DBRS Morningstar Downgrades ECN Capital to BB (high), Stable Trend; Removes Under Review with Negative Implications Status

DBRS, Inc. (DBRS Morningstar) downgraded the ratings of ECN Capital Corp. (ECN or the Company), including the Company’s Long-Term Issuer Rating to BB (high) and Preferred Shares Rating to Pfd-4 (high). The trend for the ratings is Stable. The rating actions follow the Company’s sale of its Service Finance Company, LLC (Service Finance) business to Truist Bank. The Intrinsic Assessment (IA) for ECN is BB (high) and the Support Assessment is SA3, resulting in the Company’s Long-Term Issuer Rating being equalized with the IA. With these rating actions, ECN’s ratings are removed from Under Review with Negative Implications, where they were placed on August 11, 2021.

KEY RATING CONSIDERATIONS
The ratings downgrade considers the impact of the sale of Service Finance on ECN’s credit fundamentals, including its franchise strength, and earnings generation. With the sale of Service Finance, the Company’s scope of operations and product/services diversity has moderated, increasing ECN’s susceptibility to business and economic downturns. Additionally, the loss of Service Finance’s earning contributions reduces ECN’s earnings capacity, organic capital generation, and to a degree, the Company’s ability to absorb unexpected future losses. The ratings also consider the Company’s ongoing solidly run, asset light businesses, Triad Financial Services, Inc. (Triad) and Kessler Financial Services LLC (Kessler), which are both leaders in their respective niche sectors and contribute to ECN’s satisfactory earnings generation. The Company’s ratings also reflect ECN’s sound credit position, as well as its solid funding and acceptable capital profiles.

The Stable trend, reflects our view that the Company’s credit fundamentals will remain satisfactory, despite the potential for Coronavirus Disease (COVID-19) pandemic related flareups. We expect some moderation in housing demand in 2022, but expect Triad to generate good operating performance as demand for manufactured housing will continue to be supported by affordability issues in the U.S. housing market as well as Triad’s top tier market position. The Stable trend also considers our expectations that Kessler will continue to generate solid results in 2022, especially as marketing services and transaction services benefit from increasing client activity and new partner programs are brought on board, including improving traction with the Company’s Credit Card Investment Management platform.

RATING DRIVERS
A more diverse product mix along with sustained improvements in adjusted profitability and statutory earnings, while maintaining disciplined capital management and risk aversion, would result in an upgrade of the ratings.

Should capital levels not match the Company’s risk position, credit risk on the balance sheet become more pronounced, or if there were partner funding disruptions, the ratings would be downgraded.

RATING RATIONALE
With the sale of Service Finance, ECN’s franchise fundamentals have somewhat weakened, as the transaction reduces the Company’s scope of business, product/services diversity, and to a degree its growth potential. As such, we view ECN as being more prone to negative macroeconomic conditions. Nonetheless, the Company’s ongoing franchise reflects two businesses that are leaders in their respective sectors, including Triad, which provides manufactured home loans and home - land loans, and Kessler, a manager, adviser and structuring partner to credit card issuers, banks, credit unions, and payment networks. The Company’s ratings also consider ECN’s solid management team, which has considerable experience and deep industry knowledge.

Although, the sale of Service Finance will reduce ECN’s earnings generation capacity and revenue diversification, we expect the Company’s future earnings generation to remain acceptable, with solid growth potential. Triad’s adjusted operating income before taxes totaled $36 million in 9M21, up from $22 million in 9M20, reflecting a robust 49% increase in originations year-on-year which drove higher origination and servicing related revenues. Overall, the improved originations reflected the strong U.S. housing market, and the sustained low interest rate environment. Meanwhile, Kessler’s adjusted operating income before taxes totaled $37 million in 9M21, up from $31 million in 9M20, reflecting higher levels of partnership services revenue and marketing services revenues, partially offset by lower transaction services revenue. Finally, the Company’s bottom line should benefit from lower corporate expenses going forward.

The ratings consider ECN’s sound risk profile. Credit risk is limited, primarily reflecting Triad’s moderately sized dealer floorplan loan business, and Kessler’s reasonably sized levels of support to customer marketing campaigns. Asset risk related to its legacy asset portfolio, has been materially reduced, due to substantial valuation reserves taken over the last few years. Meanwhile, operational risk remains a key risk, given that ECN’s consumer business has considerable compliance and regulatory oversight, with FDIC-insured institutions accounting for the majority of Triad’s Funding Partners. Overall, the Company’s operational risk has been well managed.

ECN’s ratings reflect its sound funding profile. Triad’s originations are funded on a flow basis with its Funding Partners, which consist of more than 50 banks and credit unions, including 12 new partners since YE20. Overall, Triad is fully funded for 2021 and 2022, reflecting the attractiveness of its high quality originations. Meanwhile, Kessler funds its marketing campaign from cash flows. Finally, ECN’s liquidity profile remains solid, given its asset light business model. Liquidity is primarily comprised of available capacity under its renegotiated and appropriately sized $700 million credit line.

Capital is acceptable for its rating level, and we anticipate that ECN will continue to maintain appropriate capital levels to match its risk position. That said, capital generation has somewhat moderated with the sale of Service Finance. Finally, we note that the gains from the sale of Service Finance will be distributed to common shareholders.

ESG CONSIDERATIONS
A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework can be found in the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings at https://www.dbrsmorningstar.com/research/373262.

Notes:
All figures are in U.S. dollars unless otherwise noted.

The principal methodology is the Global Methodology for Rating Non-Bank Financial Institutions (September 2, 2021):
https://www.dbrsmorningstar.com/research/383936/global-methodology-for-rating-non-bank-financial-institutions.
Other applicable methodologies include the DBRS Morningstar Criteria – Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings (February 3, 2021): https://www.dbrsmorningstar.com/research/373262/dbrs-morningstar-criteria-approach-to-environmental-social-and-governance-risk-factors-in-credit-ratings.

The primary sources of information used for this rating include Company Documents and S&P Global Market Intelligence. DBRS Morningstar considers the information available to it for the purposes of providing this rating was of satisfactory quality.

The rated entity or its related entities did participate in the rating process for this rating action. DBRS Morningstar had access to the accounts and other relevant internal documents of the rated entity or its related entities in connection with this rating action.

Generally, the conditions that lead to the assignment of a Negative or Positive trend are resolved within a 12-month period. DBRS Morningstar’s outlooks and ratings are under regular surveillance.

For more information on this credit or on this industry, visit www.dbrsmorningstar.com.

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