Enhanced Forecasting And Critical Growth Set To Propel Future Revenue And Net Income

Key Takeaways

• Enhanced forecasting and disciplined underwriting amidst economic volatility hint at improved loan performance, net margins, and ultimately net income.
  
• Strategic investments in technology and expansion of the dealer network are poised to drive operational efficiency, customer acquisition, and market share growth.
  
• Credit Acceptance's financial struggles indicated by underperforming loans and adjustments underline risks to future revenue and profitability amid volatile economic conditions.

Catalysts

Engages in the provision of financing programs, and related products and services in the United States.

• Incorporating enhanced forecasting methodologies in response to the underperformance of 2022 and the adjustment to the 2023 and 2024 vintages suggest a more accurate reflection of expected loan performance, positively impacting loan loss provisions and ultimately net income.
  
• Despite previous underperformance, strong growth in loan unit and dollar volume indicates an increase in market demand and penetration, likely driving future revenue growth.
  
• Maintaining disciplined underwriting standards during economically volatile times positions the company to capitalize on more favorable market conditions, hinting at improved loan quality and potentially higher net margins.
  
• Investments in technology and new go-to-market strategies are expected to enhance operational efficiencies and customer acquisition, contributing to lower operating costs and increased earnings.
  
• Expanding the dealer network and reaching a record number of active dealers suggests broader market coverage and increased loan originations, likely boosting future revenues and market share.

Assumptions

• Analysts are assuming Credit Acceptance's revenue will grow by 85.8% annually over the next 3 years.
• Analysts assume that profit margins will shrink from 22.3% today to 20.6% in 3 years time.
• Analysts expect earnings to reach $1.1 billion (and earnings per share of $86.3) by about October 2027, up from $181.6 million today. The analysts are largely in agreement about this estimate.
• In order for the above numbers to justify the analysts price target, the company would need to trade at a PE ratio of 6.4x on those 2027 earnings, down from 30.2x today. This future PE is lower than the current PE for the US Consumer Finance industry at 10.4x.
• Analysts expect the number of shares outstanding to grow by 0.94% per year for the next 3 years.
• To value all of this in today's dollars, we will use a discount rate of 8.66%, as per the Simply Wall St company report.

Risks

• The company's 2022 and 2023 loan vintages are underperforming expectations, necessitating a significant $147 million adjustment to forecasted net cash flows, indicating potential risks to future revenues and profitability.
  
• Credit Acceptance's forecasting models, historically reliable, have struggled with accuracy in volatile conditions influenced by the pandemic, federal stimulus, and supply chain disruptions, suggesting potential for further unexpected adjustments that could affect net margins.
  
• Although the company sees substantial economic profit per share in the future, ongoing volatile economic and competitive conditions could unpredictably impact loan performance and, consequently, earnings.
  
• The company's adaptation to newer forecasting methodologies for loan default and recovery rates, based on recent underperformance trends, introduces uncertainty around the accuracy of these predictions, potentially risking future earnings if these forecasts prove overly optimistic.
  
• Despite an increase in loan unit and dollar volume growth, and a record high loan portfolio, the aggressive growth strategy amidst recent loan performance issues and adjustments raises concerns about the quality of new originations and their impact on future profitability.

Valuation

• The analysts have a consensus price target of $449.67 for Credit Acceptance based on their expectations of its future earnings growth, profit margins and other risk factors. However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of $500.0, and the most bearish reporting a price target of just $400.0.
• In order for you to agree with the analyst's consensus, you'd need to believe that by 2027, revenues will be $5.2 billion, earnings will come to $1.1 billion, and it would be trading on a PE ratio of 6.4x, assuming you use a discount rate of 8.7%.
• Given the current share price of $452.44, the analyst's price target of $449.67 is 0.6% lower. The relatively low difference between the current share price and the analyst consensus price target indicates that they believe on average, the company is fairly priced.
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.