Second PE-firm-owned subprime auto dealer and lender abruptly shut down after huge deleveraging of its subprime auto-loan bonds

“understated net loss and gross charge-off” – Oopsy?

By wolf richter For wolf street,

US Auto Sales, a dealer chain owned by a private equity firm and focused on selling and financing low-end older vehicles to subprime-rated customers, suddenly “temporarily” closed its 39 locations in six Southern states today. The dealership closed, with a brief announcement on its website:

Attention US auto customers. We have temporarily closed our dealerships and are working on a solution to reopen them at the earliest. But don’t worry, we’re not going anywhere! US Auto’s affiliated loan servicing company (USASF Servicing LLC) is still ready to accept your payments and assist in servicing your account. Please continue to make your payments as scheduled and contact us with any account questions.

Yours sincerely, -American Auto Team

The Lawrenceville, GA, headquartered company is owned by PE firm Milestone Partners. As part of its business, it securitizes subprime auto loans into asset-backed securities through its funding unit, US Auto Funding, and sells those ABS to investors. US Auto Funding has already issued four of these ABS, one a year.

In late June 2022, it secured the last of four batches of subprime auto loans in $233 million ABS. Moody’s rated the different parts of that bond issue from A3 at the high end to B3 at the low end. The A3 investment grade has four notches. B3 Junk has six notches. Lower-rated tranches take the first loss, starting with the equity portion held by the issuer, and they can be wiped out quickly if there is a problem. The top parts take the last damage, and are largely preserved (here my Cheat Sheet for Corporate Credit Ratings by Rating Agencies,

“understated net loss and gross charge-off” – Oopsy?

Ominously, on March 31, Moody’s downgraded its credit ratings for ABSs due in 2021 and ABS due in 2022. On both the ABS, it reduced the lower premiums by two notches. In the 2022 ABS, it downgraded the lowest tranche, the Class E notes, from Caa2 to Ca, just one notch from default nine months after issuance.

The whole affair was a big mess. Moody’s explains:

“The ratings action is primarily driven by USASF’s recent restatement of gross and net loss data for the underlying loan pools,” Moody’s said.

Moody’s said, “In the March servicer report, USASF disclosed that it had identified an error in the allocation of payments among principal, interest and recoveries contained in the servicer report for the reporting period from August 2022 to January 2023.”

“The March servicer report indicates that the error had no impact on the total collections available to investors in any of the reporting periods, but Note that the error affected the net loss and gross charge-off, and that the net loss and gross charge-off were understated. In some serviceable reports,” Moody’s said (emphasis added).

Moody’s further explained that the company has now “provided restated loss data for the current period,” and for ABS issued in 2021, “cumulative net loss-to-liquidations increased from 31.8% in March to 37.3%, as reported in February,” and for its 2022 ABS released, it “increased from 32.9% reported in February to 45.8% in March.”

Moody’s then raised the “lifetime expected net loss estimate” to 40% for ABS issued in 2021 and to 46% for ABS issued in 2022. So it was pretty oops.

Which ruins the next ABS sale. So forget it and close the doors?

Subprime is called that for a reason: Customers who have a poor record in paying back their loans, and therefore have a low credit score, can still borrow money, but lenders have to pay a much higher interest rate. have to be paid so that the lender is prepared to take on those risks. Lenders make huge profits on these higher interest rates, and investors greedily grab the ABS because they offer higher yields, and Wall Street makes a lot more than the fees, and everyone is happy…

Unless the customer can’t make the payments because the interest rate is too high, and so the subprime loan becomes a self-fulfilling prophecy, which moves up the borrower’s credit history, and the lender has to go out and repossess the vehicle. Has to be sold and it has to be sold at auction.

But it gets much worse…

Because there’s the sordid underbelly of the typical subprime auto business, and it always gets a lot worse when you look at it more closely. According to a report by Kroll Bond Rating Agency, cited by BloombergThe loans in the ABS issued in 2022 were:

  • Average FICO score of 518 (620 and below is generally subprime)
  • Average LTV (loan-to-value ratio) over 150% holy-moly!
  • Average loan amount: $20,199. With a 150% LTV, this means the vehicle was worth $13,500 at the time of sale.
  • Average interest rate: 18%.

In short, if you want auto loans designed to blow up and do a lot of damage, you will do just that.

PE firms, auto dealers, investors, bond funds… they all get involved in subprime auto lending because of its high yields. It’s an extremely profitable business until investors suddenly catch heat.

PE-firm-owned subprime auto dealer shuts down for the second time in two months,

In late February, American Car Center, which had more than 40 subprime-focused dealerships nationwide, and was owned by PE firm York Capital Management, a day after being forced to halt a $222 million bond sale suddenly stopped.

Bond sales were backed by subprime loans that originated to fund its used vehicle sales. The company cited “market conditions” for halting the bond sale, and without $222 million in new funding from the sale proceeds, it appears that the company ran out of funds to continue, and simply closed. happened.

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