GM Financial presentation delivered at the 2021 Auto Conference on Thursday, August 12, 2021 at 12:00 PM [music] Jonathan Rau: Good afternoon, and thanks for joining us today at the J.P. Morgan Auto Conference. My name is Jon Rau, and along with my associate, Jordan Sabourin, we cover the investment-grade auto sector here at J.P. Morgan. Excited to have with us today the leadership team from GM Financial, including President and CEO Dan Berce. As I mention every year, Dan has been an executive in the auto finance industry for about as long as I've been alive. I appreciate him joining. It's always great to get his insights. To our listeners, we're going to leave some room for Q&A towards the end of the session. Feel free to submit questions through the conference website using the "Ask a question" button on the screen. As a reminder to folks listening, this is a GM Financial presentation with a focus on the captive side of things. Please try to keep questions focused on the finance side of things as opposed to the auto manufacturing business. With that, I wanted to get started broader, bigger-picture question here. To kick things off, Dan, you filed earnings last week and it was a record quarter. What drove the results, and how should we be thinking about the rest of the year? Daniel Berce: Jon, we had an exceptional first half of the year at GM Financial. Three main drivers, those being residual value gains, which were a result of the strong used car market we're in today, good consumer credit, and then finally, lower cost of debt, which expanded our margins. Drilling down on each of those a bit, everyone knows what's happening in the used car market. It's widely publicized. The prices were up through the end of June, let's say from the beginning of the year, some 30-ish percent. We were a beneficiary of that. We have a large amount of vehicles coming off of lease terminations every month. We were able to participate in that strong market through residual gains. In fact, our gains were up about 900 million in the first half of 2021 versus the first half of 2020. It's interesting that we didn't even participate in that market backdrop as much as we could, because our customers, increasingly, are purchasing their vehicles at the end of the lease. In fact, 89 percent purchased their vehicle at the end of the lease in the second quarter. You contrast that to maybe 20 percent a couple years ago when the market was more stable for used car values. When customers purchase the vehicle at contract residual, we still recognize gains, but not to the extent the market would allow if we sold the cars in the market. What's happened with the prices here in the third quarter? We've seen a bit of a drop-off, but prices are still up about 10 percent year-over-year from this time in 2020. This time in 2020 was about the peak of pricing in 2020, so we're still experiencing a strong market. Nevertheless, we don't expect our gains in the second half of 2021 to be as much as the first half, mainly because our lease terminations are going to be considerably less. Two reasons. We did a lot less leasing three years ago in the second half of 2018 versus the first half, and then we also have sold down our available off-lease inventory quite a bit. We started the calendar year with about 40,000 units, ended the month of June with about 10,000. We drew our inventory down about 30,000, recognizing gains. Second half of the year, all in all, we've guided to, overall, about a billion to a billion and a half less pre-tax earnings. A big part of that is termination gains, mostly volume-related, a little bit price-related. The second factor in our exceptional first half results was credit. Consumer credit has performed extremely well in auto since the pandemic. We've seen record payment rates across credit spectrums, from super-prime all the way down to subprime. Our delinquencies are at all-time lows. Charge-offs are extremely low. The consumer continues to benefit from the savings patterns, the savings that they've built up over the pandemic period. It's trillions of dollars of excess savings that consumers are using to make their auto payments, and in some cases, paying ahead their auto loans. We're also continuing to benefit from the government stimulus programs, even though those are waning. On the charge-off side, of course, used car values are leading to higher recoveries. Second half of the year, we expect consumer credit to remain quite strong, albeit begin the normalizing process. The thing that won't repeat from the first half as far as consumer credit is that we reduced our reserves. We had built significant reserves in the first half of 2020. We drew down our reserves first half of '21, which won't happen again in the second half. Jon, the final point I won't hit very hard is we're experiencing robust capital markets and really low spreads. We're realizing our debt raises, whether it's ABS or unsecured. We haven't had to pass that along to the consumer in terms of pricing, and so our margins have seen expansion, which benefited the first half and should benefit the second half as well. Jonathan: That's a great overview, a great place to start. Thank you for that, Dan. Maybe shifting gears a little bit, General Motors has been making a very large push into vehicle electrification, large investments on that front. From a captive financial side of things, how are you thinking about managing residual value risk for EVs that are coming down the pike here against the backdrop of this continually improving technology and battery density? Is there a risk here that the next-generation electric vehicles are going to make the prior models or the current models obsolete? Daniel: It's certainly a new frontier for us and anybody that's doing EV leasing. By the same token, GM has had electrified vehicles in the market for quite a while now. The Volt first and finally the Bolt. We did a fair amount of leasing on both of those vehicles. It's fair to say that the residual values that were set at origination were fairly conservative. We use ALG as our guide to setting residuals. Just like ICE, ALG is looking out what's going to happen in three or four years when these leases terminate. They're considering all the normal factors like supply and demand incentives, pricing, product refresh. On EVs, they're also considering technology. We have done pretty well on both returns remarketing above contract residual. We'd expect, as we go further and further and deeper and deeper into EVs, that at least, the outset for mass-market products, the residual values will be set fairly conservative upfront. The OEMs certainly have the decision to make to enhance residuals as a marketing spend to help drive EV sales. From a captive standpoint, our starting point will be comfortable. Jonathan: Maybe as a follow-on there, with this powertrain transition in the works, how are you thinking about residuals for internal combustion vehicles? Is there going to be maybe a shift there as well? Daniel: This transition to EV has got a pretty long runway. I know we've come out and said we're going to have all electric by 2035, but that's 14 years from now. Even then, ICE vehicles will still exist. The average age of a vehicle on the US road today is about 12 years. Yet, if you look at a new vehicle, the technology is so much better, whether it's safety features, assisted driving features, the informatics in the car. Yet, people are still driving 12-year-old cars. ICE vehicles aren't going to go away anytime soon. I like to look at the example of sedans, which were, at one point, well over 50 percent of the new car market. Now, they're less than 30. Residual values for sedans have held up extremely well, because there's people who need a less expensive or a certain type of product. EVs are expensive, and people are going to still want a five-year-old ICE vehicle that they can get cheaper. Jonathan: That's a great point. That's interesting to think about. One more question along the lines of electric vehicles and the investment there is one I get often is green bonds and sustainable financing. Any thoughts that you have, in terms of as you think about funding needs for the next couple of years as more of these models come through? What are your thoughts on issuing green bonds or some sort of sustainable finance? Daniel: Green bonds are aligned with GM's vision for a sustainable future, and so green bonds will be part of our funding plan here as we go forward. As we generate more EV-related assets, either through loan or lease, we'll accumulate enough mass to do a green bond, whether it's unsecured or secured. That's absolutely part of our funding plans in the future, Jon. Jonathan: Makes sense. Good. Listening to presentations yesterday and also this morning, one of the themes coming out of the conference is this discussion around the consumer, and also in terms of vehicle affordability.