Consumer Finance
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Industry Overview
About 5,000 companies in the US engage primarily in making personal loans to consumers, with combined annual revenue of about $40 billion, although industry size is uncertain. Large companies include HSBC, American General, and divisions of large financial companies. Certain segments of the industry, such as unsecured cash loans, are highly fragmented, while others, like credit card lending, have become concentrated in a few large lenders.
Competitive Landscape
Demand is driven by consumer income and demographics. The profitability of individual companies depends on the correct assessment of repayment likelihood and effective collections activities. Large companies have an advantage in using computers to serve large portfolios of mortgage and credit card loans, and also have access to cheaper sources of funds, but small companies can compete effectively in the cash lending or sales finance segments, where personal contact is more important.
Products, Operations & Technology
Consumer finance companies offer the same kinds of loans to consumers that banks and credit unions do, but operate in the "subprime" portion of the market. Subprime borrowers may have a history of delinquent loan payments or no credit history, and often have low income and a higher debt-to-income ratio. Several broad subprime product segments exist, and companies may participate in a number of them or specialize in only one: automobile financing; credit card lending (revolving credit); sales financing (typically for furniture, jewelry, or appliances); and unsecured cash loans.
Consumer finance revenue comes mainly from the difference between the "yield" on loans (the finance charge) and the cost to fund the loans. Various fees may also be charged to originate, insure, or collect loans. Consumer finance companies generally charge higher interest rates than prime lenders, expect to take larger loan losses, and service their loans more intensively to avoid losses. Differences exist between car or sales loans, where the asset being financed can be repossessed relatively easily, and credit card or cash loans, where the value of the loan depends entirely on payments from the borrower. Unlike banks and credit unions, finance companies don't take deposits and therefore are not subject to deposit regulations, deposit insurance, or deposit reserve requirements
Finance companies control credit risk by assessing the borrower's credit worthiness when extending credit, and by vigorously managing delinquent loans. Sophisticated computer systems are used to "score" potential borrowers at the time of application, and to process and manage loans. To minimize loan losses, companies may use special collections teams that contact delinquent borrowers as soon as one day after a loan payment is past due to work out a payment plan, and that maintain frequent contact through phone, mail, and personal visits. A credit collector handles about 100 delinquent accounts and is compensated partly based on amounts recovered. This work is labor-intensive, especially considering the small average size of subprime loans. Delinquent loans are usually "cured" quickly or become a loss.