Ladies and gentlemen, greetings, and welcome to the Pagaya 3Q 2024 Earnings Call. At this, participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Josh Fagen. Thank you. Please go ahead.

Thank you, and welcome to Pagaya's third quarter 2024 earnings conference call. Joining me today to talk about our business and results are Gal Krubiner, Chief Executive Officer of Pagaya; Sanjiv Das, President; and Evangelos Perros, Chief Financial Officer. You can find the materials that accompany our prepared remarks and a replay of today's webcast on the Investor Relations section of our website at investor.pagaya.com. Our remarks today will include forward-looking statements that are based on our current expectations and forecasts with respect to, among other things, our operations, the financial performance, including our financial outlook for the third quarter and full-year of 2024. Our actual results may differ from those contemplated by these forward-looking statements. Factors that could cause these results to differ materially from our expectations include but are not limited to those risks described in today's press release and our filings with the U.S. Securities and Exchange Commission. We undertake no obligation to update any statements as a result of new information or future events. Please refer to the documents we file from time to time with the SEC, including our 10-K, 10-Q, and other reports for a more detailed discussion of these factors. Additionally, non-GAAP financial measures, including adjusted EBITDA, adjusted EBITDA margin, adjusted net income, fee revenue less production costs or FRLPC, FRLPC percentage and core operating expenses will be discussed on the call. Reconciliations to the most directly comparable GAAP financial measures are available, to the extent available without unreasonable efforts, in our earnings release and other materials which are posted on our Investor Relations Web site. We encourage you to review the shareholder letter, which was furnished with the SEC on Form 8-K today for detailed commentary on our business and performance in conjunction with the accompanying earnings supplement and press release. With that, let me turn the call over to Gal.

Thank you and good morning, everyone. I hope you had the chance to read our shareholder letter. With our strong third quarter result, Pagaya is at an approximate annual rate of $1 billion of revenue, $400 million of fee revenue less production costs, and $220 million in adjusted EBITDA. Pagaya is now reaching the next level of scale and profitability. This is the result of both increasing demand for our product and laser-focused execution of our financial growth to improve fee generation, funding efficiency, and drive economies of scale, all of which sets Pagaya to deliver positive total cash flow and GAAP profitability during 2025. The momentum of the business is driven by the value that our unique product brings to our lenders as they are always looking to improve the value they can offer to their customers. The use of our product, since we started, has generated over $24 billion of loans with approximately two million customers added or retained by our partners. As our network grows and our data moat is becoming bigger, we are enabling our partners to acquire and serve more customers with [each reputation] (ph) they are sending our way. The engine is perpetual and only getting more powerful with time. Existing lending partners are looking to Pagaya to play a critical role in their 2025 growth plan. As part of these plans, partners are asking for more of our product, creating additional revenue opportunities for both Pagaya and our partners and, in return, enhancing the lifetime value of their customers' relationship. We expect next year to have over eight relationships generating over $500 million fair value of network volume, channeling the power of our existing customer franchises. Growth of our pipeline is a key driver of our long-term growth. In line with our strategy,…

Thanks, Gal, and good morning, everyone. I want to spend a few minutes on our multi-pronged and focused growth strategy and provide an update on our progress with new and existing partners, as well as exciting developments on our new products. It is important to understand how our products do more for our partners than just growing their originations through incremental loan conversion. Our products are increasingly being used as a catalyst for additional growth within the portfolio of our existing partners. We are helping our partners to expand the breadth of credit solutions they can offer their existing customers without taking the associated balance sheet risk. The most common benefit our partners are looking for is in increasing the lifetime value of a customer. This includes retention of existing customers and increasing additional revenue opportunities by offering credit products responsibly. Additionally, in the case of banks, retaining valuable depositor relationships and creating fee-based revenue is of great importance to their growth, especially in a regulatorily constrained environment. As a result, we are seeing Pagaya's products being increasingly offered to existing customers within our lending partners. The potential of which is multiplicative. At this time, we are witnessing an increasingly normalizing macroeconomic backdrop. This is driving banks and lenders to more vigorously compete for consumers and valuable deposit funding that is so critical to the stability and growth of their businesses. These enterprises are increasingly leaning on Pagaya to grow and strengthen their product offerings with existing customers. In fact, because of this phenomenon in the third quarter, we surpassed a record $200 billion of quarterly application volume. And indeed, as our 31 partners are finalizing their plans for 2025, we see that Pagaya's products are increasingly an integral part of their growth strategy. This tailwind from existing partners will…

Thank you, Sanjiv, and good morning, everyone. We reported third quarter total revenue of $257 million, fee revenue less production cost of $100 million and adjusted EBITDA of $56 million. Before I walk through this quarter's results, I want to discuss the progress we made to achieve our two key financial milestones: sustainable total cash flow generation and GAAP profitability, which we expect to reach during 2025. This progress is due to focused execution on our financial strategy that we set out at the beginning of the year. First on unit economics, third quarter fee revenue less production cost was a record $100 million at 4.3% of network volume with increased fees across multiple partners and channels. Next on operating leverage, we took action to reduce core operating expenses by approximately $25 million annually, a portion of which was reflected in the third quarter driving improved overall operating efficiency. In terms of capital efficiency, we've optimized our ABS structures and diversified our funding sources to lower the use of our capital, while reducing the potential for future impairments related to our risk retention portfolio. Last, we optimized our corporate capital structure and derisked our business. We achieved this by paying down expensive debt and unlocking liquidity through the release of securities that served as collateral against that debt. In addition, the debt paydown is expected to reduce interest expense by approximately $30 million, an opportunity was highlighted on our second quarter earnings conference call. We have positioned our company to leverage demand for our products and to produce sustainable and profitable growth. This will become increasingly evident as we enter 2025. In 2024, we recognized losses related to vintages originated in 2023 and prior when capital market conditions were much more challenging. Based on the seasoning of these vintages, we…

Thank you. Ladies and gentlemen, we will now be conducting a question-and-answer session. [Operator Instructions] The first question comes from Joseph Vafi with Canaccord Genuity. Please go ahead.

Hey, everyone. Good morning, nice to see progress along many facets of the business here. Thought maybe we just start on the funding side now, it sounds like you've got -- developed a nice set of different funding sources. Could maybe we go a little bit more deeper into the mechanics of how loan volume, network volume is allocated across some of these funding sources? And then maybe a little bit on economics for you on the various funding sources, other than the traditional ABS? And then I'll have a quick follow-up.

Hi, Joe, thanks for the question. I'll take that one. This is EP. Yes, so we're really excited about where we are currently in terms of our funding. On one side, we have obviously optimized significantly our ABS structures, which we expect to now, as we're looking at Q3 exit rate and Q4 to range at 4% to 5%, which combined with diversified funding sources from forward flow, past restructures, and all of that, we expect the blended mix to be around 2% to 3% across our entire volume. We continue to scale these programs. We see significant opportunity and demand to grow the pass-through programs in particular. And we're in discussion to explore further forward flow agreements. All of that hints at the significant demand, obviously, from investors, which we're very excited about. And any changes in the pricing and all of that amongst the different structures is already reflected in our guidance of 3.5% to 4.5% of FRLPC as a percent of volume.

Got it. Is there any way that maybe just a little more there, EP, on how volumes get allocated across these different funding vehicles, like a little bit more detail there.

Sure. And we have provided some information in our letter as well, but I would think about ABS being approximately 60% to 70% of our volume currently, with the alternative sources across pass-throughs, forward flows, and our privately managed funds taking the remaining 30% to 40%.

Got it. And then one on point of sale, sounds like there's a lot of point of sale in the pipeline. Obviously, you've got some big logos already signed up there. How should we think about network volume and point of sale, over time, compared to maybe some of your other loan cohorts like personal loans, could it be that large one day or how do you see it relative to some of the other loan types? Thank you.

Hi, this is Sanjiv. I'll take that. So, yes, I totally agree with you. The new growth area for us, the new emerging asset class which is super exciting is, obviously, point of sale or BNPL, as many people describe it. That, as you know, we have a relationship already with Klarna, that's going to grow very substantially because of the way we've sort of set it up. And as I said, we'll also go into longer duration, longer ticket size loans, same with Elavon. We are seeing the phenomenon happen at most of the banks that are getting into payments and have -- that are getting into or have been in payments for quite some time. In a very substantial way, we see this across major money center banks; we see that across regional banks. And the fact that we are increasing the loan size and duration makes it appear in some ways behave a little bit like personal loans, if you really think about it. And the short answer to your question on whether or not it will be as big as personal loans, we absolutely believe that it will. This is an area that is very, very, very strongly adjacent to the credit card business with our lending partners, they are investing a lot of money in that, and so are we. And we totally believe that this will be at least as big or our PL business and equally as profitable, and we look forward to that.

Great, thank you very much.

Thank you. The next question comes from Mark Palmer with Benchmark. Please go ahead.

Yes, thank you very much for taking my call. I have one question, and then a quick follow-up. The company has done a great job of creating operating leverage through expense reductions, and that's really shining through in terms of profitability. How are you thinking about the balance between expense control and additional investments in the platform going forward, and what's the implication with regard to the company's margins?

So, hi, Mark, it's Gal here. Thank you for the question. So, I would take it first from a business perspective, and then we'll hand it over to EP for a few financial remarks. So, from a business perspective, I think this is one of the biggest differentiator pieces of Pagaya. As you think about it from an infrastructure perspective, the reality is that we manage 31 partners or 50, it's not that different. So, we can also say that we don't have 5% or 10% higher amount of expenses needs, but it's zero related to the scale and magnitude of that. And think about it that we build an engine that knows to onboard or add something between two to four a year. So, from that perspective, our cost is mainly going to stay flat, while the additional revenues or net revenues, whatever you want to call it, should continue to grow in the high double-digit numbers. The only other piece I want to add to that is that the reduction efforts that we did and where we are staying today with the platform, especially as Sanjiv came into, effectively, in his role, is not a place where we are running lean right now. That's how we view the business. That's how we view the expense basis to be. And that's where we believe we can execute in front of many more strategic initiatives. In addition, for even more products and more asset classes down the road that could be in the same concept because it's really high leveraged to our ability to build a scalable business, and that's the story of Pagaya.

Yes. And I want to double-down on one thing that Gal said, it's the business has an inherent operating leverage, and that's a key differentiator. It's less about managing expenses down. It's more about our ability to continue to deliver on our strategy and take advantage of the growth opportunities, without necessarily any incremental investments. If you look at costs year-over-year, they're about flat, yet fee revenue less production costs has grown by more than 38%. The point of this is that we can continue to execute on our strategy and take advantage of all the growth opportunities ahead of us without any incremental or material incremental investment in our cost infrastructure.

Thank you. And one quick follow-up question. We are now a week since the U.S. Presidential Election. Just wanted to get you initial thoughts on what the expectations are for the operating environment for Pagaya under the new administration from a regulatory perspective in particular?

So, hi, Mark, sure. So, I think generally speaking, and without speaking about politics, we are really in a situation that from a market perspective there is a very, I would say, strong belief that regulatory is going to be more constructive. And that, in the same time, the belief that growth should happen in the U.S. is there. From our perspective, as we think about these two different type of narratives, they are fit well for Pagaya. We are supportive of a strong consumer that will have the ability to take the debt and to pay it properly. And in the same time, as you can imagine, and as a disruptive in this space, for us to bring more technology and more capabilities into the banks and into the other pieces is definitely a strong tailwind for us. So, all in all, the ability to actually drive more value by exploring and opening technology into the different ecosystems and banks is definitely something that is a tailwind for us.

Thank you very much.

Thank you. The next question comes from John Hecht with Jefferies. Please go ahead.

Morning, guys, and thanks very much for taking my calls, and congratulations on continuing to execute against the growth plan. Maybe just because I know that the personal loan product, it's more mature, it's more scaled. Maybe can you talk about the FRPC with that versus the other new products? And also maybe talk about the risk retention across the different product line?

Hi, John, thanks for the question. So, today, as you saw, we reported in the third quarter a record FRLPC across the entire company of 4.3%, which is closer to the upper end of the range. When you try to dissect that across our product, personal loans, which is more mature product, it's close to 6.6%. And then as it relates to auto and POS, these are areas where we continue to see significant more opportunity to grow the unit economics as we're moving forward. These are still investment areas for us, but we see that opportunity to basically apply the same roadmap that we had on personal loan, it's just a few quarters behind. From a risk retention perspective, what I would say is that there is little difference between the different products, but I would say is if you take a personal loan as an example at 6.6% FRLPC and a risk retention close to 2% to 3%, we're already looking at a product that's significantly profitable, and we expect to replicate that success in the other products as well as we continue to mature in those fronts.

Okay. That's helpful. And then, maybe guys, can you talk about either the conversion rate? It's still very conservative. It's been on a downward trend despite the fact that you've had very solid volume growth. Where are we in the cycle that we might see reversal of that trend in the conversion rate? And what kind of opportunities does that present to you guys?

Yes, listen, as you may have seen a little bit, we continue to see significant growth opportunity, right? We have built now a franchise that looks at more than 200 billion of application flow coming in for our 31 partners per quarter. And our conversion ratio, to your point, continues to be in that sort of a little bit less than 1%, materially lower than what it used to be. We obviously have the opportunity to change that and grow, but we want to make sure we do that in the form of profitable growth and not at the expense of profitability and returns. As we continue to move on and we get more flow and some of the relations with our newer partners mature, and we will naturally see an increase in that comparison ratio coming up soon, particularly in 2025.

Okay. Thank you, guys.

Thank you. The next question is from the line of Sanjay Sakhrani with KBW. Please go ahead.

Hi, this is actually Steven Kwok filling in for Sanjay. Thanks for taking my question. I guess I just want to drill down on credit and the credit impairment this quarter. It seems like credit metrics seem to be trending fine. Just curious as to what's led to the credit impairment this quarter, and it seems like it was related to 2023 vintage. If we could just drill down on, was it on the personal loan side or auto side, if you could just provide some more details? Thanks.

Sure, I'll take that, Sanjiv. So, look, the impairments were mainly related to the 2023 vintages. And I want to underscore that either way, the company as a business today is very well positioned to try to GAAP net income profitability in 2025 and reflecting impairments, if any, in the future. In addition, and I want to be clear, and we provide a lot of information on that, is that our credit performance continues to improve and has been improving for multiple quarters. When you look at the 2023 vintage CNLs across all our products, they are significantly better than the 21s or 23s in the range of 20% to 405, even 50%. So, this was not related specifically to credit. What you have here is this position, this potential position that we took, related to the '23, is it was done in a very challenging funding environment. Effectively, you're having investors looking at very high expected returns to underwrite these types of assets. And from our perspective, Pagaya continue to invest during the environment in the growth of our franchise, and we're focusing on building up liquidity and planting for future growth. So, even though we didn't anticipate those losses, what you have here is ABS structures that left us effectively susceptible to impact, financial impact, even from small changes in the credit performance. So, that's what drove this impairment, and obviously, as I said, primarily driven by 2023s. The key question here is where we are today. A couple of things there; first of all, obviously, the capital markets and funding environment is significantly better and positive, but most importantly, we have significantly optimized our funding structures and diversified our funding, all of that leading to a significant cushion against any future impairments. So, as I noted on the call, as it relates to the 2023 vintages, we expect the majority of any remaining impairments for that vintage to be taken in the fourth quarter, and we obviously want to take that sort of noise away to demonstrate the earnings power of the business going forward and leading to GAAP net income profitability in 2025.

Got it. And as of today, do you have any preliminary expectations of how large the credit impairment in the fourth quarter could be?

Yes, no, we can't do that, and I can give you that guidance. We still need to mark the position, and in order to do that, we need to get more data as this risk retention position season, particularly the second-half of 2023, and that's important for us to get there, to really be predictive in terms of the magnitude of the impact. What I would highlight is, and we did that, provide that clarity, is today, the 2023 portfolio stands on our balance sheet at approximately $275 million total. And as I pointed out earlier, we expect the majority of any remaining impairments to be taken in the fourth quarter.

Got it. That was very helpful. Thanks for taking my question.

Thank you. The next question is from the line of David Scharf with Citizens JMP. Please go ahead.

Hi, good morning and thanks for taking my question. I wanted to kind of revisit the FLRPC outlook, particularly as the asset class mix evolves. I mean, it sounded like you're expecting auto to accelerate, very bullish commentary on point-of-sale. And as the business evolves to the point where personal loans are a lower part of the mix, I'm wondering, should we be thinking about a lower kind of weighted average FLRPC margin, or conversely, based on the 6.6% you recorded in personal loans this quarter, as the other products scale, should we be thinking about the long-term margin structure above the current 3% to 4% outlook?

Hi, David. It's Gal here. So, I want to take it from a business perspective for a second. What we are building here is one of the most unique infrastructure and platform of credit generation in the United States. That comes across, as you mentioned, in the same concept but with three different major markets and all of them are very big and growing; personal loan, auto loans and point-of-sale. The reality is that when you get to the right scale and to the right size, because all of these assets are rather complicated assets to produce, that you will need to have very intense infrastructure for that. The profit or the contribution margin or the FRLPC or any way you want to put it, is actually more or less over the lifetime the same. So, you should expect to see autos reaching closer to these numbers, you should expect point-of-sale to reach to that number. Now, do remember, there are a lot of modifications or normalizations for different duration or different credit spectrums. So, by that I mean that you should not think about a point-of-sale of a six-month loan the same way you think about a personal loan of 36. But if you take all of that into consideration, you will see that while creating the same high double-digit returns, together with efficient funding, which is way below that, the excess spread and the ability to provide profits to Pagaya will remain at the 3.5 to 4.5 over all asset classes and will drive higher and bigger as we mature more the markets as we did with personal loan, you should expect the same to happen in auto and thereafter with point-of-sale. I hope that gave you the clarity.

And if I can just add to what Gal, this is Sanjiv, I just wanted to add to what Gal just said which I think was spot on. Obviously, the summary of what Gal said was the asset classes will converge to roughly the same kind of financial performance, but I will say this in defense of personal loans that by no means have we even reached the potential of where personal loans could go. Gal talked about it. I talked about it in terms of the pre-screened product. So, as we are getting into all of our lending -- existing lending partners, I'll give you an example. We're a very large bank. We are now starting to talk about offering Pagaya personal loans as a unsecured home improvement loan to the entire portfolio. That's very, very powerful in terms of growth in an existing partner. So, personal loans has a very long trajectory to go. As you all know, the TAM of the auto market is also extremely large. And of course, POS is the newly emerging asset class. But the point is that all three asset classes will grow because of the way we are growing horizontally now across personal loans, which is a much more mature product with strong FRLPCs. And of course, the economics will more or less converge, so these products are more or less convergent from Gal's point. So, I just want to reiterate.

Got it. No, no, that's good. It's very helpful. And maybe just as a follow-up, shifting to the demand side, there's been a lot of private credit flowing into the personal loan sector lately, not just Pagaya's flow partner, but a lot of other primary lenders. Are you seeing any change in behavior approval rates by some of your lending clients? Obviously you had a very robust application volume of second looks coming your way. But are you noticing any pickup in approval rates among the lending partners you serve as they become better capitalized?

Yes, David, it's Gal here. So, first I want to take the first question. So, you're right, we have heard with many of our peers at [Sephra] (ph) that private credit shops and generally alternative lending is starting to be much more constructive and therefore what we call leaning in, that leaning in will at the end result in a growth for the sector and for the different lending pieces. So, this is a phenomenon that we see, we see where we are at the efficacy of it because we have over 120 different partners and you will be surprised, and these days every public shop wants to have a private shop. So, we are a very good enabler and connectivity tissue even if you will, between that private credit phenomena and flowing into the consumer credit assets. The one thing I do want to call out is that we are not yet in an environment where lenders are starting to increase massively their approval rates. And the reality is that we are still in a high interest rate environment and things are starting to become much more constructive as we go forward. So, we expect people to open their boxes. They did start to do so, but on the margins. Obviously we're happy to see that because it means much better environment for the consumer, many more opportunities for them to get financed and refinanced. That in return is another phenomena that could reduce losses even further in the future. So, all-in-all to your question, we don't see a massive phenomena as such, but definitely the growth mode has started, has started with us, has started with Arthur, but it is prudent growth and not irresponsible growth.

Got it, understood. Thanks very much.

Thank you. The next question is from the line of Hal Goetsch with B. Riley Securities. Please go ahead.

Good morning, guys. I wanted to go back to the fair value marks again, and I'll make sure I heard you guys correctly. Like, 2023 was an extremely difficult year. We still had fears of interest rates going higher, inflation staying high. Then we had a banking crisis in the middle of the year that caused a lot of poor environment for consumer credit on banks' balance sheets. Am I hearing you right? You did deals to invest in the business, to support your customers, that had structures that were much more sensitive to small changes in credit performance, and the structures you're doing today aren't as sensitive, and that's what's helpful to your outlook for 2025? That's what I want to get a view on.

We'll clarify that.

So, we're part of a 20-year event and the market's hung up on that and I wanted to get your thoughts on that?

Yes, so let's nail it down. So, let's start from the past. The reality, what is Pagaya? Pagaya business is a network. In a network, you need to make sure the network is flowing; all day, every day, no matter what. That's our responsibility for both our partners and investors to deliver to them the best flow and the best return. In 2023, which was a unique time where there was a really big gap, we filled the gap. That is an investment. We did that because we believe that the investment we'll do is going to end itself in a much massive outcome, which is the enterprise value that you see here today; thirty-one different partners, U.S. Bank, many others, and in the same time, happy investors from 2023. Every investor you're going to speak with in that invested in a Pagaya security in 2023 will tell you great platform, great returns. And these are the investors that are looking now to open their deployment, as you heard David speaking about. So, we are the first choice. So, we did all of that to get ready for that particular moment in time to make sure we are capturing that momentum very well. Two things left to speak about. One, what is giving us the confidence that in the next cycle like that, we're not going to be in the same situation. The reality is that the structural changes that we did, the diversification of the funding to forward flow and many others, the new type of funding vehicles, and some internal things about how we manage risk and how we are managing our production, have got us to a situation where we are even in the future different cycles are going to have much less potential impairment losses, even…

Okay. Thank you, Gal. I'll hop back in the queue.

Thank you. As there are no further questions, I would now like to hand the conference over to Gal Krubiner for closing comments.

Thank you very much, everyone. And to close, I just want to say that I'm very proud of what we have achieved this year. We successfully executed against every one of our 2024 goals. We positioned the business to deliver sustainable, profitable growth in 2025 and beyond. The growth opportunities ahead of us are massive. And the demand for our product, as you heard in this call, is stronger than ever. Thank you, as always, for your partnership, and looking forward to catching up with you very soon.

Thank you. This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.