-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, MEWHx87WZq93DSz6NB5+hd/RNqF8us0GWwOApA2NgSFe66g0wssMpdEfI6ultuS6 PPlG9uGLIB8M1N4L5U7UAg== 0000950116-01-500689.txt : 20010815 0000950116-01-500689.hdr.sgml : 20010815 ACCESSION NUMBER: 0000950116-01-500689 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 3 CONFORMED PERIOD OF REPORT: 20010630 FILED AS OF DATE: 20010814 FILER: COMPANY DATA: COMPANY CONFORMED NAME: NCO GROUP INC CENTRAL INDEX KEY: 0001022608 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-CONSUMER CREDIT REPORTING, COLLECTION AGENCIES [7320] IRS NUMBER: 232858652 STATE OF INCORPORATION: PA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 000-21639 FILM NUMBER: 1712846 BUSINESS ADDRESS: STREET 1: 515 PENNSYLVANIA AVE CITY: FT WASHINGTON STATE: PA ZIP: 19034 BUSINESS PHONE: 2157939300 10-Q 1 ten-q.txt FORM 10-Q UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q /X/ Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the quarterly period ended June 30, 2001, or / / Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the transition period from to - -------------------------------------------------------------------------------- COMMISSION FILE NUMBER 0-21639 - -------------------------------------------------------------------------------- NCO GROUP, INC. - -------------------------------------------------------------------------------- (Exact name of registrant as specified in its charter) PENNSYLVANIA - -------------------------------------------------------------------------------- (State or other jurisdiction of incorporation or organization) 515 Pennsylvania Avenue, Fort Washington, Pennsylvania - -------------------------------------------------------------------------------- (Address of principal executive offices) 23-2858652 - -------------------------------------------------------------------------------- (IRS Employer Identification Number) 19034 - -------------------------------------------------------------------------------- (Zip Code) 215-793-9300 - -------------------------------------------------------------------------------- (Registrant's telephone number including area code) Not Applicable - -------------------------------------------------------------------------------- (Former name, former address and former fiscal year, if changed since last report) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months, and (2) has been subject to such filing requirements for the past 90 days. Yes _X_ No ___ The number of shares outstanding of each of the issuer's classes of common stock was 25,811,238 shares common stock, no par value, outstanding as of August 14, 2001. NCO GROUP, INC. INDEX PAGE PART I - FINANCIAL INFORMATION Item 1 CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) Consolidated Balance Sheets - December 31, 2000 and June 30, 2001 1 Consolidated Statements of Income - Three months and six months ended June 30, 2000 and 2001 2 Consolidated Statements of Cash Flows - Six months ended June 30, 2000 and 2001 3 Notes to Consolidated Financial Statements 4 Item 2 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS 13 Item 3 QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK 19 PART II - OTHER INFORMATION 20 Item 1. Legal Proceedings Item 2. Changes in Securities Item 3. Defaults Upon Senior Securities Item 4. Submission of Matters to a Vote of Shareholders Item 5. Other Information Item 6. Exhibits and Reports on Form 8-K Part 1 - Financial Information Item 1 - Financial Statements NCO GROUP, INC. Consolidated Balance Sheets (Amounts in thousands)
June 30, December 31, 2001 ASSETS 2000 (Unaudited) ------------ ----------- Current assets: Cash and cash equivalents $ 13,490 $ 20,401 Restricted cash - 1,125 Accounts receivable, trade, net of allowance for doubtful accounts of $7,080 and $6,435, respectively 93,971 105,765 Purchased accounts receivable, current portion 10,861 37,310 Deferred income taxes 2,287 7,113 Other current assets 7,925 8,959 --------- --------- Total current assets 128,534 180,673 Funds held on behalf of clients Property and equipment, net 66,401 72,447 Other assets: Intangibles, net of accumulated amortization 536,750 532,595 Purchased accounts receivable, net of current portion 23,614 105,152 Notes receivable 18,250 18,250 Other assets 10,457 18,094 --------- --------- Total other assets 589,071 674,091 --------- --------- Total assets $ 784,006 $ 927,211 ========= ========= LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities: Long-term debt, current portion $ 642 $ 23,564 Corporate taxes payable 1,328 300 Accounts payable 12,360 13,191 Accrued expenses 19,168 29,907 Accrued compensation and related expenses 15,304 17,746 --------- --------- Total current liabilities 48,802 84,708 Funds held on behalf of clients Long-term liabilities: Long-term debt, net of current portion 303,920 373,610 Deferred income taxes 40,549 37,421 Other long-term liabilities 4,309 5,390 Minority interest - 18,933 Shareholders' equity: Preferred stock, no par value, 5,000 shares authorized, no shares issued and outstanding - - Common stock, no par value, 50,000 shares authorized, 25,627 and 25,811 shares issued and outstanding, respectively 316,372 320,800 Other comprehensive loss (1,525) (1,956) Retained earnings 71,579 88,305 --------- --------- Total shareholders' equity 386,426 407,149 --------- --------- Total liabilities and shareholders' equity $ 784,006 $ 927,211 ========= =========
See accompanying notes. -1- NCO GROUP, INC. Consolidated Statements of Income (Unaudited) (Amounts in thousands, except per share data)
For the Three Months For the Six Months Ended June 30, Ended June 30, ------------------------------ ----------------------------- 2000 2001 2000 2001 ---------- ---------- ---------- ---------- Revenue $ 154,048 $ 183,275 $ 298,046 $ 354,304 Operating costs and expenses: Payroll and related expenses 73,842 99,475 144,488 182,387 Selling, general, and administrative expenses 46,135 58,164 87,693 109,287 Depreciation and amortization expense 7,973 9,623 15,518 18,577 --------- --------- --------- --------- Total operating costs and expenses 127,950 167,262 247,699 310,251 --------- --------- --------- --------- Income from operations 26,098 16,013 50,347 44,053 Other income (expense): Interest and investment income 463 888 966 1,804 Interest expense (6,394) (7,295) (12,815) (14,716) Other income - - 1,313 - --------- --------- --------- --------- Total other income (expense) (5,931) (6,407) (10,536) (12,912) --------- --------- --------- --------- Income before income tax expense 20,167 9,606 39,811 31,141 Income tax expense 8,544 3,719 16,795 12,385 --------- --------- --------- --------- Income from continuing operations before minority interest 11,623 5,887 23,016 18,756 Minority interest - (1,438) - (2,030) --------- --------- --------- --------- Income from continuing operations 11,623 4,449 23,016 16,726 Discontinued operations, net of income taxes: Loss from discontinued operations (71) - (975) - Loss on disposal of discontinued operations - - (20,814) - --------- --------- --------- --------- Net income $ 11,552 $ 4,449 $ 1,227 $ 16,726 ========= ========= ========= ========= Income from continuing operations per share: Basic $ 0.45 $ 0.17 $ 0.90 $ 0.65 Diluted $ 0.45 $ 0.17 $ 0.89 $ 0.63 Net income per share: Basic $ 0.45 $ 0.17 $ 0.05 $ 0.65 Diluted $ 0.45 $ 0.17 $ 0.05 $ 0.63 Weighted average shares outstanding: Basic 25,579 25,781 25,560 25,734 Diluted 25,922 26,229 25,887 28,100
See accompanying notes. -2- NCO GROUP, INC Consolidated Statements of Cash Flows (Unaudited) (Amounts in thousands)
For the Six Months Ended June 30, ----------------------------- 2000 2001 -------- -------- Cash flows from operating activities: Income from continuing operations $ 23,016 $ 16,726 Adjustments to reconcile income from continuing operations to net cash provided by continuing operating activities: Depreciation 6,964 9,710 Amortization of intangibles 8,554 8,867 Provision for doubtful accounts 2,185 2,202 Impairment of purchased accounts receivable - 463 Minority interest - 2,030 Changes in operating assets and liabilities, net of acquisitions: Restricted cash - 2,555 Accounts receivable, trade (13,726) (14,157) Deferred income taxes 3,048 4,027 Other assets (5,129) (4,101) Accounts payable and accrued expenses (1,171) 8,327 Corporate taxes payable (4,597) (208) Other long-term liabilities (4,279) 1,081 -------- -------- Net cash provided by continuing operating activities 14,865 37,522 Net cash provided by discontinued operating activities 1,384 - -------- -------- Net cash provided by operating activities 16,249 37,522 Cash flows from investing activities: Acquisition of purchased accounts receivable (13,211) (26,319) Collections applied to principal of purchased accounts receivable 1,978 16,306 Purchase of property and equipment (15,906) (13,491) Investment in consolidated subsidiary by minority interest - 2,320 Net cash paid for pre-acquisition liabilities and acquisition related costs (10,000) (11,077) -------- -------- Net cash used in investing activities (37,139) (32,261) Cash flows from financing activities: Repayment of notes payable (816) (10,740) Repayment of acquired notes payable - (20,084) Borrowings under revolving credit agreement - 51,330 Repayment of borrowings under revolving credit agreement (10,000) (142,350) Payment of fees to acquire new debt - (5,055) Proceeds from issuance of convertible debt - 125,000 Issuance of common stock, net 1,009 3,647 -------- -------- Net cash (used in) provided by financing activities (9,807) 1,748 Effect of exchange rate on cash 41 (98) -------- -------- Net (decrease) increase in cash and cash equivalents (30,656) 6,911 Cash and cash equivalents at beginning of period 50,513 13,490 -------- -------- Cash and cash equivalents at end of period $ 19,857 $ 20,401 ======== ========
See accompanying notes. -3- NCO GROUP, INC. Notes to Consolidated Financial Statements (Unaudited) 1. Nature of Operations: NCO Group, Inc. (the "Company" or "NCO") is a leading provider of accounts receivable management and collection services. The Company also owns approximately 63% of NCO Portfolio Management, Inc., a separate public company that purchases and manages accounts receivable. The Company's client base includes companies in the financial services, healthcare, retail, commercial, education, utilities, government and telecommunications sectors. These clients are primarily located throughout the United States of America, Canada, the United Kingdom, and Puerto Rico. 2. Accounting Policies: Interim Financial Information: The accompanying unaudited consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions for Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of only normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the three-month and six-month periods ended June 30, 2001, are not necessarily indicative of the results that may be expected for the year ending December 31, 2001, or for any other interim period. For further information, refer to the consolidated financial statements and footnotes thereto included in the Company's Annual Report on Form 10-K filed with the Securities and Exchange Commission on March 16, 2001. Principles of Consolidation: The consolidated financial statements include the accounts of the Company and all affiliated subsidiaries and entities controlled by the Company. All significant intercompany accounts and transactions have been eliminated. Contingency Fees and Contractual Services: The Company generates revenue from contingent fees and contractual services. Contingent fee revenue is recognized upon collection of funds on behalf of clients. Contractual services revenue is recognized as services are performed and accepted by the client. Purchased Accounts Receivable: The Company accounts for its investment in purchased accounts receivable on an accrual basis under the guidance of Practice Bulletin 6, "Amortization of Discounts on Certain Acquired Loans," using unique and exclusive static pools. Static pools are established with accounts having similar attributes. Typically, each pool consists of an individual acquisition of accounts. Once a static pool is established, the accounts in the pool are not changed. Each static pool is initially recorded at cost. Collections on the pools are allocated to revenue and principal reduction based on the estimated internal rate of return for each pool. The internal rate of return for each static pool is estimated based on the expected monthly collections over the estimated economic life of each pool (generally five years, based on the Company's collection experience), compared to the original purchase price. Revenue on purchased accounts receivable is recorded monthly based on each static pool's effective internal rate of return applied to each static pool's monthly opening carrying value. To the extent collections exceed the revenue, the carrying value is reduced and the reduction is recorded as collections applied to principal. Because the internal rate of return reflects collections for the entire economic life of the static pool and those collections are not constant, lower collection rates, typically in the early months of ownership, can result in a situation where the actual collections are less than the revenue accrual. In this situation, the carrying value of the pool may be accreted for the difference between the revenue accrual and the carrying value. -4- 2. Accounting Policies (continued): Purchased Accounts Receivable (continued): To the extent the estimated future cash flow increases or decreases from the expected level of collections, the Company adjusts the yield (the internal rate of return) accordingly. To the extent that the carrying amount of a particular static pool exceeds its expected future cash flows, a charge to earnings would be recognized in the amount of such impairment. After the impairment of a static pool, no income is recorded on that static pool and collections are recorded as a return of capital. The estimated yield for each static pool is based on estimates of future cash flows from collections, and actual cash flows may vary from current estimates. The difference could be material. Proceeds from the sale of accounts within a static pool are accounted for as collections in that static pool. Collections on replacement accounts received from the originator of the loans are included as collections in the corresponding static pools. The discount between the cost of each static pool and the face value of the static pool is not recorded since the Company expects to collect a relatively small percentage of each static pool's face value. Credit Policy: The Company has two types of arrangements under which it collects its contingent fee revenue. For certain clients, the Company remits funds collected on behalf of the client net of the related contingent fees while, for other clients, the Company remits gross funds collected on behalf of clients and bills the client separately for its contingent fees. Management carefully monitors its client relationships in order to minimize its credit risk and generally does not require collateral. In many cases, in the event of collection delays from clients, management may, at its discretion, change from the gross remittance method to the net remittance method. Intangibles: Intangibles consist primarily of goodwill and deferred financing costs. Goodwill represents the excess of purchase price over the fair market value of the net assets of the acquired businesses based on their respective fair values at the date of acquisition. Goodwill is amortized on a straight-line basis over 15 to 40 years. The Company reviews the recoverability of its goodwill whenever events or circumstances indicate that the carrying amount of the goodwill may not be recoverable. If such circumstances arise, the Company would use an estimate of the undiscounted value of expected future operating cash flows to determine whether the goodwill is recoverable. Deferred financing costs relate to debt issuance costs incurred, which are capitalized and amortized over the term of the debt. Income Taxes: The Company accounts for income taxes using an asset and liability approach. The asset and liability approach requires the recognition of deferred tax assets and liabilities for the expected future tax consequences of temporary differences between the financial reporting basis and the tax basis of assets and liabilities. Income taxes were computed after giving effect to the nondeductible portion of goodwill expenses attributable to certain acquisitions. The static pools of purchased accounts receivable are comprised of distressed debt. Collection results are not guaranteed until received; accordingly, for tax purposes, any gain on a particular static pool is deferred until the full cost of its acquisition is recovered. Revenue for financial reporting purposes is recognized over the life of the static pool. Deferred tax liabilities arise from income tax deferrals created during the early stages of the static pool. These deferrals reverse after the cost basis of the static pool is recovered. The creation of new tax deferrals from future purchases of static pools are expected to offset the reversal of the deferrals from static pools where the collections have become fully taxable. -5- 2. Accounting Policies (continued): Use of Estimates: The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Significant estimates have been made by management with respect to the amount of future cash flows of purchased accounts receivable portfolios. The estimated future cash flows of the portfolios are used to recognize revenue and amortize the carrying values of the purchased accounts receivable. Actual results could differ from these estimates, making it reasonably possible that a change in these estimates could occur within one year. On a quarterly basis, management reviews the estimate of future collections, and it is reasonably possible that its assessment may change based on actual results and other factors. The change could be material. Reclassifications: Certain amounts for the six months ended June 30, 2000, have been reclassified for comparative purposes. 3. Discontinued Operations: On April 14, 2000 (the "Measurement Date"), the Company's Board of Directors approved a plan to divest the Company's Market Strategy division as part of its strategic plan to increase long-term shareholder value and focus on its core business of accounts receivable management services. The Market Strategy division provided market research and telemarketing services. The market research assets were acquired through the January 1997 acquisition of the Tele-Research Center, Inc. and the February 1998 acquisition of The Response Center. The telemarketing assets were acquired as non-core components of the March 1999 acquisition of JDR Holdings, Inc., and the August 1999 acquisition of Compass International Services Corporation. On October 26, 2000, TRC Holdings, Inc. and Creative Marketing Strategies, Inc., both management-led groups, acquired the assets of the market research and telemarketing businesses, respectively. In consideration for the purchased assets of the market research business, the Company received a $12.25 million note. The note earns interest at a fixed rate of 9% per year and the interest payments are due monthly. The entire principal balance is due on December 31, 2002. In the event that the principal and the remaining interest is not paid in full on December 31, 2002, the principal of the note will be increased by a maximum of $2.0 million. The remaining principal and interest will be due in equal monthly payments until December 31, 2005. In consideration for the purchased assets of the telemarketing business, the Company received a $6.0 million note. The note earns interest at a fixed rate of 9% per year and the interest payments are due monthly. Commencing on December 1, 2003, in addition to the interest payments, principal payments of $25,000 will be due monthly until November 1, 2005. The remaining principal and interest will become due in full on November 1, 2005. In accordance with the Accounting Principles Board Opinion No. 30, "Reporting the Results of Operations - Reporting the Effects of Disposal of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions," the consolidated financial statements and the accompanying notes of the Company have been presented to reflect the Market Strategy division as discontinued operations for all periods presented. -6- 3. Discontinued Operations (continued): The following summary of the Market Strategy division's operations prior to the Measurement Date have been presented net in the Company's consolidated statement of income for the three months and six months ended June 30, 2000 (amounts in thousands):
Three months ended Six months ended June 30, 2000 June 30, 2000 ------------------ ---------------- Revenue $ 1,195 $ 7,802 ======= ======= Loss from discontinued operations before income tax benefit $ (95) $(1,498) Income tax benefit (24) (523) ------- ------- Loss from discontinued operations, net of income tax benefit $ (71) $ (975) ======= =======
During the six months ended June 30, 2000, the Company recorded a $20.8 million loss (net of a tax benefit of $2.9 million), or $0.80 loss per share on a diluted basis, on the disposal of the Market Strategy division. This loss reflected management's estimate of the difference between the net assets of the Market Strategy division over the proceeds from the divestiture and the estimated operating losses from the Measurement Date through the completion of the divestiture. 4. Acquisition: In February 2001, the Company merged NCO Portfolio Management, Inc. ("NCO Portfolio"), its wholly owned subsidiary, with Creditrust Corporation ("Creditrust") to form a new public entity focused on the purchase of accounts receivable. After the merger, the Company owned approximately 63% of the outstanding stock of NCO Portfolio, subject to certain adjustments. The Company's contribution to the NCO Portfolio merger consisted of $25.0 million of purchased accounts receivable. As part of the acquisition, NCO Portfolio signed a ten-year service agreement that appointed the Company as the sole provider of collection services to NCO Portfolio. The Company has agreed to offer all of its future U.S. accounts receivable purchase opportunities to NCO Portfolio. In connection with the acquisition, NCO Group amended its credit agreement with Mellon Bank, N.A., for itself and as administrative agent for other participating lenders, to make $50.0 million of its credit facility available for the use of NCO Portfolio. Upon completion of the acquisition, NCO Group borrowed $36.3 million for NCO Portfolio under this credit facility. The following summarizes the unaudited pro forma results of operations for the six months ended June 30, 2000 and 2001, assuming the Creditrust acquisition occurred as of the beginning of the respective periods. The pro forma information is provided for informational purposes only. It is based on historical information, and does not necessarily reflect the actual results that would have occurred, nor is it indicative of future results of operations of the consolidated entities (amounts in thousands): For the six months ended June 30, --------------------------------- 2000 2001 ----------- ----------- Revenue $326,376 $357,884 Net income $(34,782) $ 7,758 Earnings per share - basic $ (1.36) $ 0.30 Earnings per share - diluted $ (1.36) $ 0.30 -7- 5. Comprehensive Income: Comprehensive income consists of net income from operations, plus certain changes in assets and liabilities that are not included in net income but are reported as a separate component of shareholders' equity. The Company's comprehensive income for the three months and six months ended June 30, 2000 and 2001 was as follows (amounts in thousands):
For the three months For the six months ended June 30, ended June 30, -------------------- ------------------ 2000 2001 2000 2001 -------- ------- ------- -------- Net income $ 11,552 $ 4,449 $ 1,227 $ 16,726 Foreign currency translation adjustment (634) 1,830 (639) (431) -------- ------- ------- -------- Comprehensive income $ 10,918 $ 6,279 $ 588 $ 16,295 ======== ======= ======= ========
6. Purchased Accounts Receivable: The Company purchases defaulted consumer receivables at a discount from the actual principal balance. The following summarizes the change in purchased accounts receivable for the year ended December 31, 2000 and for the six months ended June 30, 2001: December 31, June 30, 2000 2001 ------------ ---------- Balance, at beginning of period $ 6,719 $ 34,475 Purchased accounts receivable acquired from Creditrust - 98,988 Purchases of accounts receivable 32,961 26,319 Collections on purchased accounts receivable (20,495) (47,623) Revenue recognized 15,411 30,797 Impairment of purchased accounts receivable - (463) Foreign currency translation adjustment (121) (31) -------- --------- Balance, at end of period $ 34,475 $ 142,462 ======== ========= To the extent that the carrying amount of a static pool exceeds its fair value, an impairment would be recognized as a charge to earnings. After the impairment of a static pool, no revenue is recognized on that static pool, and all collections are treated as a return of capital. During the quarter ended June 30, 2001, an impairment in the amount of $463,000 was recorded as the carrying value of six static pools exceeded their fair value. No revenue will be recorded on these static pools until their carrying amounts have been fully recovered. The combined carry amounts on these static pools after impairment totaled approximately $1.8 million as of June 30, 2001, representing their net realizable value. 7. Funds Held on Behalf of Clients: In the course of the Company's regular business activities as a provider of accounts receivable management services, the Company receives clients' funds arising from the collection of accounts placed with the Company. These funds are placed in segregated cash accounts and are generally remitted to clients within 30 days. Funds held on behalf of clients of $54.1 million and $59.4 million at December 31, 2000 and June 30, 2001, respectively, have been shown net of their offsetting liability for financial statement presentation. -8- 8. Long-Term Debt: Revolving Credit Facility The Company has a credit agreement with Mellon Bank, N.A. ("Mellon Bank"), for itself and as administrative agent for other participating lenders, that originally provided for borrowings up to $350.0 million, structured as a revolving credit facility. The borrowing capacity of the revolving credit facility is subject to mandatory reductions including quarterly reductions of $6.3 million beginning on March 31, 2001 and 50 percent of the net proceeds received from any offering of debt or equity. As of June 30, 2001, the maximum borrowing capacity of the revolving credit agreement was $276.9 million. At the option of NCO, the borrowings bear interest at a rate equal to either Mellon Bank's prime rate plus a margin of 0.25% to 0.50% that is determined quarterly based upon the Company's consolidated funded debt to earnings before interest, taxes, depreciation, and amortization ("EBITDA") ratio (Mellon Bank's prime rate was 6.75% at June 30, 2001), or the London InterBank Offered Rate ("LIBOR") plus a margin of 1.25% to 2.25% depending on the Company's consolidated funded debt to EBITDA ratio (LIBOR was 3.84% at June 30, 2001). The Company is charged a fee on the unused portion of the credit facility ranging from 0.13% to 0.38% depending on the Company's consolidated funded debt to EBITDA ratio. In connection with the merger of Creditrust into NCO Portfolio, the Company amended its revolving credit facility to allow the Company to provide NCO Portfolio with a $50 million revolving line of credit in the form of a sub-facility under its existing credit facility. At the option of NCO, the borrowings bear interest at a rate equal to either Mellon Bank's prime rate plus a margin of 1.25% to 1.50% that is determined quarterly based upon the Company's consolidated funded debt to EBITDA ratio, or LIBOR plus a margin of 2.25% to 3.25% depending on the Company's consolidated funded debt to EBITDA ratio. Borrowings are collateralized by substantially all the assets of the Company, including the common stock of NCO Portfolio, and certain assets of NCO Portfolio. The balance under the revolving credit facility shall become due on May 20, 2004. The credit agreement contains certain financial covenants such as maintaining net worth and funded debt to EBITDA requirements and includes restrictions on, among other things, acquisitions and distributions to shareholders. Convertible Debt In April 2001, the Company completed the sale of $125.0 million aggregate principal amount of 4.75% Convertible Subordinated Notes due 2006 ("Notes") in a private placement pursuant to Rule 144A and Regulation S under the Securities Act of 1933. The Notes are convertible into NCO common stock at an initial conversion price of $32.92 per share. The Company used the $121.3 million of net proceeds from this offering to repay debt under its revolving credit agreement. In accordance with the terms of the credit agreement, 50% of the net proceeds from the Notes permanently reduced the maximum borrowings available under the revolving credit facility. Securitized Debt NCO Portfolio has assumed three securitized notes payable in connection with the acquisition of Creditrust. These notes payable were originally established to fund the purchase of accounts receivable. Each of the notes payable is non-recourse to the Company and NCO Portfolio, secured by a pool of purchased accounts receivable, and is bound by an indenture and servicing agreement. Pursuant to the acquisition, the trustee appointed NCO as the successor servicer for each pool of purchased accounts receivable. When the notes payable were established, a separate special purpose finance subsidiary was created to house the assets and debt. -9- 8. Long-Term Debt (continued): Securitized Debt (continued) The first securitized note ("Warehouse Facility") was established in September 1998 through Creditrust Funding I LLC, a special purpose finance subsidiary. The Warehouse Facility carries a floating interest rate of LIBOR plus 0.65% per annum, and the final due date of all payments under the facility is March 2005. A $900,000 liquidity reserve is included in restricted cash as of June 30, 2001, and is restricted as to use until the facility is retired. Interest expense, trustee fees and guarantee fees aggregated $216,000 and $473,000 for the three months ended June 30, 2001 and the period from February 21, 2001 to June 30, 2001, respectively. As of June 30, 2001, the amount outstanding on the facility was $19.4 million. The note issuer, Asset Guaranty Insurance Company, has been guaranteed against loss by NCO Portfolio for up to $4.5 million, which will be reduced if and when reserves and residual cash flows from another securitization are posted as additional collateral for this facility. The second securitized note ("SPV99-1 Financing") was established in August 1999 through Creditrust SPV99-1, LLC, a special purpose finance subsidiary. SPV99-1 Financing carries interest at 9.43% per annum, with a final payment date of August 2004. A $225,000 liquidity reserve is included in restricted cash as of June 30 2001, and is restricted as to use until the facility is retired. Interest expense, trustee fees and guarantee fees aggregated $257,000 and $398,000 for the three months ended June 30, 2001 and the period from February 21, 2001 to June 30, 2001, respectively. As of June 30, 2001, the amount outstanding on the facility was $9.6 million. The third securitized note ("SPV99-2 Financing") was established in August 1999 through Creditrust SPV99-2, LLC, a special purpose finance subsidiary. SPV99-2 Financing carries interest at 15.00% per annum, with a final payment date of December 2004. Interest expense, trustee fees and guarantee fees aggregated $1.0 million and $1.4 million for the three months ended June 30, 2001 and the period from February 21, 2001 to June 30, 2001, respectively. As of June 30, 2001, the amount outstanding on the facility was $26.4 million. 9. Earnings Per Share: Basic earnings per share ("EPS") were computed by dividing the income from continuing operations and the net income for the three months and six months ended June 30, 2000 and 2001, by the weighted average number of common shares outstanding. Diluted EPS were computed by dividing the income from continuing operations and the net income for the three months and six months ended June 30, 2000 and 2001, by the weighted average number of common shares outstanding plus all common equivalent shares. Outstanding options, warrants and convertible securities have been utilized in calculating diluted net income per share only when their effect would be dilutive. For the three months ended June 30, 2001, the common stock to be issued assuming the conversion of the 4.75% convertible notes issued in April 2001 were antidilutive and, therefore, excluded from computing diluted EPS. The reconciliation of basic to diluted weighted average shares outstanding for the three months and six months ended June 30, 2000 and 2001 was as follows (amounts in thousands):
For the three months ended For the six months ended June 30, June 30, ----------------------- ------------------------ 2000 2001 2000 2001 ------ ------ ------ ------ Basic 25,579 25,781 25,560 25,734 Dilutive effect of convertible debt - - - 1,815 Dilutive effect of options 214 313 209 406 Dilutive effect of warrants 129 135 118 145 ------ ------ ------ ------ Diluted 25,922 26,229 25,887 28,100 ====== ====== ====== ======
-10- 10. Supplemental Cash Flow Information: The following are supplemental disclosures of cash flow information for the six months ended June 30, 2000 and 2001 (amounts in thousands): 2000 2001 ------ ------ Non-cash investing and financing activities: Fair value of assets acquired $ - $ 121,511 Liabilities assumed from acquisitions - 106,627 11. Segment Reporting: During the first nine months of 2000, the Company was organized into operating divisions that were focused on the operational delivery of services. The Company's focus on the operational delivery of services allowed it to take advantage of significant cross-selling opportunities and enhance the level of service provided to its clients. The operating divisions during the first nine months of 2000 included Accounts Receivable Management Services, Technology-Based Outsourcing, and International Operations. During 2000, the continued integration of the Company's infrastructure facilitated the further reduction of the operating divisions from three to two. Effective October 1, 2000, the new operating divisions included U.S. Operations (formerly Accounts Receivable Management Services and Technology-Based Outsourcing) and International Operations. Each of these divisions will maintain industry specific functional groups including healthcare, commercial, banking, retail, education, utilities, telecommunications, and government. The Company created the Portfolio Management division as a result of the February 2001 acquisition of Creditrust. Prior to the acquisition, NCO's portfolio business was part of the U.S. Operations division. The segment information for the three months and six months ended June 30, 2000, has been restated to reflect the three continuing operating segments. The accounting policies of the segments are the same as those described in Note 2, "Accounting Policies." The U.S Operations division provides accounts receivable management services to consumer and commercial accounts for all market segments, serving clients of all sizes in local, regional and national markets. In addition to traditional accounts receivable collections, these services include developing the client relationship beyond bad debt recovery and delinquency management, delivering cost-effective receivables and customer relationship management solutions to all market segments, serving clients of all sizes in local, regional and national markets. The U.S. Operations division is the exclusive provider of accounts receivable management services to Portfolio Management. U.S. Operations had total assets, net of any intercompany balances, of $704.5 million and $724.8 million at December 31, 2000 and June 30, 2001, respectively. The Portfolio Management division purchases and manages defaulted consumer receivables from credit grantors, including banks, finance companies, retail merchants and other service providers. Portfolio Management had total assets, net of any intercompany balances, of $32.1 million and $155.5 million at December 31, 2000 and June 30, 2001, respectively. The International Operations division provides accounts receivable management services across Canada and the United Kingdom. U.S. Operations uses International Operations as a sub-contractor to perform accounts receivable management services to some of its clients. International Operations had total assets, net of any intercompany balances, of $47.4 million and $46.9 million at December 31, 2000 and June 30, 2001, respectively. -11- 11. Segment Reporting (continued): The following tables represent the revenue, payroll and related expenses, selling, general, and administrative expenses, and earnings before interest, taxes, depreciation, and amortization ("EBITDA") for each segment for the three months and six months ended June 30, 2000 and 2001. EBITDA is used by the Company's management to measure the segments' operating performance and is not intended to report the segments' operating results in conformity with accounting principles generally accepted in the United States.
For the three months ended June 30, 2000 (amounts in thousands) ------------------------------------------------------------------------ Selling, Payroll and General and Revenue Related Expenses Admin. Expenses EBITDA ---------------- ----------------- ----------------- --------------- U.S. Operations $ 144,410 $ 69,629 $ 43,781 $ 31,000 Portfolio Management 2,837 74 1,018 1,745 International Operations 7,804 4,139 2,339 1,326 Eliminations (1,003) - (1,003) - --------- -------- -------- -------- Total $ 154,048 $ 73,842 $ 46,135 $ 34,071 ========= ======== ======== ======== For the three months ended June 30, 2001 (amounts in thousands) ------------------------------------------------------------------------ Selling, Payroll and General and Revenue Related Expenses Admin. Expenses EBITDA ---------------- ----------------- ----------------- --------------- U.S. Operations $ 164,842 $ 93,931 $ 54,349 $ 16,562 Portfolio Management 17,916 551 8,799 8,566 International Operations 9,276 6,057 2,711 508 Eliminations (8,759) (1,064) (7,695) - --------- -------- -------- -------- Total $ 183,275 $ 99,475 $ 58,164 $ 25,636 ========= ======== ======== ========
For the six months ended June 30, 2000 (amounts in thousands) ------------------------------------------------------------------------ Selling, Payroll and General and Revenue Related Expenses Admin. Expenses EBITDA ---------------- ----------------- ----------------- --------------- U.S. Operations $ 280,523 $ 135,831 $ 82,966 $ 61,726 Portfolio Management 3,727 148 1,541 2,038 International Operations 15,315 8,509 4,705 2,101 Eliminations (1,519) - (1,519) - --------- --------- -------- -------- Total $ 298,046 $ 144,488 $ 87,693 $ 65,865 ========= ========= ======== ======== For the six months ended June 30, 2001 (amounts in thousands) ------------------------------------------------------------------------ Selling, Payroll and General and Revenue Related Expenses Admin. Expenses EBITDA ---------------- ----------------- ----------------- --------------- U.S. Operations $ 320,614 $ 172,622 $ 102,278 $ 45,714 Portfolio Management 30,534 808 14,904 14,822 International Operations 18,044 10,799 5,151 2,094 Eliminations (14,888) (1,842) (13,046) - --------- --------- -------- -------- Total $ 354,304 $ 182,387 $ 109,287 $ 62,630 ========= ========= ======== ========
-12- Item 2 Management's Discussion and Analysis of Financial Condition and Results of Operations Certain statements included in this Report on Form 10-Q, other than historical facts, are forward-looking statements (as such term is defined in the Securities Exchange Act of 1934, and the regulations thereunder) which are intended to be covered by the safe harbors created thereby. Forward-looking statements include, without limitation, statements as to the Company's expected future results of operations, the Company's growth strategy, the Company's internet and e-commerce strategy, expected increases in operating efficiencies, anticipated trends in the accounts receivable management industry, estimate of future cash flows of purchased accounts receivable, the effects of legal or governmental proceedings, the effects of changes in accounting pronouncements and statements as to trends or the Company's or management's beliefs, expectations and opinions. Forward-looking statements are subject to risks and uncertainties and may be affected by various factors that may cause actual results to differ materially from those in the forward-looking statements. In addition to the factors discussed in this report, certain risks, uncertainties and other factors, including, without limitation, the risk that the Company will not be able to achieve expected future results of operations, the risk that the Company will not be able to implement its growth strategy as and when planned, risks associated with the recent expansion of NCO Portfolio Management, Inc., risks associated with growth and future acquisitions, the risk that the Company will not be able to realize operating efficiencies in the integration of its acquisitions, fluctuations in quarterly operating results, risks relating to the timing of contracts, risks related to purchased accounts receivable, risks associated with technology, the internet and the Company's e-commerce strategy and other risks detailed from time to time in the Company's filings with the Securities and Exchange Commission, including the Company's Annual Report on Form 10-K, filed March 16, 2001, can cause actual results and developments to be materially different from those expressed or implied by such forward-looking statements. A copy of the Annual Report on Form 10-K can be obtained, without charge except for exhibits, by written request to Steven L. Winokur, Executive Vice President, Finance/CFO, NCO Group, Inc., 515 Pennsylvania Avenue, Fort Washington, PA 19034. Three Months Ended June 30, 2001, Compared to Three Months Ended June 30, 2000 Revenue. Revenue increased $29.3 million, or 19.0%, to $183.3 million for the three months ended June 30, 2001, from $154.0 million for the comparable period in 2000. The U.S. Operations, Portfolio Management, and International Operations divisions represented $164.9 million, $17.9 million, and $9.3 million, respectively, of the revenue for the three months ended June 30, 2001. The U.S. Operations' revenue included $7.7 million of revenue earned on services performed for the Portfolio Management division that was eliminated upon consolidation. The International Operations' revenue included $1.1 million of revenue earned on services performed for the U.S. Operations division that was eliminated upon consolidation. U.S. Operations' revenue increased $20.5 million, or 14.1%, to $164.9 million for the three months ended June 30, 2001, from $144.4 million for the comparable period in 2000. This increase in the U.S. Operations' revenue was attributable to the addition of new clients and the growth in business from existing clients. Portfolio Management's revenue increased $15.1 million, or 531.5%, to $17.9 million for the three months ended June 30, 2001, from $2.8 million for the comparable period in 2000. This increase in the Portfolio Management's revenue was partially attributable to an increase in acquisitions of purchased accounts receivable. The remainder of the increase was attributable to the acquisition of Creditrust in February 2001. International Operations' revenue increased $1.5 million, or 18.9%, to $9.3 million for the three months ended June 30, 2001, from $7.8 million for the comparable period in 2000. This increase in the International Operations' revenue was primarily attributable to new sub-contractor services provided for U.S. Operations. -13- Payroll and related expenses. Payroll and related expenses increased $25.7 million to $99.5 million for the three months ended June 30, 2001, from $73.8 million for the comparable period in 2000, and increased as a percentage of revenue to 54.3% from 47.9%. A portion of the overall increase as a percentage of revenue was the result of reduced collectibility within the Company's contingent revenue stream. Accordingly, in order to mitigate the effects of the decreased collectibility while maintaining its performance for its clients, the Company had to increase spending for payroll costs. In addition, the Company incurred $10.7 million of one-time charges during the second quarter of 2001 related to a comprehensive streamlining of its expense structure designed to counteract the effects of operating in a more difficult collection environment. These costs primarily consisted of the elimination or acceleration of certain contractual employment obligations, severance costs related to terminated employees, and costs related to a decision to change the structure of our healthcare benefit programs from a large, singular benefit platform to individual plans across the country. A portion of these increases was offset by the increase in the size of the Portfolio Management division, which has a lower payroll cost structure than the remainder of the Company. The payroll and related expenses of the U.S Operations division increased $24.3 million to $93.9 million for the three months ended June 30, 2001, from $69.6 million for the comparable period in 2000, and increased as a percentage of revenue to 57.0% from 48.2%. A portion of the increase as a percentage of revenue was the result of reduced collectibility within the U.S. Operations' contingent revenue stream. Accordingly, in order to mitigate the effects of the decreased collectibility while maintaining its performance for its clients, the Company had to increase spending for payroll costs. In addition, the U.S. Operations incurred $10.0 million of the one-time charges during the second quarter of 2001, as discussed above. The payroll and related expenses of the Portfolio Management division increased $477,000 to $551,000 for the three months ended June 30, 2001, from $74,000 for the comparable period in 2000, and increased as a percentage of revenue to 3.1% from 2.6%. The Portfolio Management division outsources all of its collection services to the U.S. Operations division and, therefore, has a relatively small fixed payroll cost structure. However, due to the expansion of this division and the February 2001 acquisition of Creditrust, the Portfolio Management division required additional employees to operate NCO Portfolio Management, Inc. as a separate public company. The payroll and related expenses of the International Operations division increased $2.0 million to $6.1 million for the three months ended June 30, 2001, from $4.1 million for the comparable period in 2000, and increased as a percentage of revenue to 65.3% from 53.0%. A portion of the increase as a percentage of revenue was the result of upfront costs related to new projects started in the second quarter of 2001. The increase was also attributable to new sub-contractor services provided to the U.S. Operations at lower margins. In addition, the International Operations incurred $736,000 of the one-time charges during the second quarter of 2001, as discussed above. Selling, general and administrative expenses. Selling, general and administrative expenses increased $12.1 million to $58.2 million for the three months ended June 30, 2001, from $46.1 million for the comparable period in 2000, and increased as a percentage of revenue to 31.7% from 29.9%. A portion of the overall increase as a percentage of revenue was the result of reduced collectibility within the Company's contingent revenue stream. Accordingly, in order to mitigate the effects of the decreased collectibility while maintaining its performance for its clients, the Company had to increase spending for direct costs of collection. These costs included telephone, letter writing and postage, third party servicing fees, credit reporting, skiptracing, and legal and forwarding fees. In addition, the Company incurred $1.8 million of one-time charges during the second quarter of 2001 related to a comprehensive streamlining of its expense structure designed to counteract the effects of operating in a more difficult collection environment. These costs primarily related to real estate obligations for closed facilities and equipment rental obligations. Depreciation and amortization. Depreciation and amortization increased to $9.6 million for the three months ended June 30, 2001 from $8.0 million for the comparable period in 2000. This increase consisted of depreciation resulting from normal capital expenditures made in the ordinary course of business during 2000 and 2001. These capital expenditures included purchases associated with our planned migration towards a single, integrated information technology platform, and predictive dialers and other equipment required to expand our infrastructure to handle future growth. -14- Other income (expense). Interest and investment income increased $425,000 to $888,000 for the three months ended June 30, 2001 over the comparable period in 2000. This increase was primarily attributable to increases in operating cash and funds held on behalf of clients. Interest expense increased to $7.3 million for the three months ended June 30, 2001, from $6.4 million for the comparable period in 2000. This increase was partially attributable to the Portfolio Management division borrowing $36.3 million in connection with the February 2001 acquisition of Creditrust Corporation ("Creditrust"). In addition, a portion of the increase was attributable to interest from securitized debt that was assumed as part of the Creditrust acquisition. A portion of these increases was offset by a decrease in interest rates and debt repayments made during 2000 and the first half of 2001. In addition, a portion of these increases was offset by the April 2001 sale of $125.0 million aggregate principal amount of 4.75% Convertible Subordinated Notes due 2006. The net proceeds of $121.3 million were used to repay debt under the revolving credit agreement. Income tax expense. Income tax expense for the three months ended June 30, 2001 decreased to $3.7 million, or 38.7% of income before income tax expense, from $8.5 million, or 42.4% of income before income tax expense, for the comparable period in 2000. A portion of the decrease was attributable to the expansion of the Portfolio Management division, which has a lower effective tax rate than the remainder of the Company. The lower effective tax rate of the Portfolio Management division had a larger impact on the overall effective tax rate for the second quarter of 2001 due to the $12.5 million of one-time charges incurred by the remainder of the Company. In addition, a portion of the decrease was the result of the implementation of certain tax savings initiatives during the fourth quarter of 2000. Discontinued operations. On April 14, 2000 (the "Measurement Date"), the Company's Board of Directors approved a plan to divest the Company's Market Strategy division as part of its strategic plan to increase long-term shareholder value and focus on its core business of accounts receivable management services. The Market Strategy division had a loss from operations of $71,000 for the period from April 1, 2000 to the Measurement Date. The operations for the period from the Measurement Date to June 30, 2000 were recorded during the first quarter of 2000 as part of the expected loss on the disposal of the Market Strategy division. The Company completed the divestiture of the Market Strategy division on October 26, 2000. Six Months Ended June 30, 2001, Compared to Six Months Ended June 30, 2000 Revenue. Revenue increased $56.3 million, or 18.9%, to $354.3 million for the six months ended June 30, 2001, from $298.0 million for the comparable period in 2000. The U.S. Operations, Portfolio Management, and International Operations divisions represented $320.6 million, $30.5 million, and $18.1 million, respectively, of the revenue for the six months ended June 30, 2001. The U.S. Operations' revenue included $13.0 million of revenue earned on services performed for the Portfolio Management division that was eliminated upon consolidation. The International Operations' revenue included $1.9 million of revenue earned on services performed for the U.S. Operations division that was eliminated upon consolidation. U.S. Operations' revenue increased $40.1 million, or 14.3%, to $320.6 million for the six months ended June 30, 2001, from $280.5 million for the comparable period in 2000. This increase in the U.S. Operations' revenue was attributable to the addition of new clients and the growth in business from existing clients. Portfolio Management's revenue increased $26.8 million, or 719.3%, to $30.5 million for the six months ended June 30, 2001, from $3.7 million for the comparable period in 2000. This increase in the Portfolio Management's revenue was partially attributable to an increase in acquisitions of purchased accounts receivable. The remainder of the increase was attributable to the acquisition of Creditrust in February 2001. International Operations' revenue increased $2.8 million, or 17.8%, to $18.1 million for the six months ended June 30, 2001, from $15.3 million for the comparable period in 2000. This increase in the International Operations' revenue was primarily attributable to the addition of new clients and growth in business from existing clients. Payroll and related expenses. Payroll and related expenses increased $37.9 million to $182.4 million for the six months ended June 30, 2001, from $144.5 million for the comparable period in 2000, and increased as a percentage of revenue to 51.5% from 48.5%. A portion of the overall increase as a percentage of revenue was the result of reduced collectibility within the Company's contingent revenue stream. Accordingly, in order to mitigate the effects of the decreased collectibility while maintaining its performance for -15- its clients, the Company had to increase spending for payroll costs. In addition, the Company incurred $10.7 million of one-time charges during the second quarter of 2001 related to a comprehensive streamlining of its expense structure designed to counteract the effects of operating in a more difficult collection environment. These costs primarily consisted of the elimination or acceleration of certain contractual employment obligations, severance costs related to terminated employees, and costs related to a decision to change the structure of our healthcare benefit programs from a large, singular benefit platform to individual plans across the country. A portion of these increases was offset by an increase in productivity that was achieved through the expansion of predictive dialing equipment and the result of spreading the fixed portion of the payroll cost structure over a larger revenue base. In addition, a portion of these increases was offset by the increase in the size of the Portfolio Management division, which has a lower payroll cost structure than the remainder of the Company. The payroll and related expenses of the U.S Operations division increased $36.8 million to $172.6 million for the six months ended June 30, 2001, from $135.8 million for the comparable period in 2000, and increased as a percentage of revenue to 53.8% from 48.4%. A portion of the increase as a percentage of revenue was the result of reduced collectibility within the U.S. Operations' contingent revenue stream. Accordingly, in order to mitigate the effects of the decreased collectibility while maintaining its performance for its clients, the Company had to increase spending for payroll costs. In addition, the U.S. Operations incurred $10.0 million of the one-time charges during the second quarter of 2001, as discussed above. The payroll and related expenses of the Portfolio Management division increased $660,000 to $808,000 for the six months ended June 30, 2001, from $148,000 for the comparable period in 2000, but decreased as a percentage of revenue to 2.6% from 4.0%. The Portfolio Management division outsources all of its collection services to the U.S. Operations division and, therefore, has a relatively small fixed payroll cost structure. The payroll and related expenses of the International Operations division increased $2.3 million to $10.8 million for the six months ended June 30, 2001, from $8.5 million for the comparable period in 2000, and increased as a percentage of revenue to 59.8% from 55.6%. This increase as a percentage of revenue was primarily attributable to the $736,000 of the one-time charges incurred during the second quarter of 2001, as discussed above. Selling, general and administrative expenses. Selling, general and administrative expenses increased $21.6 million to $109.3 million for the six months ended June 30, 2001, from $87.7 million for the comparable period in 2000, and increased as a percentage of revenue to 30.8% from 29.4%. A portion of the overall increase as a percentage of revenue was the result of reduced collectibility within the Company's contingent revenue stream. Accordingly, in order to mitigate the effects of the decreased collectibility while maintaining its performance for its clients, the Company had to increase spending for direct costs of collection. These costs included telephone, letter writing and postage, third party servicing fees, credit reporting, skiptracing, and legal and forwarding fees. In addition, the Company incurred $1.8 million of one-time charges during the second quarter of 2001 related to a comprehensive streamlining of its expense structure designed to counteract the effects of operating in a more difficult collection environment. These costs primarily related to real estate obligations for closed facilities and equipment rental obligations. Depreciation and amortization. Depreciation and amortization increased to $18.6 million for the six months ended June 30, 2001 from $15.5 million for the comparable period in 2000. This increase consisted of depreciation resulting from normal capital expenditures made in the ordinary course of business during 2000 and 2001. These capital expenditures included purchases associated with our planned migration towards a single, integrated information technology platform, and predictive dialers and other equipment required to expand our infrastructure to handle future growth. Other income (expense). Interest and investment income increased $838,000 to $1.8 million for the six months ended June 30, 2001 over the comparable period in 2000. This increase was primarily attributable to increases in operating cash and funds held on behalf of clients, and the implementation of our new cash investment strategy. Interest expense increased to $14.7 million for the six months ended June 30, 2001, from $12.8 million for the comparable period in 2000. This increase was partially attributable to the Portfolio Management division borrowing $36.3 million in connection with the February 2001 acquisition of Creditrust Corporation ("Creditrust"). In addition, a portion of the increase was attributable to interest from securitized debt that was assumed as part of the Creditrust acquisition. A portion of these increases was offset -16- by a decrease in interest rates and debt repayments made during 2000 and the first half of 2001. In addition, a portion of these increases was offset by the April 2001 sale of $125.0 million aggregate principal amount of 4.75% Convertible Subordinated Notes due 2006. The net proceeds of $121.3 million were used to repay debt under the revolving credit agreement. During the six months ended June 30, 2000, the Company recorded insurance proceeds of approximately $1.3 million for flood and telephone outages experienced in the fourth quarter of 1999. Income tax expense. Income tax expense for the six months ended June 30, 2001 decreased to $12.4 million, or 39.8% of income before income tax expense, from $16.8 million, or 42.2% of income before income tax expense, for the comparable period in 2000. A portion of the decrease was attributable to the expansion of the Portfolio Management division, which has a lower effective tax rate than the remainder of the Company. The lower effective tax rate of the Portfolio Management division had a larger impact on the overall effective tax rate for the six months ended June 30, 2001 due to the $12.5 million of one-time charges incurred during the second quarter of 2001 by the remainder of the Company. In addition, a portion of the decrease was the result of the implementation of certain tax savings initiatives during the fourth quarter of 2000. Discontinued operations. The Market Strategy division had a loss from operations of $975,000 for the period from January 1, 2000 to the Measurement Date. For the six months ended June 30, 2000, the Company recorded a $20.8 million expected loss on the disposal of the Market Strategy division. The expected loss on disposal included the estimated operations for the period from the Measurement Date to the expected disposal date. The Company completed the divestiture of the Market Strategy division on October 26, 2000. Liquidity and Capital Resources Historically, the Company's primary sources of cash have been bank borrowings, public offerings, and cash flows from operations. Cash has been used for acquisitions, repayments of bank borrowings, purchases of equipment, purchases of receivables, and working capital to support the Company's growth. Cash Flows from Operating Activities. Cash provided by operating activities was $37.5 million for the six months ended June 30, 2001, compared to $16.2 million for the comparable period in 2000. The increase in cash provided by operations was primarily attributable to the net effect of the one-time charges incurred during the second quarter of 2001, a smaller decrease in corporate taxes payable, and an increase in long-term liabilities compared to a decrease in the comparable period of 2000. The smaller decrease in corporate taxes payable was the result of larger tax payments during the first six months of 2000 and the implementation of certain tax savings initiatives during the fourth quarter of 2000. The change in long-term liabilities was due to the reduction of acquisition related liabilities during the six months ended June 30, 2000. The increase in cash provided by operating activities was also attributable to an increase in depreciation expense, and the restricted cash and minority interest resulting from the Creditrust acquisition. Cash Flows from Investing Activities. Cash used in investing activities was $32.3 million for the six months ended June 30, 2001, compared to $37.1 million for the comparable period in 2000. The decrease was due primarily to an increase in collections applied to the principal of purchased accounts receivable and a decrease in the purchase of property and equipment. These decreases were partially offset by an increase in the purchase of delinquent receivables. Capital expenditures were $13.5 million for the six months ended June 30, 2001, compared to $15.9 million for the same period in 2000. Cash Flows from Financing Activities. Cash provided by financing activities was $1.7 million for the six months ended June 30, 2001, compared to cash used in financing activities of $9.8 million for the same period in 2000. During the first quarter of 2001, the primary source of cash from financing activities was the borrowings under the revolving credit facility made in connection with the Creditrust acquisition that were used to repay the acquired notes payable, finance purchased accounts receivable, and repay other acquisition related liabilities. During the second quarter of 2001, the Company received $121.3 million of net proceeds from the issuance of convertible debt. These net proceeds were used for the repayment of borrowings under the revolving credit agreement. Credit Facility. The Company has a credit agreement with Mellon Bank, N.A. ("Mellon Bank"), for itself and as administrative agent for other participating lenders, that originally provided for borrowings up to $350.0 million, structured as a revolving credit facility. The borrowing capacity of the revolving credit facility is subject to mandatory reductions including quarterly reductions of $6.3 million beginning on March 31, 2001 and 50 percent of the net proceeds received from any offering of debt or equity. As of June 30, 2001, the maximum borrowing capacity of the revolving credit agreement was $276.9 million. -17- At the Company's option, the borrowings bear interest at a rate equal to either Mellon Bank's prime rate plus a margin of 0.25% to 0.50% that is determined quarterly based upon the Company's consolidated funded debt to earnings before interest, taxes, depreciation, and amortization, also referred to as EBITDA, ratio (Mellon Bank's prime rate was 6.75% at June 30, 2001), or the London InterBank Offered Rate, also referred to as LIBOR, plus a margin of 1.25% to 2.25% depending on the Company's consolidated funded debt to EBITDA ratio (LIBOR was 3.84% at June 30, 2001). As of June 30, 2001, there was $64.1 million available on the revolving credit facility. In connection with the merger of Creditrust into NCO Portfolio, the Company amended its revolving credit facility to allow the Company to provide NCO Portfolio with a $50 million revolving line of credit in the form of a sub-facility under its existing credit facility. At the option of NCO, the borrowings bear interest at a rate equal to either Mellon Bank's prime rate plus a margin of 1.25% to 1.50% that is determined quarterly based upon the Company's consolidated funded debt to EBITDA ratio, or LIBOR plus a margin of 2.25% to 3.25% depending on the Company's consolidated funded debt to EBITDA ratio. As of June 30, 2001, there was $6.8 million available on the NCO Portfolio sub-facility. Borrowings are collateralized by substantially all the assets of the Company, including the common stock of NCO Portfolio, and certain assets of NCO Portfolio. The balance under the revolving credit facility shall become due on May 20, 2004. The credit agreement contains certain financial covenants such as maintaining net worth and funded debt to EBITDA requirements and includes restrictions on, among other things, acquisitions and distributions to shareholders. In April 2001, the Company completed the sale of $125.0 million aggregate principal amount of 4.75% Convertible Subordinated Notes due 2006 ("Notes") in a private placement pursuant to Rule 144A and Regulation S under the Securities Act of 1933. The Notes are convertible into NCO common stock at an initial conversion price of $32.92 per share. The Company used the $121.3 million of net proceeds from this offering to repay debt under its revolving credit agreement. In accordance with the terms of the credit agreement, 50% of the net proceeds from the Notes permanently reduced the maximum borrowings available under the revolving credit facility. Management believes that funds generated from operations, together with existing cash and available borrowings under the credit agreement will be sufficient to finance current operations, planned capital expenditure requirements, and internal growth at least through the next twelve months. However, additional debt or equity financing could be required if any other significant acquisitions for cash are made during that period. Market Risk The Company is exposed to various types of market risk in the normal course of business, including the impact of interest rate changes, foreign currency exchange rate fluctuations, and changes in corporate tax rates. A 25 basis-point increase in interest rates could increase annual interest expense by $250,000 for each $100 million of variable debt outstanding for the entire year. The Company employs risk management strategies that may include the use of derivatives such as interest rate swap agreements, interest rate ceilings and floors, and foreign currency forwards and options to manage these exposures. The fair value of the interest rate collar agreements was determined to be immaterial at December 31, 2000 and June 30, 2001. -18- Goodwill The Company's balance sheet includes amounts designated as "intangibles", which are predominantly comprised of "goodwill'. Goodwill represents the excess of purchase price over the fair market value of the net assets of the acquired businesses, based on their respective fair values at the date of acquisition. Accounting principles generally accepted in the United States require that this and all other intangible assets be amortized over the period benefited. Management has determined that period to be from 15 to 40 years based on the attributes of each acquisition. As of June 30, 2001, the Company's balance sheet included goodwill that represented approximately 56.5% of total assets and 128.6% of shareholders' equity. If management has incorrectly overestimated the length of the amortization period for goodwill, earnings reported in periods immediately following the acquisition would be overstated. In later years, NCO would be burdened by a continuing charge against earnings without the associated benefit to income valued by management in arriving at the consideration paid for the business. Earnings in later years also could be significantly affected if management determined then that the remaining balance of goodwill was impaired. Management has concluded that the anticipated future cash flows associated with intangible assets recognized in the acquisitions will continue indefinitely, and there is no persuasive evidence that any material portion will dissipate over a period shorter than the respective amortization period. Recent Accounting Pronouncement: In July 2001, the Financial Accounting Standards Board ("FASB") issued SFAS No.'s 141 and 142, "Business Combinations" and "Goodwill and Other Intangibles." FASB 141 requires all business combinations initiated after June 30, 2001 to be accounted for using the purchase method. FASB 142 concluded that purchased goodwill would not be amortized but would be reviewed for impairment when certain events indicate that the goodwill of a reporting unit is impaired. The impairment test will use a fair-value based approach, whereby if the implied fair value of a reporting unit's goodwill is less than its carrying amount, goodwill would be considered impaired. FASB 142 does not require that goodwill be tested for impairment upon adoption unless an indicator of impairment exists at that date. However, it would require that a benchmark assessment be performed for all existing reporting units within six months of the date of adoption. The new goodwill model would applies not only to goodwill arising from acquisitions completed after the effective date, but also to goodwill previously recorded. The Company will adopt FASB 142 in the first quarter of 2002. The Company is in the process of determining the impact of these pronouncements on its financial position and results of operations. Item 3 Quantitative and Qualitative Disclosures about Market Risk Included in Item 2, Management's Discussion and Analysis of Financial Condition and Results of Operations, of this Report on Form 10-Q. -19- Part II. Other Information Item 1. Legal Proceedings The Company is involved in legal proceedings from time to time in the ordinary course of its business. Management believes that none of these legal proceedings will have a materially adverse effect on the financial condition or results of operations of the Company. Item 2. Changes in Securities On April 4, 2001, the Company issued a total of $125,000,000 principal amount of 4.75% convertible subordinated notes due 2006 (the "Notes"). The Company issued and sold these Notes to Deutsche Bank Alex. Brown Inc., as the initial purchaser (the "Initial Purchaser"), in reliance on the exemption from registration under Section 4(2) of the Securities Act of 1933, as amended (the "Securities Act"). The Company sold the Notes to the Initial Purchasers at a discount of three percent, for an aggregate discount of $3.75 million. The Initial Purchasers represented to the Company that it was a "qualified institutional buyer" (as such term is defined in Rule 144A under the Securities Act). The Notes are convertible into approximately 3.8 million shares of the Company's common stock at a conversion price of $32.92 per share, subject to adjustment upon certain events described in the Indenture, at any time on or after July 3, 2001, through maturity, unless previously redeemed or repurchased. The Notes mature on April 15, 2006. The Initial Purchaser advised the Company that they proposed to resell the Notes (1) in the United States only to "qualified institutional buyers" in reliance on the exemption from registration under Rule 144A and (2) outside the United States to certain non-United States persons in offshore transactions in reliance on Rule 904 of Regulation S under the Securities Act. The Notes and the shares of common stock issuable upon conversion constitute "restricted securities" within the meaning of Rule 144. The Company's Confidential Offering Memorandum and related offering documents and agreements imposed certain restrictions on the resale or other transfer of the Notes and shares necessary for the availability of the exemptions from registration under the Securities Act referred to above. In accordance with the terms of the Note Purchase Agreement, the Company is required to file not later than July 3, 2001, a registration statement on Form S-3 under the Securities Act to register the Notes and shares for resale by the holders. The net proceeds of the Note offering of approximately $121.25 million were used to repay debt under the Company's Credit Agreement with Mellon Bank. Item 3. Defaults Upon Senior Securities None - not applicable Item 4. Submission of Matters to a Vote of Shareholders The Annual Meeting of Shareholders of the Company was held on May 15, 2001. At the Annual Meeting, the shareholders elected William C. Dunkelberg and Allen F. Wise as directors for a term of three years as described below: Number of Votes ------------------------- Withhold Name For Authority ---- --- --------- William C. Dunkelberg 23,119,174 278,670 Allen F. Wise 23,117,674 280,170 In addition, the terms of the following directors continued after the Annual Meeting: Michael J. Barrist, Charles C. Piola, Jr., Leo J. Pound, Eric S. Siegel, and Stuart Wolf. -20- At the Annual Meeting, the shareholders also approved an amendment to the Company's Articles of Incorporation to increase the number of authorized shares by 12,500,000 as follows: For Against Abstain Broker Non-Vote --- ------- ------- --------------- 22,295,800 1,081,023 21,021 0 At the Annual Meeting, the shareholders also approved an amendment to the 1996 Stock Option Plan as follows: For Against Abstain Broker Non-Vote --- ------- ------- --------------- 17,424,486 5,859,398 113,960 0 Item 5. Other Information None - not applicable Item 6. Exhibits and Reports on Form 8-K (a) Exhibits 3.1 Amendment to Amended and Restated Articles of Incorporation 99.1 Consolidating Schedule (b) Reports on Form 8-K Date of Report Item Reported 4/10/01 Item 5 - Issuance of Convertible Debt 5/4/01 Item 7 - Creditrust Corporation acquisition 5/25/01 Item 7 - Consent of Independent Auditors for Creditrust Corporation Financial Statements 7/24/01 Item 5 - Press release commenting on preliminary results for the second quarter of 2001 8/10/01 Item 5 - Press release and conference call transcript from the earnings release for the second quarter of 2001 -21- Signatures Pursuant to the requirement of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. Date: August 14, 2001 By: /s/ Michael J. Barrist ---------------------- Michael J. Barrist Chairman of the Board, President and Chief Executive Officer (principal executive officer) Date: August 14, 2001 By: /s/ Steven L. Winokur --------------------- Steven L. Winokur Executive Vice President, Finance, Chief Financial Officer and Treasurer -22- EX-3.1 3 ex3-1.txt EX-3.1
Microfilm Number Filed with the Department of State on ----------------------------------- ------------------------------ Entity Number ---------------------------------------- -------------------------------------------------- Secretary of the Commonwealth
ARTICLES OF AMENDMENT-DOMESTIC BUSINESS CORPORATION DSCB:15-1915 (Rev 90) In compliance with the requirements of 15 Pa.C.S. ss. 1915 (relating to articles of amendment), the undersigned business corporation, desiring to amend its Articles, hereby states that: 1. The name of the corporation is: NCO Group, Inc. ------------------------------------------ - ------------------------------------------------------------------------------- 2. The (a) address of this corporation's current registered office in this Commonwealth or (b) name of its commercial registered office provider and the county of venue is (the Department is hereby authorized to correct the following information to conform to the records of the Department): (a) 515 Pennsylvania Avenue, Ft. Washington, Pennsylvania 19034 Montgomery ----------------------------------------------------------------------------- Number and Street City State Zip County (b) c/o: ------------------------------------------------------------------------ Name of Commercial Registered Office Provider County For a corporation represented by a commercial registered office provider, the county in (b) shall be deemed the county in which the corporation is located for venue and official publication purposes. 3. The statute by or under which it was incorporated is: Business Corporation Law of 1988 --------------------------------------------------------------------------- 4. The date of its incorporation is: August 27, 1996 ----------------- 5. (Check, and if appropriate complete, one of the following): X The amendment shall be effective upon filing these Articles of Amendment --- in the Department of State. The amendment shall be effective on:_______________ at ________________ --- Date Hour 6. (Check one of the following): X The amendment was adopted by the shareholders (or members) pursuant --- to 15 Pa.C.S. ss. 1914(a) and (b). The amendment was adopted by the board of directors pursuant to --- 15 Pa.C.S. ss. 1914(c). 7. (Check, and if appropriate complete, one of the following): The amendment adopted by the corporation, set forth in full, --- is as follows: -------------------------------------------------------------------- -------------------------------------------------------------------- X The amendment adopted by the corporation is set forth in full in --- Exhibit A attached hereto and made a part hereof. 8. (Check if the amendment restates the Articles): The restated Articles of Incorporation supersede the original Articles --- and all amendments thereto. IN TESTIMONY WHEREOF, the undersigned corporation has caused these Articles of Amendment to be signed by a duly authorized officer thereof this 15th day of May, 2001. NCO Group, Inc. --------------------------------- (Name of Corporation) BY: s/ Steven L. Winokur --------------------------------- Steven L. Winokur TITLE: EVP Finance, CFO and Treasurer --------------------------------- [GRAPHIC OMITTED] Department of State Corporation Bureau P.O. Box 8722 Harrisburg, PA 17105-8722 Instructions for Completion of Form: A. One original of this form is required. The form shall be completed in black or blue-black ink in order to permit reproduction. The filing fee for this form is $52 made payable to the Department of State. PLEASE NOTE: A separate check is required for each form submitted. B. Under 15 Pa.C.S. ss. 135(c) (relating to addresses) an actual street or rural route box number must be used as an address, and the Department of State is required to refuse to receive or file any document that sets forth only a post office box address. C. The following, in addition to the filing fee, shall accompany this form: (1) Three copies of a completed form DSCB:15-134B (Docketing Statement-Changes). (2) Any necessary copies of form DSCB:17.2 (Consent to Appropriation of Name) or form DSCB:17.3 (Consent to Use of Similar Name) shall accompany Articles of Amendment effecting a change of name and the change in name shall contain a statement of the complete new name. (3) Any necessary governmental approvals. D. This form and all accompanying documents shall be mailed to: Department of State Corporation Bureau P.O. Box 8722 Harrisburg, PA 17105-8722 E. To receive confirmation of the file date prior to receiving the microfilmed original, send either a self-addressed, stamped postcard with the filing information noted or a self-addressed, stamped envelope with a copy of the filing document. Exhibit A RESOLVED, that the first sentence of Article 5 of the Amended and Restated Articles of Incorporation, as amended, of the Company shall be amended and restated to read in full as follows: "Article 5. Authorized Capital Stock. The Corporation shall have the authority to issue an aggregate of 55,000,000 shares of capital stock which shall be divided into 50,000,000 shares of Common Stock, no par value, as more fully described in Section 5(a) below, and 5,000,000 shares of Preferred Stock, no par value, as more fully described in Section 5(b) below." EX-99.1 4 ex99-1.txt EXHIBIT 99.1 NCO GROUP, INC. Unaudited Selected Financial Data (in thousands, except for per share amounts) Consolidating Statements of Income:
For the Three Months Ended June 30, 2001 -------------------------------------------------------------- Intercompany NCO Group NCO Portfolio Eliminations Consolidated --------- ------------- ------------ ------------ Revenue $ 173,054 $ 17,916 $ (7,695) $ 183,275 Operating costs and expenses: Payroll and related expenses 98,924 551 99,475 Selling, general, and administrative expenses 57,060 8,799 (7,695) 58,164 Depreciation and amortization expense 9,547 76 9,623 --------- -------- -------- --------- 165,531 9,426 (7,695) 167,262 --------- -------- -------- --------- 7,523 8,490 - 16,013 Other income (expense): Interest and investment income 907 86 (105) 888 Interest expense (5,101) (2,299) 105 (7,295) --------- -------- -------- --------- (4,194) (2,213) - (6,407) --------- -------- -------- --------- Income before income tax expense 3,329 6,277 - 9,606 Income tax expense 1,365 2,354 - 3,719 --------- -------- -------- --------- Income from continuing operations before minority interest 1,964 3,923 - 5,887 Minority interest (1) - - (1,438) (1,438) --------- -------- -------- --------- Net income $ 1,964 $ 3,923 $ (1,438) $ 4,449 ========= ======== ======== =========
(1) NCO Group owns approximately 63% percent of the outstanding common stock of NCO Portfolio Management, Inc. NCO GROUP, INC. Unaudited Selected Financial Data (in thousands, except for per share amounts) Consolidating Statements of Income:
For the Six Months Ended June 30, 2001 -------------------------------------------------------------- Intercompany NCO Group NCO Portfolio Eliminations Consolidated --------- ------------- ------------ ------------ Revenue $ 336,816 $ 30,534 $(13,046) $ 354,304 Operating costs and expenses: Payroll and related expenses 181,579 808 182,387 Selling, general, and administrative expenses 107,429 14,904 (13,046) 109,287 Depreciation and amortization expense 18,477 100 18,577 --------- -------- -------- --------- 307,485 15,812 (13,046) 310,251 --------- -------- -------- --------- 29,331 14,722 - 44,053 Other income (expense): Interest and investment income 2,210 118 (524) 1,804 Interest expense (11,367) (3,873) 524 (14,716) --------- -------- -------- --------- (9,157) (3,755) - (12,912) --------- -------- -------- --------- Income before income tax expense 20,174 10,967 - 31,141 Income tax expense 8,272 4,113 12,385 --------- -------- -------- --------- Income from continuing operations before minority interest 11,902 6,854 - 18,756 Minority interest (1) - - (2,030) (2,030) --------- -------- -------- --------- Net income $ 11,902 $ 6,854 $ (2,030) $ 16,726 ========= ======== ======== =========
(1) NCO Group owns approximately 63% percent of the outstanding common stock of NCO Portfolio Management, Inc. -----END PRIVACY-ENHANCED MESSAGE-----