Lending Club Issues New 10-Q Form
Lending Club issued an updated 10-Q statement with the SEC last week.
Here’s the text:
(EDGAR Online via COMTEX) –
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Consolidated Operations
In addition to historical information, this quarterly report contains forward-looking statements that involve risks and uncertainties that could cause actual results to differ materially from those projected. Factors that might cause or contribute to such differences include, but are not limited to, those discussed in the following “Management’s Discussion and Analysis of Financial Condition and Results of Consolidated Operations” as well as in Part II Item 1A “Risk Factors.” Actual results could differ materially. Important factors that could cause actual results to differ materially include, but are not limited to; the level of demand for our products and services; the intensity of competition; our ability to effectively expand and improve internal infrastructure; and adverse financial, customer and employee consequences that might result to us if litigation were to be initiated and resolved in an adverse manner to us. For a more detailed discussion of the risks relating to our business, readers should refer to Part II Item 1A found later in this report entitled “Risk Factors,” as well as the “Risk Factors” section of the prospectus for the Notes dated August 15, 2011, and filed with the SEC, as may be amended or supplemented from time to time. Readers are cautioned not to place undue reliance on the forward-looking statements, including statements regarding our expectations, beliefs, intentions or strategies regarding the future, which speak only as of the date of this quarterly report. We assume no obligation to update these forward-looking statements.
We are an online financial platform. We allow qualified borrower members to obtain loans (which we refer to as “Member Loans”) with interest rates that they find attractive. From the launch of our platform in May 2007 until April 7, 2008, our platform allowed investor members to purchase assignments of Member Loans directly. Since October 13, 2008, investors have had the opportunity to purchase Member Payment Dependent Notes (which we refer to as the “Notes”) issued by us, with each series of Notes corresponding to an individual Member Loan originated on our platform. The Notes are dependent for payment on the related Member Loan and offer interest rates and credit characteristics that the investors find attractive. The vast majority of Member Loans originated since October 13, 2008, have been financed by Notes. Since November 2007, we have also financed portions of certain Member Loans ourselves using sources of funds other than Notes, with the intent and ability to hold these loans for the foreseeable future or to maturity. We receive the same terms on Member Loans that we finance as the terms received by other Note investors.
All Member Loans are unsecured obligations of individual borrower members with fixed interest rates, three-year or five-year maturities, minimum amounts of $1,000 and maximum amounts up to $35,000. The Member Loans are posted on our website, funded and issued by WebBank, an FDIC-insured, state-chartered industrial bank organized under the laws of the state of Utah, at closing and immediately sold to us after closing. As a part of operating our lending platform, we verify the identity of members, obtain borrower members’ credit characteristics from consumer reporting agencies such as TransUnion, Experian or Equifax and screen borrower members for eligibility to participate in the platform and facilitate the posting of Member Loans. Also, after acquiring the Member Loans from WebBank, we service the Member Loans on an ongoing basis.
We were incorporated in Delaware in October 2006, and in May 2007, began operations as an application on Facebook.com. In August 2007, we conducted a venture capital financing round and expanded our operations with the launch of our public website, www.lendingclub.com. The Company established a wholly-owned subsidiary, LCA, a registered investment adviser, in October 2010 for the purpose of expanding the pool of investor capital to invest in Notes and similar obligations. The Company established the Trust, a Delaware business trust in February 2011 to acquire and hold Member Loans for the sole benefit of investors that purchase Trust Certificates (Certificates) issued by the Trust and related to the underlying Member Loans. The Certificates may only be settled with cash flows from the related Member Loans held by the Trust consistent with the member payment dependent design of the Certificates; Certificate holders do not have recourse to the general credit of the Company or other investors.
In February and March 2011, LCA became the general partner in two investment funds that were formed to enable accredited investors to invest in Certificates. As of December 31, 2011, the lending platform has facilitated 42,535 member loans since our launch in May 2007.
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We have been operating since December 2007 pursuant to an agreement with WebBank. WebBank serves as the lender for all member loans originated through our platform. Our agreement with WebBank has enabled us to make our platform available to borrower members on a uniform basis nationwide, except that as of December 1, 2011, we do not currently offer member loans in Idaho, Iowa, Indiana, Maine, Mississippi, Nebraska, North Dakota and Tennessee. We pay WebBank a monthly service fee based on the amount of loan proceeds disbursed by WebBank in each month, subject to a minimum monthly fee.
We have a limited operating history and have incurred net losses since our inception. Our net loss was $2,867,100 and $9,320,135 for the three and nine months ended December 31, 2011. We earn revenues from fees, primarily loan origination fees charged to borrower members, investor servicing fees and, beginning in 2011, management fees charged to limited partners in two private investment funds that purchase Trust Certificates (Certificates). We also earn net interest income on Member Loans on our balance sheet. To date, we have funded our operations primarily with proceeds from our venture capital financings, our credit facilities and debt and equity issuances, which are described under “Liquidity and Capital Resources”. The remaining borrowing capacity under our non-revolving credit facilities is zero. Over time, we expect that the number of borrower and investor members and the volume of Member Loans originated through our platform will increase, and that we will generate increased revenue from borrower origination fees, investor service fees and management fees.
Our operating plan allows for a continuation of the current strategy of raising capital through debt and equity financings to finance our operations until we reach profitability and become cash-flow positive, which we do not expect to occur within the next twelve months. Our operating plan calls for significant investments in sales, technology development, security, loan scoring, loan processing and marketing before we reach profitability.
From inception of the Company through December 31, 2011, we have raised approximately $78.8 million through preferred equity financings. Our last series of preferred equity financing was on July 28, 2011, when we raised approximately $25 million from the sale of 7,027,604 shares of our Series D convertible preferred stock. On August 31, 2011 we raised approximately $1 million from the sale of 281,104 additional shares of our Series D convertible preferred stock. See Note 14 – Subsequent Events for additional shares of Series D convertible preferred stock that were issued in January 2012.
Significant Accounting Policies and Estimates
The preparation of our consolidated financial statements and related disclosures in conformity with accounting principles generally accepted in the United States requires us to make certain judgments, assumptions, and estimates that affect the amounts reported in our consolidated financial statements and accompanying notes. We believe that the judgments, assumptions and estimates upon which we rely are reasonable based upon information available to us at the time that these judgments, assumptions and estimates are made. However, any differences between these judgments, assumptions and estimates and actual results could have a material impact on our statement of operations and financial condition. The accounting policies, which are more fully described in Note 2 to our consolidated financial statements, reflect our most significant judgments, assumptions and estimates and which we believe are critical in understanding and evaluating our reported financial results include: (1) revenue recognition;
Member Loans at Fair Value
We have elected fair value accounting for the vast majority of Member Loan originations since October 13, 2008, including all Member Loans originated since October 1, 2011, and all related Notes. The fair value election for these Member Loans and Notes allows symmetrical accounting for the timing and amounts recognized for both expected unrealized losses and realized losses on the Member Loans and the related Notes, consistent with the member payment dependent design of the Notes. All of our Member Loans are unsecured but the gross potential credit risk to the Company from Member Loans is significantly mitigated to the extent that loans are financed by Notes or Certificates that absorb the loans’ credit losses pursuant to the member payment dependency provision.
Absent the fair value elections for both Member Loans at fair value and Notes, Member Loans held for investment would be accounted for at amortized cost and would record loan loss provisions for estimated expected losses, but the related Notes also accounted for at amortized cost would recognize losses only when and in amounts actually realized, thereby resulting in a mismatch in the timing and amounts of loss recognition between a Member Loan and related Notes, which is not an appropriate representation for instruments that are designed to have linked
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cash flows and loss realization. The loan origination fees for Member Loans at fair value are recognized as interest income at the time of the loan origination. The costs to originate Member Loans at fair value are recognized in operating expenses as incurred. Interest income on Member Loans at fair value is recorded as earned. The remaining Member Loan originations have been accounted for at amortized cost as explained more fully below.
When we receive payments of principal and interest on Member Loans at fair value, we make principal and interest payments on related Notes, net of any applicable servicing fee on the payments received on the Member Loans at fair value. The principal payments reduce the carrying values of both the Member Loans at fair value and the related Notes. When explicit servicing fees apply, we do not directly record servicing fee revenue related to payments on the Member Loans at fair value. Instead, we record interest expense on the corresponding Notes based on the post-service fee interest payments we make to our investor members which results in an interest expense on these Notes that is lower than the interest income on the Member Loans at fair value.
We include in earnings the estimated unrealized fair value gains or losses during the period of Member Loans at fair value, and the offsetting estimated fair value losses or gains attributable to the expected changes in future payments on Notes.
At December 31, 2011, we estimated the fair values of Member Loans at fair value and their related Notes using a discounted cash flow valuation methodology. The estimated fair values of Member Loans are computed by projecting the future contractual cash flows to be received on the loans, adjusting those cash flows for our expectation of defaults and losses over the life of the loans, and discounting those projected net cash flows to a present value, which is the estimated fair value. Our expectation of future defaults and losses on loans is based on analyses of actual defaults and losses that occurred on the various credit grades of Member Loans over the past several years. The discount rates for the projected net cash flows of the Member Loans are our estimates of the rates of return that investors in unsecured consumer credit obligations would require when investing in the various credit grades of Member Loans.
Our obligation to pay principal and interest on any Note is equal to the pro-rata portion of the payments, if any, received on the related Member Loan at fair value, net of any applicable servicing fee. The effective interest rate associated with a Note will be less than the interest rate earned on the related Member Loan at fair value when an explicit servicing fee applies. At December 31, 2011, the discounted cash flow methodology used to estimate the Notes’ fair values uses the same projected net cash flows as their related Member Loans, adjusted for any applicable servicing fee. The discount rates for the projected net cash flows of the Notes are our estimates of the rates of return that investors in unsecured consumer credit obligations would require when investing in Notes with cash flows dependent on specific credit grades of Member Loans, servicing included.
For additional discussion on this topic, including the adjustments to the estimated fair values of Loans at fair value and Notes at fair value as of December 31, 2011, as discussed above, see Results of Operations – Fair Value Adjustments on Member Loans at Fair Value and Notes at Fair Value, and Note 5 – Member Loans at Fair Value and Notes at Fair Value.
Member Loans at Amortized Cost
The loan origination fees for Member Loans at amortized cost are deferred at origination and, with the related deferred loan origination costs, are amortized to interest income over the contractual lives of the loans using a method that approximates the effective interest method, which loans currently have original terms of 36 or 60 months. We record interest income on Member Loans at amortized cost as earned. Loans reaching 120 days delinquent are classified as nonaccrual loans.
We may incur losses if the borrower members fail to pay their monthly scheduled loan payments. An allowance for loan losses applies only to Member Loans at amortized cost and is a valuation allowance that is established as losses are estimated to have occurred at the balance sheet date through a provision for loan losses charged to earnings. Realized loan losses are charged against the allowance when management believes the uncollectability of a loan balance is confirmed.
The allowance for loan losses is evaluated on a periodic basis by management, and represents an estimate of potential credit losses based on a variety of factors, including the composition and quality of the Member Loans at amortized cost, loan specific information gathered through our collection efforts, delinquency levels, probable expected losses, current and historical charge-off and loss experience, current industry charge-off and loss
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experience, and general economic conditions. Determining the adequacy of the allowance for loan losses for Member Loans at amortized cost is subjective, complex and requires judgment by management about the effects of matters that are inherently uncertain, and actual losses may differ from our estimates.
Our estimate of the allowance for loan losses for Member Loans at amortized cost is developed by estimating both the rate of default of the loans within each credit score band using the FICO credit scoring model, a loan’s collection status, the borrower’s FICO score at or near the evaluation date, and the amount of probable loss in the event of a borrower member default.
Effective October 1, 2011, we revised the accounting policy for Member Loans to elect the fair value accounting option for all Member Loans originated on and after October 1, 2011. Prior to October 1, 2011, Member Loan originations financed by Notes were accounted for at fair value and Member Loan originations financed by us via sources of funds other than Notes were accounted for at amortized cost. As a result of the election of fair value accounting for all prospective loan originations, there were no new Member Loan originations accounted for at amortized cost after September 30, 2011.
Results of Operations
Our business model consists primarily of charging fees to both borrower members and investor members for transactions through or related to our platform. During the three months ended December 31, 2011 and 2010, we originated $86,864,381, and $37,670,650 of loans, respectively, on our lending platform, an increase of 131%. During the nine months ended December 31, 2011 and 2010, we originated $211,422,101 and $102,843,500 of loans, respectively, on our lending platform, an increase of 106%.
Upon issuance of a loan, the borrower member pays a fee to us for providing the services of arranging the Member Loan. The loan origination fee charged to each borrower member is determined by the credit grade of that borrower member’s loan and as of December 31, 2011, ranged from 1.11% to 5.00% of the aggregate member loan amount. The loan origination fees are included in the annual percentage rate (“APR”) calculation provided to the borrower member and is subtracted from the gross loan proceeds prior to disbursement of the loan funds to the borrower member. The loan origination fees are recognized in interest income as described above in Significant Accounting Policies and Estimates.
Investor members that purchase Notes pay servicing fees to us on the payments for the related Member Loans and maintaining account portfolios. Beginning in March 2011, we began charging limited partners in two private investment funds (Funds) monthly management fees that are based on the month-end balances of their partners’ capital accounts. These management fees, which are charged in lieu of servicing fees on the Certificates purchased by the Funds, are recorded in other revenue.
To a lesser extent, we also generate revenue from the net interest income earned on Member Loans at amortized cost that we finance with sources of funds other than Notes.
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Net Interest Income
The following table summarizes interest income, interest expense and net
interest income as follows:
September 30,September 30,September 30,September 30,
Three Months Ended December 31,Nine Months Ended December 31,
Member Loans at fair value:
Total interest income, Member Loans at
Member Loans at amortized cost181,291187,605524,819637,945
Cash and cash equivalents4,5379,98114,57926,783
Total interest income$12,115,172$4,946,81829,122,214$12,586,842
Gross interest expense$8,076,114$3,349,664$19,291,665$7,855,636
Interest expense reduction for servicing
Net interest expense, Notes7,800,5323,140,01818,508,3247,428,916
Amortization of loan discounts20,93967,81178,056217,479
Total interest expense, Loans Payable49,958234,858221,775785,110
Total interest expense$7,850,490$3,374,876$18,730,099$8,214,026
Net Interest Income$4,264,682$1,571,942$10,392,115$4,372,816
We had net interest income of $4,264,682 and $1,571,942 for the three months ended December 31, 2011 and 2010, respectively, an increase of 171%, and $10,392,115 and $4,372,816 for the nine months ended December 2011 and 2010, respectively, an increase of 138%. The main drivers of our net interest revenue are the loan origination fees we collect from borrower members and, to a lesser extent, the servicing fees we collect from investor members. Loan origination fees are a function of the volume of Member Loans originated and the average fee charged to the borrower members.
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The following tables present the average balances of interest-earning assets and interest-bearing liabilities, the components of interest income, interest expense, and net interest income for the three and nine month periods ended December 31, 2011 and 2010.
September 30,September 30,September 30,September 30,September 30,September 30,
Average Balance of Interest-Bearing Assets & Liabilities, Yields and Costs
Three Months Ended December 31, 2011Three Months Ended December 31, 2010
AverageIncome /Yield /AverageIncome /Yield /
Balance 1(Expense)Cost 2Balance 1(Expense)Cost 2
Member Loans at fair value, principal balance$268,496,373$8,191,03212.10 %$117,463,562$3,349,66411.31 %
Member Loan at fair value, origination fees3,738,3121,399,568
Member Loans at fair value, interest and fees268,496,37311,929,34417.63 %117,463,5624,749,23216.04 %
Member Loans at amortized cost2,945,232181,29124.42 %6,696,226187,60511.12 %
Cash, cash equivalents & restricted cash31,032,7374,5370.06 %19,777,8799,9810.20 %
Total Interest-Earning Assets$302,474,34212,115,17215.89 %$143,937,6684,946,81813.64 %
Notes at fair value, principal balance$265,928,486(7,800,532)11.64 %$117,395,672(3,140,018)10.61 %
Loans payable1,040,842(49,958)19.04 %4,834,868(234,858)19.27 %
Total Interest-Bearing Liabilities$266,969,328(7,850,490)11.67 %$122,230,540(3,374,876)10.95 %
Net Interest Income$4,264,682$1,571,942
Net Interest Spread 34.22 %2.68 %
Net Interest Margin 45.59 %4.33 %
1. The estimated average balance represents the average of the month-end balances from the beginning through the end of the period.
2. Yields and costs are annualized based on actual number of days in the period.
3. Net interest spread equals the difference between the yield on interest-earning assets and the cost of interest-bearing liabilities.
4. Net interest margin equals net interest income divided by average interest-earning assets, annualized.
The yield on average interest-earning assets rose 2.25% to 15.89% for the three months ended December 31, 2011, from 13.64% for the same period in the preceding year primarily due to the increase in the proportion of balances in higher-yielding Member Loans relative to the balances in low-yielding cash and cash equivalents, and to a lesser extent, the 1.59% increase in the average yield on Member Loans at fair value to 17.63% from 16.04%, which was attributable to increased origination fees in the current quarter and a 0.79% increase in the average interest rate on Member Loans at fair value in the current quarter relative to the same quarter in the preceding year. The cost of average interest-bearing liabilities increased 0.72% to 11.67% for the three months ended December 31, 2011, from 10.95% for the same period in the preceding year as the decline in the proportion of balances in higher-cost loans payable only partially offset the 1.03% increase in the average interest cost of Notes to 11.64% from 10.61%. As a result of the factors described above, the net interest margin for the three months ended December 31, 2011, rose 1.26% to 5.59% from 4.33% for the same period in the preceding year.
We originated $86,864,381 and $35,144,975 of Member Loans at fair value in the three months ended December 31, 2011, and 2010, respectively, an increase of 147%, and we collected origination fees on those loan originations of $3,738,312 and $1,399,568 in those periods, respectively, an increase of 167%. The average loan origination fees were 4.30% and 3.98% of the principal amount of loans originated in the three months ended December 31, 2011, and 2010, respectively. The increase in the average loan origination fee in the current period was primarily due to an increase in the origination of certain five year loans that carry higher origination fees than three year loans of the same credit grade.