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Is Ally Financial a Buy?

By Courtney Carlsen - Mar 14, 2021 at 8:22AM

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The digital-financial services company will look to bounce back strong in 2021.

Ally Financial (ALLY 4.54%) is a financial services company with a focus on providing lending for auto loans. The first half of 2020 was especially tough for the company, as the world was coming to grips with how to handle the coronavirus pandemic. The dramatic slowdown in economic activity hurt automotive sales, causing Ally's financing to take a hit early in the year.

But the company's earnings bounced back strong in the second half of 2020. And with a vaccine rollout in progress and economic activity expected to pick up, the company should get an added boost in 2021. Does this make Ally Financial a buy?

A bright spot in a tough year

Ally Financial managed to increase revenue by 6% year over year to a record $6.7 billion, despite the economic backdrop. This growth was helped by strong automotive financing, which saw the company process 12.1 million consumer applications, resulting in $35.1 billion in financing volume during the year.

As a result, its automotive finance operations segment saw top-line growth in 2020, with revenues up to $4.5 billion, or up 2.2% from the year before. However, income from this segment was down 20.6% to $1.2 billion during the year due to a 28.5% increase to provisions for credit losses, as the company built up reserves in response to the pandemic.

Car keys on a loan application.

Image source: Getty Images.

2021 gives Ally's management reason to be optimistic. According to IHS Markit, in 2021 the global auto market will see sales grow 9%, to $83.4 million, and it's expected to grow another 5% in 2022. In the U.S., new vehicle sales are expected to be around 16 million, which would represent a 10% increase year over year.

As automotive sales rebound, Ally is in a great position to see continued growth in this area. Its automotive finance operations have been its strongest segment, and over the years Ally has established a relationship as a full service partner to over 18,700 automotive dealers. As a result, this segment accounted for 67% of revenues, 91% of pre-tax income, and 58% of total assets for the company during 2020.

Expanding into other markets

While Ally has leaned heavily on automotive financing, it has also been looking to other areas to spur growth. In the past few years, it has grown steadily in different verticals, including insurance and mortgage finance.

The insurance segment is its second-largest operating segment, accounting for 20.5% of its revenue. During the year, Ally generated $1.4 billion in revenue from insurance, leading to income of $284 million. Since 2018, Ally has grown its insurance segment at an annual rate of 15%, although the growth slowed down to 3.6% in 2020.

For the auto lender, offering insurance with automotive financing is a no-brainer. Management is pleased with the resilience and countercyclical value of its insurance segment, noting record premiums and strong investment gains in 2020, and it expects stronger growth here in 2021.

Additionally, the company enjoyed tailwinds from low mortgage rates, seeing record activity in mortgage financing. During the year, this segment did $220 million in revenue, generating net income of $53 million, representing growth of 14% and 32%, respectively.

Although its customer base grew 14% during the year, Ally believes focusing on its existing customers is key to the company's growth going forward. That's part of the reason it has added services across different verticals.

The company noted that deposits grew to $137 billion during the year, and 50% of this growth came from existing customers. It also prides itself on the fact that it retained an industry-leading 96% of customers -- one reason why it was named the best online bank by Money magazine in 2020 for the eighth time in 10 years.

Slated for growth in 2021

Despite recording a $1.4 billion provision for credit losses for difficulties associated with the pandemic, the company still posted a solid net interest margin of 2.65% and efficiency ratio of 50.3% in 2020. Management expressed optimism about getting its net interest margins above 3% during 2021, which would drive net financing revenue growth into the mid-teens, after growing only 1.6% in 2020.

The company will not be releasing any of its $1.4 billion provision any time soon, instead utilizing it for net charge-offs, which it expects to peak in the second half of 2021, while normalizing in 2022 and 2023.

With new and used auto sales expected to grow 10%, the company expects 2021 to be a good year as it continues to grow its dealer partnerships while also investing in digital distribution channels -- ensuring customers have easier access to its products.

The company's growth will also be helped by its smaller segments, like its insurance and mortgage operations. Ally Financial is well-run and continues to excel in providing automotive financing. The company also continues to serve customers any way it can, improving its services in insurance, mortgages, and lending, all of which are expected to drive revenue growth, making Ally Financial a solid stock to buy and hold.

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