Santander Consumer USA Holdings Inc.
Q2 2020 Earnings Call Transcript

Published: 29 Jul 2020

[Operator:]

Good morning, ladies and gentlemen and welcome to the Santander Consumer USA Holdings Second Quarter 2020 Earnings Conference Call. At this time, all parties have been placed into listen-only mode. Following today's presentation, the floor will be opened for your questions. [Operator Instructions] Today's call is being recorded. At this time, it's my pleasure to introduce your host, Evan Black, Head of Investor Relations. Evan, the floor is yours.

[Evan Black:]

Thanks, Keith. Thanks everyone for joining and good morning. On the call today we have Mahesh Aditya, our President and CEO; and Fahmi Karam our CFO. Certain statements made on today's call may be forward-looking. Please refer to our public SEC filings and our risk factors with respect to these statements. We'll also reference certain non-GAAP financial measures that we believe will be useful to our investors. And a reconciliation of those measures to U.S. GAAP is included in the 8-K issued today July 29, 2020. And with that, I'll turn the call over to our CEO. Mahesh?

[Mahesh Aditya:]

Thank you, Evan, and good morning, everybody, and thanks for joining us to review our results for this quarter. Over the last four months, we've experienced the impact of COVID-19 and the unprecedented disruption to people's lives and the economy caused by this global pandemic. In these difficult times, we remain committed to serving our shareholders and supporting our employees communities and customers. Santander Consumer has helped borrowers by offering loan and lease payment deferrals where needed and suspending repossession for nearly three months. During the quarter, Santander Consumer USA Foundation made a $1.3 million in donation to 18 non-profit organizations that are providing services aimed at helping to ease the impact of the COVID-19 pandemic on our communities. These organizations are helping the homeless, the hungry children and families in underserved communities and other vulnerable populations. I would also like to highlight Santander Consumer’s commitment to do its part to end systemic racism. We have joined Santander U.S. in making a multi-year multimillion-dollar financial commitment to address racial equity and social justice in America. Santander Consumer’s commitment includes $100,000 donation to the Equal Justice Initiative and $500,000 over the next few years for leadership training and racial and social equality initiative. We are reorienting the culture of our organization to ensure that all employees know they are valued and have the opportunity to enjoy rewarding careers. Unconscious bias training, mentorship and affirmatively recruiting qualified diverse pools of candidates are a few of the concrete steps we are taking to make certain that we have more people of color among our senior leadership and foster an environment that respects and values diversity. The national conversation taking place is a call to action. In this important moment we must implement meaningful sustained change and maintaining status quo is not an option. Before I turn the presentation over to Fahmi, I'd like to touch on a few highlights from the quarter. On slide three, you will see some of the important measures we've taken to support our employees, our customers, our dealers and the communities in which we operate during the COVID-19 crisis. We have enacted programs on all fronts to protect our customers and employees. Our workforce continues to adhere to social distancing protocols, with nearly all employees continue to work from home since March. We have been extremely responsive in managing customer requests for payment relief, primarily in the form of loan and lease deferrals. Through June 30, we completed 730,000 loan extensions and 70,000 lease deferrals. The performance of these loans has been encouraging at 60% of the accounts that had an extension expiring in June made a payment. The pace of deferrals has also dropped significantly throughout the quarter, with June dropping more than 55% from the peak in April, a trend that's continued in July. Let's turn to slide four to discuss Q2 performance. Our performance this quarter was a continuation of the themes we shared last quarter, as most of the country shutdown in April and as shelter-in-place orders were lifted later in the quarter, we saw improvement in some key trends. Our results are primarily driven by the outlook of the economy and not necessarily the actual performance of the portfolio. Our net loss this quarter totaled $97 million, or $0.30 per share on a diluted basis. We booked $400 million in additional loan loss reserves related to economic factors, primarily associated with the impact of COVID-19. We ended the quarter with an allowance to loan ratio of 19.2% up from 17.8% at the end of the last quarter. The allowance calculation considers a variety of factors including existing loan performance and the impact of the outlook of economic indicators such as unemployment and used car prices on future loan losses. Our forecast is derived using a combination of macroeconomic scenarios which best reflect our view of the economy going forward. The allowance was influenced by the high rate of deferments and resulting lower delinquencies, as well as charge-offs -- low charge-offs and the growth in TDR balances. Given the extraordinary situation and the high level of uncertainty, we have used qualitative factors and management's best judgment to determine the appropriate allowance level. The quarter was also marked by higher lease depreciation expenses, driven by our view of residual values in the future and lower gross losses due to the suspension of repossessions and the forbearance programs we put in place. Overall, the quality of bookings in the quarter improved and we are carefully monitoring the credit quality in both our sub-prime or core book and Chrysler capital loans and leases. The outlook for the economy remains extremely uncertain. The potential for a second wave of COVID-19 infection, to continued elevated unemployment and the possibility of another government stimulus has impacted our view on the potential pace of the recovery. While we saw some positive momentum over the last part of the quarter, there remains considerable uncertainty and we are taking a cautious approach in our decision-making including our reserves. We are certainly not back to a steady state situation where trends can be firmly established and an accurate forecast development. Total auto originations was $7.8 billion during the quarter, down 7% versus the second quarter of last year. Applications and volumes have picked since April with June and July originations outperformed year-over-year comparisons in many segments. Our dealer partners have shown incredible resiliency and creativity through the pandemic in order to continue to sell cars and meet consumer demand. SC's dedicated sales team has worked closely with our dealers to ensure uninterrupted service levels. Non-prime loan volumes decreased year-over-year and we continue to be disciplined across our deeper credit segments given the pandemic uncertainty. Prime loan on volumes increased significantly driven by the incentive program launched with FCA and the $1.7 billion in originations through our program with Santander Bank. Lease volume decreased as geographies where leases are prevalent in the Northeast and Midwest were heavily impacted by the pandemic. Although, volume is down on the prior year and the mix has changed to support our partners at FCA we are pleased with the quality of Q2 originations. Moving to credit performance. We continue to evaluate the impact of the pandemic and the near and long-term effects on our customers. Our second quarter performance improved versus the prior year quarter due to consumer release – due to the consumer relief, we provided in response to COVID-19 and federal stimulus package. Both the gross and net charge-off ratios improved as well as early stage and late-stage delinquency ratios. In June, the auction market for used cars reached record levels as pent-up demand from dealers supported valuations. While many of our credit metrics are at historically low levels, it's not due to an improving credit environment. The reason is primarily the forbearance programs we offer which affected – which have the affect of muting delinquencies and charge-offs. We expect to continue to offer hardship deferral in -- with – the federal interagency guidelines. During the quarter SC demonstrated continuing access to liquidity, executing two securitizations. SC remains the benchmark issuer in the space and we are seeing strong credit spreads relative to benchmarking. We remained well capitalized ending the quarter with a CET1 of more than 13%. We have a strong balance sheet which will allow us to manage through the upcoming challenges. This is clearly not a financial markets disruption as is evidenced by a very diversified balance sheet from a funding standpoint. Besides access to deep and functioning ABS market, we have $12 billion of third-party revolving warehouse line commitments, of which only 66% is – of which 66% was unused. We have continued support from the Santander Group, including $3 billion one-use capacity through our SHUSA facilities, as well as a new unsecured loan of $2 billion from Bank of Santander. During the quarter, the Federal Reserve provided the results of this year's stress test to our parent company SHUSA. SHUSA's results were very positive ranking it in the top quartile among participating banks for stress capital ratio. However, the Federal Reserve suspended all share repurchases and its user capital dividends, which will prohibit SC from paying a dividend in the third quarter. The interim guidance is set to expire in the fourth quarter. However, it will be extended or revised based on the Fed's view of market conditions. In addition, during the quarter, we reached a voluntary agreement with the Attorney General of 33 states and the District of Columbia stemming from an investigation on our underwriting practices, which commenced in 2014. The settlement resolves a legacy underwriting issue that dates back to 2010, and is another key milestone in addressing issues related to that time period. We are pleased to put this matter behind us. SC was fully reserved for this matter and no additional charges will be taken in connection with the settlement. SC is a responsible lender in a highly regulated environment. We operate under large financial institution standards, which include rigorous risk, compliance and controls around lending and loan servicing. Over the last several years, we've strengthened our risk management across the board improving our policies and procedures to identify and prevent dealer misconduct and tightening standards to ensure affordability. The progress we have made as a team over the past few years has put our company in a significantly better shape managed through these challenging times. We have developed a deep bench of experts from our credit – from credit and operations to risk management and pricing, which has helped improve our operational efficiency and overall credit risk of the portfolio. Several months into this crisis, we're beginning to see some signs of improvement across the broader economy. The courageous medical professionals and frontline workers, who helped take care of the sick during these challenges times continue to inspire us. It's also really motivating to witness our employees' tireless efforts – work to help our customers and manage the operations all the while working from home. To summarize, we have responded to our customers' needs to reduce their burden in these difficult times providing payment and repossession deferrals, accepted the challenge to do our part to end systemic racism, committing to take action to ensure our company is in a place where all employees are valued, feel safe and have an opportunity to succeed and sustain the core of our business notwithstanding the unprecedented economic hurdles we faced. Our shareholders, customers and employees are our top priority as we endeavor to be a great place to work providing the highest levels of service and achieve enduring profitability. I'm very proud of our performance and the teamwork displayed by our employees over the last several months. It's not been easy, but we handled it well and our business is positioned for long-term success. With that I'll turn the call over to Fahmi for a more detailed review of our results. Fahmi over to you.

[Fahmi Karam:]

Thanks Mahesh and good morning everyone. Turning to slide five for key economic indicators that influence our performance. There has been some recent improvement in consumer confidence, unemployment, and GDP. However, each metric is still under significant pressure due to the pandemic. As COVID-19 cases continue to increase in some of our nation's most popular states, it is uncertain how long this pressure will continue. The improvement seen in recent months is partly due to the unprecedented government stimulus to the CARES Act and the reopening of most states. If cases continue to rise causing a slowdown in re-openings or further closures and if stimulus expires without another packet of governmental aid, these metrics could further decline. These key variables impact our business fundamentals and affect the outlook incorporated in our allowance for credit losses. Specifically the key business drivers include unemployment levels used car prices, HPI, and the resulting GDP growth or contraction. Along of those lines on slide six there are a few key factors that influence our originations and credit performance. New and used vehicle sales continue to remain under pressure, but have improved from trough levels seen in April. Industry sources are forecasting new vehicle sales to be down significantly from pre-COVID expectations. Current industry estimates are just above 13 million units for 2020, down from the trend of approximately 17 million units over the past several years. Used vehicle pricing although deteriorated in April as many dealerships closed and demand slowed because of shelter-in-place orders. However, May and June pricing rebounded significantly leading to year-over-year gains in both the Manheim and J.D. Power indices in reaching historical highs. Several factors are impacting used car prices including among others supply of new vehicles at their dealership, a buildup of dealer demand while auctions were closed, consumer demand for more affordable used cars, and interest rates being at low levels helping consumers obtain financing at reasonable levels. We will review our specific recovery rates in a few pages, but we are pleased with the results in June and that momentum has continued into July. Turning to slide seven for quarterly originations. We also added some information this quarter with monthly origination trends which I'll cover in a moment. Total second quarter volume decreased 7% versus Q2 2019. Core originations decreased 12%. Total Chrysler Capital Loan originations increased 36%. Chrysler prime volume increased 80%, driven by Chrysler capital exclusive offers through the FCA partnership. Chrysler non-prime volume decreased 23% year-over-year and lease originations decreased 61% versus the second quarter of last year. Non-prime volume across our core and Chrysler channels decreased due to lower overall auto sales early in the quarter and a more conservative underwriting approach that we took in the higher risk credit segments. Prime volume is supported by FDA's incentive programs which are generally exclusive to Chrysler Capital. As incentivized programs are driving consumer demand in the new vehicle space, we expect our prime originations and our FCA penetration rates to continue to be strong in the third quarter. Lease volumes decreased year-over-year driven by a few factors. FCA's lease mix as a percentage of their total sales decreased during the quarter and as we've mentioned lease is also concentrated in certain regions of the U.S. that were heavily impacted by the virus and were under shelter-in-place orders early on including the Northeast, Midwest, and California. Also extended term retail offers at 0% for 72 or 84 months shifted some lease deals into loans. And lastly our share of FCA leases was under some pressure due to competition throughout the quarter. At the end of June and into July, the FCA mix between retail and lease has normalized and our share has returned to levels in line with our expectations. In addition to the macro backdrop, volume will be driven by the level of competition during and coming out of the crisis. We built our underwriting standards and our pricing strategy to weather a downturn protect the balance sheet while remaining competitive and to serve as a reliable funding source for our dealers. We believe our non-prime expertise gives us a competitive advantage during these challenging times. We will remain disciplined on achieving the appropriate risk-adjusted returns while continuing to serve our customers and our dealers. On to slide eight, we detailed the breakdown of 2020 monthly originations versus 2019 by channel. Core loan originations reached their lowest level in April, down 44% versus 2019 that have improved the rest of the quarter with volume up more than 20% in June. This trend has continued in July and will be dependent on consumer demand for used vehicles the rest of the year. Our share in non-prime grew through the pandemic as some competitors stepped away from the market. Some of that competition is coming back, but we are pleased with the last couple of months of originations as we have been able to increase share and add margin, while tightening our underwriting standards. Chrysler Capital non-prime loans have been down throughout 2020, but also have recovered in June approaching 2019 volumes. The channel has not seen the same level of recovery as our core channel as the mix between new and used vehicles is different. Our Chrysler near-prime originations are typically concentrated in new vehicles and as we've discussed, consumers in the recession typically seek lower-priced used vehicles. Additionally, in the current environment, new vehicle demand is driven by OEM incentives which are generally available for prime credit. Chrysler Capital time loans have increased each month year-to-date, peaking in April and still quite strong in June as a result of continued FCA incentives. Volumes in the prime segment will depend on the continued exclusive incentive offers by Chrysler Capital through FCA. Chrysler lease started strong in 2020 with year-over-year gains in January and February the lease continues to remain under pressure as we previously mentioned. Moving on to page 9. U.S. auto manufacturers including FCA continue to experience downward pressure in new vehicle sales due to COVID-19. However, we finished the quarter with a 37% penetration rate as we continue to partner with FCA to deliver solutions to our customers. The driver of the penetration rate increased year-over-year are the programs we launched with FCA and our Santander Bank originations program. Our penetration rate will likely remain at these levels as we expect our lease share to improve and retail incentivized offers to continue to drive consumer demand in the near term. Turning to slide 10. During the quarter, we added $1.7 billion in originations to the service for others platform via our agreement with Santander Bank. Due to the significant growth in prime loan volume this year, we also completed an off-balance sheet securitization during the quarter selling approximately $500 million in prime loans to investors in order to optimize our balance sheet. We retain servicing rights and charge a fee on both the SBNA and off-balance sheet assets. The service for others platform generated $19 million in servicing fee income this quarter. In addition to those servicing fees, $7 million of SBNA origination fees are in the fees, commissions and other line items. Turning to slide 11. At the end of the second quarter, we had $17.9 billion in outstanding public ABS transactions, $9.6 billion in private term financings, $3.9 billion utilized in our revolving facilities and $9.2 billion funding from Santander. Total unutilized capacity is approximately $11 billion at 66% of our third-party revolving capacity remains unused. $3 billion in commitments from Santander also remain fully available. In the quarter we paid $3.5 billion in term unsecured funding from Santander including a $2 billion term loan to help support our prime retained originations. We continue to demonstrate our strength and access to wholesale funding, which remains fundamental to SC's success and critical to support our customers during times of uncertainty and market volatility as a result of the pandemic. SC is one of the first issuers to access the public ABS markets post COVID and our post -- positive momentum has continued since having issued over $3 billion since April through three public transactions. Each of these transactions were met with significant investor demand allowing for issuance levels to normalize and our overall cost of funds to improve even compared to the beginning of the year. As I mentioned earlier, we also executed an off-balance sheet securitization during the quarter, deconsolidating approximately $500 million in prime loans. Due to the continued growth in our prime loan originations, we are focused on optimizing SC's balance sheet through our flow program with Santander Bank and off-balance sheet opportunities. Subsequent to quarter end, we also took a $1.4 billion upsized Estar [ph] transaction which had nearly 11 billion of investor orders, making it one of the largest auto ABS order books in recent history. Due to that strong investor feedback, the transaction price was a weighted average cost of funds at the lowest level for an SR transaction since 2013. Our liquidity and our capital levels which I will touch on later position us to weather the upcoming recession and capitalize on organic and inorganic opportunities that may arise as the economy improves and the pandemic subsides. Moving to slide 12 to review our financial performance for the quarter versus the prior year quarter. Interest on finance receivables and loans decreased 2% due to a higher mix of retained prime both from organic origination as well as the TCF portfolio acquisitions and a reserve on accrued interest due to non TDR loans with COVID-19 extensions. Net leased vehicle income decreased 45% due to increased depreciation, due to lower residual value expectation in the future. Depreciation levels are updated monthly and are dependent on our vehicle mix and estimated residual value on our entire lead book going forward. During the quarter we also had lower levels of lease terminations and sales leading to lower residual gains versus the prior year. Interest expense decreased 6%, driven by lower benchmark rates and continued successful executions across our lending platforms. Credit loss expense increased to $862 million in the quarter, up $431 million, primarily related to the build in our allowance for credit losses due to economic factors in COVID-19. Investment losses were $63 million worse year-over-year, primarily driven by a valuation reduction in the personal lending held for sale portfolio during the quarter. The valuation reduction in our personal lending portfolio due to the uncertainty in future losses due to COVID as well as our counterparty filing Chapter 11 bankruptcy. Although the business and a funding is still operating as usual and the portfolio has performed well so far, our valuation was impacted by the uncertainty related to the pandemic and the outcome of the bankruptcy process. Moving to slide 13, which covers our deferral trends since the beginning of the pandemic. Last quarter, we referenced that we granted 350,000 loan deferrals to our customers. Through the end of June that figure increased to approximately $730,000 for loans and $70,000 for leases since the beginning of the pandemic. Deferrals began to rise sharply in April at the height of the pandemic peaking in mid-May at 27% of active accounts on balance sheet. As of quarter end, we saw a significant improvement with approximately 18% of active accounts with a deferral. And that trend has continued to move lower in July and is currently less than 13%. Of the population has received the deferral since the pandemic, approximately 60% of the accounts have never received an extension in the past and approximately 70% have never been in a late-stage delinquency status. As Mahesh said, the performance of these loans has been encouraging, as 60% of the accounts that had an extension expiring in June made a payment, 20% received another extension and remaining 20% were inactive. If the accounts that have not paid continue to remain inactive, they will mature into early and late-stage delinquency buckets and eventually charge-off. As you all are well aware, loan modifications have been part of our normal and customary servicing practices for quite some time and are designed to help consumers navigate temporary financial distress. Over time we have developed the tools and expertise to execute these extensions successfully for our customers as well as for SC. As we compare the initial payment activity from these loan modifications to our normal course extensions or past natural disaster deferrals, the current customers are performing slightly better than our past experience. Payment activity is driven by government stimulus, unemployment benefits and rational consumer behavior as consumers continue to save more and pay down their liabilities. The rate of customers asking for another deferral is in line with our expectations as unemployment levels remain elevated and our strategy, which was to provide 60-day payment relief versus longer term modifications. We believe this strategy benefits the customer from a financial standpoint and provides opportunity for our servicing agents to communicate with our customers more regularly to ensure the modification is suitable for each unique situation. Continuing to slide 14 to cover delinquency and losses. Versus the prior year quarter, early stage delinquencies decreased 510 basis points and late stage delinquencies decreased 230 basis points. The RIC gross charge-off ratio of 11.1% decreased 500 basis points from Q2 last year. Our recovery rate, which includes metal and nonmetal proceeds bankruptcy and deficiency sales was 45.7% in the quarter. The net charge-off ratio of 6% decreased 40 basis points from the second quarter last year. The net charge-off rate was impacted by lower gross losses due to deferrals and inactivity and remarketing as repossessions were suspended for most of the quarter reducing auction sales. In June, recoveries came back from both a price and volume standpoint. The Manheim index hit a record high of 149.4, up 6% year-over-year. In July and looking forward to the third quarter, our expectation is that gross losses will continue to improve compared to the prior year and our recoveries will improve from the second quarter as our auction activity normalizes and values remain elevated. Turning to slide 15, we detailed monthly loss and recovery rates year-to-date versus prior year. As you can see, we started the year in a great position in both gross charge-offs and recoveries. Gross charge-offs continue to trend down during the second quarter and hit 8% in June. Recoveries were in line with 2019 and then troughed in April at 32% with a sharp rebound to pre-COVID levels in June, reaching over 62%. Combining the two, the resulting net charge-offs increased in April due to the lack of recoveries that benefited from low losses and high recovery rate in June to equal net charge-off rate of 3% for the month. In July these trends have continued, although we have seen a plateau in auction prices over the last week, albeit at historical highs. Our expectation assuming no major setbacks or state closures is that these supply demand pricing dynamics persist in the beginning of the third quarter and trend lower throughout the remainder of the year back to 2019 levels. As I mentioned previously there are many factors that can influence the price of used cars, some are headwinds and some are tailwinds. Now moving on to slide 16 to review loss figures in dollars and the walk from prior year. Net charge-offs for RICs were effectively flat year-over-year. Losses increased $119 million and $33 million due to a lower recovery rate and higher average loan balances, respectively. These were more than offset by $153 million in gross losses primarily due to COVID-19 deferrals. Turning our attention to provisions and reserves on slide 17. At the end of the second quarter, the allowance for credit losses totaled $5.9 billion, increasing $400 million from the first quarter, which represents an allowance ratio of 19.2% at the end of this quarter. In regards to the reserve walk, the allowance increased an additional $436 million due to the economic factors in the quarter, primarily as a result of the macro outlook worsening from the first quarter. The allowance decreased $36 million due to mix and lower volume. The difference between overall ratio of 19.2% versus our estimate of 17.8% from the last quarter is primarily driven by the continued deterioration in the macroeconomic outlook and not based on the performance we have observed in the second quarter. The cumulative increase in our allowance for credit losses since the end of 2019 including the day one impact is nearly $3 billion. As a reminder, our CECL methodology uses a three-year reasonable and supportable forecast period and several economic scenarios with varying degrees of potential outcomes and stress including the impact of COVID-19. The key economic variables were the largest impact to the reserve include unemployment Manheim index and HPI. Our baseline economic scenario was based on the latest consensus forecast we had available at quarter end the assumptions were a steep drop in these key variables in Q2 followed by a recovery in the second half of the year supported by reopening of the economy and the governments stimulus programs. The primary economic scenario assumed a peak of unemployment in Q2 2020 of nearly 15% followed by a rebound to 10% by the end of 2020 and a slow recovery to 8% by the fourth quarter of 2021. Our allowance does not assume any benefit from further stimulus packages the government is currently evaluating. The potential outcome of these variables remains wide and the visibility on the direction of the economy is still very limited. Going to the third quarter we will continue to monitor and track these key economic variables as well as any new stimulus programs and their impact to consumers and our portfolio. The overall allowance will depend with level of originations and asset balance the macro outlook and portfolio trends including the rate of low modifications. Moving to slide 18 to cover CECL by asset designation. On the slide, we have provided the CECL reserve broken out by TDR versus non-TDR balances. As we just reviewed our CECL methodology relies on various models and assumptions to forecast lifetime losses of the portfolio based on an economic forecast and other relevant variables. The coverage rates between TDRs and non-TDRs and the typical difference between the two classifications has changed due to the level of deferrals in the portfolio. Based on the guidance from our regulators on COVID related modifications there are a significant portion of loans that would have been classified as a TDR under normal rules that are still classified as non-TDRs. Despite the classification of the non-TDR this population of loans has a similar coverage rate as a TDR loan. As our models pick up the number of modifications as a flag for increased risk. As such the non-TDR coverage rate has increased 180 basis points from previous quarter. The TDR coverage rate has come down from the previous quarter as the mix and performance of TDRs has improved. However, coverage remained above 26%. The TDR balance in the quarter did increase approximately $400 million the first increase in TDR balance since 2017. Overall, we believe our reserve is appropriate at 19.2% given the level of uncertainty in the market. Our reserves as of the end of the second quarter represent approximately 90% of the Federal Reserve's severely adverse scenario DFAST losses using the other income category from SHUSA's most recent 2020 results. As we discussed last quarter, the reserve is heavily dependent on among other factors include the mix of our portfolio, recent portfolio trends, the growth or decline of the balance sheet and ultimately our view of the economic outlook at the end of each period. Turning to slide 19. The expense ratio for the quarter totaled 1.8% down from 2% from the prior year quarter. Our operating expenses were slightly down versus prior year quarter primarily driven by lower repossession expense offset by COVID related expenses. Finally turning to slide 20. Our capital remains robust and in excess of our internal targets. Our CET1 ratio for the quarter was 13.4% down 40 basis points versus the first quarter due to share repurchase activity and the reserve build for expected loan losses. We believe this level of capital is more than adequate to withstand a very adverse scenario and still remain above post-stress minimums. During the quarter, we repurchased nearly five million shares prior to the federal reserves announcement of an interim policy suspending share repurchases for all banks. Based on the interim policy we have suspended share repurchases until we receive approval or further guidance from the Federal Reserve. As we previously announced in a joint press release with SHUSA based on the interim Federal Reserve Board policy and SHUSA's expected average trailing four quarters of net income, SC is prohibited from paying a dividend in the third quarter of 2020. Although our stand-alone trailing income is sufficient to declare and pay dividend in the quarter, SC is consolidated into SHUSA's capital plan and therefore is subject to the inner policy that utilizes SHUSA's average trailing income to determine the cap on common stock dividends. SHUSA has requested certain exceptions to the interim policy. However, the timing and outcome of their request is uncertain. We do not currently expect to declare or pay a dividend in the third quarter of 2020 paying approval of SHUSA's exception request. As the economic backdrop and capital distribution policies revert back to normal, we are confident we will be able to maintain the momentum we have established over the last 18 months in returning capital to shareholders. Our strong capital and liquidity ratios are indicative of our balance sheet strength which will serve us well as we navigate this challenging environment. To conclude, we do see signs for optimism in the market and our current originations. However, we are also cautious of the outlook and remain vigilant in monitoring the risk that may arise. The outlook for the economy is still very uncertain and the key variables impacting our business will remain volatile in the near-term. We will remain disciplined in our approach conservative in our underwriting and continuing to be good stewards of capital. We are confident that we have the appropriate liquidity capital and resources to successfully manage the ongoing situation and assist our customers. We are committed to our long-term objective by focusing on risk-adjusted returns, servicing assets effectively, while leading capacity for opportunistic strategic initiatives. Before we begin Q&A, I would like to turn the call back over to Mahesh. Mahesh?

[Mahesh Aditya:]

Thank you Fahmi. In summary, the challenges we witness since the beginning of the pandemic have tested our relationships, our business model and the resiliency of our employees. However, we continue to push the business forward and we're hopeful for a quick recovery. We feel good about the quality of the loans and leases we booked since the pandemic. We've been able to retain and improve our market share in certain segments. And we are confident in the relationships we have with our dealers and national accounts. Our sales team has been determined in their efforts to maintain service levels for all 15,000 dealers we have across the country. Operationally, our servicing and collection functions have proven that they are adaptable and can perform at high level under severe stress. The next few quarters we fully expect an increase in delinquencies and losses as the forbearance programs and stimulus packages expire. However, we are also confident in our operational ability and capacity to serve our customers and handle a potential deterioration in credit. Underpinning our operations is a very robust balance sheet with a significant level of total loss absorbing moving capacity, including capital and reserves, which gives us confidence we will emerge from the crisis in a position of strength. With that, I'll open up the call for questions. Operator?

[Operator:]

Thank you. Hello. We will now open up the call for questions. [Operator Instructions] Thank you. Our first question is from John Hecht with Jefferies.

[John Hecht:]

Morning guys. Thanks very much for taking my questions. First one just trying to get a handle on the 19.2% allowance level. Maybe can you give us context of what your losses were say in the 2000 -- the cumu losses in the 2009 to 2011 period? And well, I guess, that's the point number one -- question number one is with context of the allowance of what -- how that compares to prep hiring losses?

[Fahmi Karam:]

Hey, John. Good morning. Thanks for the question. I think the -- to answer your first question on losses during the last crisis, we peaked out at just over 12% on, I think, really the 2008 from a net charge-off standpoint. But I want to caution you on trying to compare this situation to the financial crisis both from a macro standpoint as well as our portfolio itself. Back in 2008, we were a much deeper credit portfolio didn't have any leases. We didn't have any of the Chrysler originations or Chrysler prime originations. And we've talked a lot about some of the things we've done from a risk management perspective, our focus on risk-adjusted margins over the last several years. And some of that you've seen in our portfolio performance up to this point. So I would caution you in comparing the losses from 2008, 2009 to what we're facing today. As far as the 19.2%, I think, we did mention that we're 90% from the Fed's severely adverse scenario. We feel that it's adequate from a coverage standpoint for the losses going forward.

[John Hecht:]

Okay. That's good color.

[Mahesh Aditya:]

Yes. And the -- sorry, John, the 19.2% translates to an 8.3% annualized loss late rate if you take the weighted average life of loan. So that's in our estimate and kind of reasonable coverage rate.

[John Hecht:]

Okay. Just to be clear that 8.3% is that sort of the average over the next 18 months, 24 months? Or what you would be implying for this year?

[Mahesh Aditya:]

Yes. That's average -- well, it's the annualized loss rate taken over the life of the loan. So if we say that the average life of the loan is about 2.3 years. The 8.3% translates to the annualized version of 19.2%.

[John Hecht:]

Okay. Very helpful. And then a quick follow-up is given the mix change with underwriting changes and so forth. What should we think about yield trends all else equal over the next one to three quarters?

[Fahmi Karam:]

Yes. So the yield story and our NIM story, I think is a situation of what we've looked at over the last several quarters. And there's a couple of new things that I'll mention here in a moment. But if you go back and think about the 2019 vintage, we've talked a lot about the 2019 vintage on the non-prime side being a really strong credit quality vintage, which comes with lower yields, lower NIM, but hopefully better risk-adjusted margin. That's our belief. Also from a NIM standpoint and yield standpoint as lease becomes a bigger part of the balance sheet, it's still growing. That mix that we've talked about in the past that trend will continue. We also talked about the TCF portfolio acquisition, the Gateway portfolio acquisition that we made at the end of 2019. You're starting to see some of those impacts come in on our 2020 results. This quarter a couple of the new items that I think are worth mentioning that will continue to trend in the next few quarters is around lease expense. We've talked about lease expense really being hurt by two things. One is the overall lease liquidations in the quarter compared to lease liquidations prior year. So we liquidated 8,000 units less this year than we did in 2019, which is about an 18% drop off. So that will improve as we go forward, but that's definitely what you're seeing in Q2. Lease depreciation expense as I mentioned is based on our view, based on a couple of different forecasts of our vin-level lease portfolio and their expected residual values for that portfolio going forward. And we update that monthly. And it's usually based on a 30, 45-day lag. So what you're seeing from a depreciation expense now is forecast from April. And so I expect that to continue to improve but that will be pressure compared to the prior year. And the specifics in this quarter that I've mentioned that we did book an accrued interest reserve. That's on top of the CECL reserve around crude interest. As our delinquency improves based on the level of deferrals, we're accruing more interest. So it's prudent for us to take a reserve on that extra accrued interest. That was about 40 basis points on our RIC yield on the impact of that reserve. So depending on the level of extensions and level of deferrals going forward you can still see some of that pressure. And then prime loans, we've talked a lot about prime loans and how those pertaining prime loans from the Chrysler business. We did execute an off-balance sheet securitization trying to optimize those. We plan to do those going forward. If we're successful in selling off some of the prime assets then you'll see an uptick in our -- that's kind of the story around NIM.

[John Hecht:]

Great. That’s very helpful color. I appreciate it. Thanks, guys.

[Operator:]

We will take our next question from Betsy Graseck with Morgan Stanley.

[Betsy Graseck:]

Hi, good morning. Thanks for taking my question. I guess a couple. One just to key off of what was just being discussed. The residual value expectation that you have this quarter weak because of effectively beginning of the quarter outlook for used car prices whereas as we look into next quarter that should revert given your outlook for used car price is that a fair summary?

[Fahmi Karam:]

Betsy, good morning. I think it will improve. I think used car prices it's hard to extrapolate what we've seen in June and July so that's going to be the new norm going forward. Similar to how we talked about it in April. When we came -- we talked about it at the end of Q1. We said it's hard to extrapolate the big drop off we saw in April, we shouldn't take that forward. Here is kind of working the same way, but in the opposite direction. We shouldn't take the big increase that we saw in June and continue into July and so that's going to be our new norm. So the lease appreciation takes a longer-term view. Obviously, most of our leases are 36 months and so you're trying to predict as those leases come off maturity. So I do think it will improve as we update it going forward, but it will reliance on the used car in the season.

[Betsy Graseck:]

And then just as a second question a follow-up I wanted to dig into some of the delinquency steps that you were discussing on the call. As you've seen the folks move out of forbearance, I think you mentioned 60% are repaying, 20% are asking for another extension. Maybe you could let us know about how long that extension is that's another month or a couple of months? And then 20% are inactive. So wanted to understand that inactive percentage, is that normal? You would expect that or what do you think is going on there?

[Mahesh Aditya:]

Yes. So the 60%, 20%, 20% is an accurate reflection at least of what we've seen over the past two months. The thing is we decided going into the pandemic that we were going to give our customers a 60-day extension from the get-go. And some of our competitors decided to go longer, but we've gone the 60-day route. And therefore, when they come up for renewal, we were expecting some percentage of them obviously to want to be re-extended. The good thing about the portfolio that got extend in the first place was a very high percentage of current and non-delinquent customers versus what we normally do by way -- what we normally see in our forbearance programs. So the next go around will be another 60 days. And then we have the interagency guideline that says that basically we're allowed to go till December or until the end of the crisis, whenever that's declared. So that's the general idea is that we continue to extend these customers but each time, we extend them we do -- we have another point contact with the customer. And they call us, we have a conservation with them. We have a discussion with them and depending on their need we re-extend them. So that's the general plan. It's to stay in the forbearance and extension program until we either get a guideline from the agencies or we get -- or the crisis is officially declared to have ended.

[Betsy Graseck:]

And then on the 20% that's inactive, these are people who had applied for and got the forbearance initially. So it seems odd that they wouldn't want the extension if they needed it. So could you give us a sense as to why you think that's going on? And have you ever seen anything like this in your prior forbearance programs?

[Mahesh Aditya:]

We haven't -- we do prior to the pandemic we were doing somewhere between 20,000 and 30,000 extensions a month. So we did see -- and as I said the sample is very different. The population that we're extending right now is just has a much higher, much more superior credit quality. So when we talk about the inactive extensions, we really need to try and see maybe see a couple of more months of trend there before we decide what it is that we're seeing. But the overall effect of the extension program is a high payment rate the ones that are not paying are basically either opting to re-extend or are not paying. In which case, we need to go back and get another couple of months' data before we figure out whether these were just chronic delinquents or what. But the other important thing that we've noticed is that, there has been a -- auto continues to rank high on the payment hierarchy. So, that is a trend that we are continuing to see, and we are sort of riding that right now. Because we -- because there is, obviously, a high reliance. And that demonstrated both by what we are seeing with extended accounts and the demand in used car vehicle, new car.

[Fahmi Karam:]

And Betsy, one more thing to add. I think the 20% that were inactive. It's hard to assess exactly why they remained inactive. But as we compare it to our experience in the past, it is in line with our expectations. You have to remember, the deferrals that we gave out, the majority of them were customers who were current and/or had never received an extension in the past. So, they were proactively seeking some kind of relief. And the fact that they haven't called us yet, tells us either that they just missed a payment or they plan to get the payment coming up, because they know how to get a deferral from us, giving them the tools and the access to us, so they need it, they know they can reach out.

[Betsy Graseck:]

Thank you.

[Operator:]

We'll take our next question from Moshe Orenbuch with Credit Suisse.

[Moshe Orenbuch:]

Great, thanks. So, in terms of the discussion on deferrals how does that relate to the TDR used accounts, if they went into forbearance because of -- because of COVID crisis they don't get TDR -- I guess the 20% that are asking for another extension how are they treated?

[Fahmi Karam:]

So, the rule on TDR and non-TDR is basically, if the account was less than 30 days past due at the time we started our pandemic relief, which is for us was early in March. If there were less than 30 days past to -- past due and receive a COVID related deferral, they will not be classified as TDR. As long as that relief is short-term in nature, which is defined as six months in nature. So, the folks, who did a second deferral that came in June, it really depends on the delinquency status going back to March. And that will continue to be the case, as Mahesh mentioned, through the end of the year as long as they stay within six months of the lease.

[Moshe Orenbuch:]

Okay. All right. And just one...

[Mahesh Aditya:]

And Moshe, -- sorry, Moshe, I was going to say one more thing to add to that maybe is something that we mentioned in our prepared remarks, which is even though that they're classified as non-TDRs from an accounting standpoint, because they have received a modification we are increasing our coverage rate on that population, even though they're not classified as a TDR.

[Moshe Orenbuch:]

Right. I mean technically, you're doing that on anything through CECL in any case, because you're establishing a reserve on a lifetime basis.

[Mahesh Aditya:]

That's right.

[Moshe Orenbuch:]

Understood. In terms of the net interest income outlook, I guess the comments about the excess -- kind of excess depreciation, if you will, on the lease portfolio. I guess it feels like that should -- I mean it looks like that was a fairly significant factor in Q2. And I mean just the absence of that should be something of a more substantive improvement kind of a net interest income. I mean that alone accounted most of the decline I guess. And I understand thinking that there's going to be a moderation in used car values as the year goes on. But I guess as we think about the third quarter with that lag you talked about, shouldn't it be reflective of what we're seeing kind of currently in the next few weeks?

[Fahmi Karam:]

Yeah. I think that's correct. I just caution on just the level of uncertainty with used car prices. And you can just see it in the quarter, the results, the difference between April May and June was pretty stark. And so, it's just a cautionary forecast for us on whether residuals improved or not. And as I mentioned, I do think they will improve. And just to the degree of how much is the question.

[Mahesh Aditya:]

Yeah. I mean it's basically the used car prices right now, supply demand issue more than anything else. We're beginning to see a lot of demand obviously to used car prices. And on the supply side, it's been suppressed, because there were no repossessions. There was limited supply into the wholesale auction market. Auction houses were shut for a good period of time. So, I think it's just that mismatch that's kind of playing out right now.

[Moshe Orenbuch:]

Understood, thanks very much.

[Operator:]

We'll take our next question from Rick Shane, JP Morgan.

[Rick Shane:]

Hey, guys. Thanks for taking my question. I'm looking back at some old slides, and where you show the cumulative gross and cumulative net loss rates. When we think about the current vintages, the way we look at the vintages be that as opposed to sort of the linear build of losses. There's a flattening related to forbearance and what's going on right now. And then there will be substantial steepening in the back half. I think that that's probably obvious. What I'm curious about is when you look at the lifetime loss rates where do you think we're really going to come out on the current vintages versus a call it a 2015 or 2016 vintage?

[Fahmi Karam:]

Good morning, Rick, thanks for the question. I think the -- your question I understand it, but it's very hard to answer it, given the level of uncertainty in the market. We mentioned that we're very happy with the current originations that we've seen over the last couple of months and into July. We mentioned the competition kind of slipping away at the beginning of the quarter and kind of coming back at the end. We were able to tighten our credit underwriting, grow our share and add margin which is a great combo. It won't last very long, but for now, we're very pleased with the originations that we're booking in this quarter. And so the loss profile of that given our underwriting approach is better than what we saw in 2016 and 2017. And is again a continuation of what we've done really at the beginning of 2019.

[Mahesh Aditya:]

Yes. I mean, let me just lay it out in the context of three vintages, right? To dominate our portfolio today 2018, 2019 and 2020. That constitutes the majority of our outstandings. Of the three vintages 2019 we know was a really good vintage, 2018 was maybe slightly worse than 2019 -- worse than 2019 and 2020 is probably better or at least equal to the 2019 vintage, just given the credit characteristics of the loans that we're booking right now. The question becomes -- with every vintage, the question becomes how quickly do you take the losses? So really bad vintage, you would front-load the losses and take them in the first 12, 18 maybe 24 months. And then the rest of the time it kind of trends towards whatever is the new normal, right? Sort of the reversion to normal. So that's what -- that's the difference between a bad vintage and a good vintage is how front-loaded do losses get. We are very confident about 19, very confident about 20 and 18 is already way past its peak. So right now the way we look at it is once the relief programs come off and employment comes back hopefully and we begin to see customers behaving normally then you'll actually begin to see the true losses in the portfolio. And obviously some -- the TDR treatment will then kick in. This is why CECL is actually a good thing, because it looks at extension then gives it a treatment somewhere between non-TDR and TDR. So we're not completely treating an extended loan which we are not fully treating as a TDR extended loan. It does still get some penalty by virtue of fact that it's been extended. So we will begin to see some normalization of losses. But as Fahmi said, the inherent credit quality of what we booked in 2019 and 2020 essentially over the last 18 months has been superior to any of the prior vintages.

[Rick Shane:]

Got it. Okay. So I think what I would take away from that is 2020 is a vintage that is being constructed eyes wide open to the environment we're in. 2018 was a vintage that was created a more competitive environment but the reality is its fairly seasoned, it's fairly paid off. 2019 was probably a good vintage from an underwriting perspective, but it's seasoning into a more uncertain environment. And so probably variance versus whatever your plans are right now over the next six to 12 months has to do with performance of the 2019 vintage. Is that where we should really be focused on sort of the plus minus?

[Mahesh Aditya:]

Yes I think that's relative.

[Rick Shane:]

Great. Thank you guys so much.

[Operator:]

We'll take our next question from Rob Wildhack with Autonomous Research. Please go ahead.

[Rob Wildhack:]

Good morning, guys. Yeah I think back in April you highlighted a more cautious approach to underwriting given the environment at the time. Looking at things now there's been a lot of positive data points still a tremendous amount of uncertainty, so given all those changes and moving parts, how should we think about the approach to underwriting now? And any changes you've put in place there?

[Fahmi Karam:]

Good morning Rob. Thanks for the question. I think it's still prudent for us to take a cautious approach, similar to what we discussed, in April. We're seeing signs that things are improving. But there's a lot of signs that give us a lot of caution that, we should be very diligent in our underwriting. We mentioned this a few times we have to appropriately price, for the risk that we put on our balance sheet. And we have to monitor our risk-adjusted return. So for now, we still continue to be very cautious. We're going to be very disciplined, in our underwriting approach. And utilize all the different tools that we do to assess risk. I think, you'll continue to see that until we get further clarity on the market.

[Rob Wildhack:]

Okay. Thanks. And I just wanted to ask about competition, on the captive side. There were some really attractive offers out there 0% APR, 84 months. What are those kinds of offers and what level of competition mean for you and FCA from here?

[Fahmi Karam:]

Yeah. I think for us, the offers in the market that you're referring to are generally exclusive to us, through request of capital. And so, therefore to -- and that's driving consumer demand for new vehicles. And those consumers are looking for those 0% offers. As you mentioned, we've seen those somewhat tail off a little bit throughout the quarter but it's still predominantly driving the consumer demand. So as long as those offers are exclusive to Chrysler Capital, we're going to get an uptick in our penetration rates with FCA.

[Rob Wildhack:]

Okay. Thank you.

[Operator:]

And ladies and gentlemen, this will conclude today's question-and-answer session. And we'll now turn the conference back to Mahesh Aditya, for final comments.

[Mahesh Aditya:]

Thank you everyone for joining the call today, and for your interest in Santander Consumer. Our Investor Relations team will be available for follow-up questions. And we look forward to speaking with you again next quarter.

[Operator:]

Ladies and gentlemen, this does conclude today's conference. We appreciate your participation. You may now disconnect.