I never wrote about this teased pitch from Porter & Co. last year, but they continue to promote it as a “special report” in selling subscriptions to his Big Secret on Wall Street service (usually offered at $1,000/yr… Porter & Co. is apparently going to be absorbed into Stansberry Research again, now that Porter Stansberry has taken back control of his old company, but he will continue to be the editor of that letter), so we should solve this teaser and get you a few quick answers now that we have a free moment.

The stock was introduced by one of Porter’s weekly articles over a year ago, in July of 2022, and the piece was mostly another essay following his long-running “End of America” theme (moral and economic collapse in the US, led by the weakness in the dollar which widens the wealth gap, following patterns of failed currencies and governments past), but his pick was teased as a way to profit from the poor — not least, I’m sure, because that sounds controversial and a little mean, or at least distasteful, and Porter knows that being controversial and bearing the libertarian standard flag is part of his brand.

Here’s how the “Goldman Sachs of White Trash” report is hinted at these days:

“This is one of my most controversial reports ever.

“It reveals the subprime auto lender that could surge in value as the coming economic chaos plunges millions of hard-working Americans into financial uncertainty.

“Owning this company is not going to endear you to progressives… but it will make you a potential fortune if my analysis is proven correct. All the details you need to get involved are included inside The Goldman Sachs of White Trash.”

You can check out Porter’s original 2022 lead-in article here if you like, it’s not really about the company (you have to get behind the paywall for that part), but the article also includes a secondary clue… in the form of this image that Porter refers to as the “Featured Company’s Lending Team”:

Which is enough to provide us with an answer, actually… there are a bunch of subprime auto lenders in the country, and some publicly traded companies for whom subprime auto lending has been a big chunk of their business, but that photo confirms that Porter has been recommending probably the largest pure-play company in this space, Credit Acceptance Corp (CACC), for about 15 months.

How has it done so far? Well, since Porter’s first recommendation/tease of this idea on July 29, 2022, it’s been a little rough. Things have been bad for most companies in the lending business, to be fair, but CACC has lost about 30% of its value — similar to the performance of the big US regional banks during that time, though the downturn was not as abrupt as the bank stock drop caused by the collapse of Silicon Valley Bank and a couple of its near-peers early this year. This is what that looks like in chart form — the S&P 500 is in orange, for context, regional banks in blue, and CACC in purple:

What’s the challenge? Big picture, I expect it’s mostly that although subprime auto lending is very profitable, including both high loan fees and often-required extended warranties (that can mostly be sold to reinsurers, meaning it’s probably essentially a “free profit” commission that CACC earns), and the promise, at least theoretically, that all of these loans have collateral — any defaulted loan can be “fixed” by repossessing the car.

It’s maybe not such a great business when the overextended customers really do start defaulting at the same time that the values of used cars are falling from the ludicrous and historic peak we saw during the pandemic, since I would assume that there are probably a fair number of “underwater” auto loans right now, where the outstanding loan balance is greater than the value of the car… but there is, at least, that promise of a real collateral asset under the loan, so the loss on a bad loan should be manageable. Repossessing a car that you can’t resell for more than is owed is a tough business, whether or not you find it distasteful, but it can certainly be profitable. Or, at least, less unprofitable than making unsecured loans to bad borrowers.

Here’s the lead-in to where Porter cut off his free article and started the presentation of this “Goldman Sachs of White Trash” pitch last year:

“What should we do about the poor? We suggest taking a cue from philosopher Ayn Rand, who famously advised her followers: ‘Don’t be one of them.’

“That why in this issue of The Big Secret on Wall Street we recommend investing in a business that’s found a nearly fool proof way to profit on the growth of poverty in America.

“It’s a trend that’s inevitable: more and more of the middle class will slip into the working poor over the next five years…

“And when they do, we will make a lot of money.

“Isn’t profiting off the poor immoral? Mmn, well. It’s economics.”

So… what’s up with Credit Acceptance Corp (CACC) these days? Earnings have been falling this year, which you could probably guess from that falling stock price on the chart I shared earlier, but they’re still very profitable. They reported on October 30, and were generally a little bit below the average estimates — GAAP earnings per share at $5.43 was about 5% below expectations, and revenue was about 2% below forecasts. Adjusted earnings, no surprise, were much better, about $10.70, and beat expectations.

They “beat” earnings estimates pretty handily last quarter, and the stock fell after that, too.

So the big challenge has been that the higher-rate environment has pinched profits, revenue is still growing fairly steadily but earnings are dropping roughly 20% this year from 2022 levels… and the current guess from analysts is that the earnings will essentially be flat for the next couple years, at $40-41 per share (adjusted). Which would mean that this is a no-growth company trading at about 10-11X adjusted earnings. There’s a lot of that going around these days in the industrial world, where valuations are trying to reset as people reimagine future growth trajectories, but in the banking and lending business that’s actually a premium valuation right now.

So analysts are not uniformly enthused, here’s the Briefing.com summary of the more cautious note from TD Cowen:

TD Cowen initiated coverage of Credit Acceptance (CACC) with an Underperform rating and $360 price target. The firm notes the stock’s valuation is at a significant premium to Ally Financial (ALLY) and other financial companies, but its earnings are expected to be more pressured over the coming year. The firm added that competition is moderating, but regulatory pressures remain “very significant” with CFPB lawsuit and subpoenas from multiple states.

What stands out as positive for CACC? They don’t pay a dividend, but they do buy back a TON of stock — they have bought back half of the shares of the company over the past decade, which is the primary factor that has kept earnings per share growth growing — but still, surprisingly enough, net income grew about 10% per year over the past decade, and GAAP earnings per share also grew only about 10%, despite the dramatic reduction in the share count. What has grown much more dramatically are the adjusted earnings per share — they weren’t reporting any adjustments to their earnings back in 2013, but that changed midway through the decade for a variety of reasons, it looks like some of the big impacts were the 2016 tax cuts and the pandemic shifts in 2020, but I haven’t looked back to track all the adjustments or what changed the investor story. I remain a little nonplussed by the fact that the net income over a decade compounded at 10% per year, the share count was cut in half, and yet GAAP net income per share also only grew at 10% per year. Something in that math doesn’t work, and it would probably take a lot more research into what the company did over that decade for me to understand why.

The Porter & Co. folks remain enthusiastic about the “Goldman Sachs of White Trash” idea, at least as of earlier this year — they posted an update on the story a few months ago as auto lending rates and repossessions were picking up, and the still tease it “The One Subprime Lender That Will Beat the Auto Bust.” Here’s a little excerpt from that update:

“… this company – which we’ve jokingly dubbed “the Goldman Sachs of White Trash” – is no ordinary lender. Its unique business model and risk management process is built to survive – and thrive – in even the most difficult markets.

“Unlike traditional auto lenders, it prices loans with an exceptionally high margin of safety. It also transfers a substantial portion of the remaining risk to the auto dealer it partners with to make each loan. This has allowed it to consistently grow profits each and every year for the past two decades – including during the 2007-2009 crisis, when most other lenders suffered massive losses or were wiped out completely.”

Is Porter right that this company’s strength will let it take share and profit form the auto loan crash that he sees coming? I dunno, maybe, you’d probably have to dig into the story quite a bit more to be confident that they’re exceptional, though it wouldn’t be surprising if they’re a lot better than the average subprime auto lender, just because that’s really all they do and they have survived for decades in a wildly volatile industry.

What’s likely to happen for the stock? During the last financial crisis and big interest-rate shift, from 2006-2008 or so, CACC also saw flat-to-declining earnings for a few years, so maybe that provides some backdrop for what might happen next time, since Porter thinks the market will crash ~50% or so in a major reset, probably next year. Back then, the stock traded down to a low of about 5X trailing earnings during the worst of the crisis. If that’s the likely downside during another market-wide collapse and/or disappointing earnings from CACC over the next year or two, then that would probably mean a potential low of something like $200, roughly a 50% downside risk.

If we’re not about to have a dramatic crash, and the earnings normalize and go back to growing after whatever reset we’re in the middle of right now, maybe they get back to 15-17X earnings — using the adjusted earnings level of roughly $40, that would be about $640… using the GAAP earnings of more like $25-30, that would be roughly $430. At $430 today, then, it seems like there’s a reasonable path to either go up $200 or down $200, depending on how the market shakes out, and I don’t know which is more likely and don’t have any great insight to the “Goldman Sachs of White Trash” management team or strategy… so I’ll sit this one out.

I imagine there are probably some readers out there in Gumshoedom who know the subprime auto loan market much better than I do, so please feel free to chime in — see a potential rise in defaults that’s good for this lender? Expect ugly times ahead? Let us know with a comment below. Thanks for reading!