CREDIT CARD AND LOAN RECEIVABLES | 6. CREDIT CARD AND LOAN RECEIVABLES The Company’s credit card and loan receivables are the only portfolio segment or class of financing receivables. Quantitative information about the components of credit card and loan receivables is presented in the table below: March 31, December 31, 2020 2019 (in millions) Principal receivables $ 16,725.4 $ 18,413.1 Billed and accrued finance charges 933.5 977.3 Other 73.0 72.7 Total credit card and loan receivables 17,731.9 19,463.1 Less: Credit card receivables – restricted for securitization investors 12,033.4 13,504.2 Other credit card and loan receivables $ 5,698.5 $ 5,958.9 Allowance for Loan Loss Effective January 1, 2020, the Company adopted ASC 326 on a modified retrospective approach and applied a CECL model to determine its allowance for loan loss. The allowance for loan loss is an estimate of expected credit losses, measured over the estimated life of its credit card and loan receivables that considers forecasts of future economic conditions in addition to information about past events and current conditions. The estimate under the CECL model is significantly influenced by the composition, characteristics and quality of the Company’s portfolio of credit card and loan receivables, as well as the prevailing economic conditions and forecasts utilized. The estimate of the allowance for loan loss includes an estimate for uncollectible principal as well as unpaid interest and fees. Charge-offs of principal amounts, net of recoveries are deducted from the allowance. The allowance is maintained through an adjustment to the provision for loan loss and is evaluated for appropriateness. Prior to January 1, 2020, the Company’s allowance for loan loss was determined utilizing an incurred loss model under ASC 450, “Contingencies.” ASC 326 requires entities to use a “pooled” approach to estimate expected credit losses for financial assets with similar risk characteristics. As part of its CECL implementation, the Company evaluated multiple risk characteristics of its credit card and loan receivables portfolio, and determined delinquency status and credit quality to be the most significant characteristics for estimating expected credit losses. To estimate its allowance for loan loss, the Company segregates its credit card and loan receivables into four groups with similar risk characteristics, on the basis of delinquency status and credit quality risk score. These risk characteristics are evaluated at least on an annual basis, or more frequently as facts and circumstances warrant. The Company’s credit card and loan receivables do not have stated maturities and therefore prepayments are not factored into the determination of the estimated life of the credit card and loan receivables. In determining the estimated life of a credit card and loan receivable, payments were applied to the measurement date balance with no payments allocated to future purchase activity. The Company uses a combination of First In First Out (“FIFO”) and the Credit Card Accountability, Responsibility, and Disclosure Act of 2009 (“CARD Act”) methodology to model balance paydown. The Company’s groups of pooled financial assets with similar risk characteristics and their estimated life is as follows: Estimated Life (in months) Group A (Current, risk score - high) 14 Group B (Current, risk score - low) 19 Group C (Delinquent, risk score - high) 17 Group D (Delinquent, risk score - low) 26 In estimating its allowance for loan loss, for each identified group, management utilizes various models and estimation techniques based on historical loss experience, current conditions, reasonable and supportable forecasts and other relevant factors. The Company’s quantitative estimate of expected credit losses under CECL is impacted by certain forecasted economic factors. Management utilizes a third party service to analyze a number of scenarios, but uses one scenario to determine the macroeconomic variables over the forecast period. The Company considers the forecast used to be reasonable and supportable over the estimated life of the credit card and loan receivables, with no reversion period. In addition to the quantitative estimate of expected credit losses, the Company also incorporates qualitative adjustments for certain factors such as Company-specific risks, changes in current economic conditions that may not be captured in the quantitatively derived results, or other relevant factors to ensure the allowance for loan loss reflects the Company’s best estimate of current expected credit losses. As permitted by ASC 326, the Company excludes unbilled finance charges from its amortized cost basis of credit card and loan receivables. At March 31, 2020, unbilled finance charges were $262.9 million and included in other credit card and loan receivables in the Company’s unaudited condensed consolidated balance sheet. The following table presents the Company’s allowance for loan loss for the periods indicated: Three Months Ended March 31, 2020 2019 (in millions) Balance at beginning of period $ 1,171.1 $ 1,038.3 Adoption of ASC 326 (1) 644.0 — Provision for loan loss 655.9 252.1 Recoveries 67.9 59.8 Principal charge-offs (388.1) (329.1) Balance at end of period $ 2,150.8 $ 1,021.1 (1) Recorded January 1, 2020 through a cumulative-effect adjustment to retained earnings, net of taxes. For the three months ended March 31, 2020, the increase in the allowance for loan loss, in addition to the impact of the $644.0 million attributable to the adoption of ASC 326, was due to an increase in delinquent amounts and deterioration of the macroeconomic outlook due to COVID-19. Net Charge-offs Net charge-offs include the principal amount of losses from credit cardholders unwilling or unable to pay their account balances, as well as bankrupt and deceased credit cardholders, less recoveries and exclude charged-off interest, fees and fraud losses. Charged-off interest and fees reduce finance charges, net while fraud losses are recorded as a cost of operations expense. Credit card and loan receivables, including unpaid interest and fees, are charged-off in the month during which an account becomes 180 days contractually past due, except in the case of customer bankruptcies or death. Credit card and loan receivables, including unpaid interest and fees, associated with customer bankruptcies or death are charged-off in each month subsequent to 60 days after the receipt of notification of the bankruptcy or death, but in any case, not later than the 180-day contractual time frame. Charge-offs for unpaid interest and fees were $231.9 million and $218.8 million for the three months ended March 31, 2020 and 2019, respectively. Delinquencies A credit card account is contractually delinquent if the Company does not receive the minimum payment by the specified due date on the cardholder’s statement. It is the Company’s policy to continue to accrue interest and fee income on all credit card accounts, except in limited circumstances, until the credit card account balance and all related interest and other fees are paid or charged-off, typically at 180 days delinquent. When an account becomes delinquent, a message is printed on the credit cardholder’s billing statement requesting payment. After an account becomes 30 days past due, a proprietary collection scoring algorithm automatically scores the risk of the account becoming further delinquent. The collection system then recommends a collection strategy for the past due account based on the collection score and account balance and dictates the contact schedule and collections priority for the account. If the Company is unable to make a collection after exhausting all in-house collection efforts, the Company may engage collection agencies and outside attorneys to continue those efforts. The following table presents the amortized cost basis of the aging analysis of the Company’s credit card and loan receivables portfolio: Aging Analysis of Delinquent Amortized Cost 31 to 60 days 61 to 90 days 91 or more days delinquent Total Current Total (in millions) As of March 31, 2020 $ 347.6 $ 273.8 $ 667.1 $ 1,288.5 $ 16,072.5 $ 17,361.0 As of December 31, 2019 $ 399.1 $ 293.9 $ 698.4 $ 1,391.4 $ 17,656.4 $ 19,047.8 Modified Credit Card Receivables Forbearance Programs In response to the COVID-19 pandemic, in March 2020 the Company began to offer forbearance programs to affected cardholders, which provide for short-term modifications in the form of payment deferrals and late fee waivers to borrowers who were current as of their most recent billing cycle prior to April 2020. These programs are intended to provide temporary relief to affected cardholders and are not considered troubled debt restructurings. At March 31, 2020, the amount of credit card and loan receivables in forbearance programs was not material. Troubled Debt Restructurings The Company holds certain credit card receivables for which the terms have been modified. The Company’s modified credit card receivables include credit card receivables for which temporary hardship concessions have been granted and credit card receivables in permanent workout programs. These modified credit card receivables include concessions consisting primarily of a reduced minimum payment and an interest rate reduction. The temporary programs’ concessions remain in place for a period no longer than twelve months, while the permanent programs remain in place through the payoff of the credit card receivables if the credit cardholder complies with the terms of the program. These concessions do not include the forgiveness of unpaid principal, but may involve the reversal of certain unpaid interest or fee assessments. In the case of the temporary programs, at the end of the concession period, credit card receivable terms revert to standard rates. These arrangements are automatically terminated if the customer fails to make payments in accordance with the terms of the program, at which time their account reverts back to its original terms. Credit card receivables for which temporary hardship and permanent concessions were granted are each considered troubled debt restructurings and are collectively evaluated for impairment. The Company had $332.6 million and $308.7 million, respectively, as a recorded investment in impaired credit card receivables as of March 31, 2020 and December 31, 2019, respectively, which represented less than 2% of the Company’s total credit card receivables. The average recorded investment in impaired credit card receivables was $314.7 million and $297.7 million for the three months ended March 31, 2020 and 2019, respectively. Interest income on these modified credit card receivables is accounted for in the same manner as other accruing credit card receivables. Cash collections on these modified credit card receivables are allocated according to the same payment hierarchy methodology applied to credit card receivables that are not in such programs. The Company recognized $5.5 million and $5.7 million for the three months ended March 31, 2020 and 2019, respectively, in interest income associated with modified credit card receivables during the period that such credit card receivables were impaired. The following table provides information on credit card receivables that are considered troubled debt restructurings as described above, which entered into a modification program during the specified periods: Three Months Ended March 31, 2020 Three Months Ended March 31, 2019 Pre-modification Post-modification Pre-modification Post-modification Number of Outstanding Outstanding Number of Outstanding Outstanding Restructurings Balance Balance Restructurings Balance Balance (Dollars in millions) Troubled debt restructurings – credit card receivables 75,065 $ 112.8 $ 112.7 70,294 $ 104.3 $ 104.1 The table below summarizes troubled debt restructurings that have defaulted in the specified periods where the default occurred within 12 months of their modification date: Three Months Ended March 31, 2020 Three Months Ended March 31, 2019 Number of Outstanding Number of Outstanding Restructurings Balance Restructurings Balance (Dollars in millions) Troubled debt restructurings that subsequently defaulted – credit card receivables 31,670 $ 44.0 50,456 $ 65.4 Credit Quality The Company uses proprietary scoring models developed specifically for the purpose of monitoring the Company’s obligor credit quality. The proprietary scoring models are used as a tool in the underwriting process and for making credit decisions. Information regarding customer performance is factored into these proprietary scoring models to determine the probability of an account becoming 91 or more days past due at any time within the next 12 months. The following table reflects the composition of the Company’s credit card and loan receivables on an amortized cost basis by obligor credit quality as of March 31, 2020 and December 31, 2019: Amortized Cost Revolving Credit Card and Loan Receivables March 31, 2020 December 31, 2019 Percentage of Percentage of Amortized Amortized Probability of an Account Becoming 91 or More Days Past Amortized Cost Basis Amortized Cost Basis Due or Becoming Charged-off (within the next 12 months) Cost Basis Outstanding Cost Basis Outstanding (in millions, except percentages) No Score $ 217.5 1.3 % $ 298.4 1.6 % 27.1% and higher 1,580.7 9.1 1,648.8 8.7 17.1% - 27.0% 1,053.7 6.1 1,108.5 5.8 12.6% - 17.0% 1,123.5 6.5 1,171.7 6.2 3.7% - 12.5% 7,828.1 45.1 8,292.1 43.5 1.9% - 3.6% 2,944.8 17.0 3,375.3 17.7 Lower than 1.9% 2,612.7 14.9 3,153.0 16.5 Total $ 17,361.0 100.0 % $ 19,047.8 100.0 % Note: The Company’s credit card and loan receivables are revolving receivables as they do not have stated maturities and are exempted from certain vintage disclosures required under ASC 326. The proprietary scoring models are based on historical data and require various assumptions about future performance, which the Company updates periodically. Obligor credit quality is monitored at least monthly during the life of an account. The effect of the COVID-19 pandemic resulted in an increase in the probability of an account becoming 91 of more days past due or becoming charged-off. Portfolios Held for Sale The Company has certain credit card portfolios held for sale, which are carried at the lower of cost or fair value, of $88.8 million and $408.0 million as of March 31, 2020 and December 31, 2019, respectively. During the three months ended March 31, 2020, the Company sold a credit card portfolio for preliminary cash consideration of approximately $289.5 million, subject to customary sale price adjustments, and recognized a gain of approximately $20.4 million on the transaction, which was recorded in cost of operations in the Company’s unaudited condensed consolidated statements of income. The Company recorded portfolio valuation adjustments, which are reflected in cost of operations in the Company’s unaudited condensed consolidated statements of income, of $4.2 million and $59.9 million for the three months ended March 31, 2020 and 2019, respectively. Securitized Credit Card Receivables The Company regularly securitizes its credit card receivables through its credit card securitization trusts, consisting of World Financial Network Credit Card Master Trust, World Financial Network Credit Card Master Note Trust (“Master Trust I”) and World Financial Network Credit Card Master Trust III (“Master Trust III”) (collectively, the “WFN Trusts”), and World Financial Capital Credit Card Master Note Trust (the “WFC Trust”). The Company continues to own and service the accounts that generate credit card receivables held by the WFN Trusts and the WFC Trust. In its capacity as a servicer, each of the respective banks earns a fee from the WFN Trusts and the WFC Trust to service and administer the credit card receivables, collect payments and charge-off uncollectible receivables. These fees are eliminated and therefore not reflected in the Company’s unaudited condensed consolidated statements of income for the three months ended March 31, 2020 and 2019. The WFN Trusts and the WFC Trust are VIEs and the assets of these consolidated VIEs include certain credit card receivables that are restricted to settle the obligations of those entities and are not expected to be available to the Company or its creditors. The liabilities of the consolidated VIEs include non-recourse secured borrowings and other liabilities for which creditors or beneficial interest holders do not have recourse to the general credit of the Company. The tables below present quantitative information about the components of total securitized credit card receivables, delinquencies and net charge-offs: March 31, December 31, 2020 2019 (in millions) Total credit card receivables – restricted for securitization investors $ 12,033.4 $ 13,504.2 Principal amount of credit card receivables – restricted for securitization investors, 91 days or more past due $ 302.5 $ 321.8 Three Months Ended March 31, 2020 2019 (in millions) Net charge-offs of securitized principal $ 239.5 $ 239.5 |