America's Car-Mart, the used car retailer catering to the subprime market, recently released their third quarter fiscal year 2024 earnings transcript [CRMT Q3 2024 Earnings Conference Call](https://seekingalpha.com/symbol/CRMT). Analysts, as usual, pored over the numbers, dissecting the impact of the new Loan Origination System (LOS), the strategic partnership with Cox Automotive, and the ever-present concerns about credit losses in a volatile economic environment. But amidst the flurry of figures and strategic pronouncements, a subtle, yet potentially groundbreaking shift in Car-Mart's operating philosophy seems to have slipped under the radar.

Buried within the Q&A session, a response from Doug Campbell, Car-Mart's newly appointed CEO, hints at a fundamental transformation in how the company views its relationship with its customers. For decades, Car-Mart, like most subprime lenders, operated under the assumption that delinquencies and defaults move in tandem. When a customer falls behind, the expectation is that their financial situation is unlikely to improve significantly, leading to eventual default. This assumption informed their collection practices, urging them to take 'their lumps' promptly and cycle through challenging loans rather than extending terms and hoping for improvement.

However, Campbell's response to a question about modifications reveals a startling deviation from this long-held belief. He states, 'It's one of the things that Vickie [Judy, CFO] called out when you look at delinquency rates and default rates and the divergence of those two, which historically have moved in tandem... our experience in working with these customers says, continue to run our play.' [CRMT Q3 2024 Earnings Conference Call](https://seekingalpha.com/symbol/CRMT)

What Campbell seems to be acknowledging is a potential decoupling of delinquency and default trends in the current economic climate. While delinquencies, driven by persistent inflation and squeezed consumer budgets, remain elevated, defaults are not rising at a commensurate rate. This suggests that Car-Mart's core customer base, while facing financial strain, is demonstrating a greater resilience and determination to maintain their loan payments despite hardship.

This realization could be a game-changer for Car-Mart's future profitability. If the historical correlation between delinquency and default is indeed weakening, it opens up a new avenue for the company to manage its loan portfolio. Rather than writing off delinquent loans as inevitable losses, Car-Mart could explore more flexible modification options, potentially extending terms or adjusting payment schedules, to help their customers navigate temporary financial challenges and ultimately achieve loan repayment.

This shift in philosophy also aligns perfectly with Car-Mart's other strategic initiatives. The LOS, by providing enhanced data and visibility into customer profiles, will empower the company to make more nuanced and personalized modification decisions. The partnership with Cox Automotive, by driving down vehicle costs and increasing the affordability of Car-Mart's inventory, could provide customers with a more manageable financial burden, further reducing the likelihood of default. Reference: Cox Automotive: https://www.coxautoinc.com/

Hypothetical Scenario: Impact of Loan Modifications

Let's assume Car-Mart has 10,000 loans in its portfolio with an average balance of $15,000. Historically, a 5% delinquency rate would have translated to a 4% default rate, resulting in 400 defaults and a loss of $6 million (400 defaults x $15,000).

However, if the current trend of decoupling holds, and Car-Mart can successfully modify half of its delinquent loans, preventing them from defaulting, the default rate could drop to 2%. This would result in only 200 defaults and a loss of $3 million, effectively halving the company's credit losses.

Of course, this is just a simplified hypothetical scenario. The actual impact will depend on a multitude of factors, including the severity of the economic downturn, the effectiveness of Car-Mart's modification strategies, and the continued resilience of its customer base. However, Campbell's subtle acknowledgment of this shifting dynamic points to a potentially transformative opportunity for Car-Mart to leverage its deep understanding of the subprime market and its new technological capabilities to not only weather the current economic storm but also emerge as a stronger and more profitable company.

Decoupling of Delinquency and Default Trends

"Fun Fact: Did you know that America's Car-Mart was founded by a former high school principal? Talk about a career change! His commitment to helping people achieve their goals seems to be deeply ingrained in the company's DNA, and this new focus on customer success could be the key to unlocking even greater potential for both their customers and their shareholders. Reference: America's Car-Mart: https://www.car-mart.com/"

This decoupling of delinquency and default rates is a significant trend that could redefine America's Car-Mart's future. By understanding and adapting to this new dynamic, the company has the potential to not only navigate the current economic uncertainty but also emerge as a leader in the evolving landscape of subprime auto lending.