Business context and reporting period
Encore Capital Group, Inc. is an international specialty finance company that buys and collects defaulted consumer receivables and finances delinquent property taxes through tax liens. This Form 10-Q covers the quarter and six months ended June 30, 2015; financial statements are unaudited. Comparisons are with the corresponding 2014 periods.
Key financial metrics
- Second quarter: Total revenue was $290.4 million, up 7.9%; operating income was $87.0 million, up 10.8%; net income attributable to Encore stockholders was $27.7 million, up 17.4%. Diluted EPS was $1.03 versus $0.86. Operating margin was 30.0%; attributable net income was 9.5% of revenue.
- First six months: Revenue was $576.0 million, up 10.2%; operating income was $173.0 million, up 17.9%; attributable net income was $57.1 million, up 22.1%. Diluted EPS was $2.11 versus $1.68. Operating margin was 30.0%; attributable net income was 9.9% of revenue.
- Revenue mix: Portfolio revenue was $270.3 million in Q2 and $534.4 million for six months. Gross collections rose 6.9% to $437.3 million in Q2 and 7.0% to $862.4 million for six months.
- Cash flow: Six-month operating cash flow was $47.4 million, versus $52.4 million; investing cash outflow was $331.9 million, versus $493.9 million; financing cash inflow was $303.8 million, versus $443.1 million. Period-end cash was $138.2 million.
- Balance sheet and debt: At June 30, total assets were $4.114 billion, total debt $3.134 billion, and total equity $645.7 million. Debt increased from $2.774 billion at year-end 2014. Cash was $138.2 million, compared with $124.2 million at year-end.
- Liquidity: At June 30, Encore reported $126.4 million available under its credit facility, excluding its accordion; Cabot reported approximately $76.1 million of availability. Management said liquidity was sufficient for at least the next 12 months. The company was in compliance with financing covenants.
Material changes versus prior comparable periods
- Encore acquired U.K. debt purchaser Hillesden Securities (dlc) on June 1 for approximately $276.2 million. The preliminary allocation included $216.0 million of receivable portfolios and $63.5 million of goodwill; valuation remained in progress. Acquisition and integration costs included $2.7 million in Q2.
- Revenue growth reflected a larger portfolio balance, acquisition activity, and stronger performance in certain portfolios, partly offset by lower yields on newer pools. Six-month portfolio purchases were $543.9 million, down from $693.3 million; the 2015 figure includes $216.0 million acquired with dlc.
- Debt rose to fund acquisitions and portfolio purchases. The dlc transaction used Cabot revolving-facility borrowings and a fully drawn $141.6 million bridge facility. Q2 interest expense increased 7.0% to $46.3 million; six-month interest expense rose 9.1% to $88.6 million.
- Cost of legal collections increased, particularly in Europe as Cabot expanded Marlin’s litigation channel and incurred upfront court costs. Six-month cost per dollar collected rose to 38.1% from 37.8%.
- In May, Encore completed the remaining $33.2 million of its previously authorized $50 million share repurchase program, buying 839,295 shares.
Outlook, commentary, risks and unusual items
- Management does not generally provide specific earnings projections. It expects U.S. portfolio prices to remain elevated for some time, citing tight supply and continued buyer demand; U.K. portfolio prices also remained above historical averages. Management described expected modest growth in U.K. supply for 2015.
- Management cited acquisition opportunities and continued investment in core businesses, new geographies, and adjacent asset classes as elements of its long-term strategy. Collections are seasonal and may affect revenue recognition and costs.
- The CFPB was examining industry collection practices, and Encore was in discussions with CFPB staff. A negotiated resolution could involve penalties or restitution and pre-tax charges exceeding $35 million, as well as operating restrictions; if litigation ensued, the company could not estimate a loss range.
- A proposed TCPA class settlement, subject to court approval, would require $2.0 million in cash, $13.0 million of debt forgiveness, plaintiffs’ fees of up to $2.4 million, and administration costs. The filing reported no material legal reserves at June 30.
- The company noted that an FCC ruling interpreting the TCPA could affect consumer contact practices and that payment processors might stop serving the debt collection industry. Other risks include regulatory changes, collection performance, acquisition integration, and foreign-currency exposure.
- After quarter-end, on July 9, Encore amended its credit agreement, including a $692.6 million revolving tranche, a $153.8 million term-loan tranche, and an additional $250 million accordion feature. Propel also repaid its $4.7 million term-loan balance in July.
Important facts for investors to verify
- Monitor CFPB discussions, any settlement or litigation, and whether potential charges above $35 million or operating conditions arise.
- Track court approval and final costs of the proposed TCPA settlement, including debt forgiveness and legal and administration fees.
- Assess dlc integration, final purchase-price allocation, and whether acquisition-related collections and synergies support portfolio valuations.
- Review leverage, facility availability, bridge-facility repayment or refinancing, and covenant compliance as acquisition funding needs evolve.
- Compare portfolio collection performance and cost trends, especially European litigation costs and the returns expected from elevated portfolio purchase prices.