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Santander Consumer USA Holdings Inc (NYSE:SC)
Q4 2019 Earnings Call
Jan 29, 2020, 9:00 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Good morning, and welcome to the Santander Consumer USA Holdings Fourth Quarter 2019 Earnings Conference Call. [Operator Instructions]

It is now my pleasure to introduce your host, Evan Black, Head of Investor Relations. Evan, the floor is yours.

Evan Black -- Head of Investor Relations

Thanks, Nicole. Good morning, and thank you for joining the call, everyone. On the call today we have Mahesh Aditya, President and Chief Executive Officer, and Fahmi Karam, Chief Financial Officer. Certain statements made today may be forward-looking. Please refer to our public SEC filings and risk factors with respect to those statements. We may also reference during the call non-GAAP financial measures that we believe will be useful to our investors. A reconciliation of those measures to U.S. GAAP is included in the 8-K issued today, January 29, 2020.

With that, I will turn over to our CEO. Mahesh?

Mahesh Aditya -- President and Chief Executive Officer

Thank you, and good morning, everybody. I want to start by saying how honored I am to be appointed President and CEO of Santander Consumer. I joined Santander in 2017. Serving as the Chief Operating Officer and most recently as the Chief Risk Officer of Santander U.S. In each of these roles and as a Board member of Santander consumer, I was significantly involved in the strategic direction of the company's operational strategy and risk management programs. I'm therefore excited at the opportunity to be able to continue the great work that's been done these past few years. Prior to Santander, I held various executive roles with Citibank, Chase, Capital One and Visa. I would like to thank Scott Powell for his leadership and dedication over the last few years, and he successfully navigated Santander Consumer and Santander U.S. through a time of great change. I've known Scott for 20 years, and on behalf of all of us at Santander, we wish him the best in his new role. Before I cover the fourth quarter and 2019 highlights, I have a few remarks regarding our tender offer. As you've seen by now, we've announced that we expect to commence a $1 billion tender offer to repurchase our shares.

Although we cannot expand much further than the press release issued last evening, tender during the current capital distribution cycle actually is authorized to repurchase up to $1.1 billion in shares and paid quarterly dividends of $0.22 per share. The tender offer, therefore, aligns with these previously authorized capital actions and it is efficient use of our excess capital. We are constantly evaluating capital deployment opportunities as we work toward a more efficient capital growth. The tender offer as well as December's portfolio acquisition from Gateway One Lending are recent examples of SC creating shareholder value. Let's turn to slide three to discuss some of our full year highlights. There were several key leadership appointments during 2019, all of which were internally sourced and speak to the depth of the leadership team at SC. I'm excited to work with Fahmi, Shawn and our recently appointed leaders and the entire management team in 2020 as we continue to push our business forward. From an originations perspective, it was yet another record-breaking year.

Our total auto originations were more than $31 billion, up 9% versus 2018 and an all-time high for Santander Consumer. We had a particularly strong increase in Chrysler prime loans this year, which was driven by further collaboration with our partners at Fiat Chrysler and by the Santander bank originations program. To SBNA, we originated $7 billion of auto loans, which supports our relationship with FCA and demonstrates the value of collaboration of our Santander's U.S. franchise. Another key highlight from 2019 was a mutually beneficial agreement we reached with Fiat Chrysler. During 2019, we achieved the highest ever annual penetration rate since the inception of the contract, and we were able to accomplish this by aligning interest with FCA and focusing on our dealers. Also during 2019, SC earned an all-time high $994 million in net income at a 2.2% return on assets. Credit performance improved across the board with improvements in delinquencies, charge-offs and recoveries. Late-stage delinquencies decreased 90 basis points versus the end of 2018.

The full year net charge-off ratio was 7.8% in 2019, down 70 basis points from the prior year at lowest NCO rate in the last four years. Recoveries continue to be strong and are supported by a strong macroeconomic environment and industry backdrop. Our recovery rate, which includes metal and nonmetal related recoveries totaled more than 52% in quarter 4 2019, reflecting a 490 basis points increase from the prior year quarter. TDR balances also decreased $1.5 billion there, however, due to better credit performance and lower modifications. During 2019, SC was the #1 auto ABS issuer in the market, executing $11.9 billion in ABS, demonstrating the strength and investor demand of our ABS platforms. We also launched the first ever non-prime revolving auto and ABS platform. This will allow us to take advantage of lower benchmark rates over the five year revolving term, which results in better cost of funds increasing -- increased liquidity and increased access to investors at attractors of the duration added.

With that, I would like to turn the call over to Fahmi for a more detailed review of our results.

Fahmi Karam -- Chief Financial Officer

Thanks, Mahesh, and good morning, everyone. Turning to slide four for some key economic indicators that influence our originations and credit performance. Building on what Mahesh said, the macroeconomic environment remains supportive of our business. Consumer confidence remains at high levels. The labor market is strong and household balance sheets continue to improve. The environment continues to support a resilient and competitive consumer lending environment. In regards to new vehicle sales, 2019 marked the fifth consecutive year of at least 17 million units sold. In 2020, industry experts are forecasting a moderate decrease, slightly lower than the 17 million sold last year. The used vehicle market continues to be stable as demand from consumers remains strong. On slide five, there are a few key factors that influence our loss severity and credit performance. Our recovery rate, which includes metal and nonmetal proceeds, bankruptcy and deficiency sales was 52.2% in the quarter. The softening in used vehicle prices we mentioned in October last year, moderated in the final two months of the quarter and led to better recoveries year-over-year.

The overall trend in Q4 is in line with typical seasonal patterns experienced in the past. Additionally, select non-prime industry securitization data points to improved net loss and delinquency trends compared to last year, consistent with our portfolio. Turning to slide six for origination trends. During 2019, SC originated more than $31 billion of auto originations, up 9% from 2018 and a record for the company. For the fourth quarter, core loan originations increased 9% in the quarter compared to the prior year quarter. Chrysler capital loan originations increased 29%. Similar to prior quarters this year, the increase is coming from a greater than 640 FICO segment, which is driven by Chrysler Capital exclusive offers and the origination program with Santander Bank. Lease originations have decreased 15% versus Q4 last year due to competition in FCA lease space as well as elevated lease volumes in Q4 2018. The fourth quarter was really a continuation of the trends in the first nine months of the year. Although down year-over-year, we remain the largest lease originator for FCA with more than 8.5 billion leases in 2019. The growth in volume is due to our continued progress with FCA, our dealers and our origination processes.

We remain disciplined with respect to the risk return profile of our nonprime originations while maintaining our competitive position. We expect to continue to support FCA prime loans while continuing to maintain our strong market share in lease. Turning to Page seven and the FCA results. Remember, during 2019, we reached a mutually beneficial agreement with FCA, which established an operating framework for the rest of our contract that we believe has positioned both SC and FCA to succeed, as evidenced by our results. We achieved our highest ever penetration rate with FCA since the inception of the contract in 2013 with 34% penetration for the full year 2019. The key differentiator this year is the consistency and stability of the programs we collectively offer to our dealers and our customers. Turning to slide eight. We continue to identify ways to leverage our servicing capabilities and drive growth in our serviced for others balances. During the quarter, we added $1.9 billion in originations to the SFO platform via our agreement with Santander Bank. In December 2019, we also announced a transaction with Gateway One Lending, a TCF subsidiary, and I will cover a little bit later, but included a $500 million serviced for others portfolio.

That portfolio is not part of the SFO balance as of year end. The serviced for others platform generated $21 million in servicing fee income this quarter. In addition to those servicing fees, $6 million of SG&A origination fees are in our fees, commissions and other line items. Moving to slide nine to review our financial performance for the quarter versus the prior year quarter. Net income for the quarter of $146 million, up 40% versus the prior year quarter. Interest on finance receivables and loans increased 2%, driven by higher average loan balances. Net leased vehicle income increased 5% due to continued growth in lease balances, offset by lower lease gain on sales compared to prior year quarter. Interest expense increased 7% due to higher levels of outstanding debt, relatively in line with the increase in our loan and lease receivables balance and a lower contribution from our derivatives portfolio. Provision for credit losses decreased to $545 million in the quarter, down $145 million, driven by strong credit performance and lower TDR balances. Total other income recorded a loss of $64 million in the quarter and included $170 million of held for sale adjustments related to the personal lending portfolio.

Next, we will turn to slide 10 to review full year results. Net income for the year was $994 million, up 9% versus the prior year and a company record, excluding the onetime benefits of the corporate tax reform in 2017. Interest on finance receivables and loans increased 4%, driven by higher average loan balances. Net leased vehicle income increased 25%, also due to continued growth in balances. Interest expense increased 20% due to higher levels of debt outstanding with our higher asset balance and additional leverage from our capital distributions. Provision for credit losses decreased to $2.1 billion in the year, down $112 million, driven by continued strong credit performance and lower TDR balances. Income tax expense in the year was elevated in 2019 due to higher income, updated statutory rates and a few onetime unfavorable adjustments to prior year filings.

Our tax rate remained slightly higher than the statutory corporate tax rate. I will cover our tax rate outlook a bit later when we go through guidance. Earnings per share for the year of $2.86 increased from the prior year due to a combination of higher income, driven by increased balances and improved provision expense in addition to a lower share count as a result of our open market share repurchases. Continuing on to slide 11. Versus the prior year quarter, early stage delinquencies decreased 130 basis points, while late-stage delinquencies decreased 90 basis points. As we have referenced in the past, low loan modifications have an impact on delinquencies, charge-offs and lower inflows into TDRs. Over time, as modification levels have normalized, delinquencies have improved and a lower loss portfolio remains. Regarding losses, the RIC gross charge-off ratio of 17.3% decreased 290 basis points from Q4 last year. The net charge-off ratio of 8.3% decreased 230 basis points from Q4 last year, driven by lower gross charge-offs as well as strong recovery rates.

Our credit metrics continue to improve throughout 2019 as a result of all the work we have done to improve the dealer experience on the front end and the servicing strategies we've implemented on the back end. Turning to slide 12 to review the loss figures in dollars. Net charge-offs for RICs decreased $137 million versus prior year quarter to $618 million. Breaking down the chain, $51 million losses were primarily due to higher average loan balances, which were up $1.6 billion from last year. These were more than offset by lower gross charge-off ratio decreased losses by $114 million and a better recovery rate, which decreased losses by $74 million. Turning our attention to provisions and reserves on slide 13. At the end of Q4 2019, the allowance for credit losses totaled $3 billion, decreasing $74 million from last quarter, which represents an allowance ratio of 9.9% at the end of this quarter. In regards to the reserve block, the allowance increased $193 million due to new originations in the quarter. These increases were more than offset by $103 million decrease due to favorable performance adjustments and $164 million decrease due to payoffs and charge-offs.

The overall ratio continues to decrease as TDRs as a percentage of total outstanding balance decreases and overall charge-offs on the portfolio improve. Now let's turn to slide 14 to discuss TDRs. TDR balances decreased $362 million versus the prior quarter, continuing their downward trend due to lower TDR inflows given the strength of the consumer and lower modification levels. As we've mentioned in the past, the slower generation of TDRs could allow TDR reserve balances to trend. Moving to slide 15 to cover CECL. On the slide, we have outlined a day-one impact on CECL broken out by TDR versus non-TDR balances. We adopted CECL on January 1 of this year and expect to recognize approximately $2 billion increase in our allowance, a decrease in retained earnings of approximately $1.5 billion after taxes. The impact represents an increase of approximately 69% of the allowance compared to the fourth quarter of 2019, which is toward the upper end of the range we previewed last quarter. The decrease to retained earnings represents an estimated 80 to 90 basis points decrease in CET1 for the first quarter of 2020 based on a four year phase in for regulatory capital ratios. A couple of thoughts on the day-two impact.

Our CECL methodology relies on various models and assumptions to forecast lifetime losses of the portfolio based on an economic forecast and other relevant variables. The impact of CECL will heavily depend on several factors, including the mix of our portfolio, recent portfolio trends, the growth of the balance sheet and our view of the economic outlook at the end of each period. The other consideration is our mix of TDRs versus non-TDRs. Under CECL, the impact from decreasing TDR balances will still be a benefit but to a lesser degree than we have experienced in the past. As you can see from the slide, the TDR coverage ratio is very similar to our prior periods as TDRs are already reserved for lifetime losses. Most of the CECL impact comes from non-TDR portfolio, which the allowance increases from approximately 8% to just over 15%. Our expectation for 2020 is that the TDR bounce will continue to drop, but at a slower pace than we experienced in 2019.

As such, the benefit in 2020 from the reduction of TDR balances will be significantly reduced from 2019 levels. As we mentioned on the last call, we do not expect CECL to change our underwriting practices or how we approach the market on a day-to-day basis. Reserve timing does not impact the underlying risk or profitability of our assets. Turning to slide 16. The expense ratio for the quarter totaled 2.1%, up from 1.9% for the prior year quarter. On a full year basis, the expense ratio was flat compared to last year. Turning to slide 17. We continue to maintain strong and deep access to liquidity in the securitization and wholesale funding markets. Ending 2019 as the #1 issuer of overall auto ABS in the market, a first ever milestone for our company. In addition to our consistent execution of our SDART, DRIVE and SRT platforms this past year, SC brought to the market the first ever non-prime auto revolving ABS transaction, SREV, allowing us to lock in five year funding at attractive rates.

For the quarter, we executed $2.2 billion in securitizations, and we ended the year with a total committed funding of $51 billion, which included $19 billion in private financings and lender commitments. Subsequent to quarter end, SC completed its first public drive sub-prime ABS securitization of the year, offering $1.1 billion in securities, which were well received by investors and priced with the lowest weighted average cost of funds in the history of the DRIVE platform. Finally, turning to slide 18. Our CET1 ratio for the quarter was 14.8%, down from 15.8% versus prior year quarter. As Mahesh mentioned, we are very excited to continue our efforts to return capital to our shareholders with a plan to commence a $1 billion tender offer. We remain focused on working toward a more efficient capital base and that tender offer is for their progress toward that goal. As we go into the capital planning cycle for 2020, we will assess the outcome of the tender offer, CECL's phased-in impact and further actions to deploy any excess capital, whether it's through open market repurchases, dividends or additional portfolio acquisitions like the TCF transaction.

Before I get to guidance, I did want to briefly comment on the transaction we announced in December with TCF. The deal had two parts: a $1.1 billion indirect auto loan portfolio that we acquired, and a $500 million servicing conversion. The portfolio should be fully converted onto our servicing platform by the end of Q1 2020 and will be included in our SFO balance going forward. We are excited about this transaction as it aligns with two of our key priorities to be opportunistic on portfolio acquisitions and to leverage our servicing platform to drive fee income. This is the second conversion we have executed in the past two years and demonstrates our ability to partner with other financial institutions in mutually beneficial ways.

SC is becoming the servicer of choice and has a strong track record of converting assets efficiently and improving portfolio performance post-conversion for our SFO customers. Moving to our guidance for the first quarter. Remember, the first quarter is seasonally a strong performing quarter due to consumer benefits from tax refunds. My comments will be relative to Q4, unless otherwise noted, and will include the impact of personal lending. We expect net finance and other interest income to be relatively flat, in line with last year's quarter-on-quarter trend. Provision expense is expected to be flat to $50 million better, a smaller seasonal benefit than in prior years as Q4 2019 net charge-off ratio was more than 200 basis points lower versus the prior year quarter, driven again by improved gross loss and recovery performance.

We expect total other income to be $80 million to $100 million better, driven by normal seasonality of the Bluestem held for sale portfolio. We expect operating expenses to be flat, plus or minus $10 million. I will now cover our full year outlook for 2020. For the full year 2020, we expect net finance and other interest income to be up low single digits, the net charge-off ratio to be around 8%, a stable expense ratio around 2.1%. And on taxes, we currently expect the tax rate to be slightly lower than 2019, around 25% for the year.

Before we begin Q&A, I would like to turn the call back over to Mahesh. Mahesh?

Mahesh Aditya -- President and Chief Executive Officer

Thank you, Fahmi. In summary, 2019 was a very strong year for Santander Consumer. While there has been some recent market uncertainty, we continue to vigilantly watch all of our early performance indicators and do not see anything alarming. The U.S. consumer and job creation remains strong, unemployment continues to remain at historic levels -- historic lows and the other market is healthy, so we remain generally positive headed into 2020. I want to also note, we made significant strides in 2019 with the Santander Consumer USA Foundation across the communities in which we operate, Dallas, Texas; Mesa, Arizona; and Denver, Colorado. We awarded more than $2.2 million in ground donations and sponsorships. In addition, our associates completed more than 24,000 hours of service to help make a positive impact in our communities. In closing, a few points to detail our 2019 notes. First, Santander Consumer has made significant progress on many fronts over the last few years, fine-tuning our pressing and being more competitive in the market, improving dealer experience and making sure our risk management and operations are running smoothly.

Our 2019 results show that the changes we made are leading to positive results. Second, we remain disciplined on expenses, while increasing volume and balances. Third, we've spent a lot of time building and deepening our management team. Fahmi and I being here today is a great example of that. Our results also speak to the broader point that SC today is run by a management team with a strong background in banking that continue to push the company toward operating in major financial institution standards. Finally, on FCA, we continue to work very hard to support our partner. Our originations performance reflects the strength of our partnership, and we continue to work together to find new ways to create mutual value.

With that, I will open the call for questions. Operator?

Questions and Answers:

Operator

[Operator Instructions] Our first question comes from Moshe Orenbuch with Credit Suisse.

Moshe Orenbuch -- Credit Suisse -- Analyst

Great. So maybe given the comments that you made about the volumes overall with respect to Chrysler, but kind of been seeing a little more competition on leasing. Hoping you could flesh that out a little bit and discuss how that's likely to -- who is kind of stepping in and taking that higher level of competition? And kind of what's your plan, are you in discussions with FCA? Like are there things that they're going to do that are going to help you kind of rebuild that decision?

Fahmi Karam -- Chief Financial Officer

Yes, thanks for the question. So the leases did drop year-over-year. As we mentioned, we did originate $1.8 billion for the quarter. Part of it is, from a dollar standpoint, slightly lower levels of leases from FCA generally. You mentioned competition on lease. I think most people know that the competition on lease is relatively small. There's only a couple of other national players who do FCA leases. We have seen some pressure from credit unions in certain regions of the country that have also stepped in into lease. But given that limited competition in lease.

Any aggressive price movements, one way or the other, can really significantly take share. As a reminder, and I think I've mentioned it, we are still -- we still have the largest share of FCA leases by far. The competition does come and go month-to-month, vehicle-to-vehicle, but we have to maintain a consistent program for our partner, and we do that. And we've seen some of the volume come back in January as we put in more programs to start out the year.

Moshe Orenbuch -- Credit Suisse -- Analyst

Okay. And just as a follow-up question. As it relates to the tender offer and assuming that's executed. Can you talk about how you think about the capital position of the company post the CECL and tender and going into the next cycle?

Fahmi Karam -- Chief Financial Officer

Yes. The planning for the next cycle is kind of in its early stages this year. We'll obviously have the benefit of seeing how the tender plays itself out and how the execution goes before we submit the 2020 plan. But just like every year going into the capital planning cycle, we'll evaluate our strategic plan of business. We'll look at how much we want to reinvest in the business as well as make sure that we can absorb the CECL phase in impact as well as any losses that may come up through used car prices or other factors in the macro environment. And after we do that, if we do have excess capital going forward, then we'll have to determine the best use of that capital, whether it's through share repurchases, dividends or leaving some dry powder for portfolio acquisition like we did this quarter.

So as a reminder, when we announced the $1.1 billion share repurchase authorization. We knew CECL was around the corner. We did plan for absorbing that CECL change and felt we could still execute the strategic plan, still do things like portfolio acquisitions and still have excess capital to return to our shareholders. So going forward, we'll have to assess it over the next coming weeks and the next couple of months as we submit our capital plan for 2020 for approval.

Operator

And we'll move on for our next question from John Hecht, Jefferies.

John Hecht -- Jefferies -- Analyst

Just kind of focused on margins. So on the yield side, we've seen the average price come down year-over-year. I'm wondering how much of that would be tied to rates versus mix versus competition?

Fahmi Karam -- Chief Financial Officer

Yes. It's -- John, it's really all of the above. A little bit of competition, a little bit of a mix. It's a little bit of us trying to be a little bit more competitive. In certain segments that we feel a lower risk and better credit quality, as you can see from our performance. So if I look at net interest income, in general, when you look at our NIM year-over-year. Part of it is the continuation of the story we told last quarter, which is lease growing as a percentage of the total outstanding balance. Lease is a prime product, and therefore, has a lower yield in our non-prime assets. It also plays into our cost of debt. Our cost of debt has ticked down throughout the year, I believe it's 30 basis points better than it was in Q1. But we have a lag in the interest rate environment playing through the portfolio.

So we still haven't seen the full benefit of the drop in interest rates, and we expect to see more of it in 2020. So in addition to like leases being a bigger part of the balance sheet. The retail assets also have ticked down in yields for a couple of reasons. And you mentioned one of them, which is mix. So as our FCA penetration continues to increase, also that is coming in the prime segment, although SBNA has been a great partnership for us, they do not take 100% of that prime volume. Some of it does spill over into what we retain on the balance sheet. The other part of it is, I've mentioned in our prepared remarks, is the lease gain on sale. And that has come down a little bit over really the course of 2019, and we expect that trend to continue in 2020.

We had planned for this as lease end, lease income and sales on lease end is a factor of really two things. One is the remarketing efforts and how much we get for the vehicle when it's turned back in as well as where we set the contract was in at the time of origination. And as used car prices have fluctuated over the last few years, we've gotten better and better at predicting what that recent value is. And as such, we've recorded smaller gains on lease toward the end of 2019. Still again, but at a lesser degree than we experienced in prior years, so it's a combination of all those things.

John Hecht -- Jefferies -- Analyst

Thinking about your commentary on your guidance for net interest income for 2020. Your commentary there on pricing and opportunities are in the cost of capital. I mean, part of it is looking at our forecast. I mean, it feels like the net interest margin should be kind of -- is it settling in a band now? Or should we think of any migration there given the moving parts over the course of the year?

Fahmi Karam -- Chief Financial Officer

Yes. I think as you see leases becoming a bigger, bigger part of the portfolio as that balance grows, I think you'll see a slight tick down. I think that's what we've guided to in our full year outlook. So top line being up just low single digits. The other thing to think about when you look into the ratio for the fourth quarter is the TCF portfolio. So that portfolio is near-prime prime, weighted average FICO is around 715 has about 7% yields. So as that portfolio has been a little over $1 billion portfolio, at those lower yields, you'll see the top line contract just a bit.

Operator

Your next question comes from Steven Kwok with KBW.

Steven Kwok -- KBW -- Analyst

Just the first one around the tender offer, given where the stock price is already right now. Is there the ability to raise that range that you're buying back? And also, can Banco Santander participate in the buyback as well?

Fahmi Karam -- Chief Financial Officer

Yes. So to answer your first question, just like every other tender, you do have the option to amend and extend. That's not the plan going into it, but it's an option that we have available to us if we choose to use it. The short answer on Banco Santander and SHUSA is they can participate. It's a better question for them, but we do not anticipate them participating in the tender offer. Can't say much around the tender offer itself, other than the investors who choose to participate in the offer will receive the upper end of the range, about a 12% premium to what we closed yesterday. And for those investors who choose not to participate, they will receive the benefit of the earnings accretion going forward. So we think it's a positive transaction for the shareholders, and it's a positive step for the company to deploy that excess capital.

Steven Kwok -- KBW -- Analyst

Right. And then just as a follow up around, how much of the CECL day-two impact are you incorporating in the first quarter that -- relative to that flat to $50 million better guidance?

Fahmi Karam -- Chief Financial Officer

Yes. So it's in the guidance that we gave for the first quarter. The guidance that we've given around provision expense in total doesn't -- we don't break out net charge-offs versus the provision expense. But what I will say is that the CECL impact in Q1 is pretty much or the provision expense related to CECL is pretty much in line with Q1 we saw last year. The smaller guidance that we've given, Q1 versus Q1, is really a function of where charge-offs came in in Q4. So the starting point in Q4 of just a little over 8% compare that to where we were in Q4 of 2018 at just over 10%. So that drop in Q4 to Q1 will not experience it this year like we did last year.

Operator

And we'll take our next question from Arren Cyganovich with Citi.

Arren Cyganovich -- Citi -- Analyst

Thanks. Just looking at your TDR commentary, you still expect this to come down and that should be a benefit, I guess, looking at the CECL that's kind of like of 25% allowance versus around 15%. What's the pace of your TDR? I know you said it's going to be less than last year. When do you think that starts to kind of normal out over the next couple of years?

Fahmi Karam -- Chief Financial Officer

Yes. I think we've discussed the TDR trend in the past. We've stopped giving an estimate on exactly when we think it will be stable and kind of flatten out. We do expect it to drop quarter-over-quarter throughout 2020. And then at some point in 2021, it should start to flat out, assuming anything else in the environment stays stable.

Mahesh Aditya -- President and Chief Executive Officer

Yes. I mean, we have a $4 billion TDR inventory, which is going to probably go through some sort of up and down this year. There are 3 elements to TDR. One is the ads, which is new accounts going into TDR, and then the other is payoffs, and the third is charge-offs. So we expect it to be about 1/3, 1/3, 1/3 this year, and there will be some decline in the overall TDR balances in 2020. But as Fahmi says, it's a little difficult to quantify the exact impact right now because the big unknown there, obviously, is payoffs, charge-offs and the new entry into TDR.

Arren Cyganovich -- Citi -- Analyst

And then, Mahesh, maybe you could just talk a little bit about taking over the reins of CEO. Do you intend to make any changes to strategy? It's a little bit odd running under a parent company that after the buyback looks like alone, about 83%. Is there is any way that you intend to run the company differently than any of your predecessors?

Mahesh Aditya -- President and Chief Executive Officer

Yes. I've been involved in the running of the company pretty closely, both as a Board member as well as helping Scott with a bunch of stuff over here for the past two years. I think our big priority this year is going to continue to be -- to maintain our importance in -- to keep the Chrysler relationship as the primary focus of what we do this year. And that includes being a full-service provider for Chrysler being both in the prime space as well as in the lease space. And of course, in the area where we operate best, which is the near-prime and subprime area. So that will be our fundamental strategy going into 2020, keeping a close eye on some of the other economic indicators, which, obviously, we have to be careful about like used car prices, etc. I think we've kind of sort of hit our sweet spot in terms of, as Fahmi was saying, in terms of predicting where some of these residual values are going to end up.

So lease profitability, we've got that kind of sort of under control and figured it out. But I think fundamentally, the answer to your question is there will be no change in the strategy. Chrysler continues to be our primary focus and important -- area of importance. And the other, obviously, is making sure that we have the bank program running and serviced for others, which, as Fahmi also highlighted, is a very key area of focus for us this year.

Operator

And we'll move on to John Rowan from Janney.

John Rowan -- Janney -- Analyst

Just a quick question. I noticed in the -- after you took out the chart that shows the difference between auction and auction-plus. And I was wondering if there was a deficiency sale in the quarter? And if so, what the timing of that was?

Fahmi Karam -- Chief Financial Officer

Yes. We formatted the presentation, we didn't end up leasing that line item on auction only. But to answer your question directly, we did not have a deficiency sale in Q4 in 2019. So that benefit that you're seeing quarter-over-quarter is a fair comparison.

John Rowan -- Janney -- Analyst

Okay. And just a follow-up, the higher leased vehicle expense you reported in the quarter. Is that just a function of the weakness early in the quarter on remarketing trends?

Fahmi Karam -- Chief Financial Officer

I would point to it as more of, what I mentioned, around lease gain on sales more than it was what we noticed in the softness in the recovery in the used car market. The lease gain on sale flows through that lease expense, and that's where you'll see it come.

Operator

And our next question comes from Jeff Adelson with Morgan Stanley.

Jeff Adelson -- Morgan Stanley -- Analyst

Most of my questions have already been asked. But I guess, I just wanted to dig in a little bit more into the day-two impact. I guess, it's -- obviously, the NCO guide is 8%, looking better. But should we be thinking about the reserving going forward as to the extent that TDR stabilized, running that reserve ratio closer to that 16% reserve ratio once the TDR stabilized? And just thinking through 2020, it seems like your provisions still need to increase on the 20% range. I'm just wondering if there's any kind of insight you could give into the quantifying of that day-two impact?

Fahmi Karam -- Chief Financial Officer

Yeah, I think, we specifically didn't give guidance for the year around provision expense. But we'll be attempted to do is give enough data points for people to get enough transparency into, how it's going to impact the numbers.

It's going to impact the numbers really in two ways. One, I mentioned the TDR drop. And so the benefit we used to get going from 25% to 8% is now going to 25% to something closer to 15%. And so if you just take the TDR drop that we experienced in 2019, assume that it happened again in 2020, you can then calculate the difference in the benefit in 2020, versus 2019.

The other component is around balanced growth. We're coming off. We don't specifically give guidance around originations, but if you think about the growth that we've experienced in originations over the last two years, we had 43% increase in 2018 versus 2017 and then we on top of that have 9% growth in 2019 as well. Given the intensity and the competition that we mentioned, it's hard to think that we're going to be able to sustain that unless something changes in the competitive environment. But if you just take the balance growth that we experienced in 2019, assuming originations were flat to slightly up.

You can take that balance growth and assume a 16% coverage ratio versus a 10% coverage ratio that we had in 2019. And so, if you add those two together, you kind of get the day two impact.

Jeff Adelson -- Morgan Stanley -- Analyst

Got it. That's helpful. And then just a quick follow-up. I don't think I heard any kind of commentary on the outlook for used car prices. I was just wondering if you might be able to give us an update on what you're looking for in 2020 relative to the 2019 trends?

Mahesh Aditya -- President and Chief Executive Officer

Yes. So on used car prices, we did a little bit of an analysis on what constitutes our recovery rate and what's the underlying trend on used car prices. So there's a couple of things going on. One is we're beginning to notice a mix shift between sedans and SUVs and CUVs. That's a positive for us because recovery rate is higher and these SUVs, CUVs are holding value. But more sedans -- the sedans coming into -- used car sedans coming into the market are sort of shrinking volume. So that trade is a good trade for us because we're moving more toward a segment that's giving us higher recovery rates. The second thing is that because of our prime exposure and because we're buying more new cars and with -- financing more new cars, pardon me, we've got a bit of a mix shift going on in terms of the age of vehicles that are going into charge-off. And they're shifting more toward newer vehicles, and therefore,

We get higher support as far as recovery rates are concerned. So I'm pretty -- all of this being considered and the constitution of our recovery rates, and what sort of goes into it. I'm pretty confident that 2020, we're going to continue to see a reasonable degree of support as far as our recovery rates and used car prices are concerned.

Operator

Our next question comes from Kevin Barker with Piper Sandler.

Kevin Barker -- Piper, Santander -- Analyst

Yes. I was hoping you could just discuss how you view your target CET1 ratio on a post-CECL world. I mean, on a fully phased-in basis, you're going to have nearly 400 basis points of decline in the CET1 base -- in the CET1 ratio. So would you expect that bar to be reset? And then if you had any conversations with regulatory agencies and the rating agencies regarding potential targets for CET1?

Fahmi Karam -- Chief Financial Officer

Yes, Kevin, it's a good question. I think it's something ourselves, and really the industry, in general, is trying to figure out how to implement CECL going forward. It's another factor you have to consider as we progress through the year and start getting used to the new normal of life with CECL. Theoretically, I think we could reduce it for the CECL impact, but we haven't received that guidance yet. The company's loss-absorbing capacity under stress is really the same. It's moving from one line item to the other line item. However, we're still in the early part of the process of doing our stress testing and our capital planning cycle. As I mentioned before, we'll be determining that over the next couple of weeks and combination with our strategic plan, assess whether we are changing our capital targets or keeping them the same.

Kevin Barker -- Piper, Santander -- Analyst

Okay. And then so given your shift toward higher credit quality loans in the most recent, at least the most recent quarters, especially around about 640 FICO score. Is there the distinct competitive change that makes that a better opportunity for you on the balance sheet? Or are you seeing any moves, primarily because of the impact of CECL to decrease the impact of provision expense, just given your move in the credit appetite?

Fahmi Karam -- Chief Financial Officer

Yes. It's not CECL related. For us, we continue to price our assets on a lifetime economic basis and CECL really doesn't come into the equation. I would say the increase in credit quality is really twofold. I think we can achieve our risk-adjusted margin by being better competitively priced and driving positive selection at the dealers. So that's one component of it. The other component of it is just our continued progress and our continued increase in penetration rates with FCA. The more exclusive offers we can get with FCA, the more new volume comes our way, and those tend to be higher FICO assets.

Operator

And we'll take a question from Vincent Caintic with Stephens.

Vincent Caintic -- Stephens -- Analyst

A question about capital usage and the two parts. So first, great to see the $1 billion tender offer, just kind of when you think about going forward, do you still generate a lot of good free cash flow every year. And with the $1 billion of remaining public float after the tender offer gets executed, I'm just wondering if there's anything that prevents you from just acquiring the rest of the outstanding public float? And then separately, any more auto portfolios that might look interesting to you. How's the pipeline there, similar to what you did with TCF?

Fahmi Karam -- Chief Financial Officer

Yes, I think it's premature to really comment about kind of post-tender. We haven't officially launched the tender yet. So we'll see how it executes, and we'll go from there for the rest of the year as far as our capital actions go. Sorry, can you repeat your second part of your question?

Vincent Caintic -- Stephens -- Analyst

Sure. Just on any more auto portfolios that might look interesting to you, just how is the pipeline of potential acquisitions similar to what you did with Gateway?

Fahmi Karam -- Chief Financial Officer

Sure. So we do get a lot of looks at portfolio has come our way. We do feel like we have a differentiated solution for other financial institutions to be able to either acquire the portfolio or convert the asset onto our servicing platform and just servicing for them. And I think we've been able to demonstrate our capabilities over the last couple of years. And the more track record we have around doing that, more and more are -- people are reaching out to us. Going back to your question around CECL. It may drive other people to think about auto as an asset class and think of whether they want to reserve upfront for lifetime losses. And if that's the case, maybe more portfolios will come our direction. But from our standpoint, we want to be opportunistic when those portfolios come our way and make sure we have enough dry powder to execute.

Vincent Caintic -- Stephens -- Analyst

Okay, great. And just one quick follow-up on the used car price discussion. So would it be fair to -- so the 52.2% has been very strong. Is that -- so just keeping that flat as an expectation that would be your assumption? Just wanted to confirm that.

Fahmi Karam -- Chief Financial Officer

Yes, recovery rate -- Mahesh mentioned it earlier around the used car price outlook. Most people will tell you it should be down 3% to 5% this year, but we were saying that this time last year, and it was really up across the board. And as Mahesh mentioned, it's really across the board for us, whether it's vehicle types, new or used or by channel or vehicle age. It's been a positive story throughout the year. Going forward, again, people are expecting 3% to 5% drop. We do not think it's going to be that big of a drop this year. We do expect it to moderate versus where we're at today. I think J.D. Power and NADA put out a forecast that they expect it to be down 40 or 50 basis points. I think in that range to 1% down is a reasonable estimate.

Operator

And we'll take a question from Rob Wildhack with Autonomous Research.

Rob Wildhack -- Autonomous Research -- Analyst

Just on the Gateway One deal. Were there any characteristics of that book or the acquisition that stood out as particularly attractive to you? And can you give us a sense for how competitive the bidding process was there?

Fahmi Karam -- Chief Financial Officer

Yes, I wouldn't say there's anything specific about the portfolio that made it attractive to us. I think it was a near-prime, prime portfolio that we could buy at an attractive level. We were able to get comfortable with the originations there. One thing, I guess, that did benefit the transaction, I would say, is just the seasoning of the portfolio. So they did exit the -- our business toward the end of 2017. So it being a more seasoned portfolio, allowed us to really hone in on loss expectations going forward. And I think also them being a bank partner was also attractive to us. But then again, I mentioned our comprehensive solution for them. So nothing too specific to the portfolio itself, it's indirect auto, it's something we know very well.

Rob Wildhack -- Autonomous Research -- Analyst

Got it. And then just on the recovery rate a bit more, you talked about the impact of used car prices, but how much of the improvement in recoveries can be attributed to things you've changed or processes that you've improved internally? And so independent of used car prices, are there more opportunities internally that can support the recovery rate going forward?

Mahesh Aditya -- President and Chief Executive Officer

Yes. So as, I mean, we've talked about it a little bit earlier. One of this, obviously, as I said, was -- is attributable to the mix shift and the other is part of our prime strategy involves bringing in more new cars, and therefore, the age of vehicles that we are repossessing are -- is shifting toward newer vehicles. Other than that, there have been some minor tweaks in terms of how we, sort of, operate in the operating efficiency, but that's nothing out of the ordinary. It's something we're constantly working on all the time, trying to make sure that we are efficiently repossessing that we're doing it for the right reasons. That we've got good forbearance and extensions and modification programs for our borrowers. So nothing there is really significant to report on the process side, other than the fact that we are constantly working toward making these processes more efficient.

Operator

And there are no further questions at this time. I will now turn the call over to Mahesh Aditya for final comments.

Mahesh Aditya -- President and Chief Executive Officer

So thank you very much, everybody, for joining the call and for your interest in Santander Consumer. Our Investor Relations team will be available for follow-up questions and look forward to speaking to you again next quarter. Thanks a lot.

Operator

[Operator Closing Remarks]

Duration: 53 minutes

Call participants:

Evan Black -- Head of Investor Relations

Mahesh Aditya -- President and Chief Executive Officer

Fahmi Karam -- Chief Financial Officer

Moshe Orenbuch -- Credit Suisse -- Analyst

John Hecht -- Jefferies -- Analyst

Steven Kwok -- KBW -- Analyst

Arren Cyganovich -- Citi -- Analyst

John Rowan -- Janney -- Analyst

Jeff Adelson -- Morgan Stanley -- Analyst

Kevin Barker -- Piper, Santander -- Analyst

Vincent Caintic -- Stephens -- Analyst

Rob Wildhack -- Autonomous Research -- Analyst

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