Encore Capital Group, Inc. — FY2022 Form 10-K
Reporting period: Fiscal year ended December 31, 2022. Although the request identifies 2022 Q4, this filing is an annual report; the figures below are primarily full-year comparisons with FY2021. Amounts are U.S. dollars.
Business context
Encore buys defaulted consumer receivables at a discount and collects on them, principally through Midland Credit Management in the U.S. and Cabot in Europe and the U.K. Cabot also provides debt-servicing services. Latin America and Asia-Pacific operations were not significant to consolidated results.
Key financial metrics
| Metric | FY2022 | FY2021 | Change |
|---|---|---|---|
| Total revenue | $1.398 billion | $1.614 billion | Down 13.4% |
| Income from operations | $462.2 million | $633.3 million | Down 27.0% |
| Operating margin | 33.1% | 39.2% | Down 6.1 percentage points |
| Net income attributable to Encore | $194.6 million | $350.8 million | Down 44.5% |
| Diluted EPS | $7.46 | $11.26 | Down 33.7% |
| Net cash from operating activities | $210.7 million | $303.1 million | Down 30.5% |
| Cash and cash equivalents at year-end | $143.9 million | $189.6 million | Down $45.7 million |
| Borrowings, net of debt discount and issuance costs | $2.899 billion | $2.997 billion | Down $98.5 million |
Net margin was 13.9%, versus 21.8% in FY2021. Total portfolio collections were $1.912 billion, down 17.2%; receivable portfolio purchases were $800.5 million, up from $664.5 million. The year-end investment in receivable portfolios was $3.088 billion. FY2022 income tax provision was $116.4 million, with a 37.4% effective tax rate versus 19.5%, mainly due to a valuation allowance on U.K. deferred tax assets.
Cash flow from investing activities was a use of $130.2 million, compared with a source of $339.9 million in FY2021; financing activities used $107.4 million. Available capacity under the Global Senior Facility was $478.3 million at year-end. Management stated that liquidity was sufficient for at least the next 12 months. Contractual debt principal payments totaled $2.936 billion; this is the contractual principal amount, distinct from balance-sheet borrowings net of discounts and issuance costs.
Material changes and unusual items
- FY2021 collections were unusually high, particularly in the U.S., reflecting pandemic-related consumer behavior. Collections and that outperformance normalized during 2022. Annual recoveries above forecast fell to $29.3 million from $326.0 million.
- Management recorded a net positive $63.9 million change in expected future recoveries for FY2022, but reduced estimated future collections by about 1.5% in Q4, producing a roughly $64 million negative change in expected recoveries for that quarter.
- Revenue was also affected by approximately $42.3 million of unfavorable foreign-currency translation, mainly from the stronger U.S. dollar versus the pound. Operating expenses benefited by approximately $38.1 million from translation.
- Interest expense declined 9.6% to $153.3 million, reflecting lower average debt and currency translation, partly offset by about $12.5 million from higher interest rates.
- The company repurchased 1.50 million shares for approximately $86.9 million during 2022. It repaid $221.2 million in cash to settle the 2022 convertible notes at maturity.
- Goodwill was $821.2 million at year-end; annual impairment testing found no impairment. A material weakness in controls over certain MCM recovery estimates, disclosed for 2021, was reported remediated as of December 31, 2022. Management and the auditor concluded internal control over financial reporting was effective; the auditor issued unqualified opinions on the financial statements and controls.
Outlook, risks and contingencies
The company does not provide specific earnings projections. Management reported rising U.S. delinquencies and charge-offs and increased portfolio supply as 2022 progressed, with U.S. pricing beginning to soften in Q4. It expects increased supply could improve pricing over time, but noted that current prices may not yet reflect higher funding costs. European supply remained below pre-pandemic levels and pricing competitive. Inflation and labor-market tightness were increasing operating pressures. A Cabot support-function headcount reduction was expected to result in an approximately $4 million pre-tax charge in Q1 2023.
Key risks include the accuracy of estimated portfolio recoveries, consumer payment capacity, portfolio supply and purchase pricing, interest rates, currency movements, substantial indebtedness, and extensive U.S. and European consumer-protection regulation. The company reported approximately $2.9 billion of long-term indebtedness and is subject to financial covenants, which it said it was materially complying with at year-end.
Encore resolved a CFPB lawsuit in 2020 through a stipulated judgment that included a $15 million civil penalty and consumer redress; the 2015 consent order was terminated. The filing also describes ongoing state Attorney General investigations and ordinary-course litigation. Management reported no material legal reserves at year-end and did not expect known proceedings to have a material adverse effect, while noting outcomes cannot be assured.
Important facts for investors to verify
- Whether collections and recovery estimates stabilize after Q4 underperformance, and how actual results compare with the $7.437 billion of estimated remaining portfolio collections.
- Debt maturities, covenant headroom, borrowing costs and liquidity, particularly as interest rates and portfolio purchases evolve.
- The basis and potential reversibility of the $66.6 million valuation allowance on deferred tax assets, and resulting tax-rate volatility.
- Developments in state Attorney General matters, consumer-collection regulation and compliance requirements, including the U.K. Consumer Duty implementation.
- Whether portfolio supply and pricing improve as management expects, and the returns generated on increased U.S. purchases and REO investments.