What's happening?

Shares of GreenSky, Inc. (NASDAQ:GSKY) are plunging today, dropping more than 35% as of 12:30 p.m. EST after the company released its third-quarter earnings and made substantial reductions to guidance for the full year of 2018.

The loan originator said a general labor shortage and a shift in its loan mix were responsible for its weakened outlook, which calls for a sharp quarter-over-quarter decline in transaction volume.

So what

GreenSky makes its money by offering financing solutions that home-improvement contractors and other businesses can offer to their customers. For example, if a homeowner needs a new roof, but doesn't have the cash to pay for it, a contractor might propose they apply for a loan through GreenSky to finance the purchase.

GreenSky logo.

Image source: GreenSky.

GreenSky generates revenue by taking a cut from the contractor, which averages about 7% of the transaction amount. The contractor gets the assurance that the consumer has the capacity to pay, and the consumer gets the benefit of making payments over time, rather than all at once.

A bank partner, not GreenSky, provides the money to fund the loan. As a result, transaction volume is a primary driver of the company's revenue and profit.

With one quarter left in the year, GreenSky substantially reduced its outlook for transaction volume and adjusted EBITDA in 2018. The changes are summarized in the table below.


New Guidance for 2018

Guidance Issued in August

Transaction volume growth

30% to 35%

35% to 41%

Adjusted EBITDA growth

4% to 10%

20% to 25%

Data source: GreenSky.

From the guidance, investors can back out GreenSky's actual results in the first nine months to get a read into its expectations for the fourth quarter of the year.

GreenSky's results are inherently seasonal, but its updated guidance calls for a decline in transaction volume that exceeds historical trends. In 2017, transaction volume declined less than 1% from the third quarter to the fourth quarter. At the mid-point of its 2018 outlook, GreenSky expects transaction volume to decline roughly 11% from the third to fourth quarter.


First 9 Months of 2018

Implied Range for Q4 2018

Transaction volume

$3.75 billion

$1.15 billion to $1.35 billion

Adjusted EBITDA

$138.5 million

$26.5 million to $36.5 million

Data source: GreenSky, calculations by author.

In its earnings release, the company announced it received authorization from its board of directors to repurchase as much as $150 million of stock.

Now what

On the earnings conference call, GreenSky management said the reduced outlook for transaction volume was related to a slowdown in home improvement and general labor shortage affecting contractors.

Management also said that as interest rates have increased, merchants are choosing to push loan options that generate less upfront revenue in exchange for recurring revenue that gets recognized over time, which acts as a drag today and a tailwind in future accounting periods, hence a reduction in its adjusted EBITDA guidance.

Wall Street isn't buying the explanation, fearing that home improvement spending may be close to a peak just as rising interest rates are making consumer loans less affordable. It stands to reason that as interest rates rise, high-quality borrowers who have ample access to credit may find that GreenSky's pricing is less competitive compared to alternatives.

For today, at least, investors seem content to sell now and ask questions later.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis -- even one of our own -- helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.