants of the Company's affiliates. The maximum number of shares of our common stock that may be issued under the 2019 Plan will not exceed 8,152,800 shares, of which, 1,058,603 were available for future awards as of December 31, 2020. The number of shares of the Company's common stock reserved for issuance under its 2019 Plan will automatically increase on January 1 of each year for the remaining term of the plan, by 5% of the total number of shares of its common stock outstanding on December 31 of the immediately preceding calendar year, or a lesser number of shares determined by the Board prior to the applicable January 1st. The shares available for issuance increased by 1,383,963 and 1,350,157 shares, on January 1, 2020 and 2019, respectively, pursuant to the automatic share reserve increase provision.
2019 Employee Stock Purchase Plan
In September 2019, the Board adopted, and stockholders approved, the Company's 2019 Employee Stock Purchase Plan (the "ESPP"). The ESPP became effective on September 25, 2019. The purpose of the ESPP is to secure the services of new employees, to retain the services of existing employees and to provide incentives for such individuals to exert maximum efforts toward the Company's success and that of its affiliates. The ESPP includes two components. One component is designed to allow eligible U.S. employees to purchase common stock in a manner that may qualify for favorable tax treatment under Section 423 of the Code. In addition, purchase rights may be granted under a component that does not qualify for such favorable tax treatment when necessary or appropriate to permit participation by eligible employees who are foreign nationals or employed outside of the United States while complying with applicable foreign laws. The maximum aggregate number of shares of common stock that may be issued under the ESPP is 996,217 shares and as of December 31, 2020, no shares have been issued under the ESPP. The number of shares of the Company's common stock reserved for issuance under its ESPP will automatically increase on January 1 of each calendar year for the remaining term of the plan by the lesser of (1) 1% of the total number of shares of its capital stock outstanding on December 31 of the preceding calendar year, (2) 726,186 shares, and (3) a number of shares determined by the Board. The shares available for issuance increased by 276,792 and 270,031 shares, on January 1, 2020 and 2019, respectively, pursuant to the automatic share reserve increase provision.
Generally, all regular employees, including executive officers, employed by the Company or by any of its designated affiliates, will be eligible to participate in the ESPP and may contribute, normally through payroll deductions, up to 15% of their earnings (as defined in the ESPP) for the purchase of common stock under the ESPP. Unless otherwise determined by the Board, common stock will be purchased for the accounts of employees participating in the ESPP at a price per share equal to the lower of (a) 85% of the fair market value of a share of the Company's common stock on the first date of an offering or (b) 85% of the fair market value of a share of the common stock on the date of purchase.
Stock Options
The term of an option may not exceed 10 years as determined by the Board, and each option generally vests over a four-year period with 25% vesting on the first anniversary date of the grant and 1/36th of the remaining amount vesting at monthly intervals thereafter. Option holders are allowed to exercise unvested options to acquire restricted shares. Upon termination of employment, option holders have a period of up to three months in which to exercise any remaining vested options. The Company has the right to repurchase at the original purchase price any unvested but issued common shares upon termination of service. Unexercised options granted to participants who separate from the Company are forfeited and returned to the pool of stock options available for grant.
The Company estimates the fair value of stock options granted using the Black-Scholes option-pricing model. The fair value is then amortized ratably over the requisite service periods of the awards, which is generally the vesting period.
The fair value of stock option grants was estimated with the following assumptions:
Year Ended December 31,
2020 2019
Expected volatility (employee) 50.7%
50.8% - 51.2%
Risk-free interest rate (employee) 0.7%
1.8% - 2.6%
Expected term (employee, in years) 6.1
5.9 - 6.1
Expected dividend -% -%
These assumptions are defined as follows:
•Expected Volatility - Since the Company does not have enough trading history to use the volatility of its own common stock, the option’s expected volatility is estimated based on historical volatility of a peer group’s common stock.
•Risk-Free Interest Rate- The risk-free interest rate is based on the U.S. Treasury zero-coupon issues in effect at the time of grant for periods corresponding with the expected term of the option.
•Expected Term - The option’s expected term represents the period that the Company’s stock-based awards are expected to be outstanding.
•Expected Dividend - The Company has no plans to pay dividends.
As there was no public market for the Company’s common stock prior to the IPO, the fair value underlying the Company’s common stock was determined by the Company’s Board. The valuations of the Company’s common stock were determined in accordance with the guidelines outlined in the American Institute of Certified Public Accountants, Valuation of Privately-Held-Company Equity Securities Issued as Compensation. In the absence of a public market, the Company relied upon contemporaneous valuations performed by an independent third-party valuation firm, the Company’s actual operating and financial performance, forecasts, including the current status of the technical and commercial success of the Company’s operations, the potential for an initial public offering, the macroeconomic environment, interest rates, market outlook, and competitive environment, among other factors.
Stock Option Activity - A summary of the Company's stock option activity under the 2005 Plan, the 2015 Plan, and the 2019 Plan at December 31, 2020 is as follows:
(in thousands, except share and per share data) Options Outstanding Options Weighted-Average Exercise Price Weighted Average Remaining Life
(in years) Aggregate Intrinsic Value
Balance - January 1, 2020 3,950,690 14.03 5.87 $ 40,264
Options granted 625,653 19.00
Options exercised (58,722) 3.00
Options canceled (125,896) 23.40
Balance - December 31, 2020 4,391,725 14.61 5.43 $ 26,059
Options vested and expected to vest - December 31, 2020 4,391,725 14.61 5.43 $ 26,059
Options vested and exercisable - December 31, 2020 3,258,261 12.80 4.29 $ 25,477
Information on stock options granted, exercised and vested is as follows:
Year Ended December 31,
(in thousands, except per share data) 2020 2019
Weighted average fair value per share of options granted $ 9.10 $ 9.54
Cash received from options exercised, net 216 791
Aggregate intrinsic value of options exercised 622 1,028
Fair value of shares vested 5,710 6,735
As of December 31, 2020 and 2019, the Company’s total unrecognized compensation cost related to nonvested stock-based option awards granted to employees was, $9.5 million and $10.1 million, respectively, which will be recognized over a weighted-average vesting period of approximately 2.6 years and 2.4 years, respectively.
Stock Option Exchange Offer
On August 22, 2019, the Company completed a one-time voluntary stock option exchange offer that allowed eligible participants the opportunity to exchange certain stock options for RSUs, subject to a new vesting schedule (the "RSU Exchange Offer"), or for a cash payment (the "Cash Exchange Offer,") together with the RSU Exchange Offer, (the "Exchange Offers").
As a result of the Exchange Offers, options to purchase 1,040,154 shares of the Company’s common stock were accepted for exchange and 455,218 replacement RSUs were issued. The replacement RSUs have a vesting commencement date of August 1, 2019 and vesting schedule of two to four years. The RSUs will first vest on August 1, 2020, with the remainder vesting on a quarterly basis thereafter. The RSUs were granted under, and subject to, the terms and conditions of the Company's 2015 Stock Option/Stock Issuance Plan (the "2015 Plan"). The incremental compensation cost from the exchange is $3.2 million, recognized over the vesting period of the replacement award. The amount of cash payments provided in the Cash Exchange Offer was insignificant.
Restricted Stock Units
The Company’s restricted stock units ("RSUs") vest upon the satisfaction of time-based criterion of up to four years. The service-based requirement will be satisfied in installments as follows: 25% of the total number of RSUs awarded will have the service-based requirement satisfied during the month in which the 12-month anniversary of the vesting commencement date occurs, and thereafter 1/16th of the total award in a series of 12 successive equal quarterly installments or 1/4th of the total award in a series of three successive equal annual installments following the first anniversary of the initial service vest date. Some awards also include a performance criterion, a liquidity event in connection with the Company's initial public offering or a change in control. The liquidity event requirement will be satisfied as to any then-outstanding RSUs on the first to occur of the following events prior to the expiration date: (1) the closing of a change in control; or (2) the first trading day following the expiration of the lock-up period. These RSUs are not considered vested until both criteria have been met, if applicable, and provided that participant is providing continuous service on the vesting date. The performance-based condition of such RSUs was considered probable on the effective date of the IPO completed in September 2019. As a result, $7.9 million of compensation expense in 2019 was recognized in connection with these performance-based awards upon completion of the IPO.
Stock-based compensation cost for RSUs is measured based on the fair market value of the Company’s common stock on the date of grant. For RSUs granted before the IPO there was no public market for the Company’s common stock. The Company retained an independent third-party valuation firm to determine the fair value of its common stock before the IPO. The Company’s Board reviewed and approved the valuations.
A summary of the Company’s RSU activity under the 2015 Plan and the 2019 Plan for the year ended December 31, 2020 is as follows:
RSU Outstanding Weighted Average Grant-Date Fair Value
Balance - January 1, 2020 1,646,323 20.12
Granted 1,933,839 16.34
Vested (1)(2)
(743,156) 24.84
Forfeited (1)
(134,534) 21.05
Balance - December 31, 2020
2,702,472 18.82
Expected to vest after December 31, 2020 (1)
2,702,472 18.82
(1) Replacement RSUs are fair valued using the grant date fair market value on the date of exchange (August 22, 2019).
(2) The Company allows its Board of Directors to defer all or a portion of monetary remuneration paid to the Director. As of December 31, 2020, there were 15,862 restricted stock units vested for which the holders elected to defer delivery of the Company's shares.
As of December 31, 2020 and 2019, the Company's total unrecognized compensation cost related to nonvested restricted stock unit awards granted to employees was, $37.2 million and $21.2 million, respectively, which will be recognized over a weighted average vesting period of approximately 2.9 years and 3.0 years, respectively.
Stock-based Compensation - Total stock-based compensation expense included in the Consolidated Statements of Operations and Comprehensive Income is as follows:
Year Ended December 31,
(in thousands of dollars) 2020 2019
Technology and facilities $ 3,697 $ 2,699
Sales and marketing 129 123
Personnel 15,662 16,361
Total stock-based compensation $ 19,488 $ 19,183
The Company accounts for forfeitures as they occur and does not estimate forfeitures as of the award grant date. The Company capitalized compensation expense related to stock-based compensation the years ended December 31, 2020 and 2019 of $1.0 million and $0.9 million, respectively.
Cash flows from the tax shortfalls or benefits for tax deductions resulting from the exercise of stock options in comparison to the compensation expense recorded for those options are required to be classified as cash from financing activities. The total income tax expense recognized in the income statement for share-based compensation arrangements was $2.6 million and $0.0 million for the years ended December 31, 2020 and 2019, respectively.
Retirement Plan
The Company maintains a 401(k) Plan, which enables employees to make pre-tax or post-tax deferral contributions to the participating employees account. Employees may contribute a portion of their pay up to the annual amount as set periodically by the Internal Revenue Service. The Company provides for an employer 401(k) contribution match of up to 4% of an employee’s eligible compensation. The total amount contributed by the Company for the years ended December 31, 2020 and 2019 was $2.9 million and $2.4 million, respectively. All employee and employer contributions will be invested according to participants’ individual elections. The Company remits employee contributions to plan with each bi-weekly payroll.
12. Revenue
Interest Income - Total interest income included in the Consolidated Statements of Operations and Comprehensive Income is as follows:
Year Ended December 31,
(in thousands) 2020 2019
Interest income
Interest on loans $ 538,544 $ 535,325
Fees on loans 6,922 8,801
Total interest income $ 545,466 $ 544,126
Non-interest Income - Total non-interest income included in the Consolidated Statements of Operations and Comprehensive Income is as follows:
Year Ended December 31,
(in thousands) 2020 2019
Non-interest income
Gain on loan sales $ 20,308 $ 36,537
Servicing fees 15,264 15,429
Other income 2,696 4,056
Total non-interest income $ 38,268 $ 56,022
13. Income Taxes
The following are the domestic and foreign components of the Company’s income before taxes:
Year Ended December 31,
(in thousands) 2020 2019
Domestic $ (58,405) $ 82,612
Foreign 311 1,820
Income (loss) before taxes $ (58,094) $ 84,432
The provision for income taxes consisted of the following:
(in thousands) Federal State Foreign Total
December 31, 2020
Current $ (1,547) $ 2,207 $ 792 $ 1,452
Deferred (7,426) (6,885) (153) (14,464)
Total provision (benefit) for income taxes $ (8,973) $ (4,678) $ 639 $ (13,012)
December 31, 2019
Current $ 7,946 $ 2,835 $ 1,308 $ 12,089
Deferred 7,830 3,439 (524) 10,745
Total provision for income taxes $ 15,776 $ 6,274 $ 784 $ 22,834
Income tax expense (benefit) was $(13.0) million and $22.8 million for the years ended December 31, 2020 and 2019, which represents an effective tax rate of 22.4% and 27.0%, respectively.
A reconciliation of income tax expense with the amount computed by applying the statutory U.S. federal income tax rates to income before provision for income taxes is as follows:
Year Ended December 31,
(in thousands) 2020 2019
Income tax expense (benefit) computed at U.S. federal statutory rate $ (12,200) $ 17,731
State Tax (4,097) 4,788
Foreign Rate differential 573 164
Federal tax credits (1,795) (2,042)
Share based compensation expense 2,525 752
Change in unrecognized tax benefit reserves 1,993 611
Net operating loss carryback tax rate differential (1,532) -
US Base Erosion Anti-Abuse Tax (BEAT) 1,333 -
Other 188 830
Income tax expense $ (13,012) $ 22,834
Effective tax rate 22.4 % 27.0 %
Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes, and operating losses and tax credit carryforwards.
The primary components of the Company’s net deferred tax assets and liabilities are composed of the following:
December 31,
(in thousands) 2020 2019
Deferred tax assets:
Accrued expenses and reserves $ 4,007 $ 2,281
Allowance for loan losses 34 1,110
Leases 13,427 14,449
Share-based compensation 6,824 7,057
Mexico fixed assets 1,052 937
Depreciation and amortization 915 480
Fair value adjustment - Bonds Payable 2,372 -
CARES Act payroll taxes 1,001 -
Net operating loss & credit carryforward 1,537 -
Other 116 672
Total deferred tax assets $ 31,285 $ 26,986
Valuation allowance $ - $ -
Deferred tax liabilities:
System development costs $ (7,482) $ (4,966)
Right of use assets (12,653) (13,676)
Prepaid expenses (243) (912)
Fair value adjustment - Loans Receivable (19,748) (30,737)
Total deferred tax liabilities (40,126) (50,291)
Net deferred taxes $ (8,841) $ (23,305)
As provided for in the Tax Cuts and Jobs Act of 2017, our historical earnings were subject to the one-time transition tax and can now be repatriated to the U.S. with a de minimis tax cost. The Company continues to assert that both its historical and current earnings in its foreign subsidiaries are permanently reinvested and therefore no deferred taxes have been provided.
As of December 31, 2020, the Company had state net operating loss carryforwards of $17.1 million which are set to begin expiring in 2025. As of December 31, 2020, the Company had California research and development tax credit carryforwards of $1.3 million, which are not subject to expiration.
On March 27, 2020, the Coronavirus Aid, Relief, and Economic Security Act (the “CARES Act”) was signed into law. The CARES Act, among other things, includes provisions relating to deferment of employer social security payments, net operating loss (NOL) carryback periods, alternative minimum tax credit refunds, modifications to the net interest deduction limitations and technical corrections to tax depreciation methods for qualified improvement property which allows the Company to accelerate deductions for certain assets placed in service in prior years. The CARES Act permits NOL carryovers and carrybacks to offset 100% of taxable income for taxable years beginning before 2021. The loss is allowed to be carried back to each of the five preceding taxable years to generate a refund of previously paid income taxes. As a result, there was a tax loss generated during 2020 that the CARES Act will now allow to be carried back to 2017, the first of three consecutive years where the Company reported taxable income for federal tax purposes. The carryback of the 2020 tax loss created a $1.5 million increase to the tax benefit as a result of applying the current period loss to a prior period with a higher tax rate of 35% versus the current 21% federal statutory tax rate. The tax law changes in the CARES Act associated with qualified improvement property created an estimated reduction in taxes payable related to tax year 2019 and prior years of approximately $1.8 million which is offset by an increase in deferred tax liability balances for the same amount. The Company is also utilizing the payroll tax deferral allowed by the CARES Act, which defers payment of approximately $3.7 million to the next two years. The Company does not expect other aspects of the income tax provisions of the CARES Act to have a material impact on its financial statements.
The following table summarizes the activity related to the unrecognized tax benefits:
Year Ended December 31,
(in thousands) 2020 2019
Balance as of January 1, $ 1,933 $ 1,431
Increases related to current year tax positions 563 535
Decreases related to current year tax positions - -
Increases related to prior year tax positions 1,431 19
Decreases related to prior year tax positions - (52)
Balance as of December 31, $ 3,927 $ 1,933
Interest and penalties related to the Company’s unrecognized tax benefits accrued as of December 31, 2020 were $0.3 million. Interest and penalties related to the Company's unrecognized tax benefits were not material as of December 31, 2019. The Company’s policy is to recognize interest and penalties associated with income taxes in income tax expense. The Company does not expect its uncertain tax positions to have a material impact on its consolidated financial statements within the next twelve months, with $0.7 million of uncertain tax positions expiring at the end of 2021. The total amount of unrecognized tax benefits, net of associated deferred tax benefit, that would impact the effective tax rate, if recognized, is $2.6 million.
Due to the net operating loss carryforwards, the Company’s United States federal and significant state returns are open to examination by the Internal Revenue Service and state jurisdictions for years ended December 31, 2010 and 2007, respectively, and forward. For Mexico, all tax years remain open for examination by the Mexico taxing authorities.
14. Fair Value of Financial Instruments
Financial Instruments at Fair Value
The Company elected the fair value option to account for all loans receivable held for investment ("Fair Value Loans"), and for all asset-backed notes issued on or after January 1, 2018 (the "Fair Value Notes"). Upon adoption of ASU 2019-05, effective January 1, 2020, the Company elected the fair value option on all loans receivable previously measured at amortized cost. Accordingly, for the year ended December 31, 2020, the Company did not have any loans receivable measured at amortized cost. Asset-backed notes issued prior to January 1, 2018 are accounted for at amortized cost, net. After the redemption of our Series 2017-B asset-back notes on July 8, 2020, we did not have any asset-backed notes at amortized cost as of December 31, 2020. Loans that the Company designates for sale will continue to be accounted for as held for sale and recorded at the lower of cost or fair value until the loans receivable are sold.
The table below compares the fair value of loans receivable and asset-backed notes to their contractual balances as of the dates shown:
December 31, 2020 December 31, 2019
(in thousands) Unpaid Principal Balance Fair Value Unpaid Principal Balance Fair Value
Assets
Loans receivable $ 1,639,626 $ 1,696,526 $ 1,800,418 $ 1,882,088
Liabilities
Asset-backed notes $ 1,154,419 $ 1,167,309 $ 1,113,165 $ 1,129,202
The Company calculates the fair value of the Fair Value Notes using independent pricing services and broker price indications, which are based on quoted prices for identical or similar notes, which are Level 2 input measures.
The Company primarily uses a discounted cash flow model to estimate the fair value of Level 3 instruments based on the present value of estimated future cash flows. This model uses inputs that are inherently judgmental and reflect management’s best estimates of the assumptions a market participant would use to calculate fair value. The following tables present quantitative information about the significant unobservable inputs used for the Company’s Level 3 fair value measurements. The data in the table below represents the Company's unsecured personal loan portfolio which is the primary driver of fair value.
December 31, 2020 December 31, 2019
Minimum Maximum Weighted Average (2)
Minimum (3)
Maximum (3)
Weighted Average
Remaining cumulative charge-offs (1)
7.83% 61.26% 10.03% - - 9.61%
Remaining cumulative prepayments (1)
-% 38.92% 31.11% - - 34.95%
Average life (years) 0.17 1.29 0.80 - - 0.81
Discount rate - - 6.85% - - 7.77%
(1) Figure disclosed as a percentage of outstanding principal balance.
(2) Unobservable inputs were weighted by outstanding principal balance, which are grouped by risk (type of customer, original loan maturity terms).
(3) The Company adopted ASU 2018-13 on a prospective basis, effective January 1, 2020, therefore, these disclosures are not required as of December 31, 2019.
Fair value adjustments related to financial instruments where the fair value option has been elected are recorded through earnings for the years ended December 31, 2020 and 2019. Certain unobservable inputs may (in isolation) have either a directionally consistent or opposite impact on the fair value of the financial instrument for a given change in that input. When multiple inputs are used within the valuation techniques for loans, a change in one input in a certain direction may be offset by an opposite change from another input.
The Company developed an internal model to estimate the fair value of the Fair Value Loans. To generate future expected cash flows, the model combines receivable characteristics with assumptions about borrower behavior based on the Company’s historical loan performance. These cash flows are then discounted using a required rate of return that management estimates would be used by a market participant.
The Company tested the fair value model by comparing modeled cash flows to historical loan performance to ensure that the model was complete, accurate and reasonable for the Company’s use. The Company also engaged a third party to create an independent fair value estimate for the Fair Value Loans, which provides a set of fair value marks using the Company’s historical loan performance data and whole loan sale prices to develop independent forecasts of borrower behavior. Their model generates expected cash flows which were then aggregated and compared to the Company’s actual cash flows within an acceptable range.
The Company's internal valuation committee provides governance and oversight over the fair value pricing calculations and related financial statement disclosures. Additionally, this committee provides a challenge of the assumptions used and outputs of the model, including the appropriateness of such measures and periodically reviews the methodology and process to determine the fair value pricing. Any significant changes to the process must be approved by the committee.
The table below presents a reconciliation of loans receivable at fair value on a recurring basis using significant unobservable inputs:
December 31,
(in thousands) 2020 2019
Balance - beginning of period $ 1,882,088 $ 1,227,469
Adjustment upon adoption of ASU 2019-05 43,323 -
Principal disbursements 1,215,872 1,741,899
Principal payments from customers (1,230,729) (996,945)
Gross charge-offs (188,480) (122,005)
Net increase (decrease) in fair value (25,548) 31,670
Balance - end of period $ 1,696,526 $ 1,882,088
As of December 31, 2020, the aggregate fair value of loans that are 90 days or more past due and in non-accrual status was $2.3 million, and the aggregate unpaid principal balance for loans that are 90 days or more past due was $14.8 million. As of December 31, 2019, the aggregate fair value of loans that are 90 days or more past due and in non-accrual status was $3.6 million, and the aggregate unpaid principal balance for loans that are 90 days or more past due was $15.8 million.
Financial Instruments Disclosed But Not Carried at Fair Value
The following table presents the carrying value and estimated fair values of financial assets and liabilities disclosed but not carried at fair value and the level within the fair value hierarchy:
December 31, 2020
Carrying value Estimated fair value Estimated fair value
(in thousands) Level 1 Level 2 Level 3
Assets
Cash and cash equivalents $ 136,187 $ 136,187 $ 136,187 $ - $ -
Restricted cash 32,403 32,403 32,403 - -
Loans held for sale (Note 6) 1,158 1,158 - - 1,158
Liabilities
Accounts payable 1,819 1,819 1,819 - -
Secured financing (Note 8) 246,994 245,077 - 245,077 -
December 31, 2019
Carrying value Estimated fair value Estimated fair value
(in thousands) Level 1 Level 2 Level 3
Assets
Cash and cash equivalents $ 72,179 $ 72,179 $ 72,179 $ - $ -
Restricted cash 63,962 63,962 63,962 - -
Loans receivable at amortized cost, net (Note 5) 38,471 43,482 - - 43,482
Loans held for sale (Note 6) 715 772 - - 772
Liabilities
Accounts payable 5,919 5,919 5,919 - -
Secured financing (Note 8) 62,000 62,000 - 62,000 -
Asset-backed notes at amortized cost (Note 8) 359,111 360,668 - 360,668 -
The Company uses the following methods and assumptions to estimate fair value:
•Cash, cash equivalents, restricted cash and accounts payable - The carrying values of certain of the Company’s financial instruments, including cash and cash equivalents, restricted cash and accounts payable, approximate Level 1 fair values of these financial instruments due to their short-term nature.
•Loans receivable - The fair value of loans receivable recorded at amortized cost were estimated by discounting the future expected cash flows using a required rate of return that management estimates would be used by a market participant.
•Loans held for sale - The fair values of loans held for sale are based on a negotiated agreement with the purchaser.
•Secured Financing and asset-backed notes - The fair values of Secured Financing and asset-backed notes recorded at carrying value have been calculated using discount rates equivalent to the weighted-average market yield of comparable debt securities. The Company's asset-backed notes are valued by independent pricing services and brokers using quoted prices for identical or similar notes, which are Level 2 input measures.
There were no transfers in or out of Level 3 assets and liabilities for the years ended December 31, 2020 and 2019.
15. Leases, Commitments and Contingencies
Leases - The Company’s leases are primarily for real property consisting of retail locations and office space and have remaining lease terms of 10 years or less.
As described in Note 2, the Company adopted ASU 2016-02, Leases, as of January 1, 2019, using the modified retrospective transition approach. The Company has elected the practical expedient to keep leases with terms of 12 months or less off the balance sheet as no recognition of a lease liability and a right-of-use asset is required. Operating lease expense is recognized on a straight-line basis over the lease term in "Technology and facilities" in the Consolidated Statements of Operations and Comprehensive Income.
Most of the Company’s existing lease arrangements are classified as operating leases under the new standard. At the inception of a contract, the Company determines if the contract is or contains a lease. At the commencement date of a lease, the Company recognizes a lease liability equal to the present value of the lease payments and a right-of-use asset representing the Company's right to use the underlying asset for the duration of the lease term. The Company’s leases include options to extend or terminate the arrangement at the end of the original lease term. The Company generally does not include renewal or termination options in its assessment of the leases unless extension or termination for certain assets is deemed to be reasonably certain. Variable lease payments and short-term lease costs were deemed immaterial. The Company’s leases do not provide an explicit rate. The Company uses its contractual borrowing rate to determine lease discount rates.
As of December 31, 2020, maturities of lease liabilities, excluding short-term leases and leases on a month-to-month basis, were as follows:
(in thousands) Operating Leases
Lease expense
2021 $ 15,788
2022 12,967
2023 10,881
2024 9,069
2025 6,989
Thereafter 1,641
Total lease payments 57,335
Imputed interest (5,247)
Total leases $ 52,088
Sublease income
2021 $ (1,594)
2022 (896)
2023 and thereafter -
Total lease payments (2,490)
Imputed interest 86
Total sublease income $ (2,404)
Net lease liabilities $ 49,684
Weighted average remaining lease term 4.3 years
Weighted average discount rate 4.42 %
As of December 31, 2019, maturities of lease liabilities, excluding short-term leases and leases on a month-to-month basis, were as follows:
(in thousands) Operating Leases
Lease expense
2020 $ 15,227
2021 12,439
2022 9,663
2023 8,340
2024 7,488
Thereafter 7,293
Total lease payments 60,450
Imputed interest (6,240)
Total leases $ 54,210
Sublease income
2020 $ (861)
2021 and thereafter -
Total lease payments (861)
Imputed interest 8
Total sublease income $ (853)
Net lease liabilities $ 53,357
Weighted average remaining lease term 5.0 years
Weighted average discount rate 4.49 %
Rental expenses under operating leases for the years ended December 31, 2020 and 2019 were $20.8 million and $18.2 million, respectively.
Purchase Commitment - The Company has commitments to purchase information technology and communication services in the ordinary course of business, with various terms through 2023. These amounts are not reflective of the Company’s entire anticipated purchases under the related agreements; rather, they are determined based on the non-cancelable amounts to which the Company is contractually obligated. The Company’s purchase obligations are $13.4 million in 2021, $9.2 million in 2022, $2.0 million in 2023, $0.0 million in 2024, and $0.0 million in 2025 and thereafter.
Whole Loan Sale Program - The Company has a commitment to sell to a third-party institutional investor 10% of its unsecured loan originations that satisfy certain eligibility criteria, and an additional 5% at the Company’s sole option. For details regarding the whole loan sale program, refer to Note 6, Loans Held for Sale.
Access Loan Sale Program - From July 2017 to August 2020, the Company was party to a separate whole loan sale arrangement with an institutional investor with a commitment to sell 100% of the loans originated pursuant to the Company’s loan program for customers who do not meet the qualifications of its core loan origination program and service the sold loans. For details regarding this program, refer to Note 6, Loans Held for Sale.
Unfunded Loan and Credit Card Commitments - Unfunded loan and credit card commitments at December 31, 2020 and 2019 were $3.5 million and $2.3 million, respectively.
Litigation - On June 13, 2017, a complaint, captioned Atinar Capital II, LLC and James Gutierrez v. David Strohm, et. al., CGC 17-559515, (the "Atinar Lawsuit"), was filed by plaintiffs James Gutierrez and Atinar Capital II, LLC (an LLC controlled by Gutierrez) (the "Gutierrez Plaintiffs"), in the Superior Court of the State of California, County of San Francisco, against certain of the Company's current and former directors and officers, and certain of the Company's stockholders alleging that the defendants breached their fiduciary duties to the Company's common stockholders in their capacities as officers, directors and/or controlling stockholders by approving certain of the Company's convertible preferred stock financing rounds that diluted the ownership of the Company's common stockholders, and that certain defendants allegedly aided and abetted such breaches. On October 17, 2019, after being given leave by the court to amend its complaint, the plaintiffs filed a second amended complaint that added Gutierrez Family Holdings, LLC (another entity controlled by Gutierrez) as an additional plaintiff, and pleading the case in the alternative as a derivative shareholder suit. As part of the derivative shareholder suit, Oportun Financial Corporation was added as a nominal defendant only. The second amended complaint sought unspecified monetary damages and other relief. On November 18, 2019, the Company filed a demurrer of the second amended complaint. On April 1, 2020, the Court issued an order sustaining the Company's demurrer in part, by dismissing Gutierrez Family Holdings, LLC from the case, and denying it in part. The Court subsequently ordered the parties to mediation. While the Company believes the claims in the Atinar lawsuit were without merit, the Company wanted to avoid the costs and management distraction of litigation and at mediation the parties have agreed to settle this matter. In late October, the Company executed a settlement agreement and established an $8.8 million litigation reserve. On November 17, 2020, Company paid $5.8 million related to the settlement and the parties filed a stipulation of dismissal and order to dismiss all claims. As of December 31, 2020, the Company has a remaining liability of $3.0 million within Other liabilities on the Consolidated Balance Sheets as of December 31, 2020. The income statement impact of $8.8 million was reported as part of General, administrative and other on the Consolidated Statements of Operations and Comprehensive Income for the year ended December 31, 2020. The Company indemnified the current and former directors, officers and shareholders to whom it has indemnification obligations.
On January 2, 2018, a complaint, captioned Opportune LLP v. Oportun, Inc. and Oportun, LLC, Civil Action No. 4:18-cv-00007 ("the Opportune Lawsuit") was filed by plaintiff Opportune LLP in the United States District Court for the Southern District of Texas, against the Company and its wholly-owned subsidiary, Oportun, LLC. The complaint alleged various claims for trademark infringement, unfair competition, trademark dilution and misappropriation against the Company and Oportun, LLC and called for injunctive relief requiring the Company and Oportun, LLC to cease using its marks, as well as monetary damages related to the claims. In addition, on January 2, 2018, the plaintiff initiated a cancellation proceeding, Proceeding No. 92067634, before the Trademark Trial and Appeal Board seeking to cancel certain of the Company's trademarks, ("the Cancellation Proceeding" and, together with the Opportune Lawsuit, the "Opportune Matter"). On March 5, 2018, the Trademark Trial and Appeal Board granted the Company's motion to suspend the Cancellation Proceeding pending final disposition of the Opportune Lawsuit. On April 24, 2018, the District Court granted the Company's motion to partially dismiss the complaint, dismissing the plaintiff's misappropriation claim. On February 22, 2019, the plaintiff filed an amended complaint adding an additional claim under the Anti-Cybersquatting Protection Act to the remaining claims in the original complaint. On August 30, 2019, the Company filed a motion for summary judgment on all of the plaintiff's claims. On January 22, 2020, the District Court issued its decision denying the Company's motion for summary judgment. No trial date has been set. In connection with discussions regarding settlement of the Opportune Matter, the Company has recorded a liability of $1.9 million within Other liabilities and a corresponding insurance recovery receivable of $1.0 million within Other assets on the Consolidated Balance Sheets as of December 31, 2019. The income statement impact of $0.9 million was recorded through General, administrative and other on the Consolidated Statements of Operations and Comprehensive Income for the year ended December 31, 2019. Actual results could differ from these estimates.
See Item 3. Legal Proceedings for additional information regarding legal proceedings in which the Company is involved.
16. Subsequent Events
On February 5, 2021, the Company entered into a Receivables Retention Facility Agreement (the “Retention Facility Agreement”), an Amended and Restated Credit Card Program and Servicing Agreement (the “Amended Program Agreement”) and other related documents (the Retention Facility Agreement, the Amended Program Agreement and the related documents, collectively referred to as the "Retention Facility") with WebBank, a Utah-chartered industrial bank ("WebBank"), providing the Company with additional funding to expand its credit card product. Certain capitalized terms not defined in this section of the report are used with the meanings ascribed to them in the Retention Facility.
Under the Retention Facility Agreement, WebBank will originate, fund and retain credit card receivables up to $25 million. The Company will purchase any excess receivables originated above the $25 million amount, in addition to certain ineligible receivables. The Retention Facility has a term of two years, commencing on February 9, 2021. The Amended Program Agreement sets forth certain marketing, processing and accounting processing services that the Company shall provide to WebBank in connection with its credit card program. WebBank will pay Oportun a servicing fee of 5% to service the accounts and certain excess collections on a monthly basis.
In connection with the Retention Facility, the Company has made certain customary representations and warranties and is required to comply with various covenants, reporting requirements and other customary requirements for similar facilities. The Retention Facility contains customary events of default.
On February 18, 2021, the Company committed to and announced a plan to close 136 retail locations and implement a workforce reduction of certain employees who manage and operate the retail locations.
The Company currently expects to incur one-time, pre-tax charges and costs associated with the optimization of its retail channel, including acceleration of rent expense related to retail store lease right-of-use assets, acceleration of the depreciation expense related to leasehold improvements and other fixed assets, employee severance payments and associated costs, and contract termination and store closing expenses. In the first quarter, the Company estimates that it will incur charges of $5 to $6 million in the aggregate associated with these store closures and anticipates incurring additional charges of $5 to $6 million in the aggregate throughout the remainder of 2021. These estimated costs and charges are preliminary and may vary materially based on various factors, including negotiations with third parties, and changes in management’s assumptions and projections.
On February 19, 2021, the Company’s wholly-owned subsidiary, Oportun Funding VIII, LLC, the issuer under the 2018-A asset-backed securitization transaction, provided notice to the trustee that they had elected to redeem all $200.0 million of outstanding 2018-A Notes on March 8, 2021 and satisfy and discharge Oportun Funding VIII, LLC’s obligations under the 2018-A Notes and the indenture.
17. Selected Quarterly Financial Data (Unaudited)
As a “Smaller Reporting Company” as defined by Item 10 of Regulation S-K, the Company is not required to provide this information.

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ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
None.

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ITEM 9A. CONTROLS AND PROCEDURES
Item 9A. Controls and Procedures
Evaluation of Disclosure Controls and Procedures
We maintain disclosure controls and procedures designed to provide reasonable assurance that information we are required to disclose in reports that we file or submit under the Exchange Act is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure and that such information is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms.
As of December 31, 2020, we carried out an evaluation of the effectiveness of our disclosure controls and procedures, as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act. This evaluation was conducted under the supervision of, and with the participation of our management, including our Chief Executive Officer and our Chief Financial Officer. Management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives and management necessarily applies its judgment in evaluating the cost-benefit relationship of possible controls and procedures. Based on our evaluation, our Chief Executive Officer and our Chief Financial Officer concluded that, as of December 31, 2020 our disclosure controls and procedures were effective to provide the reasonable assurance described above.
Management's Report on Internal Control Over Financial Reporting
Management is responsible for establishing and maintaining adequate internal control over financial reporting, as defined in Rule 13a-15(f) under the Exchange Act. Management has assessed the effectiveness of our internal control over financial reporting as of December 31, 2020 based on the criteria established in "Internal Control-Integrated Framework" (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission ("COSO"). As a result of this assessment, management concluded that, as of December 31, 2020, our internal control over financial reporting was effective in providing reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with GAAP.
Our independent registered public accounting firm, Deloitte & Touche LLP, has audited the consolidated financial statements included in this Annual Report on Form 10-K and, as part of their audit, has issued an audit report, included herein, on the effectiveness of our internal control over financial reporting. Their report is set forth below.
Changes in Internal Control over Financial Reporting
There were no changes in our internal control over financial reporting identified in connection with the evaluation required by Rule 13a-15(d) and 15d-15(d) of Exchange Act that occurred during the during the quarter ended December 31, 2020 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
Inherent Limitations on Effectiveness of Controls
Our management, including our Chief Executive Officer and Chief Financial Officer, does not expect that our disclosure controls and procedures or our internal controls over financial reporting will prevent all errors and all fraud. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Our disclosure controls and procedures and our internal controls over financial reporting have been designed to provide reasonable assurance of achieving their objectives. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, have been detected. These inherent limitations include the realities that judgments in decision making can be faulty, and that breakdowns can occur because of a simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people or by management override of the controls. The design of any system of controls also is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions; over time, controls may become inadequate because of changes in conditions, or the degree of compliance with policies or procedures may deteriorate. Because of the inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected.
Report of Independent Registered Public Accounting Firm
To the stockholders and the Board of Directors of Oportun Financial Corporation
Opinion on Internal Control over Financial Reporting
We have audited the internal control over financial reporting of Oportun Financial Corporation and subsidiaries (the “Company”) as of December 31, 2020, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). In our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2020, based on criteria established in Internal Control - Integrated Framework (2013) issued by COSO.
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the related consolidated financial statements as of and for the year end December 31, 2020, of the Company and our report dated February 22, 2021, expressed an unqualified opinion on those financial statements.
Basis for Opinion
The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
Definition and Limitations of Internal Control over Financial Reporting
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
/s/ Deloitte & Touche LLP
San Francisco, CA
February 23, 2021

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ITEM 9B. OTHER INFORMATION
Item 9B. Other Information
None.
PART III

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ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
Item 10. Directors, Executive Officers and Corporate Governance
The information required by Item 10 with respect to executive officers is incorporated by reference to our Company’s definitive proxy statement for the 2020 Annual Meeting of Shareholders, which will be filed with the SEC pursuant to Regulation 14A within 120 days of the Company’s fiscal year-ended December 31, 2020 (the "Proxy Statement").
Information required by Item 10 for matters other than executive officers is incorporated by reference to the Proxy Statement.
Code of Business Conduct.
Our Board of Directors adopted a Code of Business Conduct and Ethics that applies to all of our employees, officers, including our principal executive officer and principal financial and accounting officer, or persons performing similar functions and agents and representatives, including directors and consultants. The full text of our Code of Business Conduct and Ethics is posted on our website at www.oportun.com. We intend to disclose future amendments to certain provisions of our Code of Business Conduct and Ethics, or waivers of such provisions applicable to any principal executive officer and principal financial and accounting officer, or persons performing similar functions, and our directors, on our website identified above.

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ITEM 11. EXECUTIVE COMPENSATION
Item 11. Executive Compensation
The information required by Item 11 is incorporated by reference to the information presented in the Proxy Statement.

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ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholders Matters
The information required by Item 12 is incorporated by reference to the information presented in the Proxy Statement.

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ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Item 13. Certain Relationships and Related Transactions, and Director Independence
The information required by Item 13 is incorporated by reference to the information presented in the Proxy Statement.

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ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES
Item 14. Principal Accounting Fees and Services
The information required by Item 14 is incorporated by reference to the information presented in the Proxy Statement.
PART IV

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ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES
Item 15. Exhibits and Financial Statement Schedules
(a) (1) The following consolidated financial statements of Oportun, Inc. and its subsidiaries are included in PART II - Item 8:
Consolidated Balance Sheets, December 31, 2020 and 2019
Consolidated Statements of Operations and Comprehensive Income, years ended December 31, 2020 and 2019
Consolidated Statements of Changes in Stockholders' Equity, years ended December 31, 2020 and 2019
Consolidated Statements of Cash Flow, years ended December 31, 2020 and 2019
Notes to the Consolidated Financial Statements
(2) Financial Statement Schedules:
All other schedules have been omitted because they are either not required or inapplicable.
(3) Exhibits:
Exhibits are listed in the Exhibit Index below.