OneMain Holdings (NYSE:OMF) is the largest non-prime installment lender in the U.S. They offer financial products (credit cards, credit insurances, personal loans) to customers with limited access to traditional credit, through a leading digital footprint and national branch network rooted in local communities. OneMain has been growing at a nice pace (14.8%, 5-year average), with stable operations and steadily increasing operating cash flow over the past decade. With management’s solid growth plan and effective risk management, I see OneMain as a solid investment choice. Here are the main reasons:
- OneMain has been growing effectively in the past decade with solid revenue growth, while maintaining great profit margins.
- OneMain has been doing a great job at managing risk and keeping their risk-adjusted return high.
- Strong macro-trends of low unemployment and high savings of Americans will serve their growth trajectory well.
Strong Growth Trajectory
OneMain has been actively growing this past decade, and their revenue has been steadily rising. In the last 5 years, average revenue growth has been 14.8%, and operating cash flow grew from $1.3 B in 2017 to $2.2B in the last twelve months. This growth trajectory appears robust as they are actively introducing new products.
Late last year, they successfully launched BrightWay and BrightWay Plus credit cards. They are still in an early phase of distributing the product and testing the results against their three main criteria (take-up rates, utilization, and credit performance). So far, management is very pleased with the strong performance, and they expect to ramp up the distribution going forward. Management is expecting the card portfolio to generate between $100 to 150 million in capital by 2025.
Additionally, OneMain recently issued $600 million Social Asset Backed Security (ABS) bonds to support rural communities in the U.S. The Social ABS program was designed to provide access to responsible credit for lower and middle income customers in rural areas, and it’s part of their social project to reduce financial inequality. I do not expect the project to generate large profits immediately, but it’s a great way for OneMain to generate visibility and invest towards long term company growth.
Well Managed Risk and Solid Margins
Not only has OneMain been growing nicely, but they have been doing a good job of managing risks and maintaining high margins. The company manages risk by placing several safeguards on their products. One of these is the requirement to maintain insurance on property pledged as collateral. If a customer fails to maintain insurance, then OneMain obtains collateral protection insurance at the customer’s expense. Another safeguard is a strong central credit risk management system. The system tracks the performance of all individual branch locations, and closely monitors lending and collection activities.
Reflecting this great risk management system, OneMain has been able to maintain their delinquency and net charge-off under their target of 5.6% to 6.0%. Also, strong risk management procedures have resulted in great risk-adjusted returns and profit margins. Their net income margin of 36.74% is well above the sector median (29.09%), and their return on common equity (37.58%) is also well above the sector median (12.55%).
Favorable Macro Trends
There are a couple of favorable macro trends that will assist OneMain. The first one is the low unemployment rate. The most recent unemployment rate stands around 3.6%, which is a historic low, and the job market remains strong with more job openings than job applicants. During the last earnings call, management mentioned that strong labor demand is particularly true for OneMain’s prime demographic.
The second trend is the strong credit quality of the American people. The savings rate is higher than its pre-pandemic rate, while debt service levels are below their pre-pandemic level. The aforementioned net charge-off rate (5.58% in 1Q 2022) remains well within OneMain’s targeted range (5.6%-6.0%). These two favorable trends will benefit OneMain, helping them to achieve their strategic priorities (growth, charge-off rate, and etc).
Cappuccino Stock Rating
|Economic Moat Strength||30%||4|
|Growth Rate vs. Sector||15%||4|
|Margin of Safety||15%||5|
Economic Moat Strength (4/5)
OneMain has a well-defined economic moat and leadership position in the non-prime lending sector. Given their continued effort to expand their product lines, while simultaneously managing risk effectively, I expect them to maintain their economic moat.
Financial Strength (5/5)
With a well-managed net charge off rate under 6% and stable operating cash flow generation ($2.2 B in the last 12 months), OneMain is financially very secure. Also, the cash dividend payout ratio is very low at 15%, and cash flow payout ratio is also low at 20%. Therefore, their dividend payment is sustainable.
Growth Rate (4/5)
The 5-year average revenue growth of OneMain (14.84% per year) has been steadily above the sector median (12%). The pandemic stimulus checks negatively impacted OneMain’s revenue growth, but, as the impact from stimulus phases out, I expect their revenue growth trajectory to recover quickly.
Margin of Safety (5/5)
Various valuation metric shows that OneMain is undervalued. Their P/E ratio of 4.35x is well below the sector median (9.67x) and their historical average (11.24x). This low valuation provides a great entry point for a dividend investor. Also, their high dividend yield (9.54%) is a great bonus.
Sector Outlook (3/5)
The financial sector in general is very cyclical, and the magnitude of the high and low peaks are even larger in the non-prime market. Therefore, even though I expect the segment that OneMain serves to continue to grow in the long run, company revenue and profit will be impacted by the overall economy.
The largest factor that impacts the ability of OneMain’s customers to repay their loans is employment status. Right now, the unemployment rate is at, or close to, an all-time low. However, some CEOs and economists are predicting a recession later this year or early next year. If a recession materializes, it will negatively impact OneMain’s business and increase their net charge-off rate.
OneMain continues to expand their product lines and grow their business. Even though OneMain is doing a great job at managing their risk and growing at a responsible pace, the introduction of new products always contains inherent risks. Therefore, investors should monitor the progress of new product launches (e.g., credit card).
OneMain Holdings presents a great investment opportunity for dividend seeking investors. They have been successfully growing their business without risking the quality of their portfolio. The management team is doing a great job of expanding product lines and managing the charge off rates and profit margins. I expect this to continue in the future. A recession or hiccup during the roll-out of new products are the major downsides here. In the long run, I expect OneMain’s valuation to recover back to their historic average (30-40% upside), and investors can enjoy a high dividend yield in the meantime (9.5%).