-----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, LddNYs8tjlJDYFo5erMsYzQlbZ4EH3hIiOVc/UhjJB4yG+gVKWbknMQp+Xv5ChMM wVNb6fl6+4H6STkc6FWkhA== 0000950116-05-003484.txt : 20051109 0000950116-05-003484.hdr.sgml : 20051109 20051109171801 ACCESSION NUMBER: 0000950116-05-003484 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 9 CONFORMED PERIOD OF REPORT: 20050930 FILED AS OF DATE: 20051109 DATE AS OF CHANGE: 20051109 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: 051191068 BUSINESS ADDRESS: STREET 1: 507 PRUDENTIAL ROAD CITY: HORSHAM STATE: PA ZIP: 19044 BUSINESS PHONE: 215-441-3000 MAIL ADDRESS: STREET 1: 507 PRUDENTIAL ROAD CITY: HORSHAM STATE: PA ZIP: 19044 10-Q 1 ten-q.txt FORM 10-Q UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark one) /X/ Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the quarterly period ended September 30, 2005 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 23-2858652 - -------------------------------------------------------------------------------- (State or other jurisdiction of (IRS Employer Identification incorporation or organization) Number) 507 Prudential Road, Horsham, Pennsylvania 19044 - -------------------------------------------------------------------------------- (Address of principal executive offices) (Zip Code) 215-441-3000 - -------------------------------------------------------------------------------- (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 (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No _____ ---------- Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes X No ______ ---------- Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ______ No X . ------- The number of shares outstanding of each of the issuer's classes of common stock as of November 8, 2005 was: 32,171,757 shares of common stock, no par value.
NCO GROUP, INC. INDEX PAGE PART I - FINANCIAL INFORMATION Item 1. FINANCIAL STATEMENTS (Unaudited) Consolidated Balance Sheets - September 30, 2005 and December 31, 2004 1 Consolidated Statements of Income - Three and nine months ended September 30, 2005 and 2004 2 Consolidated Statements of Cash Flows - Nine months ended September 30, 2005 and 2004 3 Notes to Consolidated Financial Statements 4 Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS 25 Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK 36 Item 4. CONTROLS AND PROCEDURES 36 PART II - OTHER INFORMATION 36 Item 1. LEGAL PROCEEDINGS Item 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS Item 3. DEFAULTS UPON SENIOR SECURITIES Item 4. SUBMISSION OF MATTERS TO A VOTE OF SHAREHOLDERS Item 5. OTHER INFORMATION Item 6. EXHIBITS SIGNATURES 39
PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS
NCO GROUP, INC. CONSOLIDATED BALANCE SHEETS (AMOUNTS IN THOUSANDS) SEPTEMBER 30, 2005 DECEMBER 31, ASSETS (UNAUDITED) 2004 ------------- ------------- Current assets: Cash and cash equivalents $ 38,610 $ 26,334 Restricted cash - 900 Accounts receivable, trade, net of allowance for doubtful accounts of $7,949 and $7,878, respectively 125,993 104,699 Purchased accounts receivable, current portion, net of allowance for impairment of $905 at September 30, 2005 119,742 50,388 Deferred income taxes 14,467 18,911 Bonus receivable, current portion - 10,325 Prepaid expenses and other current assets 38,603 37,359 ------------- ------------- Total current assets 337,415 248,916 Funds held on behalf of clients Property and equipment, net 127,692 114,256 Other assets: Goodwill 666,015 609,562 Other intangibles, net of accumulated amortization 44,213 21,943 Purchased accounts receivable, net of current portion 128,170 88,469 Other assets 24,846 30,743 ------------- ------------- Total other assets 863,244 750,717 ------------- ------------- Total assets $ 1,328,351 $ 1,113,889 ============= ============= LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities: Long-term debt, current portion $ 57,084 $ 64,684 Income taxes payable 11,314 11,946 Accounts payable 6,975 5,022 Accrued expenses 67,531 53,472 Accrued compensation and related expenses 35,663 21,424 Deferred revenue, current portion 1,837 18,821 ------------- ------------- Total current liabilities 180,404 175,369 Funds held on behalf of clients Long-term liabilities: Long-term debt, net of current portion 315,995 186,339 Deferred revenue, net of current portion 407 955 Deferred income taxes 45,269 36,174 Other long-term liabilities 17,396 19,451 Minority interest 32,878 - Commitments and contingencies 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, 32,172 and 32,078 shares issued and outstanding, respectively 474,960 473,410 Other comprehensive income 14,770 13,526 Deferred compensation (2,870) (3,458) Retained earnings 249,142 212,123 ------------- ------------- Total shareholders' equity 736,002 695,601 ------------- ------------- Total liabilities and shareholders' equity $ 1,328,351 $ 1,113,889 ============= =============
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 NINE MONTHS ENDED SEPTEMBER 30, ENDED SEPTEMBER 30, ------------------------------ ------------------------------ 2005 2004 2005 2004 ------------- ------------- ------------- ------------- Revenue $ 246,324 $ 246,046 $ 753,858 $ 702,532 Operating costs and expenses: Payroll and related expenses 126,900 125,287 377,155 349,149 Selling, general and administrative expenses 92,418 84,688 276,768 245,085 Restructuring charge 2,442 - 2,442 - Depreciation and amortization expense 11,318 10,480 32,996 29,405 ------------- ------------- ------------- ------------- Total operating costs and expenses 233,078 220,455 689,361 623,639 ------------- ------------- ------------- ------------- Income from operations 13,246 25,591 64,497 78,893 Other income (expense): Interest and investment income 884 767 2,344 2,362 Interest expense (5,535) (5,339) (15,577) (15,883) Other income (expense) 3,362 (174) 8,118 447 ------------- ------------- ------------- ------------- Total other income (expense) (1,289) (4,746) (5,115) (13,074) ------------- ------------- ------------- ------------- Income before income tax expense 11,957 20,845 59,382 65,819 Income tax expense 3,975 7,592 21,993 25,558 ------------- ------------- ------------- ------------- Income before minority interest 7,982 13,253 37,389 40,261 Minority interest (361) - (370) (606) ------------- ------------- ------------- ------------- Net income $ 7,621 $ 13,253 $ 37,019 $ 39,655 ============= ============= ============= ============= Net income per share: Basic $ 0.24 $ 0.42 $ 1.15 $ 1.33 Diluted $ 0.24 $ 0.39 $ 1.10 $ 1.24 Weighted average shares outstanding: Basic 32,145 31,919 32,109 29,849 Diluted 32,455 36,257 36,174 34,071
See accompanying notes. -2-
NCO GROUP, INC CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) (AMOUNTS IN THOUSANDS) FOR THE NINE MONTHS ENDED SEPTEMBER 30, ------------------------------ 2005 2004 ------------- ------------- Cash flows from operating activities: Net income $ 37,019 $ 39,655 Adjustments to reconcile income from operations to net cash provided by operating activities: Depreciation 26,551 23,938 Amortization of intangibles 6,445 5,467 Amortization of deferred compensation 909 348 Amortization of deferred training asset 2,970 1,436 Provision for doubtful accounts 2,523 1,796 Allowance and impairment of purchased accounts receivable 947 545 Noncash interest 5,444 4,653 Gain on sale of purchased accounts receivable (8,088) - Changes in non-operating income (358) (1,168) Minority interest 370 606 Changes in operating assets and liabilities, net of acquisitions: Restricted cash 900 4,468 Accounts receivable, trade (29) (10,482) Deferred income taxes 17,636 16,687 Bonus receivable 10,325 1,549 Other assets (3,093) (6,667) Accounts payable and accrued expenses 7,950 (7,857) Income taxes payable (871) 7,924 Deferred revenue (17,532) (6,255) Other long-term liabilities (1,582) (341) ------------- ------------- Net cash provided by operating activities 88,436 76,302 Cash flows from investing activities: Purchases of accounts receivable - see note 12 (25,037) (35,834) Collections applied to principal of purchased accounts receivable 48,945 66,712 Proceeds from sale of purchased accounts receivable 8,417 - Purchases of property and equipment (26,090) (21,286) Net distribution from joint venture 4,464 1,769 Proceeds from notes receivable 878 948 Proceeds from disposal of property, equipment and other net assets - 1,013 Investment in subsidiary by minority interest 32,508 - Net cash paid for acquisitions and related costs (218,563) (17,130) ------------- ------------- Net cash used in investing activities (174,478) (3,808) Cash flows from financing activities: Repayment of notes payable (32,343) (44,262) Borrowings under notes payable 35,668 - Repayment of borrowings under revolving credit agreement (40,000) (53,750) Borrowings under revolving credit agreement 135,500 - Payment of fees to acquire debt (1,471) (97) Issuance of common stock, net of taxes 1,124 13,928 ------------- ------------- Net cash provided by (used in) financing activities 98,478 (84,181) Effect of exchange rate on cash (160) 1,424 ------------- ------------- Net increase (decrease) in cash and cash equivalents 12,276 (10,263) Cash and cash equivalents at beginning of the period 26,334 45,644 ------------- ------------- Cash and cash equivalents at end of the period $ 38,610 $ 35,381 ============= =============
See accompanying notes. -3- NCO GROUP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) 1. NATURE OF OPERATIONS: NCO Group, Inc. is a holding company and conducts substantially all of its business operations through its subsidiaries (collectively, "the Company" or "NCO"). NCO is a leading global provider of business process outsourcing solutions, primarily focused on accounts receivable management ("ARM") and customer relationship management ("CRM"). NCO provides services through approximately 100 offices in the United States, Canada, the United Kingdom, India, the Philippines, the Caribbean, and Panama. The Company provides services to more than 24,000 active clients including many of the Fortune 500, supporting a broad spectrum of industries, including financial services, telecommunications, healthcare, utilities, retail and commercial, transportation/logistics, education, technology and government services. These clients are primarily located throughout the United States, Canada, the United Kingdom, Europe, and Puerto Rico. The Company's largest client during the nine months ended September 30, 2005 was in the financial services sector and represented 10.9 percent of the Company's consolidated revenue for the nine months ended September 30, 2005. The Company also purchases and manages past due consumer accounts receivable from consumer creditors such as banks, finance companies, retail merchants, utilities, healthcare companies, and other consumer-oriented companies. The Company's business consists of four operating divisions: ARM North America, CRM, Portfolio Management and ARM International. 2. ACCOUNTING POLICIES: Interim Financial Information: The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information and with the instructions for Form 10-Q and Rule 10-01 of Regulation S-X promulgated by the Securities and Exchange Commission. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States for complete financial statements. In the opinion of management, all adjustments (consisting of only normal recurring accruals, except as otherwise disclosed herein) considered necessary for a fair presentation have been included. Because of the seasonal nature of the Company's business, operating results for the three-month and nine-month periods ended September 30, 2005, are not necessarily indicative of the results that may be expected for the year ending December 31, 2005, 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 for the year ended December 31, 2004. Principles of Consolidation: The consolidated financial statements include the accounts of the Company and all affiliated subsidiaries and entities controlled by the Company. All intercompany accounts and transactions have been eliminated. Revenue Recognition: ARM Contingency Fees: ARM contingency fee revenue is recognized upon collection of funds by NCO or its client. -4- 2. ACCOUNTING POLICIES (CONTINUED): Revenue Recognition (continued): ARM Contingency Fees (continued): In January 2005, the Company was notified by the Staff of the Securities and Exchange Commission that the Company's long-standing policy with respect to the timing of revenue recognized on certain cash receipts related to contingency revenues was inconsistent with their interpretation of Staff Accounting Bulletin No. 104 ("SAB 104"). The Company previously recognized contingency fee revenue attributable to payments postmarked prior to the end of the period and received in the mail from the consumers on the first business day after such period as applicable to the prior reporting period. This revenue recognition policy had been in effect since prior to NCO becoming a public company and was consistently applied over time. The Company corrected its policy in the fourth quarter of 2004 in order to recognize revenue when physically received. The impact of this correction was a $2.7 million reduction in revenues and a $947,000 reduction in net income, or $0.03 per diluted share, for the three months ended December 31, 2004. Such correction did not have a material impact on the comparability of operating results for the three and nine months ended September 30, 2005 and 2004. ARM Contractual Services: Fees for ARM contractual services are recognized as services are performed and earned under service arrangements with clients where fees are fixed or determinable and collectibility is reasonably assured. Long-Term Collection Contract: The Company has a long-term collection contract with a large client to provide collection services. Prior to May 31, 2005, the contract included guaranteed collections, subject to limits, for placements from January 1, 2000 through December 31, 2003. The Company also earned a bonus to the extent collections were in excess of the guarantees. The Company was required to pay the client, subject to limits, if collections did not reach the guarantees by the reconciliation dates. Any guarantees in excess of the limits were only satisfied with future collections. The Company is entitled to recoup at least 90 percent of any such guarantee payments from subsequent collections in excess of any remaining guarantees. Prior to the final reconciliation date on May 31, 2005, the Company deferred all of the base service fees, subject to the limits, until the collections exceeded the collection guarantees. At the end of each reporting period, the Company assessed the need to record an additional liability if deferred fees were less than the estimated guarantee payments, if any, due to the client, subject to the limits. There was no additional liability recorded as of December 31, 2004. The last and final settlement date occurred on May 31, 2005. In September 2005, the Company paid the client $4.3 million, which represented the difference between actual collections and the guaranteed collections, subject to a limit of $13.5 million, less $9.2 of prepayments from prior bonuses and recoveries. The Company records revenue for the base service fee plus any bonus or recoupments in excess of any remaining guarantees. CRM Hourly: Revenue is recognized based on the billable hours of each CRM representative as defined in the client contract. The rate per billable hour charged is based on a predetermined contractual rate, as agreed in the underlying contract. The contractual rate can fluctuate based on certain predetermined objective performance criteria related to quality and performance, reduced by any contractual performance penalties the client may be entitled to, both as measured on a monthly basis. The impact of the performance criteria and penalties on the rate per billable hour is continually updated as revenue is recognized. -5- 2. ACCOUNTING POLICIES (CONTINUED): Revenue Recognition (continued): CRM Performance-Based: Under performance-based arrangements, the Company is paid by its customers based on achievement of certain levels of sales or other client-determined criteria specified in the client contract. The Company recognizes performance-based revenue by measuring its actual results against the performance criteria specified in the contracts. Amounts collected from customers prior to the performance of services are recorded as deferred revenues. Training Revenue: In connection with the provisions of certain inbound and outbound CRM services, the Company incurs costs to train its CRM representatives. Training programs relate to both program start-up training in connection with new CRM programs ("Start-up Training") and on-going training for updates of existing CRM programs ("On-going Training"). The Company bills certain of its customers for the costs incurred under these training programs based on the terms in the contract. Training revenue is integral to the CRM revenue being generated over the course of a contract and cannot be separated as a discrete earning process under SEC Staff Accounting Bulletin No. 104. Start-up Training and On-going Training revenues are initially deferred and recognized over the shorter of the term of the customer contract, or the period to be benefited. Direct costs associated with providing Start-up Training and On-going Training, which consist of salary, benefit and travel costs, are also deferred and amortized over a time period consistent with the deferred training revenue. When a business relationship is terminated with one of the Company's customers, the unamortized deferred training revenue and unamortized deferred direct costs associated with that customer are immediately recognized. At September 30, 2005, the balance of deferred training revenue was $2.2 million and deferred training costs were $1.9 million. All other unreimbursed training costs, such as training due to attrition, are charged to expense as incurred. Purchased Accounts Receivable: Prior to January 1, 2005, the Company accounted for its investment in purchased accounts receivable on an accrual basis under the guidance of American Institute of Certified Public Accountants ("AICPA") Practice Bulletin No. 6, "Amortization of Discounts on Certain Acquired Loans" ("PB6"). Effective January 1, 2005, the Company adopted AICPA Statement of Position 03-3, "Accounting for Loans or Certain Securities Acquired in a Transfer" ("SOP 03-3"). SOP 03-3 addresses accounting for differences between contractual versus expected cash flows over an investor's initial investment in certain loans when such differences are attributable, at least in part, to credit quality. SOP 03-3 is effective for loans acquired in fiscal years beginning after December 15, 2004, and amends PB6 for loans acquired in fiscal years before the effective date. Previously issued annual and quarterly financial statements are not restated and there is no prior period effect of these new provisions. The Company has maintained historical collection records for all of its purchased accounts receivable since 1991, as well as debtor records since 1986, which provides a reasonable basis for the Company's judgment that it is probable that it will ultimately collect the recorded amount of its purchased accounts receivable plus a premium or yield. The historical collection amounts also provide a reasonable basis for determining the timing of the collections. The Company uses all available information to forecast the cash flows of its purchased accounts receivable including, but not limited to, historical collections, payment patterns on similar purchases, credit scores of the underlying debtors, seller's credit policies, and location of the debtor. -6- 2. ACCOUNTING POLICIES (CONTINUED): Revenue Recognition (continued): Purchased Accounts Receivable (continued): The Company acquires loans in groups or portfolios that are initially recorded at cost, which includes external costs of acquiring portfolios. Once a portfolio is acquired, the accounts in the portfolio are not changed, unless replaced, returned or sold. All acquired loans have experienced deterioration of credit quality between origination and the Company's acquisition of the loans, and the amount paid for a portfolio of loans reflects the Company's determination that it is probable the Company will be unable to collect all amounts due according to each loan's contractual terms. As such, the Company determines whether each portfolio of loans is to be accounted for individually or whether such loans will be aggregated based on common risk characteristics. The Company considers expected collections, and estimates the amount and timing of undiscounted expected principal, interest, and other cash flows (expected at acquisition) for each portfolio of loans and subsequently aggregated pools of loans. The Company determines nonaccretable difference, or the excess of the portfolio's contractual principal over all cash flows expected at acquisition as an amount that should not be accreted. The remaining amount represents accretable yield, or the excess of the portfolio's cash flows expected to be collected over the amount paid, and is accreted into earnings over the remaining life of the portfolio. At acquisition, the Company derives an internal rate of return ("IRR") based on the expected monthly collections over the estimated economic life of each portfolio of loans (typically up to seven years, based on the Company's collection experience) compared to the original purchase price. Collections on the portfolios are allocated to revenue and principal reduction based on the estimated IRR for each portfolio of loans. Revenue on purchased accounts receivable is recorded monthly based on applying each portfolio's effective IRR for the quarter to its carrying value. Over the life of a portfolio, the Company continues to estimate cash flows expected to be collected. The Company evaluates at the balance sheet date whether the present value of its portfolios determined using the effective interest rates has decreased, and if so, records an expense to establish a valuation allowance to maintain the original IRR established at acquisition. Any increase in actual or estimated cash flows expected to be collected is first used to reverse any existing valuation allowance for that portfolio, or aggregation of portfolios, and any remaining increases in cash flows are recognized prospectively through an increase in the IRR. The updated IRR then becomes the new benchmark for subsequent valuation allowance testing. Credit Policy: Management carefully monitors its client relationships in order to minimize the Company's credit risk and assesses the likelihood of collection based on a number of factors including the client's collection history and credit-worthiness. The Company maintains a reserve for potential collection losses when such losses are deemed to be probable. The Company has two types of arrangements under which it collects its ARM contingency fee revenue. For certain clients, the Company remits funds collected on behalf of the client net of the related contingency fees while, for other clients, the Company remits gross funds collected on behalf of clients and bills the client separately for its contingency fees. The Company generally does not require collateral and it does not charge finance fees on outstanding trade receivables. In many cases, in the event of collection delays from ARM clients, management may, at its discretion, change from the gross remittance method to the net remittance method. The Company also maintains a reserve for deposits on debtor accounts that may ultimately prove to have insufficient funds. Trade accounts receivable are written off to the allowances when collection appears unlikely. -7- 2. ACCOUNTING POLICIES (CONTINUED): 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. Goodwill is tested for impairment each year on October 1, and as triggering events occur. The goodwill impairment test is performed at the reporting unit level and involves a two-step approach, the first step identifies any potential impairment and the second step measures the amount of impairment, if applicable. The first test for potential impairment uses a fair value based approach, whereby the implied fair value of a reporting unit's goodwill is compared to its carrying amount; if the fair value is less than the carrying amount, the reporting unit's goodwill would be considered impaired. Fair value estimates are based upon the discounted value of estimated cash flows. The Company does not believe that goodwill was impaired as of September 30, 2005 (note 8). Other Intangible Assets: Other intangible assets consist primarily of customer relationships that are amortized over five years using the straight-line method (note 8). Stock Options: The Company accounts for stock option grants in accordance with APB Opinion 25, "Accounting for Stock Issued to Employees" ("APB 25") and related interpretations. Under APB 25, because the exercise price of the stock options equaled the fair value of the underlying common stock on the date of grant, no compensation cost was recognized. In accordance with SFAS 123, "Accounting for Stock-Based Compensation," the Company does not recognize compensation cost based on the fair value of the options granted at the grant date. If the Company had elected to recognize compensation cost based on the fair value of the options granted at the grant date, net income and net income per share would have been reduced to the pro forma amounts indicated in the following table (amounts in thousands, except per share amounts):
For the Three Months For the Nine Months Ended September 30, Ended September 30, -------------------------- -------------------------- 2005 2004 2005 2004 ----------- ----------- ----------- ------------ Net income - as reported $ 7,621 $ 13,253 $ 37,019 $ 39,655 Pro forma compensation cost, net of taxes 595 914 1,772 2,625 ----------- ----------- ----------- ------------ Net income - pro forma $ 7,026 $ 12,339 $ 35,247 $ 37,030 =========== =========== =========== ============ Net income per share - as reported: Basic $ 0.24 $ 0.42 $ 1.15 $ 1.33 Diluted $ 0.24 $ 0.39 $ 1.10 $ 1.24 Net income per share - pro forma: Basic $ 0.22 $ 0.39 $ 1.10 $ 1.24 Diluted $ 0.22 $ 0.37 $ 1.05 $ 1.17
During the three months ended September 30, 2005 and 2004, compensation expense of $254,000 and $292,000, respectively, was recorded for restricted stock units. During the nine months ended September 30, 2005 and 2004, compensation expense of $909,000 and $348,000, respectively, was recorded for restricted stock units. -8- 2. ACCOUNTING POLICIES (CONTINUED): Income Taxes: The Company accounts for income taxes in accordance with SFAS No. 109, "Accounting for Income Taxes" ("SFAS 109") which requires that deferred tax assets and liabilities be recognized using enacted tax rates for the effect of temporary differences between the book and tax bases of recorded assets and liabilities. SFAS 109 also requires that deferred tax assets be reduced by a valuation allowance if it is more likely than not that some portion or all of the deferred tax asset will not be realized. Deferred taxes have not been provided on the cumulative undistributed earnings of foreign subsidiaries because such amounts are expected to be reinvested indefinitely. 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 amounts reported in the financial statements and the accompanying notes. Actual results could differ from those estimates. In the ordinary course of accounting for purchased accounts receivable, estimates are made by management as to the amount and timing of future cash flows expected from each portfolio. The estimated future cash flow of each portfolio is used to compute the IRR for the portfolio, both in the case of any increases in expected cash flows, or to compute impairment or allowances, in the case of decreases in expected cash flows. The IRR is used to allocate collections between revenue and principal reduction of the carrying values of the purchased accounts receivable. On an ongoing basis, the Company compares the historical trends of each portfolio to projected collections. Future projected collections are then increased or decreased based on the actual cumulative performance of each portfolio. Management reviews each portfolio's adjusted projected collections to determine if further upward or downward adjustment is warranted. Management regularly reviews the trends in collection patterns and uses its reasonable best efforts to improve the collections of under-performing portfolios. However, actual results will differ from these estimates and a material change in these estimates could occur within one reporting period (note 6). Derivative Financial Instruments: The Company selectively uses derivative financial instruments to manage interest costs and minimize currency exchange risk. The Company does not hold derivatives for trading purposes. While these derivative financial instruments are subject to fluctuations in value, these fluctuations are generally offset by the value of the underlying exposures being hedged. The Company minimizes the risk of credit loss by entering into these agreements with major financial institutions that have high credit ratings. The Company accounts for its derivative financial instruments in accordance with SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities" ("SFAS 133") which requires companies to recognize all of their derivative instruments as either assets or liabilities in the balance sheet at fair value. The Company is exposed to foreign currency fluctuations relating to its operations in Canada, the United Kingdom and the Philippines. In order to partially hedge cash flow exposure, the Company periodically enters into forward exchange contracts in order to minimize the impact of currency fluctuations on transactions and cash flows. These contracts are designated as cash flow hedges and recorded at their fair value on the accompanying balance sheets. Changes in the fair value of a cash flow hedge, to the extent that the hedge is effective, are recorded, net of tax, in other comprehensive income, until earnings are affected by the variability of the hedged cash flows. Cash flow hedge ineffectiveness, defined as the extent that the changes in fair value of the derivative exceed the variability of cash flows of the forecasted transaction, is recorded currently in the statement of income (note 11). The Company has certain nonrecourse debt relating to its purchased accounts receivable operations that contain embedded derivative instruments. The embedded derivatives are not hedge instruments and, accordingly, changes in their estimated fair value are reported as other income (expense) in the accompanying statements of income. The embedded derivatives are included in long-term debt on the accompanying balance sheets because they are not separable from the notes payable and they have the same counterparty (note 9). -9- 2. ACCOUNTING POLICIES (CONTINUED): Reclassifications: Certain amounts as of December 31, 2004 and for the nine months ended September 30, 2004, have been reclassified for comparative purposes. 3. RESTRUCTURING CHARGES: During the third quarter of 2005, in conjunction with the integration of Risk Management Alternatives Parent Corp. ("RMA") (note 4), the Company recorded restructuring charges of $2.4 million, and paid $220,000 during the three months ended September 30, 2005. These charges primarily related to the elimination of certain redundant facilities within the Company's ARM business. The Company expects to take additional charges of between $20.0 million and $25.0 million in the fourth quarter of 2005 and the first quarter of 2006. 4. BUSINESS COMBINATIONS: The following acquisitions have been accounted for under the purchase method of accounting. As part of the purchase accounting, the Company recorded accruals for acquisition-related expenses. These accruals included professional fees related to the acquisition, severance costs, lease costs and other acquisition-related expenses. On September 12, 2005, the Company acquired substantially all of the operating assets, including purchased portfolio assets, of RMA, a provider of accounts receivable management services and purchaser of accounts receivable, for $118.9 million in cash and the assumption of certain liabilities, subject to certain post-closing adjustments. The Company funded the purchase principally with financing from its senior credit facility. The purchase price included approximately $51.0 million for RMA's purchased portfolio assets, which was funded with $35.7 million of nonrecourse financing. In conjunction with the acquisition, on July 7, 2005, RMA and all of its domestic subsidiaries filed for protection under Chapter 11 of the Bankruptcy Code with the U.S. Bankruptcy Court for the Northern District of Ohio Eastern Division. The transaction was consummated under Sections 363 and 365 of the bankruptcy code. The Company allocated $16.3 million of the purchase price to the customer relationship and recorded goodwill at September 30, 2005 of $39.3 million, which is deductible for tax purposes. The allocation of the fair market value to the acquired assets and liabilities of RMA was based on preliminary estimates and may be subject to change. Such changes may include, but are not limited to, the final valuation of the customer relationships, property and equipment, and other assets and liabilities. In connection with the RMA acquisition, the Company recorded restructuring liabilities of $13.5 million under an exit plan the Company began to formulate prior to the acquisition date. These liabilities principally relate to severance costs related to certain redundant personnel that were scheduled to be eliminated upon completion of the acquisition. As a result of the acquisition, the Company expects to expand its current customer base, strengthen its relationship with certain existing customers, expand its portfolio base, and reduce the cost of operations through economies of scale. Therefore, the Company believes the preliminary allocation of a portion of the purchase price to goodwill is appropriate. The following is a preliminary allocation of the purchase price to the RMA assets acquired and liabilities assumed (amounts in thousands): Purchase price $118,902 Accounts receivable (26,375) Purchased accounts receivable (50,954) Customer relationships (16,250) Property and equipment (12,209) Deferred tax asset (5,274) Other assets (5,619) Accrued expenses 22,957 Other assumed liabilities 589 Accrued acquisition costs 13,500 -------------- Goodwill $ 39,267 ============== The following table presents the activity in the accruals recorded for RMA acquisition related expenses (amounts in thousands):
Severance Leases Other Total ----------- ----------- ----------- ----------- Balance at September 12, 2005 $ 9,557 $500 $ 3,443 $ 13,500 Cash payments (3,727) (82) (1,459) (5,268) ----------- ----------- ----------- ----------- Balance at September 30, 2005 $ 5,830 $418 $ 1,984 $ 8,232 =========== =========== =========== ===========
-10- 4. BUSINESS COMBINATIONS (CONTINUED): On September 1, 2005, the Company acquired the stock of seven wholly owned subsidiaries of Marlin Integrated Capital Holding Corporation ("Marlin"), a company that specializes in purchasing accounts receivable in the healthcare and utility sectors, for $86.8 million in two transactions. The first transaction included the acquisition of a portfolio of purchased accounts receivable for $64.0 million. The second transaction included the acquisition of certain portfolio related assets for approximately $22.8 million. An additional $3.0 million payment has been deferred pending the renewal of certain of the forward-flow agreements. The acquisition of the purchased accounts receivable portfolio was structured as an equity sharing arrangement with the Company's nonrecourse lender under the Company's nonrecourse credit facility. The lender invested $32.0 million in the acquisition, representing a 50 percent interest in the purchased accounts receivable portfolio assets. The Company funded its 50 percent portion of the acquisition of the portfolio assets and the acquisition of all of the operating assets with financing from its senior credit facility. By design, the Company controls the primary activities of the entity and as such has recorded a minority interest on its balance sheet for the lender's equity interest in the portfolio entity and has consolidated the results of operations of the portfolio entity and recorded the portion of the results of the portfolio entity it does not own as a minority interest, net of tax, on the statement of income. The Company purchased the portfolio related assets with financing from its senior credit facility. In addition, the Company also granted an option to the lender to purchase up to 50 percent of the other non-portfolio assets and liabilities acquired from Marlin. The option expires on November 29, 2005, and if such option is exercised the Company will receive an amount equal to the option percentage multiplied by the purchase price of such assets. The Company allocated $5.0 million of the purchase price to the customer relationship and recorded goodwill at September 30, 2005 of $15.9 million, which is deductible for tax purposes. The allocation of the fair market value to the acquired assets and liabilities was based on preliminary estimates and may be subject to change. Such changes may include, but are not limited to, the expiration or exercise of the lender's option, and the final valuation of the purchased accounts receivable portfolio assets, the customer relationships, and other assets and liabilities. As a result of the acquisition, the Company expects to expand its portfolio base and its presence in the healthcare and utility sectors, and reduce the cost of operations through economies of scale. Therefore, the Company believes the allocation of a portion of the purchase price to goodwill is appropriate. The following is a preliminary allocation of the purchase price to the assets acquired and liabilities assumed (amounts in thousands): Purchase price $ 86,846 Purchased accounts receivable (66,302) Customer relationships (5,000) Other assets (4,193) Accrued expenses 4,564 ---------------- Goodwill $ 15,915 ================ Prior to the acquisition, Portfolio Management had a 50 percent ownership interest in a joint venture, InoVision-MEDCLR NCOP Ventures, LLC ("the Joint Venture") with IMNV Holdings, LLC ("IMNV"), a subsidiary of Marlin. The Joint Venture was established in 2001 to purchase utility, medical and various other small balance accounts receivable. In connection with the acquisition, the Joint Venture was terminated and the Company's interest was included in the purchase accounting for the entity. On May 25, 2005, the Company acquired Creative Marketing Strategies ("CMS"), a provider of CRM services, for $5.9 million. The purchase price included the contribution of a note receivable for $5.2 million that the Company received in 2000 in consideration for assets sold to a management-led group as part of a divestiture. The Company allocated $6.0 million of the purchase price to the customer relationship and did not record goodwill. The allocation of the fair market value to the acquired assets and liabilities of CMS was based on preliminary estimates and may be subject to change. -11- 4. BUSINESS COMBINATIONS (CONTINUED): On April 2, 2004, the Company completed the acquisition of RMH Teleservices, Inc. ("RMH") a provider of CRM services. The Company issued 3.4 million shares of NCO common stock in exchange for all of the outstanding shares of RMH and assumed 339,000 warrants and 248,000 stock options. The total value of the consideration was $88.8 million. The Company also repaid $11.4 million of RMH's pre-acquisition debt. The Company allocated $20.0 million of the purchase price to the customer relationship and recorded goodwill at December 31, 2004 of $88.0 million, most of which is not deductible for tax purposes. In connection with the RMH acquisition, the Company recorded restructuring liabilities of $36.9 million under an exit plan the Company began to formulate prior to the acquisition date. These liabilities principally relate to severance costs related to certain future rental obligations attributable to facilities scheduled to be closed, certain redundant personnel that were scheduled to be eliminated upon completion of the acquisition, and other contractual termination costs. Certain of the payments related to such exited activities may continue through 2010. The Company's purchase accounting has been finalized; however, goodwill adjustments may be necessary in the future upon the resolution of certain lease assumptions and tax contingencies. The following table presents the activity in the accruals recorded for RMH acquisition related expenses (amounts in thousands):
Severance Leases Other Total ----------- ----------- ----------- ----------- Balance at December 31, 2004 $ 487 $ 18,685 $ 1,655 $ 20,827 Cash payments (487) (7,080) (1,285) (8,852) Accrual adjustment - (3,613) 96 (3,517) Foreign currency translation - - 213 213 ----------- ----------- ----------- ----------- Balance at September 30, 2005 $ - $ 8,205 $ 466 $ 8,671 =========== =========== =========== ===========
The accrual adjustment of $3.5 million primarily relates to changes in certain lease assumptions regarding facilities leases and was recorded as an adjustment to goodwill. On March 26, 2004, the Company completed the merger of NCO Portfolio Management, Inc. ("NCO Portfolio") with a wholly owned subsidiary of the Company. The Company owned approximately 63.3 percent of the outstanding stock of NCO Portfolio prior to the merger and pursuant to the merger acquired all NCO Portfolio shares that it did not own in exchange for 1.8 million shares of NCO common stock valued at $39.8 million. The Company recorded goodwill of $15.9 million, most of which is not deductible for tax purposes. The following summarizes the unaudited pro forma results of operations, assuming the RMA, RMH and NCO Portfolio acquisitions described above occurred as of the beginning of the respective periods. The pro forma information presented does not include the other acquisitions because they were not considered significant business combinations. 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, except per share data):
For the Three Months For the Nine Months Ended September 30, Ended September 30, ----------------------- ----------------------- 2005 2004 2005 2004 ----------- ---------- --------- ----------- Revenue $285,222 $304,617 $899,650 $971,030 Net income $ 7,310 $ 11,480 $ 28,462 $ 45,142 Earnings per share - basic $ 0.23 $ 0.36 $ 0.89 $ 1.29 Earnings per share - diluted $ 0.23 $ 0.34 $ 0.86 $ 1.21
-12- 5. COMPREHENSIVE INCOME: Comprehensive income consists of net income from operations plus certain changes in assets and liabilities, including the effects of intercompany transactions, that are not included in net income but are reported as a separate component of shareholders' equity. The Company's comprehensive income was as follows (amounts in thousands):
For the Three Months For the Nine Months Ended September 30, Ended September 30, ------------------------- ------------------------- 2005 2004 2005 2004 ------------ ----------- ------------ ----------- Net income $ 7,621 $ 13,253 $ 37,019 $ 39,655 Other comprehensive income: Foreign currency translation adjustment 3,553 3,465 1,203 1,863 Change in fair value of foreign currency cash flow hedges, net of tax 796 139 546 476 Net gains on foreign currency cash flow hedges reclassified into earnings, net of tax (703) - (505) - ------------ ----------- ------------ ----------- Comprehensive income $ 11,267 $ 16,857 $ 38,263 $ 41,994 ============ =========== ============ ===========
The foreign currency translation adjustment was attributable to changes in the exchange rates used to translate the financial statements of the Canadian, United Kingdom and Philippine operations into U.S. dollars. During the three months ended September 30, 2005 and 2004, the Company recognized pre-tax net gains of $1.1 million and $732,000, respectively, related to the foreign currency cash flow hedges. During the nine months ended September 30, 2005 and 2004, the Company recognized pre-tax net gains of $799,000 and $732,000, respectively, related to the foreign currency cash flow hedges. 6. PURCHASED ACCOUNTS RECEIVABLE: Portfolio Management, ARM International and the Canadian division of ARM North America purchase defaulted consumer accounts receivable at a discount from the contractual principal balance. On certain international portfolios, Portfolio Management and ARM International jointly purchase defaulted consumer accounts receivable. As of September 30, 2005, the carrying values of Portfolio Management's, ARM International's and ARM North America's purchased accounts receivable were $245.7 million, $1.2 million and $1.0 million, respectively. The total outstanding balance due, representing the original undiscounted contractual amount less collections since acquisition, was $35.7 billion and $14.7 billion at September 30, 2005 and December 31, 2004, respectively. -13- 6. PURCHASED ACCOUNTS RECEIVABLE: (CONTINUED): The following summarizes the change in the carrying amount of the purchased accounts receivable (amounts in thousands):
For the Nine Months Ended For the Year Ended September 30, 2005 December 31, 2004 --------------------- --------------------- Balance at beginning of period $ 138,857 $152,613 Purchases: Portfolios acquired in business combinations 117,256 - Cash purchases 25,037 46,837 Nonrecourse borrowings purchases 17,213 42,832 Collections (132,246) (167,128) Proceeds from portfolio sales applied to carrying value (4,485) (17,902) Revenue recognized 87,457 98,269 Allowance and impairment (947) (948) Dissolution of securitization - (13,673) Fair value purchase accounting adjustment - (2,324) Foreign currency translation adjustment (230) 281 --------------------- --------------------- Balance at end of period $ 247,912 $138,857 ===================== =====================
In the ordinary course of purchasing portfolios of accounts receivable, Portfolio Management may sell accounts from an acquired portfolio shortly after they were purchased. The proceeds from these resales are essentially equal to, and applied against, the carrying value of the accounts. Therefore, there is no gain recorded on these resales. In 2005, Portfolio Management began an on-going process to identify and sell certain aged portfolios of accounts receivable that have a low probability of payment. These aged portfolios have a low remaining carrying value. Proceeds from sales above the remaining carrying value are recorded as a gain in "other income" on the statement of income. During the three and nine months ended September 30, 2005, Portfolio Management sold aged portfolios of accounts receivable for $3.0 million and $8.4 million, respectively, with a carrying value of $222,000 and $329,000, respectively, and recorded a gain of $2.8 million and $8.1 million, respectively. The following table presents the change in the allowance for impairment of purchased accounts receivable accounted for under SOP 03-3 (amounts in thousands): For the Nine Months Ended September 30, 2005 --------------------- Balance at beginning of period $ - Additions 1,091 Recoveries (188) Foreign currency translation adjustment 2 --------------------- Balance at end of period $ 905 ===================== During the three months ended September 30, 2005 and 2004, impairment charges of $22,000 and $96,000, respectively, were recorded from portfolios accounted for under PB6 where the carrying values exceeded the expected future undiscounted cash flows on or before December 31, 2004. During the nine months ended September 30, 2005 and 2004, impairment charges of $42,000 and $545,000, respectively, were recorded. -14- 6. PURCHASED ACCOUNTS RECEIVABLE: (CONTINUED): Accretable yield represents the excess of the cash flows expected to be collected during the life of the portfolio over the initial investment in the portfolio. The following table presents the change in accretable yield (amounts in thousands):
For the Three Months For the Nine Months Ended September 30, Ended September 30, ------------------------- -------------------------- 2005 2004 2005 2004 ------------ ----------- ------------ ------------ Balance at beginning of period $ 170,554 $ 145,060 $ 160,083 $ 144,727 Additions 152,841 39,917 182,580 66,622 Accretion (32,137) (26,236) (87,456) (72,276) Reclassifications from nonaccretable difference 5,882 19,309 41,884 39,152 Foreign currency translation adjustment (213) 3 (164) (172) ------------ ----------- ------------ ------------ Balance at end of period $ 296,927 $ 178,053 $ 296,927 $ 178,053 ============ =========== ============ ============
During the three months ended September 30, 2005 and 2004, the Company purchased accounts receivable with a cost of $128.5 million and $32.7 million, respectively, including portfolios acquired through business combinations, that had contractually required payments receivable at the date of acquisition of $17.4 billion and $788.1 million, respectively, and expected cash flows at the date of acquisition of $281.3 million and $72.6 million, respectively. During the nine months ended September 30, 2005 and 2004, the Company purchased accounts receivable with a cost of $157.8 million and $58.9 million, respectively, including portfolios acquired through business combinations, that had contractually required payments receivable at the date of acquisition of $21.2 billion and $1.4 billion, respectively, and expected cash flows at the date of acquisition of $340.4 million and $125.5 million, respectively. 7. FUNDS HELD ON BEHALF OF CLIENTS: In the course of the Company's subsidiaries' 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 $58.7 million and $54.3 million at September 30, 2005 and December 31, 2004, respectively, have been shown net of their offsetting liability for financial statement presentation. 8. INTANGIBLE ASSETS: Goodwill: SFAS 142 requires goodwill to be allocated and tested at the reporting unit level. The Company's reporting units are ARM North America, CRM, Portfolio Management and ARM International, and had the following goodwill (amounts in thousands):
September 30, 2005 December 31, 2004 --------------------- --------------------- ARM North America $ 541,658 $ 499,980 CRM 86,757 88,027 Portfolio Management 31,856 15,941 ARM International 5,744 5,614 --------------------- --------------------- Total $ 666,015 $ 609,562 ===================== =====================
-15- 8. INTANGIBLE ASSETS (CONTINUED): Goodwill (continued): The change in ARM North America's goodwill balance from December 31, 2004 to September 30, 2005, was due principally to the acquisition of RMA (note 4). The changes in CRM's and ARM International's goodwill balances were due principally to the exchange rate used for foreign currency translation. The change in Portfolio Management's goodwill balance was due to the acquisition of Marlin (note 4). The goodwill related to the two acquisitions in September 2005 is tentative and may change, including reclassifications to other reporting units. Other Intangible Assets: Other intangible assets consist primarily of customer relationships. The following represents the other intangible assets (amounts in thousands):
September 30, 2005 December 31, 2004 ---------------------------------- --------------------------------- Gross Carrying Accumulated Gross Carrying Accumulated Amount Amortization Amount Amortization ----------------- --------------- ---------------- --------------- Customer relationships $ 56,040 $ 11,827 $ 28,761 $6,856 Other intangible assets 975 975 975 937 ----------------- --------------- ---------------- --------------- Total $ 57,015 $ 12,802 $ 29,736 $7,793 ================= =============== ================ ===============
The change in the customer relationship balance from December 31, 2004 to September 30, 2005, was due to acquisitions during 2005 (note 4). The customer relationships recorded for these acquisitions are preliminary and subject to change. The Company recorded amortization expense for all other intangible assets of $2.2 million and $2.0 million during the three months ended September 30, 2005 and 2004, respectively, and $6.4 million and $5.5 million during the nine months ended September 30, 2005 and 2004, respectively. The following represents the Company's estimated annual amortization expense from these other intangible assets over the next five years (amounts in thousands): For the Years Ended Estimated December 31, Amortization Expense ----------------------- ----------------------- 2005 $ 8,616 2006 10,209 2007 9,857 2008 8,456 2009 5,456 9. LONG-TERM DEBT: Long-term debt consisted of the following (amounts in thousands):
September 30, 2005 December 31, 2004 ---------------------- --------------------- Senior credit facility $ 158,000 $62,500 Convertible notes 125,000 125,000 Nonrecourse credit facility 75,043 39,786 Securitized nonrecourse debt 6,613 8,158 Other 8,423 15,579 Less current portion (57,084) (64,684) ---------------------- --------------------- $ 315,995 $186,339 ====================== =====================
-16- 9. LONG-TERM DEBT (CONTINUED): Senior Credit Facility: In June 2005, the Company amended and restated its senior credit facility ("the Credit Facility") with various participating lenders. The amended and restated Credit Facility is structured as a $300 million revolving credit facility with an option to allow the Company to increase its borrowing capacity to a maximum of $400 million, subject to obtaining commitments for such incremental capacity from existing or new lenders. The Credit Facility requires no minimum principal payments until June 18, 2010, the maturity date. At September 30, 2005, the balance outstanding on the Credit Facility was $158.0 million. The availability of the Credit Facility is reduced by any unused letters of credit ($4.6 million at September 30, 2005). As of September 30, 2005, the Company had $137.4 million of remaining availability under the Credit Facility; however, $125.0 million of this has been reserved to repay the Company's convertible notes, which mature in April 2006. All borrowings bear interest at a rate equal to either, at the option of the Company, the prime rate (6.75 percent at September 30, 2005) or LIBOR (3.86 percent at September 30, 2005) plus a margin of 0.75 percent to 1.50 percent, which is determined quarterly based upon the Company's consolidated funded debt to earnings before interest, taxes, depreciation, and amortization ("EBITDA") ratio. The Company is charged a fee on the unused portion of the Credit Facility of 0.20 percent to 0.30 percent depending on the Company's consolidated funded debt to EBITDA ratio. The effective interest rate on the Credit Facility was approximately 4.94 percent and 3.52 percent for the three months ended September 30, 2005 and 2004, respectively, and 4.85 percent and 3.73 percent for the nine months ended September 30, 2005 and 2004, respectively. Borrowings under the Credit Facility are collateralized by substantially all the assets of the Company. The Credit Facility contains certain financial and other covenants such as maintaining net worth and funded debt to EBITDA requirements, and includes restrictions on, among other things, acquisitions, the incurrence of additional debt, investments, disposition of assets and transactions with affiliates. If an event of default, such as failure to comply with covenants, or change of control, were to occur under the Credit Facility, the lenders would be entitled to declare all amounts outstanding immediately due and payable and foreclose on the pledged assets. As of September 30, 2005, the Company was in compliance with all required financial covenants and the Company was not aware of any events of default. Convertible Notes: At September 30, 2005, the Company had $125.0 million aggregate principal amount of 4.75 percent Convertible Subordinated Notes due April 15, 2006 ("the Notes"). The Notes are convertible into NCO common stock at a conversion price of $32.92 per share. The Notes continue to be classified as a long-term liability on the balance sheet because the Company has the ability and intends to repay the Notes utilizing its senior credit facility, which matures in 2010. -17- 9. LONG-TERM DEBT (CONTINUED): Nonrecourse Credit Facility: On June 30, 2005, Portfolio Management amended and restated its nonrecourse credit facility with a lender and extended its existing exclusivity agreement with such lender through June 30, 2009. The new agreement provides that all purchases of accounts receivable by Portfolio Management with a purchase price in excess of $1.0 million are first offered to the lender for financing at its discretion. If the lender chooses to participate in the financing of a portfolio of accounts receivable, the financing may be structured, depending on the size and nature of the portfolio to be purchased, either as a borrowing arrangement similar to the original agreement, or under various equity sharing arrangements ranging from 25 percent to 50 percent equity provided by the lender. The lender will finance non-equity borrowings at 70 percent of the purchase price, unless otherwise negotiated, with floating interest at a rate equal to LIBOR plus 2.50 percent. As additional return, the lender receives 28 percent of the residual cash flow, unless otherwise negotiated, which is defined as all cash collections after servicing fees, floating rate interest, repayment of the borrowing, and the initial investment by Portfolio Management, including interest. These borrowings are nonrecourse to the Company and are due two years from the loan commencement. The Company may terminate the agreement at any time after June 2007 for a cost of $250,000 for each remaining month under the agreement. If the amendment is terminated, the original agreement remains in effect and all borrowings are subject to those terms. The previous financing arrangement as described below remains in effect for outstanding loans as of June 30, 2005. Under the prior agreement, Portfolio Management had a four-year exclusivity agreement with a lender that originally was to expire in August 2006. The agreement stipulated that all purchases of accounts receivable by Portfolio Management with a purchase price in excess of $4.0 million must be first offered to the lender for financing at its discretion. The agreement had no minimum or maximum credit authorization. If the lender chose to participate in the financing of a portfolio of accounts receivable, the financing was at 90 percent of the purchase price, unless otherwise negotiated, with floating interest at the prime rate (6.75 percent at September 30, 2005) plus 3.25 percent. Each borrowing is due two years after the loan was made. Debt service payments equal collections less servicing fees and interest expense. As additional return, the lender receives 40 percent of the residual cash flow on loans made pursuant to the prior agreement, unless otherwise negotiated, which is defined as all cash collections after servicing fees, floating rate interest, repayment of the note, and the initial investment by Portfolio Management, including interest. Borrowings under this financing agreement are nonrecourse to the Company, except for the assets within the entities established in connection with the financing agreement. This loan agreement contains a collections performance requirement, among other covenants, that, if not met, provides for cross-collateralization with any other portfolios financed through the agreement, in addition to other remedies. Total debt outstanding under this facility was $75.0 million and $39.8 million as of September 30, 2005 and December 31, 2004, respectively, which both included $5.6 million of accrued residual interest. The effective interest rate on these loans, including the residual interest component, was approximately 20.7 percent and 34.3 percent for the three months ended September 30, 2005 and 2004, respectively, and 22.0 percent and 34.2 percent for the nine months ended September 30, 2005 and 2004, respectively. As of September 30, 2005, Portfolio Management was in compliance with all required covenants. Upon full satisfaction of the notes payable and the return of the initial investment by Portfolio Management, including interest, as it relates to each purchase of accounts receivable under the previous agreement, the Company is obligated to pay the lender a contingent payment amount equal to 40 percent of collections received, unless otherwise negotiated, net of servicing fees and other related charges. The contingent payment has been accounted for as an embedded derivative in accordance with SFAS 133. At issuance, the loan proceeds received were allocated to the note payable and the embedded derivative. The resulting original issue discount on the note payable is amortized to interest expense through maturity using the effective interest method. At September 30, 2005 and December 31, 2004, the estimated fair value of the embedded derivative was $5.6 million. The embedded derivative for each portfolio purchase is subject to market rate revaluation each period. Absent a readily available market for such embedded derivatives, the Company bases its revaluation on similar current period portfolio purchases' underlying yields. During the nine months ended September 30, 2005, $56,000 was recorded as "other income" on the statement of income to reflect the revaluation of the embedded derivatives. -18- 9. LONG-TERM DEBT (CONTINUED): Nonrecourse Credit Facility (continued): As part of the exclusivity agreement described above, Portfolio Management has a joint venture agreement ("the Agreement") with the lender of the nonrecourse credit facility, whereby Portfolio Management owns 65 percent of the joint venture and is the managing member, and the lender owns the remaining 35 percent interest. Each party will finance the joint venture based on predetermined percentages as negotiated for each portfolio purchase. The Agreement was established to purchase accounts receivable at the discretion of Portfolio Management, and the joint venture is consolidated into Portfolio Management's results of operations with a minority interest representing the lender's equity ownership. At September 30, 2005, the Company had $5.4 million of debt outstanding under the joint venture, which is included in the nonrecourse credit facility debt outstanding disclosed above. Securitized Nonrecourse Debt: Portfolio Management had a securitized nonrecourse note payable that was originally established to fund the purchase of accounts receivable. The note payable was nonrecourse to the Company, was secured by a portfolio of purchased accounts receivable, and was bound by an indenture and servicing agreement. The Company was servicer for each portfolio of purchased accounts receivable within the securitized note. This was a term note without the ability to re-borrow. Monthly principal payments on the note equaled all collections after servicing fees, collection costs, interest expense, and administrative fees. The securitized note was established in September 1998 through a finance subsidiary. This note carried a floating interest rate of LIBOR plus 0.65 percent. The note came due on March 10, 2005, and the liability was not satisfied from collections. The liquidity reserve of $900,000, included in restricted cash as of December 31, 2004, was used to pay down the note on the due date. Upon maturity of the note on March 10, 2005, the third party note insurer was obligated to satisfy the remaining unpaid balance of $7.0 million. At such time, the note insurer became the beneficiary of the note and obtained the rights to sell the underlying receivables. As of September 30, 2005 and December 31, 2004, the amount outstanding on the facility was $6.6 million and $8.2 million, respectively. Interest on the note continues to be paid to the insurer at the prime rate (6.75 percent at September 30, 2005) plus 1.0 percent. While the ultimate disposition of the receivables is uncertain, the note is nonrecourse to the Company, and it is expected that any potential sale of the receivables will not have a material impact on the Company. 10. EARNINGS PER SHARE: Basic earnings per share ("EPS") was computed by dividing the net income for the three and nine months ended September 30, 2005 and 2004, by the weighted average number of common shares outstanding. Diluted EPS was computed by dividing the adjusted net income for the three and nine months ended September 30, 2005 and 2004, by the weighted average number of common shares outstanding plus all common share equivalents. Net income is adjusted to add-back interest expense on the convertible debt, net of taxes, if the convertible debt is dilutive. For the three months ended September 30, 2005, the convertible debt was anitdilutive, and therefore not included in the diluted EPS calculation. The interest expense on the convertible debt, net of taxes, included in the diluted EPS calculation was $922,000 for the three months ended September 30, 2004, and $2.8 million and $2.7 million for the nine months ended September 30, 2005 and 2004, respectively. Outstanding options, warrants, and convertible securities have been utilized in calculating diluted amounts only when their effect would be dilutive. The reconciliation of basic to diluted weighted average shares outstanding was as follows (amounts in thousands):
For the Three Months For the Nine Months Ended September 30, Ended September 30, ------------------------ ------------------------- 2005 2004 2005 2004 ------------ ----------- ------------ ----------- Basic 32,145 31,919 32,109 29,849 Dilutive effect of: Convertible debt - 3,797 3,797 3,797 Options and restricted stock units 207 434 166 353 Warrants 103 107 102 72 ------------ ----------- ------------ ----------- Diluted 32,455 36,257 36,174 34,071 ============ =========== ============ ===========
-19- 11. DERIVATIVE FINANCIAL INSTRUMENTS: The Company entered into forward exchange contracts to minimize the impact of currency fluctuations on transactions and cash flows. These transactions are designated as cash flow hedges. The Company had forward exchange contracts for the purchase of $14.2 million of Canadian dollars outstanding at September 30, 2005, which mature within 90 days. For the three and nine months ended September 30, 2005, the Company realized net gains of $1.1 million and $799,000, respectively, relating to the settlement of its cash flow hedges. The impact of the settlement of the Company's cash flow hedges was recorded in "payroll and related expenses" in the statement of income. At September 30, 2005, the fair market value of all outstanding cash flow hedges was $516,000, which is included in "other assets." All of the accumulated income and loss in other comprehensive income related to cash flow hedges at September 30, 2005, is expected to be reclassified into earnings within the next 12 months. The Company's nonrecourse credit facility relating to purchased accounts receivable contains contingent payments that are accounted for as embedded derivatives. The contingent payment is equal to 40 percent of collections received after principal and interest, unless otherwise negotiated, net of servicing fees and other related charges. At issuance, the loan proceeds received were allocated to the note payable and the embedded derivative. The resulting original issue discount on the note payable is amortized to interest expense through maturity using the effective interest method. At September 30, 2005 and December 31, 2004, the estimated fair value of the embedded derivative was $5.6 million. The embedded derivative for each portfolio purchase is subject to market rate revaluation each period. Absent a readily available market for such embedded derivatives, the Company bases its revaluation on similar current period portfolio purchases' underlying yields. During the nine months ended September 30, 2005, $56,000 was recorded as "other income" on the statement of income to reflect the revaluation of the embedded derivatives. 12. SUPPLEMENTAL CASH FLOW INFORMATION: The following are supplemental disclosures of cash flow information (amounts in thousands):
For the Nine Months Ended September 30, ---------------------------- 2005 2004 -------------- ------------ Noncash investing and financing activities: Fair value of assets acquired $ 259,725 $ 215,024 Liabilities assumed from acquisitions 47,445 86,432 Common stock issued for acquisitions - 128,699 Nonrecourse borrowings to purchase accounts receivable 17,213 19,813 Deferred portion of purchased accounts receivable - 3,288 Contribution of note receivable for acquisition 5,154 - Elimination of equity investment in connection with acquisition 2,780 - Adjustment to RMH acquisition accrual 3,517 - Disposal of fixed assets 1,128 - Deferred compensation from restricted stock 321 4,348 Note receivable from disposal of net assets - 2,040
-20- 13. COMMITMENTS AND CONTINGENCIES: Purchase Commitments: The Company enters into noncancelable agreements with various telecommunications companies, a foreign labor subcontractor in India and other vendors that require minimum purchase commitments. These agreements expire between 2005 and 2008. The following represents the future minimum payments, by year and in the aggregate, under noncancelable purchase commitments (amounts in thousands): 2005 $ 39,321 2006 42,576 2007 38,228 2008 8,455 ------------- $128,580 ============= The Company incurred $11.5 million and $8.1 million of expense in connection with these purchase commitments for the three months ended September 30, 2005 and 2004, respectively, and $35.0 million and $23.0 million for the nine months ended September 30, 2005 and 2004, respectively. Forward-Flow Agreements: The Company has two fixed price agreements, or forward-flows, with retailers that obligate the Company to purchase, on a monthly basis, portfolios of charged-off accounts receivable meeting certain criteria. The Company is obligated to purchase accounts receivable of approximately $160,000 and $60,000 per month through January 2006 and April 2006, respectively. In connection with the Marlin acquisition, the Company acquired several forward-flows with institutions to purchase medical and utility portfolios of charged-off accounts receivable meeting certain criteria, aggregating approximately $1.2 million per month. The agreements can be terminated with 30 days, 60 days or 90 days written notice. Termination Fee: The Company has a contract with a client to perform CRM services that includes a termination clause. This contract expires on October 31, 2007. In the event the client terminates the services agreement due to the Company's material breach or a transaction in which a competitor of the client acquired control of the Company or in the event the Company terminates the services agreement for convenience after October 1, 2004, the Company is required to pay a minimum termination fee of $153,000 for each month remaining in the agreement (or $3.8 million at September 30, 2005). In most other instances (as defined in the services agreement) in which either party terminates the services agreement, the Company is required to pay a termination fee of $77,000 for each month remaining in the services agreement (or $1.9 million at September 30, 2005). Litigation and Investigations: The Company is party, from time to time, to various legal proceedings, regulatory investigations and tax examinations incidental to its business. The Company continually monitors these legal proceedings, regulatory investigations and tax examinations to determine the impact and any required accruals. -21- 13. COMMITMENTS AND CONTINGENCIES (CONTINUED): Litigation and Investigations (continued): Securities and Exchange Commission: In January 2005, the Company received notification from the Staff of the Securities and Exchange Commission ("the Staff") informing the Company that it intended to issue a formal notification (commonly known as a "Wells notice") to NCO and certain of its officers recommending that the Securities and Exchange Commission ("the SEC") bring civil proceedings against NCO and such officers alleging violations of certain non-fraud provisions of the federal securities laws relating to financial reporting and internal control requirements. The potential violations related to the Company's revenue recognition policy relating to a long-term collection contract, which the Company had previously corrected in 2003, and the Company's revenue recognition policy regarding the timing of revenue recognized on certain cash receipts related to contingency revenues. The notification from the Staff informed the Company that the Company's long-standing policy with respect to the timing of revenue recognized on certain cash receipts related to contingency revenues was inconsistent with the Staff's interpretation of SAB 104. The Company previously recognized contingency fee revenue attributable to payments postmarked prior to the end of the period and received in the mail from the consumers on the first business day after such period as applicable to the prior reporting period. This revenue recognition policy had been in effect since prior to NCO becoming a public company and was consistently applied over time. The Company corrected its policy in the fourth quarter of 2004 in order to recognize revenue when physically received. The impact of this correction was a $2.7 million reduction in revenue and a $947,000 reduction in net income, or $0.03 per diluted share, for the three months ended December 31, 2004. Such correction did not have a material impact on the comparability of operating results for the three and nine months ended September 30, 2005 and 2004. In September 2005, the Company reached a final settlement with the SEC, concluding the SEC's investigation of the Company and certain of its officers. Without admitting or denying any wrongdoing, the Company has consented to the entry of an administrative order directing it to cease and desist from committing or causing violations of certain non-fraud provisions of the federal securities laws relating to financial reporting and internal control requirements, now and in the future. The Company will not pay any civil monetary penalty in connection with the settlement. The investigation did not lead to any sanctions being levied against any of the Company's officers. Other: The Company is involved in other legal proceedings, regulatory investigations and tax examinations from time to time in the ordinary course of its business. Management believes that none of these other legal proceedings, regulatory investigations or tax examinations will have a materially adverse effect on the financial condition or results of operations of the Company. 14. SEGMENT REPORTING: As of September 30, 2005, the Company's business consisted of four operating divisions: ARM North America, CRM, Portfolio Management and ARM International. The accounting policies of the segments are the same as those described in note 2, "Accounting Policies." -22- 14. SEGMENT REPORTING (CONTINUED): ARM North America provides accounts receivable management services to consumer and commercial accounts for all market sectors including financial services, healthcare, retail and commercial, telecommunications, utilities, education, and government. ARM North America serves clients of all sizes in local, regional, and national markets in the United States and Canada. In addition to traditional accounts receivable collections, these services include developing the client relationship beyond bad debt recovery and delinquency management, and delivering cost-effective accounts receivable solutions to all market sectors. The Company's acquisition of the operating assets of RMA located in North America was included in the ARM North America segment. ARM North America had total assets, net of any intercompany balances, of $826.6 million and $751.6 million at September 30, 2005 and December 31, 2004, respectively. ARM North America had capital expenditures of $18.3 million and $18.5 million for the nine months ended September 30, 2005 and 2004, respectively. ARM North America also provides accounts receivable management services to Portfolio Management. ARM North America recorded revenue of $21.2 million and $16.1 million for these services for the three months ended September 30, 2005 and 2004, respectively, and $57.8 million and $47.7 million for the nine months ended September 30, 2005 and 2004, respectively. Included ARM North America's intercompany revenue for the three and nine months ended September 30, 2005, was $1.1 million and $3.0 million, respectively, of commissions from the sale of portfolios by Portfolio Management. With the April 2004 acquisition of RMH, the CRM division was formed. The CRM division provides customer relationship management services to clients in the United States through offices in the United States, Canada, the Philippines, Panama and Barbados. CRM had total assets, net of any intercompany balances, of $188.2 million and $183.6 million at September 30, 2005 and December 31, 2004, respectively. CRM had capital expenditures of $7.5 million and $2.6 million for the nine months ended September 30, 2005 and 2004, respectively. Portfolio Management purchases and manages defaulted consumer accounts receivable from consumer creditors such as banks, finance companies, retail merchants, and other consumer oriented companies. The Company's acquisition of the purchased portfolio assets of RMA and the acquisition of Marlin was included in the Portfolio Management segment. Portfolio Management had total assets, net of any intercompany balances, of $295.9 million and $163.4 million at September 30, 2005 and December 31, 2004, respectively. ARM International provides accounts receivable management services across the United Kingdom. The Company's acquisition of the operating assets of RMA located in the United Kingdom was included in the ARM International segment. ARM International had total assets, net of any intercompany balances, of $17.7 million and $15.3 million at September 30, 2005 and December 31, 2004, respectively. ARM International had capital expenditures of $255,000 and $171,000 for the nine months ended September 30, 2005 and 2004, respectively. ARM International also provides accounts receivable management services to Portfolio Management. ARM International recorded revenue of $71,000 and $99,000 for these services for the three months ended September 30, 2005 and 2004, respectively, and $223,000 and $312,000 for the nine months ended September 30, 2005 and 2004, respectively. The following tables represent the revenue, payroll and related expenses, selling, general, and administrative expenses, and EBITDA for each segment. 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 September 30, 2005 (amounts in thousands) ---------------------------------------------------------------------------- Payroll and Selling, General Related and Admin. Restructuring Revenue Expenses Expenses Charge EBITDA ------- -------- -------- ------ ------ ARM North America $186,822 $ 88,112 $80,916 $2,442 $15,352 CRM 44,926 35,159 9,188 - 579 Portfolio Management 32,293 1,460 22,465 - 8,368 ARM International 3,513 2,169 1,079 - 265 Eliminations (21,230) - (21,230) - - -------- -------- ------- ------ ------- Total $246,324 $126,900 $92,418 $2,442 $24,564 ======== ======== ======= ====== =======
-23- 14. SEGMENT REPORTING (CONTINUED):
For the Three Months Ended September 30, 2004 (amounts in thousands) -------------------------------------------------------------- Selling, Payroll and General and Revenue Related Expenses Admin. Expenses EBITDA ------- ---------------- --------------- ------ ARM North America $179,809 $ 85,239 $74,073 $20,497 CRM 52,794 37,634 9,093 6,067 Portfolio Management 26,334 482 16,708 9,144 ARM International 3,287 1,932 992 363 Eliminations (16,178) - (16,178) - -------- -------- ------- ------- Total $246,046 $125,287 $84,688 $36,071 ======== ======== ======= =======
For the Nine Months Ended September 30, 2005 (amounts in thousands) ----------------------------------------------------------------------------- Payroll and Selling, General Related and Admin. Restructuring Revenue Expenses Expenses Charge EBITDA ------- -------- -------- ------ ------ ARM North America $577,775 $264,958 $245,370 $2,442 $65,005 CRM 136,330 101,980 25,283 - 9,067 Portfolio Management 87,853 3,873 61,077 - 22,903 ARM International 9,883 6,344 3,021 - 518 Eliminations (57,983) - (57,983) - - -------- -------- -------- ------ ------- Total $753,858 $377,155 $276,768 $2,442 $97,493 ======== ======== ======== ====== =======
For the Nine Months Ended September 30, 2004 (amounts in thousands) ----------------------------------------------------------------- Selling, Payroll and General and Revenue Related Expenses Admin. Expenses EBITDA ------- ----------------- --------------- ------ ARM North America $555,775 $261,400 $221,016 $ 73,359 CRM 112,238 80,110 19,240 12,888 Portfolio Management 72,068 1,614 49,811 20,643 ARM International 10,452 6,025 3,019 1,408 Eliminations (48,001) - (48,001) - -------- -------- -------- -------- Total $702,532 $349,149 $245,085 $108,298 ======== ======== ======== ========
-24- ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS FORWARD-LOOKING STATEMENTS 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, fluctuations in quarterly operating results, the integration of acquisitions, the restructuring charges, the final outcome of the Company's litigation with its former landlord, the effects of terrorist attacks, war and the economy on the Company's business, expected increases in operating efficiencies, anticipated trends in the business process outsourcing industry, referred to as BPO, estimates of future cash flows and allowances for impairments of purchased accounts receivable, estimates of goodwill impairments and amortization expense of other intangible assets, the effects of legal proceedings, regulatory investigations and tax examinations, the effects of changes in accounting pronouncements, and statements as to trends or the Company's or management's beliefs, expectations and opinions. The words "anticipate," "believe," "estimate," "expect," "intend," "may," "plan," "will," "would," "should," "guidance," "potential," "continue," "project," "forecast," "confident," and similar expressions are typically used to identify forward-looking statements. 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 growth and acquisitions, including the acquisition of the assets of Risk Management Alternatives Parent Corp., referred to as RMA, and all of RMA's subsidiaries, and the acquisition of subsidiaries from Marlin Integrated Capital Holding Corporation, referred to as Marlin, 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 related to the timing of contracts, risks related to purchased accounts receivable, risks related to possible impairments of goodwill and other intangible assets, risks associated with technology, risks related to the implementation of the Company's Enterprise Resource Planning system, referred to as ERP, risks related to the environmental liability related to the Medaphis acquisition, risks related to the final outcome of the Company's litigation with its former landlord, risks related to the Company's litigation, regulatory investigations and tax examinations, risks related to past or possible future terrorist attacks, risks related to the threat or outbreak of war or hostilities, risks related to the domestic and international economies, the risk that the Company will not be able to improve margins, risks related to the Company's international operations, risks related to the availability of qualified employees, particularly in new or more cost-effective locations, risks related to currency fluctuations, risks related to reliance on independent telecommunications service providers, risks related to changes in government regulations affecting the teleservices and telecommunications industries, risks related to competition from other outside providers of BPO services and the in-house operations of existing and potential clients, 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 for the year ended December 31, 2004, can cause actual results and developments to be materially different from those expressed or implied by such forward-looking statements. The Company disclaims any intent or obligation to update or revise any forward-looking statements, regardless of whether new information becomes available, future developments occur, or otherwise. The Company's website is www.ncogroup.com. The Company makes available, free of charge, on its website, its Annual Report on Form 10-K. In addition, the Company will provide additional paper or electronic copies of its Annual Report on Form 10-K for the year ended December 31, 2004, as filed with the Securities and Exchange Commission, without charge except for exhibits to the report. Requests should be directed to: Investor Relations, NCO Group, Inc., 507 Prudential Rd., Horsham, PA 19044. The information on the website listed above is not and should not be considered part of this Quarterly Report on Form 10-Q and is not incorporated by reference in this document. This website is and is only intended to be an inactive textual reference. -25- OVERVIEW We are a holding company and conduct substantially all of our business operations through our subsidiaries. We are a global provider of business process outsourcing services, referred to as BPO, primarily focused on accounts receivable management, referred to as ARM, and customer relationship management, referred to as CRM, serving a wide range of clients in North America and abroad through our global network of approximately 100 offices. We also purchase and manage past due consumer accounts receivable from consumer creditors such as banks, finance companies, retail merchants, and other consumer-oriented companies. On September 12, 2005, we acquired substantially all of the operating assets, including purchased portfolio assets, of RMA, a provider of accounts receivable management services and purchaser of accounts receivable, for $118.9 million in cash and the assumption of certain liabilities. We funded the purchase principally with financing from our senior credit facility. The purchase price included approximately $51.0 million for RMA's purchased portfolio assets, which was funded with $35.7 million of nonrecourse financing. In conjunction with the acquisition, on July 7, 2005, RMA and all of its domestic subsidiaries filed for protection under Chapter 11 of the Bankruptcy Code with the U.S. Bankruptcy Court for the Northern District of Ohio Eastern Division. The transaction was consummated under Sections 363 and 365 of the bankruptcy code. On September 1, 2005, we acquired the stock of seven wholly owned subsidiaries of Marlin Integrated Capital Holding Corporation, referred to as Marlin, a company that specializes in purchasing accounts receivable in the healthcare and utility sectors, for $86.8 million. The acquisition included purchased accounts receivable portfolio assets, several favorable forward-flow contracts and certain related operating assets. The acquisition of purchased accounts receivable portfolio assets was structured as an equity sharing arrangement under our nonrecourse credit facility. We funded our 50 percent portion of the acquisition of the portfolio assets and the acquisition of all of the operating assets with financing from our senior credit facility. Prior to the acquisition, Portfolio Management had a 50 percent ownership interest in a joint venture, InoVision-MEDCLR NCOP Ventures, LLC with IMNV Holdings, LLC, a subsidiary of Marlin. On May 25, 2005, we acquired Creative Marketing Strategies, referred to as CMS, a provider of CRM services, for $5.9 million. The purchase price included the contribution of a note receivable for $5.2 million that we received in 2000 in consideration for assets sold to a management-led group as part of a divestiture. THREE MONTHS ENDED SEPTEMBER 30, 2005, COMPARED TO THREE MONTHS ENDED SEPTEMBER 30, 2004 Revenue. Revenue increased $278,000, or 0.1 percent, to $246.3 million for the three months ended September 30, 2005, from $246.0 million for the three months ended September 30, 2004. Our operations are organized into four market specific divisions that include: ARM North America, CRM, Portfolio Management, and ARM International. For the three months ended September 30, 2005, these divisions accounted for $186.8 million, $44.9 million, $32.3 million, and $3.5 million of revenue, respectively. Included in ARM North America's revenue was $21.2 million of intercompany revenue from Portfolio Management, which was eliminated upon consolidation, and included in ARM International's revenue was $71,000 of intercompany revenue from Portfolio Management, which was eliminated upon consolidation. For the three months ended September 30, 2004, the ARM North America, CRM, Portfolio Management and ARM International divisions accounted for $179.8 million, $52.8 million, $26.3 million and $3.3 million of revenue, respectively. Included in ARM North America's revenue was $16.1 million of intercompany revenue from Portfolio Management, which was eliminated upon consolidation, and included in ARM International's revenue was $99,000 of intercompany revenue from Portfolio Management, which was eliminated upon consolidation. ARM North America's revenue increased $7.0 million, or 3.9 percent, to $186.8 million for the three months ended September 30, 2005, from $179.8 million for the three months ended September 30, 2004. The increase in ARM North America's revenue was primarily attributable the acquisition of RMA, which added $9.7 million of revenue for September, as well as an increase in fees from collection services performed for Portfolio Management. Included in the intercompany service fees for the three months ended September 30, 2005, was $1.1 million of commissions from the sale of a portfolio by Portfolio Management. These increases were offset in part by lower revenue due to a more difficult collection environment, which we attribute mainly to increased fuel costs, which left the consumer with less cash to make payments on their outstanding accounts, the inability to collect in the gulf coast region for all of September, due to the effects of the hurricanes, and a reduction in fees paid -26- by clients as they attempt to reduce third party costs. We estimate that we lost approximately $2.5 million of revenue, during August and September, due to the effects of the hurricanes in the gulf coast region. ARM North America's revenue for the three months ended September 30, 2004 included revenue recorded from a long-term collection contract. The method of recognizing revenue for this long-term collection contract deferred certain revenues into future periods until collections exceeded collection guarantees, subject to limits. During the three months ended September 30, 2004, ARM North America earned $3.0 million of revenue from bonuses and recovery of penalties under this long-term collection contract. We expect that the increased cost of fuel, including higher heating costs during the winter months, will continue to adversely affect the ability of consumers to pay on their outstanding accounts. Revenue for the CRM division decreased $7.9 million, or 14.9 percent, to $44.9 million for the three months ended September 30, 2005, from $52.8 million for the three months ended September 30, 2004. The decrease in CRM's revenue was primarily due to the previously disclosed loss of business from a telecommunications client resulting from changes in the telecommunications laws in 2004. We have begun to implement recently committed client contracts, and the revenue from such opportunities is beginning to offset the lost revenue; however it did not have a meaningful impact on CRM's results for the three months ended September 30, 2005. Portfolio Management's revenue increased $6.0 million, or 22.6 percent, to $32.3 million for the three months ended September 30, 2005, from $26.3 million for the three months ended September 30, 2004. Revenue attributable to the RMA portfolio and Marlin portfolio acquisition was $1.4 million and $4.0 million, respectively, for the three months ended September 30, 2005. Portfolio Management's collections (excluding portfolio sales) increased $5.0 million, or 12.1 percent, to $46.2 million for the three months ended September 30, 2005, from $41.2 million for the three months ended September 30, 2004. Portfolio Management's revenue represented 70 percent of collections (excluding portfolio sales) for the three months ended September 30, 2005, as compared to 64 percent of collections (excluding portfolio sales) for the three months ended September 30, 2004. Revenue increased as a percentage of collections primarily due to higher collections on fully cost recovered portfolios. Because these portfolios are fully cost recovered, 100 percent of the collections are applied to revenue. Also contributing to the increase was better than expected collections on some of the older portfolios. ARM International's revenue increased $226,000, or 6.9 percent, to $3.5 million for the three months ended September 30, 2005, from $3.3 million for the three months ended September 30, 2004. The increase in ARM International's revenue was primarily attributable to additional revenue of $550,000 from RMA for September, offset in part by unfavorable changes in the foreign currency exchange rates used to translate ARM International's results of operations into U.S. dollars. Payroll and related expenses. Payroll and related expenses increased $1.6 million to $126.9 million for the three months ended September 30, 2005, from $125.3 million for the three months ended September 30, 2004, and increased as a percentage of revenue to 51.5 percent from 50.9 percent. ARM North America's payroll and related expenses increased $2.9 million to $88.1 million for the three months ended September 30, 2005, from $85.2 million for the three months ended September 30, 2004, but decreased slightly as a percentage of revenue to 47.2 percent from 47.4 percent. Payroll and related expenses as a percentage of revenue decreased primarily due to continued diligence in monitoring staffing levels in line with current results, as well as the use of offshore labor, agencies and attorneys. Included in ARM North America's payroll and related expenses for the three months ended September 30, 2005, were charges of $164,000 related to Hurricane Katrina. CRM's payroll and related expenses decreased $2.5 million to $35.2 million for the three months ended September 30, 2005, from $37.6 million for the three months ended September 30, 2004, but increased as a percentage of revenue to 78.3 percent from 71.3 percent. The increase in payroll and related expenses as a percentage of revenue was primarily attributable to the upfront expenses required to start up new clients without yet generating offsetting revenue, and not achieving the expected leverage of our fixed payroll costs over the lower revenue base this quarter. Portfolio Management's payroll and related expenses increased $978,000 to $1.5 million for the three months ended September 30, 2005, from $482,000 for the three months ended September 30, 2004, and increased as a percentage of revenue to 4.5 percent from 1.8 percent. Portfolio Management outsources all of the collection services to ARM North America and, therefore, has a relatively small fixed payroll cost structure. The increase in payroll and related expenses -27- as a percentage of revenue was principally due to payroll and related expenses of corporate shared services. ARM International's payroll and related expenses increased $237,000 to $2.2 million for the three months ended September 30, 2005, from $1.9 million for the three months ended September 30, 2004, and increased as a percentage of revenue to 61.7 percent from 58.8 percent. The increase in payroll and related expenses as a percentage of revenue was attributable to payroll and related expenses of corporate shared services. Selling, general and administrative expenses. Selling, general and administrative expenses increased $7.7 million to $92.4 million for the three months ended September 30, 2005, from $84.7 million for the three months ended September 30, 2004, and increased as a percentage of revenue to 37.5 percent from 34.4 percent. The increase in selling, general and administrative expenses as a percentage of revenue was primarily attributable to the start-up of new clients in the CRM division. We incur the upfront expenses required to begin working for a new client, such as facilities and telephone expense, before we start generating revenue. Also during the quarter, we recorded charges of $591,000 related to the integration of RMA and $306,000 related to Hurricane Katrina. We expect that selling, general and administrative expenses will continue to be pressured in the future as clients attempt to negotiate lower collection fees as well as due to increased servicing requirements, and additional security and data lines which add incremental expenses with no offsetting revenue. Restructuring charge. During the three months ended September 30, 2005, we incurred restructuring charges of $2.4 million related to the restructuring of our ARM business in connection with the RMA acquisition. The charges consisted primarily of costs associated with the closing of redundant facilities. We expect to record total additional charges of between $20.0 million and $25.0 million in the fourth quarter of 2005 and the first quarter of 2006. Depreciation and amortization. Depreciation and amortization increased to $11.3 million for the three months ended September 30, 2005, from $10.5 million for the three months ended September 30, 2004. The increase was attributable to the amortization of the customer relationships acquired in connection with acquisitions in 2005 and higher depreciation on additions to property and equipment during the quarter. Other income (expense). Interest and investment income for the three months ended September 30, 2005, included $136,000 for the two months during the quarter that we had a 50 percent ownership interest in a joint venture we had with Marlin prior to the acquisition in September 2005, as compared to $289,000 for the three months ended September 30, 2004. Interest expense increased to $5.5 million for the three months ended September 30, 2005, from $5.3 million for the three months ended September 30, 2004. The increase was attributable to higher principal balances as a result of borrowings made against the senior credit facility for the acquisitions during the quarter and higher interest rates, as well as Portfolio Management's additional nonrecourse borrowings to purchase accounts receivable. Other income for the three months ended September 30, 2005, included a $2.8 million gain from the sale of purchased accounts receivable and $532,000 in recoveries of aged accounts receivable that had been written off by RMH Teleservices, Inc., referred to as RMH, prior to the acquisition of RMH in April 2004. Income tax expense. Income tax expense for the three months ended September 30, 2005, decreased to $4.0 million, or 33.2 percent of income before income tax expense, from $7.6 million, or 36.4 percent of income before income tax expense, for the three months ended September 30, 2004. The decrease in the effective tax rate was primarily attributable to two tax credits received during the quarter. Due to the nature of one of the tax credits, we did not include it in our tax accruals until it was actually received. NINE MONTHS ENDED SEPTEMBER 30, 2005, COMPARED TO NINE MONTHS ENDED SEPTEMBER 30, 2004 Revenue. Revenue increased $51.3 million, or 7.3 percent, to $753.8 million for the nine months ended September 30, 2005, from $702.5 million for the nine months ended September 30, 2004. For the nine months ended September 30, 2005, our ARM North America, CRM, Portfolio Management, and ARM International divisions accounted for $577.8 million, $136.3 million, $87.9 million, and $9.9 million of revenue, respectively. Included in ARM North America's revenue was $57.8 million of intercompany revenue from Portfolio Management, which was eliminated upon consolidation and included in ARM International's revenue was $223,000 of intercompany revenue from Portfolio Management, which was eliminated upon -28- consolidation. For the nine months ended September 30, 2004, the ARM North America, CRM, Portfolio Management and ARM International divisions accounted for $555.8 million, $112.2 million, $72.1 million and $10.4 million of revenue, respectively. Included in ARM North America's revenue was $47.7 million of intercompany revenue from Portfolio Management, which was eliminated upon consolidation and included in ARM International's revenue was $312,000 of intercompany revenue from Portfolio Management, which was eliminated upon consolidation. ARM North America's revenue increased $22.0 million, or 4.0 percent, to $577.8 million for the nine months ended September 30, 2005, from $555.8 million for the nine months ended September 30, 2004. The increase in ARM North America's revenue was primarily attributable to an increase in fees from collection services performed for Portfolio Management and the acquisition of RMA, which added $9.7 million of revenue for September. Included in the intercompany service fees for the nine months ended September 30, 2005, was $3.0 million of commissions from the sale of a portfolio by Portfolio Management. This increase was offset in part by lower revenue due to a more difficult collection environment, which we attribute mainly to increased fuel costs and the inability to collect in the gulf coast region for all of September. We lost approximately $2.5 million of revenue during August and September due to the effects of the hurricanes in the gulf coast region. ARM North America's revenue for the nine months ended September 30, 2005 and 2004 included revenue recorded from the long-term collection contract. The method of recognizing revenue for this long-term collection contract deferred certain revenues into future periods until collections exceeded collection guarantees, subject to limits. During the nine months ended September 30, 2005, ARM North America earned $3.4 million of revenue from bonuses and recovery of penalties, compared to $5.5 million for the nine months ended September 30, 2004. Revenue for the CRM division increased $24.1 million to $136.3 million for the nine months ended September 30, 2005, compared to $112.2 million for the same period a year ago. The CRM division was formed in the second quarter of 2004 with the acquisition of RMH on April 2, 2004 and, accordingly, is only included in the results since that date. Partially offsetting the increase in CRM's revenue was the previously disclosed loss of business from two telecommunications clients resulting from changes in the telecommunications laws in 2004. We have begun to implement recently committed client contracts, and the revenue from such opportunities is starting to offset the lost revenue; however it did not have a meaningful impact on CRM's results for the nine months ended September 30, 2005. Portfolio Management's revenue increased $15.8 million, or 21.9 percent, to $87.9 million for the nine months ended September 30, 2005, from $72.1 million for the nine months ended September 30, 2004. Revenue attributable to the RMA portfolio and Marlin portfolio acquisitions was $1.4 million and $4.0 million, respectively, for the nine months ended September 30, 2005. Portfolio Management's collections (excluding portfolio sales) increased $3.5 million, or 2.7 percent, to $130.6 million for the nine months ended September 30, 2005, from $127.1 million for the nine months ended September 30, 2004. Portfolio Management's revenue represented 67 percent of collections (excluding portfolio sales) for the nine months ended September 30, 2005, as compared to 57 percent of collections (excluding portfolio sales) for the nine months ended September 30, 2004. Revenue increased as a percentage of collections primarily due to higher collections on fully cost recovered portfolios. Because these portfolios are fully cost recovered, 100 percent of the collections are applied to revenue. Also contributing to the increase was better than expected collections on some of the older portfolios. ARM International's revenue decreased $569,000, or 5.4 percent, to $9.9 million for the nine months ended September 30, 2005, from $10.5 million for the nine months ended September 30, 2004. The decrease in ARM International's revenue was primarily attributable to several delays by clients in the placement of accounts receivable, offset partially by additional revenue from RMA of $550,000 for September. Payroll and related expenses. Payroll and related expenses increased $28.0 million to $377.2 million for the nine months ended September 30, 2005, from $349.1 million for the nine months ended September 30, 2004, and increased slightly as a percentage of revenue to 50.0 percent from 49.7 percent. ARM North America's payroll and related expenses increased $3.6 million to $265.0 million for the nine months ended September 30, 2005, from $261.4 million for the nine months ended September 30, 2004, but decreased as a percentage of revenue to 45.9 percent from 47.0 percent. The decrease in the payroll and related expenses as a percentage of revenue was primarily due to continued diligence in monitoring staffing levels in line with current results, as well as the use of offshore labor, agencies and attorneys. Included in ARM North -29- America's payroll and related expenses for the nine months ended September 30, 2005, were charges of $164,000 related to Hurricane Katrina. CRM's payroll and related expenses increased $21.9 million to $102.0 million for the nine months ended September 30, 2005, from $80.1 million for the nine months ended September 30, 2004, and increased as a percentage of revenue to 74.8 percent from 71.4 percent. The CRM division was formed in the second quarter of 2004 with the acquisition of RMH on April 2, 2004, and, accordingly, is only included in the results since that date. The CRM division has a more significant amount of payroll and related expenses as compared to the ARM business. The increase in payroll and related expenses as a percentage of revenue was attributable to the upfront expenses required to start up new clients without yet generating offsetting revenue, as well as not achieving the expected leverage of our fixed payroll costs over the lower revenue base this year. Additionally, payroll and related expenses were reduced $1.1 million during the nine months ended September 30, 2005, for training costs that had been previously accrued, but due to the loss of the telecommunications business were no longer a liability of NCO. Portfolio Management's payroll and related expenses increased $2.3 million to $3.9 million for the nine months ended September 30, 2005, from $1.6 million for the nine months ended September 30, 2004, and increased as a percentage of revenue to 4.4 percent from 2.2 percent. Portfolio Management outsources all of the collection services to ARM North America and, therefore, has a relatively small fixed payroll cost structure. The increase in payroll and related expenses as a percentage of revenue was principally due to payroll and related expenses of corporate shared services. ARM International's payroll and related expenses increased $319,000 to $6.3 million for the nine months ended September 30, 2005, from $6.0 million for the nine months ended September 30, 2004, and increased as a percentage of revenue to 64.2 percent from 57.6 percent. The increase as a percentage of revenue was attributable to the absorption of the fixed payroll costs over a smaller revenue base. Selling, general and administrative expenses. Selling, general and administrative expenses increased $31.7 million to $276.8 million for the nine months ended September 30, 2005, from $245.1 million for the nine months ended September 30, 2004, and increased as a percentage of revenue to 36.7 percent from 34.9 percent. The increase in selling, general and administrative expenses as a percentage of revenue was primarily attributable to an increase in the use of outside attorneys and other third party service providers, and the start-up of new clients in the CRM division. We incur the upfront expenses required to begin working for a new client, such as facilities and telephone expense, before we start generating the offsetting revenue. During the nine months ended September 30, 2005, we recorded charges of $591,000 related to the integration of RMA and $306,000 related to Hurricane Katrina. Also contributing to the increase was the CRM division, which was formed in the second quarter of 2004 with the acquisition of RMH on April 2, 2004, and, accordingly, is only included in the results since that date. Restructuring charge. During the nine months ended September 30, 2005, we incurred restructuring charges of $2.4 million related to the restructuring of our ARM business in connection with the RMA acquisition. The charges consisted primarily of costs associated with the closing of redundant facilities. We expect to record total additional charges of between $20.0 million and $25.0 million in the fourth quarter of 2005 and the first quarter of 2006. Depreciation and amortization. Depreciation and amortization increased to $33.0 million for the nine months ended September 30, 2005, from $29.4 million for the nine months ended September 30, 2004. The increase was attributable to the amortization of the customer relationships and depreciation of property and equipment acquired in the RMH acquisition on April 2, 2004, which is only included in the 2004 results since that date, as well as amortization of the customer relationships acquired in connection with acquisitions in 2005. Other income (expense). Interest and investment income included investment income of $377,000 for the nine months ended September 30, 2005, as compared to $1.3 million for the nine months ended September 30, 2004, from the 50 percent ownership interest in a joint venture that we had with Marlin prior to the acquisition in September 2005. The decrease from the prior year primarily reflects the joint venture's lower revenue due to lower purchases of accounts receivable during the second half of 2004 and 2005, due to the winding down of the joint venture. Interest expense decreased to $15.6 million for the nine months ended September 30, 2005, from $15.9 million for the nine months ended September 30, 2004. The decrease was attributable to lower principal balances as a result of debt repayments made in excess of borrowings against the credit -30- facility during 2004 and the first half of 2005, offset partially by higher interest rates and Portfolio Management's additional nonrecourse borrowings to purchase accounts receivable. Other income for the nine months ended September 30, 2005, primarily included an $8.1 million gain from the sale of purchased accounts receivable and $532,000 in recoveries of aged accounts receivable that had been written off by RMH prior to the acquisition, offset in part by a $595,000 write-down of an investment that has been subsequently sold for the remaining carrying value. Other income for the nine months ended September 30, 2004, included a $621,000 gain related to a benefit from a deferred compensation plan assumed as part of the acquisition of FCA International Ltd. in May 1998. Income tax expense. Income tax expense for the nine months ended September 30, 2005, decreased to $22.0 million, or 37.0 percent of income before income tax expense, from $25.6 million, or 38.8 percent of income before income tax expense, for the nine months ended September 30, 2004. The decrease in the effective tax rate was primarily attributable to a settlement reached with the Federal Trade Commission, referred to as the FTC, related to their claim against us for alleged violations of the Fair Credit Reporting Act relating to certain aspects of our credit reporting practices during 1999 and 2000. In the first nine months of 2004, we recorded a liability and an expected client reimbursement for the settlement. The settlement with the FTC was not tax deductible; however due to uncertainties surrounding the exact nature of the settlement agreement, we were unable to determine at that time that the reimbursement would not be taxable, which resulted in a higher tax rate in the first nine months of 2004. In the fourth quarter of 2004, we determined that the reimbursement received from the client was not taxable, which resulted in a lower tax rate. Also contributing to the decrease in the effective tax rate were two tax credits received during the third quarter of 2005. Due to the nature of one of the tax credits, we did not include it in our tax accruals until it was actually received. LIQUIDITY AND CAPITAL RESOURCES Historically, our primary sources of cash have been bank borrowings, equity and debt offerings, and cash flows from operations. Cash has been used for acquisitions, repayments of bank borrowings, purchases of equipment, purchases of accounts receivable, and working capital to support our growth. We believe that funds generated from operations, together with existing cash and available borrowings under our senior credit agreement and nonrecourse credit agreement, will be sufficient to finance our current operations, planned capital expenditure requirements, and internal growth at least through the next twelve months. However, we could require additional debt or equity financing if we were to make any significant acquisitions for cash during that period. In June 2005, we refinanced our senior credit facility, referred to as the Credit Facility, to increase our borrowing capacity. The refinancing of this facility provides the availability to pay our convertible notes when they become due in April 2006. We are required to reserve sufficient capacity to repay the convertible notes until such time as the notes convert or are otherwise retired. In June 2005, we also entered into a new nonrecourse credit facility with a lender, and extended our existing exclusivity agreement with the lender through June 30, 2009, for larger purchases of accounts receivable portfolios. The cash flow from our contingency collection business and our purchased portfolio business is dependent upon our ability to collect from consumers and businesses. Many factors, including the economy and our ability to hire and retain qualified collectors and managers, are essential to our ability to generate cash flows. Fluctuations in these trends that cause a negative impact on our business could have a material impact on our expected future cash flows. Cash Flows from Operating Activities. Cash provided by operating activities was $88.4 million for the nine months ended September 30, 2005, compared to $76.3 million for the nine months ended September 30, 2004. The increase in cash provided by operations was primarily attributable to an $8.0 million increase in accounts payable and accrued expenses compared to a decrease of $7.9 million in the prior year, and a $29,000 decrease in trade accounts receivable compared to a $10.5 million decrease in the prior year. These items were offset in part by an $871,000 million decrease in income taxes payable for the nine months ended September 30, 2005, compared to a $7.9 million increase in the prior year period, and a reduction of $900,000 of restricted cash during the nine months ended September 30, 2005 compared to a reduction of $4.5 million during the nine months ended September 30, 2004, due to the repayment of a portion of the securitized nonrecourse debt. During the nine months ended September 30, 2005, $10.3 million was transferred out of the bonus receivable, compared to a $1.5 million decrease in the prior year, related to the settlement of the long-term -31- collection contract. This was offset by a $17.5 million decrease in deferred revenue compared to a $6.3 million decrease in the prior year. Cash Flows from Investing Activities. Cash used in investing activities was $174.5 million for the nine months ended September 30, 2005, compared to $3.8 million for the nine months ended September 30, 2004. Cash flows from investing activities did not include Portfolio Management's purchases of large accounts receivable portfolios financed prior to the amendment of our nonrecourse debt agreement with a lender in June 2005. Under the previous agreement, this was a noncash transaction because the lender sent payment directly to the seller of the accounts (see note 12 to our Notes to Consolidated Financial Statements). The increase in cash used in investing activities was primarily attributable to the net cash paid for the two acquisitions in September 2005, which was offset in part by the 50 percent minority interest investment by our nonrecourse lender. Also partially offsetting the increase was $8.4 million of proceeds from the sale of purchased accounts receivable during the nine months ended September 30, 2005. Cash Flows from Financing Activities. Cash provided by financing activities was $98.5 million for the nine months ended September 30, 2005, compared to cash used in financing activities of $84.2 million for the nine months ended September 30, 2004. Cash flows from financing activities did not include Portfolio Management's borrowings under nonrecourse debt used to purchase large accounts receivable portfolios financed prior to the amendment of our nonrecourse debt agreement with a lender in June 2005. Under the previous agreement, this was a noncash transaction since the lender sent payment directly to the seller of the accounts (see note 12 to our Notes to Consolidated Financial Statements). The increase in cash provided by financing activities was due to borrowings of $135.5 million under the revolving credit agreement during the nine months ended September 30, 2005 to fund the two acquisitions in September. The lower repayments of borrowings under the revolving credit agreement during the nine months ended September 30, 2005, compared to the prior year was due to the use of cash to pay for acquisitions. These increases were offset in part by higher issuances of common stock in 2004 in connection with stock option activity. Senior Credit Facility. In June 2005, we amended and restated our Credit Facility with various participating lenders. The amended and restated Credit Facility is structured as a $300 million revolving credit facility with an option to increase our borrowing capacity to a maximum of $400 million, subject to obtaining commitments for such incremental capacity from existing or new lenders. The Credit Facility requires no minimum principal payments until June 18, 2010, the maturity date. At September 30, 2005, the balance outstanding on the Credit Facility was $158.0 million. The availability of the revolving credit facility is reduced by any unused letters of credit ($4.6 million at September 30, 2005). As of September 30, 2005, we had $137.4 million of remaining availability under the revolving credit facility; however, $125.0 million of this has been reserved to repay our convertible notes, which mature in April 2006. All borrowings bear interest at a rate equal to either, at our option, the prime rate (6.75 percent at September 30, 2005) or LIBOR (3.86 percent at September 30, 2005) plus a margin of 0.75 percent to 1.50 percent, which is determined quarterly based upon our consolidated funded debt to earnings before interest, taxes, depreciation, and amortization ("EBITDA") ratio. We are charged a fee on the unused portion of the Credit Facility of 0.20 percent to 0.30 percent depending on our consolidated funded debt to EBITDA ratio. The effective interest rate on the Credit Facility was approximately 4.94 percent and 3.52 percent for the three months ended September 30, 2005 and 2004, respectively, and 4.85 percent and 3.73 percent for the nine months ended September 30, 2005 and 2004, respectively. Borrowings under the Credit Facility are collateralized by substantially all of our assets. The Credit Facility contains certain financial and other covenants, such as maintaining net worth and funded debt to earnings before interest, taxes, depreciation, and amortization, referred to as EBITDA, requirements, and includes restrictions on, among other things, acquisitions, the incurrence of additional debt, investments, disposition of assets, and transactions with affiliates. If an event of default, such as failure to comply with covenants or change of control, were to occur under the Credit Facility, the lenders would be entitled to declare all amounts outstanding under it immediately due and payable and foreclose on the pledged assets. As of September 30, 2005, we were in compliance with all required financial covenants and we were not aware of any events of default. -32- Convertible Notes. At September 30, 2005, we had $125.0 million aggregate principal amount of 4.75 percent convertible subordinated notes due April 15, 2006, referred to as the Notes. The Notes are convertible into our common stock at a conversion price of $32.92 per share. The Notes continue to be classified as a long-term liability on the balance sheet because we have the ability and intend to repay the Notes utilizing our Credit Facility. Nonrecourse Credit Facility. On June 30, 2005 Portfolio Management amended and restated its credit facility with a lender and extended its existing exclusivity agreement with such lender through June 30, 2009. The new agreement provides that all purchases of accounts receivable by Portfolio Management with a purchase price in excess of $1.0 million are first offered to the lender for financing at its discretion. If the lender chooses to participate in the financing of a portfolio of accounts receivable, the financing may be structured, depending on the size and nature of the portfolio to be purchased, either as a borrowing arrangement similar to the original agreement, or under various equity sharing arrangements ranging from 25 percent to 50 percent equity provided by the lender. The lender will finance non-equity borrowings at 70 percent of the purchase price, unless otherwise negotiated, with floating interest at a rate equal to LIBOR plus 2.50 percent. As additional return, the lender receives 28 percent of the residual cash flow, unless otherwise negotiated, which is defined as all cash collections after servicing fees, floating rate interest, repayment of the note, and the initial investment by Portfolio Management, including interest. These borrowings are nonrecourse to us and are due two years from the loan commencement. We may terminate the agreement at any time after June 2007 for a cost of $250,000 for each remaining month under the new agreement. If the amendment is terminated, the original agreement remains in effect and all borrowings are subject to those terms. The previous financing arrangement as described below remains in effect for outstanding loans as of June 30, 2005. Under the prior agreement, Portfolio Management had a four-year financing agreement with the lender that originally was to expire in August 2006, to provide financing for larger purchases of accounts receivable at 90 percent of the purchase price, unless otherwise negotiated. The lender, at its sole discretion, had the right to finance any purchase of $4.0 million or more. This agreement had no minimum or maximum credit authorization. Borrowings carry interest at the prime rate plus 3.25 percent and are nonrecourse to us, except for the assets financed through the lender. Debt service payments equal total collections less servicing fees and expenses until each individual borrowing is fully repaid and Portfolio Management's original investment is returned, including interest. Thereafter, the lender is paid a residual of 40 percent of collections, less servicing costs, unless otherwise negotiated. Individual loans are required to be repaid based on collections, but not more than two years from the date of borrowing. This loan agreement contains a collections performance requirement, among other covenants, that, if not met, provides for cross-collateralization with any other portfolios financed through the agreement, in addition to other remedies. Total debt outstanding under this facility as of September 30, 2005, was $75.0 million, including $5.6 million of accrued residual interest. As of September 30, 2005, Portfolio Management was in compliance with all of the financial covenants. As part of the exclusivity agreement described above, Portfolio Management has a joint venture agreement with the lender to purchase larger portfolios through a newly created joint venture, whereby Portfolio Management owns 65 percent and the lender owns 35 percent of the joint venture. Each party will finance the joint venture based on predetermined percentages as negotiated for each portfolio purchase. Cash flows from the joint venture are based on the mix of partner loans and equity contributions to the joint venture. The equity share of the new agreement replaces the residual cash flows under the former agreement. The joint venture has been consolidated into our results and a minority interest has been recorded for the lender's equity ownership. At September 30, 2005, we had $5.4 million of debt outstanding under the joint venture, which is included in the nonrecourse credit facility debt outstanding disclosed above. Contractual Obligations. We have two fixed price agreements, or forward-flows, with retailers that obligate us to purchase, on a monthly basis, portfolios of charged-off accounts receivable meeting certain criteria. We are obligated to purchase accounts receivable of approximately $160,000 and $60,000 per month through January 2006 and April 2006, respectively. In connection with the Marlin acquisition, we acquired several forward-flows with institutions to purchase medical and utility portfolios of charged-off accounts receivable meeting certain criteria, aggregating approximately $1.2 million per month. The agreements can be terminated with 30 days, 60 days or 90 days written notice. -33- MARKET RISK We are 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, changes in corporate tax rates, and inflation. We employ 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. Foreign Currency Risk. Foreign currency exposures arise from transactions denominated in a currency other than the functional currency and from foreign denominated revenue and profit translated into U.S. dollars. The primary currencies to which we are exposed include the Canadian dollar, the British pound and the Philippine peso. Due to the growth of the Canadian operations, we currently use forward exchange contracts to limit potential losses in earnings or cash flows from adverse foreign currency exchange rate movements. These contracts are entered into to protect against the risk that the eventual cash flows resulting from such contracts will be adversely affected by changes in exchange rates. Our objective is to maintain economically balanced currency risk management strategies that provide adequate downside protection. A five percent increase or decrease in the Canadian exchange rate could have an annual impact of approximately $4.0 million on our business, excluding the impact of foreign currency hedges. Interest Rate Risk. At September 30, 2005, we had $239.7 million in outstanding variable rate borrowings. A material change in interest rates could adversely affect our operating results and cash flows. A 25 basis-point increase in interest rates could increase our annual interest expense by $125,000 for each $50 million of variable debt outstanding for the entire year. CRITICAL ACCOUNTING POLICIES The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the amounts reported in the financial statements and the accompanying notes. Actual results could differ from those estimates. We believe that the following accounting policies include the estimates that are the most critical and could have the most potential impact on our results of operations: goodwill, customer relationships, revenue recognition for purchased accounts receivable, allowance for doubtful accounts, notes receivable and income taxes. These and other critical accounting policies are described in note 2 to these financial statements, and in "Management's Discussion and Analysis of Financial Condition and Results of Operations" and note 2 to our 2004 financial statements contained in our Annual Report on Form 10-K for the year ended December 31, 2004. During the nine months ended September 30, 2005, we did not make any material changes to our estimates or methods by which estimates are derived with regard to our critical accounting policies, except for the change in revenue recognition for purchased accounts receivable due to our adoption of Statement of Position 03-3, "Accounting for Certain Loans or Debt Securities Acquired in a Transfer," referred to as SOP 03-3 on January 1, 2005. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS FASB Statement of Financial Accounting Standards No. 123 (revised 2004), "Share-Based Payment." In December 2004, the FASB issued Statement of Financial Accounting Standards No. 123 (revised 2004), "Share-Based Payment," referred to as SFAS 123R, which is a revision of Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation," and supercedes APB Opinion No. 25, "Accounting for Stock Issued to Employees," referred to as APB 25. SFAS 123R requires that the cost of all share-based payments to employees, including stock option grants, be recognized in the financial statements based on their fair values, as currently permitted but not required under SFAS 123. The standard will apply to newly granted awards and previously granted awards that are not fully vested on the date of adoption. Companies must adopt SFAS 123R no later than the beginning of their next fiscal year that begins after June 15, 2005. Accordingly, we will adopt the standard on January 1, 2006. Under SFAS 123R, we must determine the appropriate fair value model to be used for valuing share-based payments, the amortization method for compensation cost and the transition method to be used when the standard is adopted. Transition methods allowed under the standard are modified retrospective adoption, in which prior periods may be restated either as of the beginning of the year of adoption or for all periods presented, or modified prospective -34- adoption, which requires that compensation expense be recorded for all unvested stock options at the beginning of the first quarter of adoption of SFAS 123R. We are currently evaluating the requirements of SFAS 123R and have not yet determined the method of adoption. We currently account for stock option grants to employees under APB 25 using the intrinsic value method, as permitted by SFAS 123. Under APB 25, because the exercise price of the stock options equals the fair value of the underlying common stock on the date of grant, no compensation cost is recognized. We do not anticipate that the adoption of SFAS 123R will have a material impact on our cash flows or financial position, but it will reduce reported net income and earnings per share because under SFAS 123R we will be required to recognize compensation expense for stock options granted to employees. The impact of the adoption of SFAS 123R cannot be predicted at this time because it will depend on levels of share-based payments granted in the future. However, valuation of employee stock options under SFAS 123R is similar to SFAS 123, with minor exceptions. The impact on our results of operations and earnings per share had we adopted SFAS 123, is described in note 2 to our Notes to Consolidated Financial Statements. SOP 03-3 Accounting for Certain Loans or Debt Securities Acquired in a Transfer. Effective January 1, 2005, the Company adopted AICPA Statement of Position 03-3, "Accounting for Loans or Certain Securities Acquired in a Transfer" ("SOP 03-3"). SOP 03-3 addresses accounting for differences between contractual versus expected cash flows over an investor's initial investment in certain loans when such differences are attributable, at least in part, to credit quality. SOP 03-3 was effective for loans acquired in fiscal years beginning after December 15, 2004, and amends PB6 for loans acquired in fiscal years before the effective date. Under SOP 03-3, if the collection estimates established when acquiring a portfolio are subsequently lowered, an allowance for impairment and a corresponding expense is established in the current period for the amount required to maintain the original internal rate of return, or "IRR," expectations. Prior guidance required lowering the IRR for the remaining life of the portfolio. If collection estimates are raised, increases are first used to recover any previously recorded allowances and the remainder is recognized prospectively through an increase in the IRR. This updated IRR must be used for subsequent valuation allowance testing. We adopted SOP 03-3 on January 1, 2005, however previously issued annual financial statements were not restated and there was no prior period effect of these new provisions. Portfolios acquired prior to December 31, 2004 will continue to be governed by PB6, as amended by SOP 03-3. In accordance with SOP 03-3, the IRR will be set at December 31, 2004 and will be used for valuation allowance testing in the future. Because any reductions in expectations are recognized as an expense in the current period and any increases in expectations are recognized over the remaining life of the portfolio, SOP 03-3 increases the probability that we will incur allowances for impairment in the future, and these allowances could be material. FASB Statement of Financial Accounting Standards No. 154, "Accounting Changes and Error Corrections - a replacement of APB Opinion No. 20 and FASB Statement No. 3". In May 2005, the FASB issued Statement of Financial Accounting Standards No. 154, "Accounting Changes and Error Corrections - a replacement of APB Opinion No. 20 and FASB Statement No. 3", referred to as SFAS No. 154, which replaces APB Opinion No. 20, Accounting Changes, and SFAS No. 3, Reporting Accounting Changes in Interim Financial Statements, and changes the requirements for the accounting for and reporting of a change in accounting principle. SFAS No. 154 applies to all voluntary changes in accounting principles. It also applies to changes required by an accounting pronouncement in the unusual instance that the pronouncement does not include specific transition provisions. SFAS No. 154 is effective for accounting changes and corrections of errors made in fiscal years beginning after December 15, 2005. It does not change the transition provisions of any existing accounting pronouncements, including those that are in a transition phase as of the effective date of SFAS No. 154. The Company does not believe the adoption of SFAS No. 154 will have a material impact on its financial statements. -35- 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. ITEM 4. CONTROLS AND PROCEDURES EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES Our management, with participation of our chief executive officer and chief financial officer, conducted an evaluation of the effectiveness of our disclosure controls and procedures, as defined in Exchange Act Rule 13a-15(e), as of September 30, 2005. Based on that evaluation, our chief executive officer and chief financial officer concluded that our disclosure controls and procedures were effective in reaching a reasonable level of assurance that management, including our chief executive officer and chief financial officer, is timely alerted to material information relating to the Company required to be disclosed in the Company's reports filed or submitted under the Exchange Act. CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING During the quarter ended September 30, 2005, there has not occurred any change in our internal control over financial reporting, as defined in Exchange Act Rule 13a-15(f), that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting. LIMITATIONS ON EFFECTIVENESS OF CONTROLS A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the Company have been detected. Because of the inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected. -36- PART II. OTHER INFORMATION Item 1. Legal Proceedings Securities and Exchange Commission: In January 2005, the Company received notification from the Staff of the Securities and Exchange Commission ("the Staff") informing the Company that it intended to issue a formal notification (commonly known as a "Wells notice") to NCO and certain of its officers recommending that the Securities and Exchange Commission ("the SEC") bring civil proceedings against NCO and such officers alleging violations of certain non-fraud provisions of the federal securities laws relating to financial reporting and internal control requirements. The potential violations related to the Company's revenue recognition policy in connection with a long-term collection contract, which the Company had previously corrected in 2003, and the Company's revenue recognition policy regarding the timing of revenue recognized on certain cash receipts related to contingency revenues. The notification from the Staff informed the Company that the Company's long-standing policy with respect to the timing of revenue recognized on certain cash receipts related to contingency revenues was inconsistent with the Staff's interpretation of SAB 104. The Company previously recognized contingency fee revenue attributable to payments postmarked prior to the end of the period and received in the mail from the consumers on the first business day after such period as applicable to the prior reporting period. This revenue recognition policy had been in effect since prior to NCO becoming a public company and was consistently applied over time. The Company corrected its policy in the fourth quarter of 2004 in order to recognize revenue when physically received. The impact of this correction was a $2.7 million reduction in revenue and a $947,000 reduction in net income, or $0.03 per diluted share, for the three months ended December 31, 2004. Such correction did not have a material impact on the comparability of operating results for the three and nine months ended September 30, 2005 and 2004. In September 2005, the Company reached a final settlement with the SEC, concluding the SEC's investigation of the Company and certain of its officers. Without admitting or denying any wrongdoing, the Company consented to the entry of an administrative order directing it to cease and desist from committing or causing violations of certain non-fraud provisions of the federal securities laws relating to financial reporting and internal control requirements, now and in the future. The Company will not pay any civil monetary penalty in connection with the settlement. The investigation did not lead to any sanctions being levied against any of the Company's officers. For information regarding the Company's other Legal Proceedings, see the Company's Form 10-K for the year ended December 31, 2004, and the Company's Form 10-Q for the quarters ended March 31, 2005 and June 30, 2005. The Company is involved in other legal proceedings, regulatory investigations and tax examinations from time to time in the ordinary course of its business. Management believes that none of these other legal proceedings, regulatory investigations or tax examinations will have a materially adverse effect on the financial condition or results of operations of the Company. Item 2. Unregistered Sales of Equity Securities and Use of Proceeds None - not applicable Item 3. Defaults Upon Senior Securities None - not applicable Item 4. Submission of Matters to a Vote of Shareholders None - not applicable Item 5. Other Information None - not applicable -37- Item 6. Exhibits - ------- -------- 2.1 Purchase Agreement, dated as of July 6, 2005, by and among NCOP Capital Resource, LLC ("Purchaser") and RMA and Risk Management Alternatives Holdings, Inc., Risk Management Alternatives International Limited, Resource Recovery Consultants, Inc., RMA Intermediate Holdings Corporation, RMA Management Services, Inc., Risk Management Alternatives International Corp. Canada, National Revenue Corporation, Risk Management Alternatives, Inc., Risk Management Alternatives Portfolio Services, LLC, RMA Holdings LLC, Purchased Paper LLC and Risk Management Alternatives Solutions LLC (collectively, the "Subsidiaries," and RMA and the Subsidiaries are collectively referred to as the "Seller Parties") (incorporated by reference to the Company's Current Report on Form 8-K filed with the Securities and Exchange Commission on September 16, 2005). 2.2 First Amendment and Acknowledgement to Purchase Agreement, dated as of August 23, 2005, by and among Purchaser and Seller Parties (incorporated by reference to the Company's Current Report on Form 8-K filed with the Securities and Exchange Commission on September 16, 2005). 2.3 Second Amendment and Acknowledgement to Purchase Agreement, dated as of August 31, 2005, by and among Purchaser and Seller Parties (incorporated by reference to the Company's Current Report on Form 8-K filed with the Securities and Exchange Commission on September 16, 2005). 2.4 Guarantee, dated as of July 6, 2005, by NCO Group, Inc. in favor of and for the benefit of Risk Management Alternatives Parent Corp. 10.1 Credit Agreement, dated as of November 26, 2002, by and among NCOP Capital, Inc. as Borrower and CFSC Capital Corp. XXXIV as Lender (incorporated by reference to Exhibit 10.48 to NCO Portfolio Management Inc.'s Annual Report on Form 10-K for the year ended December 31, 2002 filed with the Securities and Exchange Commission on March 13, 2003). 10.2 Second Amendment to Credit Agreement, dated as of June 30, 2005, by and among NCOP Capital, Inc. as Borrower and CFSC Capital Corp. XXXIV as Lender. 10.3 Amended and Restated Exclusivity Agreement, dated as of June 30, 2005, by and among CFSC Capital Corp. XXXIV and NCOP Lakes, Inc., NCO Financial Systems, Inc., NCO Portfolio Management, Inc., NCO Group, Inc., NCOP Capital, Inc., and NCOP Capital I, LLC. NCO will furnish to the Securities and Exchange Commission a copy of any omitted schedules upon request. 10.4 Form of Employee Stock Option Award pursuant to 2004 Equity Incentive Plan. 10.5 Form of Director Stock Option Award pursuant to 2004 Equity Incentive Plan. 31.1 Certification of Chief Executive Officer pursuant to Rule 13a-14(a) promulgated under the Exchange Act. 31.2 Certification of Chief Financial Officer pursuant to Rule 13a-14(a) promulgated under the Exchange Act. 32.1 Certification of the Company's Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. -38- SIGNATURES Pursuant to the requirements 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: November 9, 2005 By: Michael J. Barrist ------------------ Michael J. Barrist Chairman of the Board, President and Chief Executive Officer (principal executive officer) Date: November 9, 2005 By: Steven L. Winokur ----------------- Steven L. Winokur Executive Vice President, Chief Financial Officer, and Chief Operating Officer - Shared Services (principal financial officer) Date: November 9, 2005 By: John R. Schwab -------------- John R. Schwab Senior Vice President, Finance and Chief Accounting Officer (principal accounting officer) -39- Exhibit Index Exhibit No. Description ----------- ----------- 2.1 Purchase Agreement, dated as of July 6, 2005, by and among NCOP Capital Resource, LLC ("Purchaser") and RMA and Risk Management Alternatives Holdings, Inc., Risk Management Alternatives International Limited, Resource Recovery Consultants, Inc., RMA Intermediate Holdings Corporation, RMA Management Services, Inc., Risk Management Alternatives International Corp. Canada, National Revenue Corporation, Risk Management Alternatives, Inc., Risk Management Alternatives Portfolio Services, LLC, RMA Holdings LLC, Purchased Paper LLC and Risk Management Alternatives Solutions LLC (collectively, the "Subsidiaries," and RMA and the Subsidiaries are collectively referred to as the "Seller Parties") (incorporated by reference to the Company's Current Report on Form 8-K filed with the Securities and Exchange Commission on September 16, 2005). 2.2 First Amendment and Acknowledgement to Purchase Agreement, dated as of August 23, 2005, by and among Purchaser and Seller Parties (incorporated by reference to the Company's Current Report on Form 8-K filed with the Securities and Exchange Commission on September 16, 2005). 2.3 Second Amendment and Acknowledgement to Purchase Agreement, dated as of August 31, 2005, by and among Purchaser and Seller Parties (incorporated by reference to the Company's Current Report on Form 8-K filed with the Securities and Exchange Commission on September 16, 2005). 2.4 Guarantee, dated as of July 6, 2005, by NCO Group, Inc. in favor of and for the benefit of Risk Management Alternatives Parent Corp. 10.1 Credit Agreement, dated as of November 26, 2002, by and among NCOP Capital, Inc. as Borrower and CFSC Capital Corp. XXXIV as Lender (incorporated by reference to Exhibit 10.48 to NCO Portfolio Management Inc.'s Annual Report on Form 10-K for the year ended December 31, 2002 filed with the Securities and Exchange Commission on March 13, 2003). 10.2 Second Amendment to Credit Agreement, dated as of June 30, 2005, by and among NCOP Capital, Inc. as Borrower and CFSC Capital Corp. XXXIV as Lender. 10.3 Amended and Restated Exclusivity Agreement, dated as of June 30, 2005, by and among CFSC Capital Corp. XXXIV and NCOP Lakes, Inc., NCO Financial Systems, Inc., NCO Portfolio Management, Inc., NCO Group, Inc., NCOP Capital, Inc., and NCOP Capital I, LLC. NCO will furnish to the Securities and Exchange Commission a copy of any omitted schedules upon request. 10.4 Form of Employee Stock Option Award pursuant to 2004 Equity Incentive Plan. 10.5 Form of Director Stock Option Award pursuant to 2004 Equity Incentive Plan. 31.1 Certification of Chief Executive Officer pursuant to Rule 13a-14(a) promulgated under the Exchange Act. 31.2 Certification of Chief Financial Officer pursuant to Rule 13a-14(a) promulgated under the Exchange Act. 32.1 Certification of the Company's Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. EX-2.4 2 ex2-4.txt EXHIBIT 2.4 EXHIBIT 2.4 NCO GUARANTEE This NCO Guarantee (this "Guarantee") is entered into as of July 6, 2005, by NCO Group, Inc., a Pennsylvania corporation (the "Guarantor"), in favor of and for the benefit of Risk Management Alternatives Parent Corp., a Delaware corporation ("Parent"), and the Subsidiaries, as defined in Annex A hereto. Parent and the Subsidiaries are referred to herein collectively as the "Beneficiary". WHEREAS, the Guarantor owns indirectly 100% of the issued and outstanding membership interests of NCOP Capital Resource, LLC, a Nevada limited liability company (the "Obligor"); and WHEREAS, the Guarantor is entering into this Guarantee to induce the Beneficiary to enter into, and to consummate the transactions contemplated by, the Purchase Agreement, dated as of the date hereof, by and among the Obligor and the Beneficiary (the "Purchase Agreement"), and the agreements identified in the Purchase Agreement and being entered into in connection therewith (together with the Purchase Agreement, the "Agreements"). NOW, THEREFORE, in consideration of the benefits expected to be derived from the consummation of the transactions set forth in the Agreements, and intending to be legally bound, Guarantor agrees as follows: 1. In order to induce the Beneficiary to enter into the Agreements, and in consideration of it and other good and valuable consideration, the Guarantor hereby irrevocably and unconditionally guarantees, as a primary obligor and not merely as a surety, the due, punctual and complete payment and performance when due of all obligations, covenants and duties of the Obligor to the Beneficiary pursuant to the Agreements (each an "Obligation," and, collectively, the "Obligations"). This Guarantee is a guaranty of payment, performance and compliance and not just of collectibility and is in no way conditioned or contingent upon any attempt to collect from or enforce performance or compliance by Obligor. 2. If any Obligation shall not be paid or performed when due, Guarantor shall become liable to the Beneficiary for such Obligation, and the Guarantor will forthwith pay or cause to be paid such Obligation or perform or comply with such Obligation or cause the Obligation to be performed or complied with, as the case may be. No provision hereof shall in any manner restrict the rights and remedies of the Beneficiary or Obligor under the Agreements. 3. Notwithstanding anything contained herein to the contrary, without limiting the Guarantor's own defenses and rights hereunder, the Guarantor specifically reserves to itself all contractual defenses the Obligor is or may be entitled to under, and subject to the terms and conditions of, the Agreements, except for any defenses arising out of bankruptcy, insolvency, dissolution or liquidation of the Obligor, lack of power or authority of the Obligor to enter into any Agreement or to perform its obligations thereunder or the lack of validity or enforceability of the Obligor's obligations under any Agreement or the transactions contemplated thereby. This Guarantee shall not be construed as imposing on the Guarantor any obligation to the extent excused or waived by the Beneficiary in writing or discharged by the full and prompt payment or performance by the Obligor. 4. This Guarantee shall not be subject to any counterclaim, set-off, deduction or defense based upon any claim that Guarantor or any other Person may have against Obligor or any other Person, and to the full extent permitted by applicable law shall remain in full force and effect without regard to, and shall not be released, discharged or in any way affected by: (a) any inaction under or in respect of any Agreement or any of the Obligations; or (b) any failure, omission or delay on the part of the Beneficiary to enforce, assert or exercise any right, power or remedy conferred in this Guarantee, or any such failure, omission or delay on the part of such Person in connection with any Agreement. 5. The Guarantor unconditionally waives, to the extent permitted by applicable law, (a) notice of any the matters referred to in Section 4 above, (b) notice of the incurrence of any of the Obligations, (c) notice of presentment to or demand of payment with respect to any amounts due under any Agreement or protest for nonpayment or dishonor, (d) any requirement to exhaust any remedies, and (e) joinder of Obligor in any suit, action or other proceeding to enforce this Guarantee. 6. This Guarantee shall continue to be effective or be automatically reinstated, as the case may be, if at any time payment of any of the Obligations is rescinded or must otherwise be restored or returned, in whole or in part, upon the insolvency, bankruptcy, dissolution, liquidation or reorganization of Obligor or any other Person, or upon or as a result of the appointment of a custodian, receiver, trustee or other officer with similar powers with respect to Obligor or any other Person or any substantial part of its property, or otherwise, all as though such payment had not been made. If in the event that the Beneficiary has exercised its right or undertaken to exercise its right, to demand payment under any Agreement, and such demand shall at such time be prevented by reason of the pendency against Obligor or any other Person of a case or proceeding under a bankruptcy or insolvency law, the Guarantor agrees that, for purposes of this Guarantee and its obligations hereunder, demand of payment of the Obligations shall be deemed to have been made with the same effect as if the Beneficiary had made demand in accordance with the terms of such Agreement and the Guarantor shall forthwith pay the amounts guaranteed hereunder without further notice or demand. 7. This Guarantee and all guaranties, covenants and agreements of the Guarantor contained herein shall continue in full force and effect and shall not be discharged until such time as all of the Obligations shall be paid and performed in full (or waived in writing by the Beneficiary) and all of the agreements of the Guarantor hereunder shall be duly paid and performed in full (or waived in writing by the Beneficiary). 8. The Guarantor represents and warrants as follows: (i) the Guarantor is a Pennsylvania corporation, duly incorporated and validly subsisting under the laws of Pennsylvania; (ii) the execution, delivery and performance by the Guarantor of this Guarantee are within the Guarantor's corporate powers; (iii) the Guarantor's obligations under this Guarantee have been duly authorized by all necessary corporate action; (iv) this Guarantee is the legal, valid and binding obligation of the Guarantor enforceable against the Guarantor in accordance with its terms; (v) the Guarantor's execution, delivery and performance of this Guarantee do not and will not (a) violate or result in a 2 default or breach (immediately or with the passage of time) under the organizational documents of the Guarantor or under any material contract, agreement or instrument to which the Guarantor is a party, or by which the Guarantor is bound, (b) violate or result in a default or breach under any material order, decree, award, injunction, judgment, law, regulation or rule or (c) cause or result in the imposition or creation of any material lien upon any property of the Guarantor; and (vi) except for such matters as are disclosed in the reports filed by Guarantor in accordance with the Securities Exchange Act of 1934, as amended, there is no pending or threatened action or results of proceeding affecting the Guarantor or any of its subsidiaries before any court or governmental authority or arbitrator, which may materially and adversely affect the financial condition or results of operations of the Guarantor or any of its subsidiaries. 9. This Guarantee may not be amended or modified except by an instrument in writing signed by the parties, and no performance, term or condition can be waived in whole or in part, except by a writing signed by the Beneficiary. Any performance, term or condition of this Guarantee may be waived in writing at any time by the Beneficiary. No delay or failure on the part of the Beneficiary in exercising any rights hereunder, and no partial or single exercise thereof, will constitute a waiver of such rights or of any other rights hereunder. 10. This Guarantee shall be governed by and construed and enforced in accordance with (i) the laws of the Commonwealth of Pennsylvania, without regard to conflict of laws rules or principles and (ii) the Bankruptcy Code, to the extent applicable. Any litigation arising hereunder or related hereto shall be tried by the Bankruptcy Court or, if the Bankruptcy Court does not have jurisdiction, in the courts of the Commonwealth of Pennsylvania, or the United States District Courts, located in the City of Philadelphia. Each Party irrevocably consents to and confers personal jurisdiction on the courts referred to above, and irrevocably and unconditionally waives any objection to the venue of such courts, and further irrevocably and unconditionally waives and agrees not to plead or claim in any such court that any lawsuit, action or other proceeding brought in any such court has been brought in an inconvenient forum. Each of the Guarantor and the Beneficiary further agrees that service of process may be made on it by mailing a copy of the pleading or other document by registered or certified mail, return receipt requested, to its addresses for the giving of notice provided for in Section 12 hereof, with service being deemed to be made three (3) Business Days after the giving of such notice. 11. THE GUARANTOR AND THE BENEFICIARY EACH HEREBY KNOWINGLY, VOLUNTARILY AND INTENTIONALLY WAIVES ANY RIGHT IT MAY HAVE TO A TRIAL BY JURY IN RESPECT OF ANY LITIGATION ARISING OUT OF, UNDER OR IN CONNECTION WITH THIS GUARANTEE OR THE TRANSACTIONS CONTEMPLATED HEREBY. THE GUARANTOR AND THE BENEFICIARY EACH ACKNOWLEDGE THAT EACH OF THE OTHER PARTIES HAS BEEN INDUCED TO ENTER INTO THIS AGREEMENT BY, INTER ALIA, THE PROVISIONS OF THIS SECTION 11. 12. All notices, requests, demands, and other communications required or permitted to be given or made hereunder by either the Guarantor or the Beneficiary (each a "Notice") shall be in writing and shall be deemed to have been duly given or made if (i) delivered personally, (ii) delivered by prepaid overnight courier service, or (iii) delivered by confirmed telecopy or facsimile transmission to such entity at the following addresses and telecopy or facsimile numbers (or at such other addresses and numbers as shall be specified by such entity by similar notice): 3 If to the Guarantor: NCO Group, Inc. 507 Prudential Road Horsham, PA 19044 Attention: Joshua Gindin, Esq. Fax: (215) with a copy to: Blank Rome LLP One Logan Square Philadelphia, PA 19103 Attention: Lawrence R. Wiseman Fax: (215) 569-5499 If to the Beneficiary: c/o Risk Management Alternatives, Inc. 2675 Breckenridge Boulevard Duluth, GA 30095 Attention: Joseph Connolly Fax: (770) 232-2490 with a copy to: McDonald Hopkins Co., LPA 600 Superior Avenue, East Suite 2100 Cleveland, OH 44114 Attention: Shawn M. Riley Fax: (216) 348-5474 Except as provided in Section 10, notices shall be effective (i) if delivered personally or by overnight courier service, upon actual receipt by the intended recipient, or (ii) if sent by telecopy or facsimile transmission, when the confirmation of transmission is received by the sender. 13. This Guarantee shall be binding upon the Guarantor and inure to the benefit of the Beneficiary and its successors and assigns, including, for the avoidance of doubt, any debtor-in-possession or trustee appointed in any case or proceeding under a bankruptcy or insolvency law. Neither this Guarantee nor any of the rights, interests, or obligations hereunder shall be assigned or delegated by the Guarantor without the prior written consent of the Beneficiary. 14. If any provision of this Guarantee is held to be illegal, invalid, or unenforceable under any present or future law, and if the rights or obligations under this Guarantee of the Guarantor on the one hand and the Beneficiary on the other hand will not be materially and adversely affected thereby, (a) such provision shall be fully severable; (b) this Guarantee shall be construed and enforced as if such illegal, invalid, or unenforceable 4 provision had never comprised a part hereof; (c) the remaining provisions of this Guarantee shall remain in full force and effect and shall not be affected by the illegal, invalid, or unenforceable provision or by its severance from this Guarantee; and (d) in lieu of such illegal, invalid, or unenforceable provision, there shall be added automatically as a part of this Guarantee a legal, valid, and enforceable provision as similar in terms to such illegal, invalid, or unenforceable provision as may be possible. 15. This Guarantee constitutes the entire agreement as between the Guarantor and the Beneficiary with respect to the subject matter hereof and supersedes all prior agreements and understandings, both written and oral, between the Guarantor and the Beneficiary with respect to the subject matter hereof. 16. This Guarantee may be executed in two or more counterparts, each of which shall be deemed an original, but all of which together shall constitute one and the same agreement. Any counterpart may be executed by facsimile signature and such facsimile signature shall be deemed an original. 17. Capitalized terms used in this Guarantee and not defined herein shall have the meaning set forth in the Purchase Agreement. [SIGNATURE PAGE FOLLOWS] 5 IN WITNESS WHEREOF, the Guarantor has executed and delivered this NCO Guarantee to be effective as of the date first written above. NCO GROUP, INC. By: /s/ Michael J. Barrist --------------------------------------------- Name: Michael J. Barrist Title: President and Chief Executive Officer ACCEPTED: RISK MANAGEMENT ALTERNATIVES RISK MANAGEMENT ALTERNATIVES PARENT CORP. INTERNATIONAL LIMITED By: /s/ Dennis Cunningham By: /s/ Dennis Cunningham ------------------------------- ----------------------------------- Name: Name: Title: Title: [SIGNATURE PAGE TO NCO GUARANTEE] 6 RISK MANAGEMENT ALTERNATIVES RMA INTERMEDIATE HOLDINGS CORPORATION HOLDINGS, INC. By: /s/ Dennis Cunningham By: /s/ Dennis Cunningham ------------------------------- ------------------------------ Name: Name: Title: Title: RESOURCE RECOVERY CONSULTANTS, INC. RISK MANAGEMENT ALTERNATIVES INTERNATIONAL CORP. CANADA By: /s/ Dennis Cunningham By: /s/ Dennis Cunningham ------------------------------- ------------------------------ Name: Name: Title: Title: [SIGNATURE PAGE TO NCO GUARANTEE] 7 RMA MANAGEMENT SERVICES, INC. RISK MANAGEMENT ALTERNATIVES, INC. By: /s/ Dennis Cunningham By: /s/ Dennis Cunningham ------------------------------- ------------------------------ Name: Name: Title: Title: NATIONAL REVENUE CORPORATION RMA HOLDINGS LLC By: /s/ Dennis Cunningham By: /s/ Dennis Cunningham ------------------------------- ------------------------------ Name: Name: Title: Title: [SIGNATURE PAGE TO NCO GUARANTEE] 8 RISK MANAGEMENT ALTERNATIVES RISK MANAGEMENT ALTERNATIVES PORTFOLIO SERVICES, LLC SOLUTIONS LLC By: /s/ Dennis Cunningham By: /s/ Dennis Cunningham ------------------------------- ------------------------------ Name: Name: Title: Title: PURCHASED PAPER LLC By: /s/ Dennis Cunningham ------------------------------- Name: Title: [SIGNATURE PAGE TO NCO GUARANTEE] 9 ANNEX A The following entities are collectively referred to as the "Subsidiaries": RISK MANAGEMENT ALTERNATIVES HOLDINGS, INC. a Delaware corporation RISK MANAGEMENT ALTERNATIVES INTERNATIONAL LIMITED (UK) RESOURCE RECOVERY CONSULTANTS, INC. a Delaware corporation RMA INTERMEDIATE HOLDINGS CORPORATION a Delaware corporation RMA MANAGEMENT SERVICES, INC. an Ohio corporation RISK MANAGEMENT ALTERNATIVES INTERNATIONAL CORP. CANADA (Nova Scotia) NATIONAL REVENUE CORPORATION an Ohio corporation RISK MANAGEMENT ALTERNATIVES, INC. a Delaware corporation RISK MANAGEMENT ALTERNATIVES PORTFOLIO SERVICES, LLC a Delaware limited liability company RMA HOLDINGS LLC a Delaware limited liability company PURCHASED PAPER LLC a Delaware limited liability company RISK MANAGEMENT ALTERNATIVES SOLUTIONS LLC a Delaware limited liability company EX-10 3 ex10-2.txt EXHIBIT 10.2 EXHIBIT 10.2 SECOND AMENDMENT TO CREDIT AGREEMENT This Second Amendment, dated as of June 30, 2005 (this "Amendment") to Credit Agreement dated as of November 26, 2002, as previously amended as of August 12, 2004 and September 30, 2004 (the "Credit Agreement") is made by and between NCOP Capital, Inc., a Nevada corporation (the "Borrower") and CFSC Capital Corp. XXXIV, a Delaware corporation (the "Lender"). RECITALS -------- A. The Borrower and the Lender are parties to the Credit Agreement, pursuant to which the Lender has provided and may from time to time in the future provide the Borrower with financing for the purchase of pools of assets, which assets include consumer finance receivables. B. The Borrower has requested loans for the purchase of certain U.S.-based consumer portfolios with a purchase price equal to or greater than $4,000,000 on terms different from those set forth in the Credit Agreement. C. The Lender is willing to provide such loans for such additional portfolios on the terms set forth in the Credit Agreement as amended by this Amendment. Accordingly, in consideration of the mutual covenants herein contained and for other good and valuable consideration, the receipt and sufficiency of which are hereby acknowledged, the parties hereto agree as follows: 1. Definitions. Unless otherwise specifically defined herein or as modified below, capitalized terms used in this Amendment and defined in the Credit Agreement shall have the meanings assigned to such terms in the Credit Agreement. 2. Amendments to Credit Agreement. The Borrower and the Lender agree that the Credit Agreement is hereby amended as follows: (a) The definition of "Asset Pool Equity Contribution" is hereby deleted and restated in its entirety to read: "Asset Pool Equity Contribution" shall mean, with respect to each Asset Pool (or the applicable portion of an Asset Pool in connection with a Forward Flow Purchase Agreement), that portion of the Total Cost of an Asset Pool (or the applicable portion of an Asset Pool in connection with a Forward Flow Purchase Agreement) not funded with the proceeds of a Loan, which, unless otherwise approved by the Lender in an Approved Borrowing Request, shall be (i) ten percent (10%) of such Total Cost in the case of an Asset Pool (or portion thereof) funded with the proceeds of a Pre-Amendment Loan and (ii) thirty percent (30%) of such Total Cost in the case of an Asset Pool (or portion thereof) funded with the proceeds of a Post-Amendment Loan." (b) The definition of "Asset Pool Shortfall Amount" is hereby deleted and restated in its entirety to read: "Asset Pool Shortfall Amount" shall mean either the Pre-Amendment Asset Pool Shortfall Amount or the Post-Amendment Asset Pool Shortfall Amount, as the context may require." (c) Clause (a) of the definition of "Change of Control" is hereby deleted and restated in its entirety to read: "(a) any event circumstance or occurrence that results in (i) the Parent holding and owning, directly or indirectly, less than one hundred percent (100%) of the issued and outstanding equity interests in the Borrower, free and clear of all liens, security interests and other encumbrances; or (ii) NCO Group, Inc. holding and owning, directly or indirectly, less than fifty percent (50%) of the issued and outstanding equity interests in either the Parent or the Servicer;" (d) The definition of "Exclusivity Agreement" is hereby deleted and restated in its entirety to read: "Exclusivity Agreement" shall mean that certain Amended and Restated Exclusivity Agreement, dated as of June 30, 2005 among the Lender, the Borrower, NCOP Lakes, NCO Capital I, the Servicer, and certain other related parties as therein described, as to the Lender's exclusive right to finance Assets acquired by such parties and other Affiliated Parties as described therein. (e) The definition of "Floating Rate" is hereby deleted and restated in its entirety to read: "Floating Rate" shall mean, with respect to a Pre-Amendment Loan, an annual rate of interest equal to the Base Rate plus three and one-quarter percent (3.25%) and, with respect to a Post-Amendment Loan, an annual rate of interest equal to LIBOR plus two and one-half percent (2.50%)." For avoidance of doubt, the Floating Rate applicable to a Post-Amendment Loan shall be adjusted on the first day of each interest period. (f) The definition of "Funding Termination Date" is hereby deleted and restated in its entirety to read: 2 "Funding Termination Date" shall mean (i) the earlier of (a) June 30, 2009, or (b) the date the Lender demands payment of the Obligations pursuant to Section 8.2, or (ii) the date upon which the Lender delivers a written declaration to the Borrower that it will no longer consider Borrowing Requests as a result of a Change of Control, or (iii) the date upon which the Lender delivers a written declaration to the Borrower that it will no longer consider Borrowing Requests pursuant to Section 8.2. (g) The definition of "NCOP Lakes Credit Agreement" is hereby deleted and restated in its entirety to read: "NCOP Lakes Credit Agreement" shall mean that certain credit agreement by and between NCOP Lakes and the Lender dated as of August 19, 2002 and amended as of March 31, 2005. (h) Twelve new definitions shall be added to Section 1.1 of the Credit Agreement, to read as follows: "Affiliated Parties" shall have the meaning set forth in the Exclusivity Agreement. "Affiliated Party Asset Pool" shall mean an Asset Pool financed under (and as defined in) an Affiliated Party Credit Agreement. "Affiliated Party Credit Agreements" shall mean, collectively, the NCOP Lakes Credit Agreement, the NCO Capital I Credit Agreement and each other credit agreement entered into by and between the Lender and an Affiliated Party from time to time. "Affiliated Party Pre-Amendment Loans" shall mean all Loans made under (and as defined in) an Affiliated Party Credit Agreement to fund an Affiliated Party's acquisition of an Affiliated Party Asset Pool, which Loans have been requested prior to June 30, 2005. "Affiliated Party Post-Amendment Loans" shall mean all Loans made under (and as defined in) an Affiliated Party Credit Agreement to fund an Affiliated Party's acquisition of an Affiliated Party Asset Pool, which Loans have been requested subsequent to June 30, 2005." "LIBOR" shall mean, with respect to any interest period, the rate per annum, on the date of rate determination, as shown on Telerate Page 3750 or any successor page as the composite offered rate for London Interbank deposits for one month (or three months, at the sole discretion of the Borrower) as shown under the heading "USD" as of 11:00 a.m. London time on the date of rate determination; provided that, in the event no such rate is shown, LIBOR shall be the rate per annum (rounded upwards, if necessary, to the nearest 1/16th of one percent) based on the 3 rates at which Dollar deposits for one month (or three months, at the sole discretion of the Borrower) are displayed on the Reuters Screen as of 11:00 a.m. London time on the date of rate determination (it being understood that if at least two such rates appear on such page, the rate will be the arithmetic mean of such displayed rates); provided further that, in the event fewer than two such rates are displayed, or if no such rate is relevant, LIBOR shall be the rate per annum equal to the average of the rates at which deposits in Dollars are offered at approximately 11:00 a.m. London time on the date of rate determination to prime banks in the London interbank market for a one-month period (or three-month period, at the sole discretion of the Borrower). "NCO Capital I" shall mean NCO Capital I, LLC, a Nevada limited liability company and an Affiliated Party to the Borrower. "NCO Capital I Credit Agreement" shall mean that certain credit agreement by and between NCO Capital I and the Lender dated as of March 31, 2005. "Pre-Amendment Asset Pool Shortfall Amount" shall have the meaning set forth in Section 2.9. "Pre-Amendment Loans" shall mean all Loans made hereunder by the Lender to fund the Borrower's acquisition of an Asset Pool, which Loans have been requested pursuant to a Borrowing Request prior to June 30, 2005. "Post-Amendment Asset Pool Shortfall Amount" shall have the meaning set forth in Section 2.10. "Post-Amendment Loans" shall mean all Loans made hereunder by the Lender to fund the Borrower's acquisition of an Asset Pool, which Loan have been requested pursuant to a Borrowing Request subsequent to June 30, 2005. (i) The first sentence of Section 2.1(a) is hereby deleted and restated in its entirety to read: "(a) REQUESTS FOR BORROWING. From time to time during the period from the date hereof to and including the Funding Termination Date, the Borrower may present to the Lender written information describing a particular Asset Pool (i) with respect to which the Borrower intends to submit an offer to purchase and (ii) requesting that the Lender make a Loan to the Borrower to finance, with respect to Pre-Amendment Loans, up to ninety percent (90%) of the Total Cost of such Asset Pool and, with respect to Post-Amendment Loans, up to seventy percent (70%) of the Total Cost of such Asset Pool; provided, however, that the Lender may, in its sole and absolute discretion, agree to increase such percentages on a transaction-by-transaction basis." 4 (j) The second sentence of Section 2.1(b) is hereby deleted and restated in its entirety to read: "An Accepted Borrowing Request delivered to the Borrower by the Lender shall constitute the Lender's commitment, subject to satisfaction of all applicable terms and conditions of this Agreement, to make a Loan to the Borrower to fund, with respect to Pre-Amendment Loans, up to ninety percent (90%) of the Total Cost of the Asset Pool and, with respect to Post-Amendment Loans, up to seventy percent (70%) of the Total Cost of the Asset Pool, as set forth in such Accepted Borrowing Request; provided, however, that the Lender may, in its sole and absolute discretion, agree to increase such percentages on a transaction-by-transaction basis and, provided further, that the Lender's commitment to make a Loan to the Borrower to finance the purchase of an Asset Pool shall not constitute a revolving commitment and the Borrower shall have no right to reborrow any amounts repaid to the Lender pursuant to an Accepted Borrowing Request." (k) The fifth sentence of Section 2.1(c) is hereby deleted and restated in its entirety to read: "The Lender shall accept or reject a Borrowing Request related to a period of twelve (12) months (or such shorter period as the Lender shall agree to in writing) under a Forward Flow Purchase Agreement in accordance with the provisions of Section 2.1(a) and (b); provided, however, an Accepted Borrowing Request related to a Forward Flow Purchase Agreement shall only constitute the Lender's commitment to make a Loan to fund, with respect to Pre-Amendment Loans, up to ninety percent (90%) of the Total Cost of the Asset Pool being purchased under such Forward Flow Purchase Agreement and, with respect to Post-Amendment Loans, up to seventy percent (70%) of the Total Cost of the Asset Pool being purchased under such Forward Flow Purchase Agreement (provided, however, that the Lender may, in its sole and absolute discretion, agree to increase such percentages on a transaction-by-transaction basis), in either case for such period of twelve (12) months (or such shorter period as the Lender shall agree to in writing) as estimated by the Borrower in the Accepted Borrowing Request related to such Forward Flow Purchase Agreement." (l) Subsections 2.8(g), (j) and (k) are hereby deleted and restated in their entirety to read: "(g) SEVENTH, to the Lender, subject to Sections 2.9 and 2.10 hereof, an amount equal to any Asset Pool Shortfall Amount then outstanding, for application to payment of such Asset Pool Shortfall Amount;" 5 "(j) TENTH, to the Lender, with respect to Pre-Amendment Loans, its Contingent Payment for such Asset Pool and, with respect to Post-Amendment Loans, a residual payment equal to twenty-eight percent (28%) of all remaining Asset Pool Proceeds for such Asset Pool; provided, however, that the Lender may, in its sole and absolute discretion, agree to decrease such percentage on a transaction-by-transaction basis; and" "(k) ELEVENTH, to the Borrower, with respect to Pre-Amendment Loans, the remainder of Asset Pool Proceeds available with respect an Asset Pool after the Lender has received its Contingent Payment therefor and, with respect to Post-Amendment Loans, a residual payment equal to seventy-two percent (72%) of all remaining Asset Pool Proceeds for such Asset Pool; provided, however, that the Lender may, in its sole and absolute discretion, agree to increase such percentage on a transaction-by-transaction basis." (m) Section 2.9 is hereby deleted and restated in its entirety to read: "Section 2.9 Asset Pool Shortfalls for Pre-Amendment Loans. If (a)(i) as of any date on or after six (6) months following the Borrowing Date with respect to an Asset Pool acquired by means of a Pre-Amendment Loan, the Asset Pool Proceeds received through such date with respect to such Asset Pool are less than eighty percent (80%) of the projected Asset Pool Proceeds to be received through such date (as set forth in the bid package submitted by the Borrower as part of the Borrowing Request for such Asset Pool), and the Lender determines that, in its reasonable judgment, the remaining Asset Pool Proceeds projected to be received and applied to the related Loan will be insufficient to repay the related Loan and all accrued interest thereon at the applicable Loan Maturity Date or (ii) as of any date, an Event of Default has occurred and is continuing (other than an Event of Default solely in respect of a Post-Amendment Loan), or (b) in connection with any Affiliated Party Credit Agreement (i) as of any date on or after six (6) months following the Borrowing Date under (and as defined in) such Affiliated Party Credit Agreement with respect to an Affiliated Party Asset Pool financed by means of an Affiliated Party Pre-Amendment Loan, the Asset Pool Proceeds (as defined therein) received through such date with respect to such Affiliated Party Asset Pool are less than eighty percent (80%) of the projected Asset Pool Proceeds (as defined therein) to be received through such date (as set forth in the bid package submitted by the applicable Affiliated Party as a part of the Borrowing Request under (and as defined in) such Affiliated Party Credit Agreement for such Affiliated Party Asset Pool) and the Lender determines that, in its reasonable judgment, the remaining Asset Pool Proceeds (as defined therein) projected to be received and applied to such Affiliated Party Pre-Amendment Loan will be insufficient to repay such Affiliated Party Pre-Amendment Loan and all accrued 6 interest thereon on the applicable Loan Maturity Date (as defined therein) or (ii) as of any date, an Event of Default under (and as defined in) such Affiliated Party Credit Agreement has occurred and is continuing (other than an Event of Default solely in respect of an Affiliated Party Post-Amendment Loan), then the amount of such estimated deficiency (herein, the "Pre-Amendment Asset Pool Shortfall Amount") shall be paid: (a) first, from Asset Pool Proceeds (as defined herein) collected with respect to other Asset Pools financed with Pre-Amendment Loans as provided in Section 2.8(g) of this Agreement; (b) second, from Asset Pool Proceeds (as defined in any Affiliated Party Credit Agreement) collected with respect to any Affiliated Party Asset Pool financed by means of an Affiliated Party Pre-Amendment Loan under any Affiliated Party Credit Agreement as provided in Section 2.8(g) thereof (or such equivalent section), which amounts so paid shall constitute a subordinated loan from the applicable Affiliated Party to the Borrower, and shall bear interest (accruing in accordance with Section 2.4 only from the date of such payment) and be repaid only as provided in Section 2.8(i) hereof (each, an "Affiliate Subordinated Loan"); and (c) third, from the Borrower's own funds (and not from borrowed money) and any amount so paid shall be treated hereunder as an Asset Pool Equity Contribution on behalf of the Borrower for the Asset Pool for which such payment was made, which amounts so paid shall bear interest (accruing in accordance with Section 2.4 only from the date of such payment) and be repaid only as provided in Section 2.8(i) hereof." (n) A new Section 2.10 shall be added to the Credit Agreement, to read as follows: "Section 2.10 Asset Pool Shortfalls for Post-Amendment Loans. If (a)(i) as of any date on or after six (6) months following the Borrowing Date with respect to an Asset Pool acquired by means of a Post-Amendment Loan, the Asset Pool Proceeds received through such date with respect to such Asset Pool are less than eighty percent (80%) of the projected Asset Pool Proceeds to be received through such date (as set forth in the bid package submitted by the Borrower as part of the Borrowing Request for such Asset Pool), and the Lender determines that, in its reasonable judgment, the remaining Asset Pool Proceeds projected to be received and applied to the related Loan will be insufficient to repay the related Loan and all accrued interest thereon at the applicable Loan Maturity Date, or (ii) as of any date, an Event of Default (other than an Event of Default solely in respect of a Pre-Amendment Loan), or (b) in connection with any Affiliated Party Credit Agreement (i) as of any date on or after six (6) 7 months following the Borrowing Date under (and as defined in) such Affiliated Party Credit Agreement with respect to an Affiliated Party Asset Pool financed by means of an Affiliated Party Post-Amendment Loan, the Asset Pool Proceeds (as defined therein) received through such date with respect to such Affiliated Party Asset Pool are less than eighty percent (80%) of the projected Asset Pool Proceeds (as defined therein) to be received through such date (as set forth in the bid package submitted by the applicable Affiliated Party as a part of the Borrowing Request under (and as defined in) such Affiliated Party Credit Agreement for such Affiliated Party Asset Pool) and the Lender determines that, in its reasonable judgment, the remaining Asset Pool Proceeds (as defined therein) projected to be received and applied to such Affiliated Party Post-Amendment Loan will be insufficient to repay such Affiliated Party Post-Amendment Loan and all accrued interest thereon on the applicable Loan Maturity Date (as defined therein) or (ii) as of any date, an Event of Default under (and as defined in) such Affiliated Party Credit Agreement has occurred and is continuing (other than an Event of Default solely in respect of an Affiliated Party Pre-Amendment Loan), then the amount of such estimated deficiency (herein, the "Post-Amendment Asset Pool Shortfall Amount") shall be paid: (a) first, from Asset Pool Proceeds (as defined herein) collected with respect to other Asset Pools financed with Post-Amendment Loans as provided in Section 2.8(g) of this Agreement; (b) second, from Asset Pool Proceeds (as defined in any Affiliated Party Credit Agreement) collected with respect to any Affiliated Party Asset Pool financed by means of an Affiliated Party Post-Amendment Loan under any Affiliated Party Credit Agreement as provided in Section 2.8(g) thereof (or such equivalent section), which amounts so paid shall constitute an Affiliate Subordinated Loan and shall bear interest (accruing in accordance with Section 2.4 only from the date of such payment) and be repaid only as provided in Section 2.8(i) hereof; and (c) third, from the Borrower's own funds (and not from borrowed money) and any amount so paid shall be treated hereunder as an Asset Pool Equity Contribution on behalf of the Borrower for the Asset Pool for which such payment was made, which amounts so paid shall bear interest (accruing in accordance with Section 2.4 only from the date of such payment) and be repaid only as provided in Section 2.8(i) hereof." (o) Notwithstanding anything to the contrary contained in Subsections 6.1(a) and (b), the Borrower shall be deemed to comply with all financial reporting obligations with respect to NCO Group, Inc. contained in such Subsections if the Borrower furnishes to the Lender financial statements of NCO Group, Inc. in the form filed with NCO Group, Inc.'s Form 10-K and Form 10-Q filings with the SEC promptly after the filing thereof. 8 (p) The first part of the first sentence of Section 6.7 shall be modified to read: "Section 6.7 Special Purpose Entity. The Borrower will (a) own no assets, and not engage in any business, other than the assets and transactions specifically contemplated by the Loan Documents, (b) not incur any indebtedness or obligation, secured or unsecured, direct or indirect, absolute or contingent, other than as contemplated hereby and in connection with an Affiliated Subordinated Loan pursuant to an Affiliated Party Credit Agreement or the Exclusivity Agreement, (c) ....." (q) Subsection 8.1(r) is hereby deleted and restated in its entirety to read: "(r) an Event of Default shall occur under any of the Affiliated Party Credit Agreements;" Notwithstanding anything to the contrary contained in the Credit Agreement, (i) if an Event of Default exists under Subsection 8.1(r) and such Event of Default solely relates to an Affiliated Party Pre-Amendment Loan, then Lender shall only be permitted to exercise its post-default remedies under and in connection with the Credit Agreement with respect to Pre-Amendment Loans, and (ii) if an Event of Default exists under Subsection 8.1(r) and such Event of Default solely relates to an Affiliated Party Post-Amendment Loan, then Lender shall only be permitted to exercise its post-default remedies under and in connection with the Credit Agreement with respect to Post-Amendment Loans; provided, however, that if an Event of Default exists under Subsection 8.1(r) and such Event of Default is of a general nature (i.e., such Event of Default does not solely relate to pre-amendment loans or post-amendment loans under an Affiliated Party Credit Agreement), then Lender shall be permitted to exercise any or all of its post-default remedies under and in connection with the Credit Agreement with respect to Pre-Amendment Loans, Post-Amendment Loans or otherwise. (r) Notwithstanding anything to the contrary contained in the Credit Agreement or the other Loan Documents, (i) Asset Pools (and related Loan Collateral) financed with the proceeds of Pre-Amendment Loans shall only secure and constitute collateral for Obligations arising out of or related to Pre-Amendment Loans and Affiliated Party Pre-Amendment Loans, and (ii) Asset Pools (and related Loan Collateral) financed with the proceeds of Post-Amendment Loans shall only secure and constitute collateral arising out of or related to Post-Amendment Loans and Affiliated Party Post-Amendment Loans; provided, however, that Obligations of a general nature (including, without limitation, expense reimbursement and indemnification obligations) shall be secured by all Asset Pools (and related Loan Collateral). 9 (s) Exhibit A to the Credit Agreement, the form of Borrowing Request and Acceptance, shall be modified as follows: The Re: line on the form of Borrowing Request and Acceptance shall read, "Request for Loan under our Credit Agreement with you dated as of November 26, 2002, as amended (the "Credit Agreement")." The second full paragraph of the form of Borrowing Request and Acceptance shall read, " Pursuant to Section 2.1 of the Credit Agreement, we hereby request that you make a Loan in the amount of $_________, subject to interest at the applicable Floating Rate, which amount is ________ % of the Total Cost of the Asset Pool. Our Asset Pool Equity Contribution with respect to the Asset Pool will be $ ___________, which is ____% of the Total Cost of the Asset Pool." 3. Miscellaneous (a) The Borrower agrees that it will promptly execute and deliver to the Lender all such documents and instruments and will take such other actions as the Lender may reasonably request from time to time in order to carry out the provisions and purposes hereof. Without limiting the generality of the foregoing, the Borrower agrees to execute and deliver, and the Lender agrees to accept, promptly after the date hereof amended and restated replacement Notes in respect of the Loans reference in the letter of intent, dated as of June 22, 2005, between Borrower and Lender, which replacement Notes shall amend the Loan Maturity Dates with respect to such Loans as described in such letter of intent. (b) Except as amended hereby, the provisions of the Credit Agreement shall remain in full force and effect. To the extent any existing provision of the Credit Agreement is not expressly amended hereby but is manifestly at odds with the intent of this Amendment, such existing provision shall be construed so as to give maximum effect to the overall intention of this Amendment. After the effective date hereof, all references in the Loan Documents to the "Credit Agreement" shall be deemed to refer to the Credit Agreement as amended hereby, representing the entire expression of the parties with respect to the subject matter hereof on the date this Amendment is executed. The Credit Agreement, as amended hereby, may not be contradicted by evidence of prior, contemporaneous or subsequent oral agreements of the parties. There are no unwritten oral agreements between the parties. No modification, rescission, waiver, release or amendment of any provision of this Amendment shall be made, except by a written agreement signed by the Borrower and the Lender. 10 (c) This Amendment may be executed in any number of counterparts and by different parties hereto on separate counterparts, each complete set of which, when so executed and delivered by all parties, shall be an original, but all of such counterparts shall together constitute but one and the same instrument. (d) The execution of this Amendment shall not be deemed to be a waiver of any Default or Event of Default that may exist under the Credit Agreement or an Event of Default under the Servicing Agreement. (e) This Amendment shall be governed by the substantive laws (other than conflict laws) of the State of Minnesota. (f) Any provision of this Amendment held by a court of competent jurisdiction to be invalid or unenforceable shall not impair or invalidate the remainder of this Amendment or the Credit Agreement or the Servicing Agreement and the effect thereof shall be confined to the provisions so held to be invalid or unenforceable. (g) The headings, captions and arrangements used in this Amendment are for convenience only and shall not affect the interpretation of this Amendment. IN WITNESS WHEREOF, the parties hereto have caused this Amendment to be duly executed as of the day and year first above written. NCOP CAPITAL, INC. By: ____________________________ Name: _____________________ Title: _____________________ CFSC CAPITAL CORP. XXXIV By: ____________________________ Name: _____________________ Title: _____________________ 11 EX-10 4 ex10-3.txt EXHIBIT 10.3 EXHIBIT 10.3 AMENDED AND RESTATED EXCLUSIVITY AGREEMENT This Amended and Restated Exclusivity Agreement is made and entered into as of June 30, 2005, and amends and restates in its entirety that certain Letter Agreement dated August 19, 2002 (the "Original Agreement") by and between CFSC Capital Corp. XXXIV, a Delaware corporation ("Lender"), and NCOP Lakes, Inc., a Nevada corporation ("Lakes"), NCO Financial Systems, Inc., a Delaware corporation ("Servicer"), NCO Portfolio Management, Inc., a Delaware corporation ("Parent"), and NCO Group, Inc., a Pennsylvania corporation ("NCOG"). Also joining in this Agreement are NCOP Capital, Inc., a Nevada corporation ("NCOP Capital"), and NCOP Capital I, LLC, a Nevada limited liability company ("NCOP I"), which have previously acknowledged and agreed to be bound by the terms of the Original Agreement. Additional entities may join in this Amended and Restated Exclusivity Agreement as provided herein. Lender has from time to time entered into Credit Agreements (collectively, the "Credit Agreements") with Lakes, NCOP Capital and NCOP I (collectively, the "Borrowers"). Borrowers are wholly owned subsidiaries of Parent. Additional affiliates of Parent may enter into additional Credit Agreements in the future as contemplated hereby, each of which shall be considered a Credit Agreement for the purposes hereof. Affiliates of Lender (collectively the "Cargill Venturers") may enter into joint investment arrangements (to be negotiated consistent with the terms set forth on Exhibit A) (collectively "Joint Venture Agreements" or "Joint Ventures") with affiliates of Parent (collectively the "NCO Venturers") for the purpose of acquiring interests in certain classes of assets described in items 1, 3 and 4 on Exhibit A attached hereto. (The Credit Agreements and Joint Venture Agreements are collectively referred to herein as "Finance Agreements".) 1. In order to induce Lender and the Cargill Venturers to make loans under the Credit Agreements and investments under the Joint Venture Agreements and as a condition precedent to such loans and investments, the Borrowers, the Parent, the Servicer and NCOG (collectively, the Borrowers, the Parent, the Servicer and NCOG are herein called the "Grantors"), on behalf of themselves and on behalf of all parties, whether now existing or subsequently formed, including any existing or future NCO Venturers, which are related to, controlling, or controlled by, or under common control with any one or more of the Grantors (either through financial investment or management responsibility), or any member or equity holder of any Grantor which holds fifty percent (50%) or more of the membership or other equity interests in such Grantor (collectively, the "Affiliated Parties"), hereby grant to the Lender or the Cargill Venturers, pursuant to the terms and conditions of this Agreement, the exclusive right to finance (under the terms of the Credit Agreements) or joint venture (under the terms of the Joint Venture Agreements) debt obligations of the following classes (collectively, the "Obligations") to be acquired by any of the Grantors or any Affiliated Party at any time from and after the date hereof to and including June 30, 2009 or such later date as the parties hereto may subsequently designate in writing (the "Termination Date"). "Obligations" shall include portfolios of debt of the following types: (a) US-based consumer debt with a purchase price equal to or greater than $1,000,000. (b) Non- US-based consumer debt. (c) Portfolios of payments due for health-care goods or services. Notwithstanding anything to the contrary contained herein, the Grantors shall not be in violation of this Agreement as a result of maintaining, renewing or extending, or performing under, any existing joint venture arrangement between Marlin Integrated Holding Corporation or its affiliates and NCOG and its subsidiaries, including, without limitation, Inovision-Medclr NCOP Ventures, LLC, Inovision-Medclr-NCOP-NF, L.L.C., Inovision-Medclr-NCOP-F, L.L.C. and NCOP/Marlin, Inc., as such existing joint venture arrangements may be amended from time to time, provided that such existing joint venture arrangements are not amended to add new Obligations other than in a manner expressly permitted hereunder. 2. The Grantors agree, on behalf of themselves and on behalf of each Affiliated Party, that in the event any Grantor or any Affiliated Party desires to purchase any Obligations, such Grantor or such Affiliated Party, as applicable, shall not purchase such Obligations until the Lender or appropriate Cargill Venturer shall have been given the opportunity to exercise its exclusive right to finance or invest in the purchase of such Obligations pursuant to the terms of this Agreement and a Finance Agreement. Thereafter, the Financier (as defined below) shall accept or reject such Finance Request (as defined below) within 5 days in accordance with the provisions of the applicable Finance Agreement. Failure to accept such a request within 5 days in accordance with the provisions of the applicable Finance Agreement shall be deemed a rejection. The economic terms pertaining to advance rates, equity participations and residual sharing arrangements with respect to classes of transactions shall be as set forth on Exhibit A attached hereto; provided, however, that the Lender, or the appropriate Cargill Venturer, in its sole discretion, may agree to economic terms more favorable to the Grantor or the Affiliated Party on a transaction-by-transaction basis. 3. In the event that any of the Grantors or any Affiliated Party desires to purchase any Obligations, the Grantors shall cause the appropriate Borrower or NCO Venturer (a "Purchaser") that is the proposed Purchaser to provide to the Lender or the appropriate Cargill Venturer (a "Financier") with respect to such Obligations a request ("Finance Request") and a related bid package in accordance with the provisions of the applicable Finance Agreement. Thereafter, the Financier shall accept or reject such Finance Request within 5 days in accordance with the provisions of the applicable Finance Agreement. Failure to accept such a request within 5 days in accordance with the provisions of the applicable Finance Agreement shall be deemed a rejection. If the Financier accepts such Finance Request, in the case of a transaction subject to a Credit Agreement and the Borrower is the winning bidder and elects to close on the purchase, (i) the Borrower shall borrow thereunder in its own name and acquire the assets therein described in its own name or (ii) the Borrower shall request that the Lender enter into a new set of loan documents with a newly 2 created entity owned by the owners of the Borrower (herein, a "New Borrower"), on substantially the same terms and conditions as the loan documents contemplated by the existing Credit Agreement for NCOP Capital or hereby and, upon consummation of the execution and delivery of such new loan documents in form and content acceptable to the Lender (the "New Loan Documents"), satisfaction of all terms and conditions for borrowing thereunder, the Lender shall permit the New Borrower to satisfy the obligations of the Grantors hereunder with respect to such accepted Finance Request. (Upon entering into a Credit Agreement, a New Borrower shall join in this Agreement by executing and delivering to Lender a joinder agreement in the form of Exhibit B attached hereto.) The Grantors shall reimburse the Lender for all costs and expenses, including fees and disbursements of counsel to the Lender, incurred in connection with negotiation, preparation and delivery of the New Loan Documents, which amounts shall be due and payable upon demand of the Lender and shall not be paid from the proceeds of assets acquired. If the Financier accepts such Finance Request, in the case of a transaction subject to a Joint Venture arrangement and the Joint Venture is the winning bidder and elects to close on the purchase, (i) the appropriate Joint Venture shall acquire the assets therein described in its own name or (ii) affiliates of Lender and Parent shall enter into a new Joint Venture Agreement in order to form a newly created Joint Venture (herein, a "New Joint Venture"), on substantially the same terms and conditions contemplated by attached Exhibit A or otherwise hereby and, upon consummation of the execution and delivery of such new Joint Venture documents in form and content acceptable to the respective Joint Venturers (the "New Joint Venture Documents"), satisfaction of all terms and conditions for a purchase thereunder, the Cargill Venturer shall permit the New Joint Venturer to satisfy the obligations of the Grantors hereunder with respect to such accepted Finance Request. (Upon entering into a Joint Venture Agreement, a New Joint Venturer shall join in this Agreement by executing and delivering to Lender a joinder agreement in the form of Exhibit B attached hereto.) If the Financier rejects a Finance Request, thereafter any Grantor or any Affiliated Party (other than an existing Borrower or NCO Joint Venturer) may purchase such Obligations with its own funds, funds from the NCOG's credit facilities or may obtain financing to purchase such Obligations from another party, provided the economic terms of such requested financing are no more favorable to such other party than those permitted to be offered to the Financier pursuant to the Finance Request submitted to the Financier with respect to such Obligations. A purchase completed in accordance with the requirements of this paragraph shall be referred to as a "Complying Purchase." 4. In a circumstance where the Parent or an Affiliated Party (other than a Borrower or existing NCO Venturer) desires to purchase Obligations without first complying with the requirements for a Complying Purchase, such Parent or Affiliated Party, as applicable, may do so provided that it shall: (a) notify the appropriate Lender or Cargill Venturer in writing prior to such purchase, which notice shall include a description of the Obligations to be purchased and the purchase price and estimated purchase expenses for such Obligations; (b) purchase such Obligations pursuant to a purchase agreement (the "Purchase Agreement") that is fully assignable to the appropriate Borrower or NCO Venturer; 3 (c) immediately offer to assign all of such purchaser's, right, title and interest in and to such Obligations, the Purchase Agreement and any UCC-1 financing statement or other security received in connection therewith to the appropriate Purchaser pursuant to an assignment agreement (the "Assignment Agreement") under which the Parent or such Affiliated Party shall represent and warrant that (1) the Parent or Affiliated Party, as applicable, has not conducted any collection activities outside the ordinary course of business with respect to the Obligations purchased under the Purchase Agreement, and (2) any amount paid by the Purchaser to the Parent or Affiliated Party, as applicable, in connection with the execution and delivery of the Assignment Agreement contains no administrative expense or other fee in favor of the Parent or Affiliated Party, as applicable, and such amount does not, when aggregated with all amounts still owing to the seller under the Purchase Agreement, exceed the purchase price and estimated expenses set forth in the notice in (a) above; (d) cause a Purchaser or a New Borrower or New Joint Venture to comply with the requirements for a Complying Purchase above; (e) upon the receipt by a Purchaser or a New Borrower or New Joint Venture of an accepted Finance Request with respect thereto, properly execute and deliver the Assignment Agreement and all other documents required to properly assign all such purchaser's right, title and interest in and to (i) such Obligations free of all liens, claims or other encumbrances, (ii) the Purchase Agreement and (iii) any UCC-1 financing statement or other security received in connection therewith, in each case, to the applicable Purchaser, New Borrower or New Joint Venturer (it being understood and agreed that, in connection with any such transaction, the agreements shall provide that the Financier and each other applicable party receives all of the economic benefits to which it would have been entitled had the Obligations been initially acquired through a Complying Purchase); (f) at all times prior to the Financier's rejection of a Finance Request in accordance with the applicable Finance Agreement with respect thereto, treat such Obligations as held in trust for the applicable Purchaser and not as the Parent's or Affiliated Party's exclusive property, including, without limitation conducting no collection activities outside the ordinary course of business with respect thereto; Provided, that, any financing obtained by the Parent or Affiliated Party with respect to any Obligations purchased by the Parent or an Affiliated Party in connection with the above subparagraphs (a) through (f) subsequent to the Financier's rejection of a Finance Request submitted in connection therewith may not be requested on economic terms more favorable to the lender(s) than those permitted to be offered to the Financier pursuant to the Finance Request so rejected. 5. Notwithstanding anything to the contrary contained herein, this Agreement may be terminated by Grantors prior to the Termination Date if either: (a) all of the following conditions precedent shall have been satisfied: 4 (1) Not less than twenty-four (24) calendar months shall have elapsed since the date of this Agreement; (2) There shall have occurred, at any time after the date of this Agreement, a "change of control" which, for the purposes of this Agreement, means any event, circumstance or occurrence that results in a person or entity other than Michael J. Barrist or any affiliate of Michael J. Barrist owning more than fifty percent (50%) of the issued and outstanding equity interests in NCOG, its successors and assigns; (3) NCOG, its successors and assigns, shall have requested that the Lender or its affiliates terminate their agreements to consider making any future loans under any Credit Agreement or investments under any Joint Venture Agreement; (4) NCOG, its successors and assigns, shall have agreed to pay or cause the Borrowers and NCO Venturers to pay a termination fee (the "Termination Fee") equal to the product of (y) $250,000 and (z) the number of calendar months (or portion thereof) remaining between the effective date of any such termination and the Termination Date, which Termination Fee shall be secured by all collateral securing any obligations of any Borrower under any Credit Agreement and the NCO Venturers' interest in any assets of any Joint Venture and payable from (x) proceeds of such collateral which would otherwise be allocated to a Borrower under a Credit Agreement or an NCO Venturer under a Joint Venture Agreement, if available, or (y) other funds of the Borrowers, the NCO Venturers or NCOG; and (5) NCOG, its successors and assigns, and/or the Borrower(s) and NCO Venturers shall have executed and delivered to the Lender a promissory note or notes evidencing the obligation to pay the Termination Fee, which shall provide for monthly payments of $250,000 each, commencing on the first day of the first month following the effective date of any such termination and continuing thereafter until paid in full and each Borrower and NCO Venturer not joining in such note or notes shall have delivered to the Lender its irrevocable guaranty of payment of such promissory note(s), each in form and content acceptable to the Lender. Or (b) by June 30, 2006: (1) an affiliate of Borrower ("RMA Portfolio Buyer") has not consummated the purchase of certain portfolios (such portfolios, collectively, the "RMA Portfolio") owned by Risk Management Alternatives, Inc. ("RMA") or its affiliates, which RMA Portfolio is currently financed by Lender or an affiliate of Lender (for purposes hereof, "RMA Lender"), or (2) RMA Lender has not entered into that certain Consent and Acknowledgment among RMA Lender, RMA and Risk Management Alternatives Portfolio Services, LLC, in conjunction with the sale of the RMA Portfolio to the RMA Portfolio Buyer (the "Consent 5 and Acknowledgment"), which provides that the Contingent Payment (as defined in the Consent and Acknowledgment) payable to the RMA Lender as part of the Final Distribution (as defined in the Consent and Acknowledgment) shall be $4,000,000, or (3) Lender has not agreed to finance the purchase of the RMA Portfolio by the RMA Portfolio Buyer pursuant to the terms of the Credit Agreement with NCOP Capital as amended as the date hereof, in which case the Grantors may terminate this Agreement without owing any termination fee upon written notice to Lender (the date such notice is delivered to Lender, the "Early Termination Date"); provided, however, that: (1) the applicable Grantors set forth below shall pay to Lender, and the Lender shall pay to such Grantors, the amount of compensation lost by the other as a result of amendments to the Credit Agreements as contemplated hereby and by that certain letter agreement between Lender and NCO Financial Systems, Inc. dated June 30, 2005 (collectively, the "Amended Credit Agreements"), which compensation shall be payable on the Early Termination Date and calculated as follows: (i) NCO Financial Systems, Inc. shall pay to Lender $164,000 representing the amount paid by Lender to it pursuant to the referenced letter agreement; (ii) The Grantors shall pay to Lender an amount equal to the termination fee, if any, that would have been due Lender under the Original Agreement had this Agreement not replaced the Original Agreement; (iii) Each Borrower or Affiliated Party (as applicable) shall pay to Lender the amount of any residual payment Lender would have received with respect to all loans made by Lender to such Borrower or Affiliated Party from and after July 1, 2005 (collectively, the "Post-Amendment Loans") as if Lender's Contingent Payment Percentage had been thirty-five percent (35%), calculated through the Early Termination Date; (iv) Lender shall pay each Borrower's or Affiliated Party's (as applicable) equityholder an amount equal to the difference by which eighty percent (80%) of the Total Cost of each Asset Pool acquired with a Post-Amendment Loan exceeds the amount funded by Lender with regard to such Asset Pool (the "Funding Difference"); and (v) Lender shall pay each Borrower's or Affiliated Party's (as applicable) equityholder an amount equal to the interest that would have accrued on the Funding Difference with respect to each Asset Pool as if interest had accrued at the rates provided in the Credit Agreements as they existed prior to June 30, 2005 (the Base Rate plus three and a quarter percent (3.25%)) (the "Prior Rate"); and 6 (2) effective as of the Early Termination Date, (A) Lender shall recalculate and reset the outstanding principal balance of each Post-Amendment Loan by crediting all collections received with regard to such Post-Amendment Loan as if Lender had funded eighty percent (80%) and the applicable Borrower or Affiliated Party had funded twenty percent (20%) of the Total Costs of the related Asset Pool and interest on all such funding had accrued at the Prior Rate through the Early Termination Date (which recalculation and resetting will result in the outstanding principal balance of each Post-Amendment Loan being higher than it would have been had Lender and the applicable Borrower or Affiliated Party funded the respective percentages of the Total Cost of such Asset Pool set forth in the Amended Credit Agreements and accrued interest at the rate set forth therein), and (B) the terms of each Post-Amendment Loan shall be deemed amended during the remaining portion of the term of such Post-Amendment Loan such that the respective percentages of the Total Cost of such Asset Pool shall be as set forth in clause (A) above and such that (y) the interest rate applicable to such Post-Amendment Loan shall be the Prior Rate, and (z) the Contingent Payment Percentage applicable to such Post-Amendment Loan shall be thirty-five percent (35%). The parties acknowledge and agree that the purpose of the preceding paragraph 5(b) is to compensate each party upon termination of this Agreement in a manner in which such party would have been compensated had the Amended Credit Agreements never taken effect and, accordingly, the parties agree that if, due to circumstances not reasonably anticipated by a party as of the date hereof, the operation of paragraph 5(b) fails to so compensate a party, the parties shall negotiate in good faith with the goal of providing such compensation to such party, provided that nothing contained in this paragraph shall impair or otherwise limit the right of the Grantors to effect a termination of this Agreement so long as the Grantors make the payments to Lender described in paragraph 5(b) (which payments may be made without prejudicing the rights of the Grantors under this paragraph). 6. The Grantors, by signing below, hereby acknowledge and agree that any failure by the Grantors or any Affiliated Party (including future parties to this Agreement) to comply with the terms and conditions of this Agreement shall constitute an event of default under all Finance Agreements. The Lender and the Cargill Venturers shall be entitled to seek relief pursuant to the Finance Agreements and shall be entitled to independently seek relief for damages under this Agreement, either in equity or at law, against any Grantor, or all Grantors; provided, however, that the Lender and Cargill Venturers shall not seek money damages against any Grantor if such Grantor (i) has not breached a covenant or agreement under this Agreement, and (ii) is not an Affiliated Party of the party which has breached such covenant or agreement. Each party (for itself and its affiliates) hereby waives any right to claim or recover any special, exemplary, punitive or consequential damages or any damages other than, or in addition to, actual damages. 7 7. The parties acknowledge that they intend to promptly enter into amendments to certain of their existing agreements, and to enter into certain new agreements in connection with new purchases of Obligations (including, without limitation, agreements to form and fund new Joint Ventures), which amendments and new agreements will be consistent with the terms and provisions of this Agreement and the other amendments and side letters entered into on this date. The parties agree to negotiate all such amendments and new agreements in good faith and to promptly enter into amendments to the Credit Agreements for Lakes and NCOP I, which amendments will contain modifications conforming the relevant provisions thereof to the modifications contained in the amendment to the Credit Agreement for NCOP Capital entered into on this date. 8. This Agreement shall be governed by, and construed in accordance with, the laws of the State of Minnesota. This Agreement may be executed in any number of counterparts, each of which when so executed and delivered shall be deemed to be an original and all of which counterparts taken together, shall constitute but one and the same instrument. This Agreement shall be binding upon the Grantors and their respective representatives, successors and assigns. [Signature page follows] 8 By signing this Agreement below, the signatories agree to be bound by its terms and conditions as of the date first written above. Very truly yours, NCOP LAKES, INC. NCO FINANCIAL SYSTEMS, INC. By_____________________________________________ By__________________________ Its__________________________________________ Its_______________________ NCO PORTFOLIO MANAGEMENT, INC. NCO GROUP, INC. By_____________________________________________ By__________________________ Its__________________________________________ Its_______________________ NCOP CAPITAL, INC. NCOP CAPITAL I, LLC. By_____________________________________________ By__________________________ Its__________________________________________ Its_______________________ Accepted and agreed to as of June 30, 2005. CFSC CAPITAL CORP. XXXIV By_____________________________________________ Its__________________________________________ Signature Page to Exclusivity Agreement 9 EX-10 5 ex10-4.txt EXHIBIT 10.4 EXHIBIT 10.4 Note: This Form can be used for Incentive Stock Options ("ISOs") and Non-Qualified Stock Options ("NQSO's") by use of the applicable provisions indicated below. [INCENTIVE STOCK OPTION] [NON-QUALIFIED STOCK OPTION] To: ------------------------------------------------------------- Name ------------------------------------------------------------- Address ------------------------------------------------------------- Social Security Number Date of Grant: ------------------------------------------------------------- You are hereby granted an option, effective as of the date hereof, to purchase ____shares of common stock, no par value ("Common Stock"), of NCO Group, Inc., a Pennsylvania corporation (the "Company") at a price of $_____share pursuant to the Company's 2004 Equity Incentive Plan (the "Plan"). All capitalized terms that are used and not defined herein shall have the respective meanings given to them in the Plan. [Note: Vesting schedule, if any, is at the discretion of the Committee][Your option may first be exercised on and after one year from the date of grant, but not before that time. On and after one year and prior to two years from the date of grant, your option may be exercised for up to [ ]% of the total number of shares subject to the option minus the number of shares previously purchased by exercise of the option (as adjusted for any change in the outstanding shares of the Common Stock of the Company by reason of a stock dividend, stock split, combination of shares, recapitalization, merger, consolidation, transfer of assets, reorganization, conversion or what the Committee deems in its sole discretion to be similar circumstances). Each succeeding year thereafter, your option may be exercised for up to an additional [ ]% of the total number of shares subject to the option minus the number of shares previously purchased by exercise of the option (as adjusted for any change in the outstanding shares of the Common Stock of the Company by reason of a stock dividend, stock split, combination of shares, recapitalization, merger, consolidation, transfer of assets, reorganization, conversion or what the Committee deems in its sole discretion to be similar circumstances). Thus, this option is fully exercisable on and after [ ] years after the date of grant, except if terminated earlier as provided herein. No fractional shares shall be issued or delivered.] This option shall terminate and is not exercisable after ten years from the date of its grant (the "Scheduled Termination Date"), except if terminated earlier as hereafter provided. In the event of a "Change in Control" (as defined in the Plan) of the Company, your option may, from and after the date of the Change in Control (but in no event later than the Scheduled Termination Date), and notwithstanding the immediately preceding paragraph, be exercised for up to 100% of the total number of shares then subject to the option minus the number of shares previously purchased upon exercise of the option (as adjusted for stock dividends, stock splits, combinations of shares and what the Committee deems in its sole discretion to be similar circumstances), except as provided in the Plan. You may exercise your option by giving written notice to the Secretary of the Company on forms supplied by the Company at its then principal executive office, accompanied by payment of the option price for the total number of shares you specify that you wish to purchase. The payment may be in any of the following forms: (i) cash or by check (acceptable to the Company in accordance with guidelines established for this purpose), bank draft or money order payable to the order of the Company, (ii) unless prohibited by the Committee (A) through the delivery of shares of Common Stock which have been outstanding for at least six months (unless the Committee expressly approves a shorter period) and which have a fair market value on the date of exercise at least equal to the exercise price, or (B) by delivery of an unconditional and irrevocable undertaking by a broker to deliver promptly to the Company sufficient funds to pay the exercise price (including in connection with a so-called "cashless exercise" effected by such broker), or (iii) by any combination of the permissible forms of payment. Any assignment of stock shall be in a form and substance satisfactory to the Secretary of the Company, including guarantees of signature(s) and payment of all transfer taxes if the Secretary deems such guarantees necessary or desirable. Your option will, to the extent not previously exercised by you, terminate three months after the date on which your employment by the Company or a Company subsidiary corporation is terminated (whether such termination be voluntary or involuntary) other than by reason of permanent and total disability as defined in Section 22(e)(3) of the Internal Revenue Code of 1986, as amended (the "Code"), and the regulations thereunder ("Disability"), or death, in which case your option will terminate one year from the date of termination of employment due to Disability or death (but in no event later than the Scheduled Termination Date). After the date your employment is terminated, as aforesaid, you may exercise this option only for the number of shares which you had a right to purchase and did not purchase on the date your employment terminated; provided, however, that if the termination of employment was due to death or Disability, all unexercised options at the time of such termination due to death or Disability shall automatically become exercisable in full. If you are employed by a Company subsidiary corporation, your employment shall be deemed to have terminated on the date your employer ceases to be a Company subsidiary corporation, unless you are on that date transferred to the Company or another Company subsidiary corporation. Your employment shall not be deemed to have terminated if you are transferred from the Company to a Company subsidiary corporation, or vice versa, or from one Company subsidiary corporation to another Company subsidiary corporation. In addition, in the sole discretion of the Committee or, if you are not an executive officer of the Corporation, in the discretion of the Chief Executive Officer of the Corporation, your employment shall not be deemed to have terminated for the purpose of this Option if, on the date that your employment with the Company terminates, you have a directorship, consulting, service or other relationship with the Company that would otherwise 2 permit you to receive an Award under the Plan. Such determination shall be made by the Committee or the Chief Executive Officer, as the case may be, not later than thirty days from the date of actual termination of employment, and you shall have thirty days to accept such offer; [ADD IF ISO: provided, however, if you accept such offer, this option may no longer be an incentive stock option if not exercised within ninety days from the date of actual termination of employment]. If you die while employed by the Company or a Company subsidiary corporation, your executor or administrator, as the case may be, may, at any time within one year after the date of your death (but in no event later than the Scheduled Termination Date), exercise the option as to all unexercised shares then represented by the option. If your employment with the Company or a Company parent or subsidiary corporation is terminated by reason of your becoming disabled (within the meaning of Section 22(e)(3) of the Code and the regulations thereunder), you or your legal guardian or custodian may at any time within one year after the date of such termination (but in no event later than the Scheduled Termination Date), exercise the option as to all unexercised shares then represented by the option. Your executor, administrator, guardian or custodian must present proof of his authority satisfactory to the Company prior to being allowed to exercise this option. Notwithstanding any other provision of the Option, the Committee (or, if you are not an executive officer of the Corporation, the Chief Executive Officer of the Corporation) shall have the right to cancel this Option without notice if: (a) your employment is terminated for: (i) criminal conduct; (ii) willful misconduct or gross negligence materially detrimental to the Company; or (iii) conduct constituting "Cause" as defined in the Plan; or (b) regardless of whether your employment is continuing or has been terminated, you are in breach of or violate, in a material way, any obligation to, covenant or agreement with or policy of the Company to which you may be a party or by which you may be bound or subject, as the case may be, including without limitation any employment agreement, termination agreement, confidentiality agreement, non-solicitation agreement or non-competition agreement. All determinations and findings with respect to the cancellation of the Option shall be made by the Compensation Committee in its sole and absolute discretion (except that, if you are not an executive officer of the Corporation, such determinations and findings may be made by the Chief Executive Officer of the Corporation). In the event of any change in the outstanding shares of the Common Stock of the Company by reason of a stock dividend, stock split, combination of shares, recapitalization, merger, consolidation, transfer of assets, reorganization, conversion or what the Committee deems in its sole discretion to be similar circumstances, the number and kind of shares and/or other property subject to this option and the option price of such shares and/or other property shall be appropriately adjusted in a manner to be determined in the sole discretion of the Committee. This option is not transferable otherwise than by will or the laws of descent and distribution, and is exercisable during your lifetime only by you, including, for this purpose, your legal guardian or custodian in the event of Disability. Until the option price has been paid in full pursuant to due exercise of this option and the purchased shares are delivered to you, you do not have any rights as a shareholder of the Company. The Company reserves the right not to deliver to you the shares purchased by virtue of the exercise of this option during any period of time in which the Company deems, in its sole 3 discretion, that such delivery would violate a federal state, local or securities exchange rule, regulation or law. Notwithstanding anything to the contrary contained herein, this option is not exercisable until all the following events occur and during the following periods of time: (a) Until the Plan pursuant to which this option is granted is approved by the shareholders of the Company in the manner prescribed by the Code and the regulations thereunder; (b) Until this option and the optioned shares are approved and/or registered with such federal, state and local regulatory bodies or agencies and securities exchanges as the Company may deem necessary or desirable; or (c) During any period of time in which the Company deems that the exercisability of this option, the offer to sell the shares optioned hereunder, or the sale thereof, may violate a federal, state, local or securities exchange rule, regulation or law, or may cause the Company to be legally obligated to issue or sell more shares than the Company is legally entitled to issue or sell. (d) Until you have paid or made suitable arrangements to pay (which may include payment through the surrender of Common Stock, unless prohibited by the Committee) (i) all federal, state and local income tax withholding required to be withheld by the Company in connection with the option exercise and (ii) the employee's portion or other federal, state and local payroll and other taxes due in connection with the option exercise. The following two paragraphs shall be applicable if, on the date of exercise of this option, the Common Stock to be purchased pursuant to such exercise has not been registered under the Securities Act of 1933, as amended, and under applicable state securities laws, and shall continue to be applicable for so long as such registration has not occurred: (a) The optionee hereby agrees, warrants and represents that he will acquire the Common Stock to be issued hereunder for his own account for investment purposes only, and not with a view to, or in connection with, any resale or other distribution of any of such shares, except as hereafter permitted. The optionee further agrees that he will not at any time make any offer, sale, transfer, pledge or other disposition of such Common Stock to be issued hereunder without an effective registration statement under the Securities Act of 1933, as amended, and under any applicable state securities laws or an opinion of counsel acceptable tot he Company to the effect that the proposed transaction will be exempt from such registration. The optionee shall execute such instruments, representations acknowledgements and agreements as the Company may, in its sole discretion, deem advisable to avoid any violation of federal state, local or securities exchange rule, regulation or law. (b) The certificates for Common Stock to be issued to the optionee hereunder shall bear the following legend: 4 "The shares represented by this certificate have not been registered under the Securities Act of 1933, as amended, or under applicable state securities laws. The shares have been acquired for investment and may not be offered, sold, transferred, pledged or otherwise disposed of without an effective registration statement under the Securities Act of 1933, as amended, and under any applicable state securities laws or an opinion of counsel acceptable to the Company that the proposed transaction will be exempt from such registration. The foregoing legend shall be removed upon registration of the legended shares under the Securities Act of 1933, as amended, and under any applicable state laws or upon receipt of any opinion of counsel acceptable to the Company that said registration is no longer required. The sole purpose of the agreements, warranties, representations and legend set forth in the two immediately preceding paragraphs is to prevent violations of the Securities Act of 1933, as amended, and any applicable state securities laws. [ADD IF ISO: It is the intention of the Company and you that this option shall, if possible, be an "Incentive Stock Option" as that term is used in Section 422(b) of the Code and the regulations thereunder. In the event this option is in any way inconsistent with the legal requirements of the Code or the regulations thereunder for an "Incentive Stock Option," this option shall be deemed automatically amended as of the date hereof to conform to such legal requirements, if such conformity may be achieved by amendment; provided, however, that no such amendment shall adversely affect your rights hereunder without your written consent. You understand and agree that to the extent that the aggregate fair market value (determined at the time the option is granted) of the shares subject to this option, together with all other incentive stock options to purchase shares of Common Stock held by you, which are exercisable for the first time in any calendar year (including options that become exercisable as a result of a Change in Control, death or Disability) exceed the $100,000 limitation contained in Section 422(d) of the Code, this option will not be considered an Incentive Stock Option with respect to such number of shares in excess of such limitation.] [ADD IF NQSO: It is the intention of the Company and you that this option shall not be an "Incentive Stock Option" as that term is used in Section 422(b) of the Code and the regulations thereunder.] NOTHING HEREIN SHALL MODIFY YOUR STATUS AS AN AT-WILL EMPLOYEE OF THE COMPANY. FURTHER, NOTHING HEREIN GUARANTEES YOU EMPLOYMENT FOR ANY SPECIFIED PERIOD OF TIME. THIS MEANS THAT EITHER YOU OR THE COMPANY MAY TERMINATE YOUR EMPLOYMENT AT ANY TIME FOR ANY REASON, OR NO REASON. YOU RECOGNIZE THAT, FOR INSTANCE, YOU MAY TERMINATE YOUR EMPLOYMENT OR THE COMPANY MAY TERMINATE YOUR EMPLOYMENT PRIOR TO THE DATE ON WHICH YOUR OPTION BECOMES VESTED. ANY DISPUTE OR DISAGREEMENT BETWEEN YOU AND THE COMPANY WITH RESPECT TO ANY PORTION OF THIS OPTION OR ITS VALIDITY, CONSTRUCTION, MEANING, PERFORMANCE OR YOUR RIGHTS HEREUNDER SHALL, AT THE OPTION OF THE COMPANY, BE SETTLED BY ARBITRATION IN ACCORDANCE WITH THE COMMERCIAL ARBITRATION RULES OF THE AMERICAN ARBITRATION ASSOCIATION OR ITS SUCCESSOR, AS AMENDED FROM TIME TO TIME. HOWEVER, 5 PRIOR TO SUBMISSION TO ARBITRATION YOU WILL ATTEMPT TO RESOLVE ANY DISPUTES OR DISAGREEMENTS WITH THE COMPANY OVER THIS OPTION AMICABLY AND INFORMALLY, IN GOOD FAITH, FOR A PERIOD NOT TO EXCEED TWO WEEKS. THEREAFTER, THE DISPUTE OR DISAGREEMENT WILL BE SUBMITTED TO ARBITRATION AT THE OPTION OF THE COMPANY. AT ANY TIME PRIOR TO A DECISION FROM THE ARBITRATOR(S) BEING RENDERED, YOU AND THE COMPANY MAY RESOLVE THE DISPUTE BY SETTLEMENT. YOU AND THE COMPANY SHALL EQUALLY SHARE THE COSTS CHARGED BY THE AMERICAN ARBITRATION ASSOCIATION OR ITS SUCCESSOR, BUT YOU AND THE COMPANY SHALL OTHERWISE BE SOLELY RESPONSIBLE FOR YOUR OWN RESPECTIVE COUNSEL FEES AND EXPENSES. THE DECISION OF THE ARBITRATOR(S) SHALL BE MADE IN WRITING, SETTING FORTH THE AWARD, THE REASONS FOR THE DECISION AND AWARD AND SHALL BE BINDING AND CONCLUSIVE ON YOU AND THE COMPANY. FURTHER, NEITHER YOU NOR THE COMPANY SHALL APPEAL ANY SUCH AWARD. JUDGMENT OF A COURT OF COMPETENT JURISDICTION MAY BE ENTERED UPON THE AWARD AND MAY BE ENFORCED AS SUCH IN ACCORDANCE WITH THE PROVISIONS OF THE AWARD. This option shall be subject to the terms of the Plan in effect on the date this option is granted, which terms are hereby incorporated herein by reference and made a part hereof. In the event of any conflict between the terms of this option and the terms of the Plan in effect on the date of this option, the terms of the Plan shall govern. This option constitutes the entire understanding between the Company and you with respect to the subject matter hereof and no amendment, supplement or waiver of this option, in whole or in part, shall be binding upon the Company unless in writing and signed by the President of the Company. This option and the performances of the parties hereunder shall be construed in accordance with and governed by the laws of the State of Pennsylvania. Please sign the copy of this option and return it to the Company's Secretary, thereby indicating your understanding of and agreement with its terms and conditions. NCO GROUP, INC. By: ------------------------------------------- Michael J. Barrist Chairman & Chief Executive Officer Date of Grant: -------------------------------------------- Options Granted: shares @ -------------------------------------------- 6 ACKNOWLEDGEMENT AND ELECTRONIC DELIVERY CONSENT I hereby acknowledge receipt of a copy of the foregoing stock option and of the Plan as of the date of grant set forth above, hereby acknowledge that this stock option grant discharges any promise (either verbal or written) of the Company made on or prior to the date of grant to give me a stock option, and, having read it, hereby signify my understanding of, and my agreement with, its terms and conditions. In consideration of the grant, I hereby release any claim I may have against the Company with respect to any promise of a stock option grant or other equity interest in the Company. By signing and returning this form, I also consent to receiving the Section 10(a) prospectus to the Plan and any amendments or supplements thereto and any documents required to be delivered therewith, including a copy of the Company's Form 10-K or Annual Report to Shareholders commencing with the fiscal year ended December 31, 2003, by email at the email address maintained for me by the Company as set forth below. I further acknowledge that I may revoke this consent in whole by providing written notice to: _______________________________________________________________________________ _________________________________________________ _________________________ Signature of Employee (Date) _________________________________________________ Name of Employee (Printed) _________________________________________________ Social Security Number Email Address:___________________________________ 7 EX-10 6 ex10-5.txt EXHIBIT 10.5 EXHIBIT 10.5 NON-QUALIFIED STOCK OPTION FOR NON-EMPLOYEE DIRECTORS PURSUANT TO 2004 EQUITY INCENTIVE PLAN To: ----------------------------------------------------------------- Name ----------------------------------------------------------------- Address Date of Grant: ----------------------------------------------------------------- You are hereby granted an option, effective as of the date hereof, to purchase _____ shares of common stock, no par value per share ("Common Stock"), of NCO Group, Inc., a Pennsylvania corporation (the "Company"), at a price of $_____ per share pursuant to the Company's 2004 Equity Incentive Plan (the "Plan"). All capitalized terms that are used and not defined herein shall have the respective meanings given to them in the Plan. Your option may first be exercised on and after the earlier to occur of (i) one year from the date of its grant or (ii) a "Change in Control" (as defined in the Plan) of the Company, but not before that time. On and after the earlier to occur of (i) one year from the date your option is granted or (ii) a Change in Control of the Company, and prior to ten years from the date of its grant, your option may be exercised in whole, or from time to time in part, for up to the total whole number of shares then subject to the option minus the number of shares previously purchased by exercise of the option (as appropriately adjusted for stock dividends, stock splits and what the Board of Directors of the Company deems in its sole discretion to be similar circumstances), except as provided in the Plan. No fractional shares shall be issued or delivered. This option shall terminate and is not exercisable after the expiration of ten years from the date of its grant, except if terminated earlier as hereafter provided. You may exercise your option by giving written notice to the Secretary of the Company on forms supplied by the Company at its then principal executive office, accompanied by payment of the option price for the total number of shares you specify that you wish to purchase. The payment may be in any of the following forms: (i) cash or by check (acceptable to the Company in accordance with guidelines established for this purpose), bank draft or money order payable to the order of the Company, (ii) unless prohibited by the Committee (A) through the delivery of shares of Common Stock which have been outstanding for at least six months (unless the Committee expressly approves a shorter period) and which 1 have a fair market value on the date of exercise at least equal to the exercise price, or (B) by delivery of an unconditional and irrevocable undertaking by a broker to deliver promptly to the Company sufficient funds to pay the exercise price (including in connection with a so-called "cashless exercise" effected by such broker), or (iii) by any combination of the permissible forms of payment. Any assignment of stock shall be in a form and substance satisfactory to the Secretary of the Company, including guarantees of signature(s) and payment of all transfer taxes if the Secretary deems such guarantees necessary or desirable. Your option will, to the extent not previously exercised by you, terminate three months after the date on which you cease to be a director of the Company or a subsidiary corporation (whether by resignation, removal, failure to be reelected or otherwise and regardless of whether the failure to continue as a director was for cause or otherwise), but in no event later than ten years from the date this option is granted. After the date you cease to be a director, you may exercise this option only for the number of shares which you had a right to purchase and did not purchase on the date you ceased to be a director. If you are a director of a subsidiary corporation, your directorship shall be deemed to have terminated on the date such company ceases to be a subsidiary corporation, unless you are also a director of the Company or another subsidiary corporation, or on that date became a director of the Company or another subsidiary corporation. Your directorship shall not be deemed to have terminated if you cease being a director of the Company or a subsidiary corporation but are or concurrently therewith become a director or employee of the Company or another subsidiary corporation. Your option will, to the extent not previously exercised by you, terminate twelve months after the date on which you cease to be a director of the Company or a subsidiary corporation due to death or Disability (as defined in the Plan) (but in no event later than ten years from the date this option is granted). All unexercised options held by you at the time of such termination due to death or Disability shall automatically become exercisable in full. In the event of your death, your executor or administrator, as the case may be, may exercise this option as to all unexercised shares then represented by this option. In the event of your Disability, you or your legal guardian or custodian may exercise this option as to all unexercised shares then represented by this option. Your executor, administrator, guardian or custodian must present proof of his authority satisfactory to the Company prior to being allowed to exercise this option. Notwithstanding any other provision of the Option, the Committee shall have the right to cancel this Option without notice (a) if your directorship is terminated for: (i) criminal conduct; (ii) willful misconduct or gross negligence materially detrimental to the Company; or (iii) conduct constituting "Cause" as defined in the Plan; or (b) regardless of whether your directorship is continuing or has been terminated, you are in breach of or violate, in a material way, any obligation to, covenant or agreement with or policy of the Company to which you may be a party or by which you may be bound or subject, as the case may be, including without limitation any employment agreement, termination agreement, confidentiality agreement, non-solicitation agreement or non-competition agreement. All determinations and findings with respect to the cancellation of the Option shall be made by the Compensation Committee in its sole and absolute discretion. 2 In the event of any change in the outstanding shares of the Common Stock of the Company by reason of a stock dividend, stock split, combination of shares, recapitalization, merger, consolidation, transfer of assets, reorganization, conversion or what the Committee deems in its sole discretion to be similar circumstances, the number and kind of shares and/or other property subject to this option and the option price of such shares and/or other property shall be appropriately adjusted in a manner to be determined in the sole discretion of the Committee. This option is not transferable otherwise than by will or the laws of descent and distribution, and is exercisable during your lifetime only by you, including, for this purpose, your legal guardian or custodian in the event of disability. Until the option price has been paid in full pursuant to due exercise of this option and the purchased shares are delivered to you, you do not have any rights as a shareholder of the Company. The Company reserves the right not to deliver to you the shares purchased by virtue of exercise of this option during any period of time in which the Company deems, in its sole discretion, that such delivery may not be consummated without violating a federal, state, local or securities exchange rule, regulation or law. Notwithstanding anything to the contrary contained herein, this option is not exercisable until all the following events occur and during the following periods of time: (a) Until the Plan is approved by the shareholders; (b) Until this option and the optioned shares are approved and/or registered with such federal, state and local regulatory bodies or agencies and securities exchanges as the Company may deem necessary or desirable; (c) During any period of time in which the Company deems that the exercisability of this option, the offer to sell the shares optioned hereunder, or the sale thereof, may violate a federal, state, local or securities exchange rule, regulation or law, or may cause the Company to be legally obligated to issue or sell more shares than the Company is legally entitled to issue; or (d) Until you have paid or made suitable arrangements to pay (which may include payment through the surrender of Common Stock, unless prohibited by the Committee) (i) all federal, state and local income tax withholding required to be withheld by the Company in connection with the option exercise and (ii) your portion of other federal, state and local payroll and other taxes due in connection with the option exercise. The following two paragraphs shall be applicable if, on the date of exercise of this option, the Common Stock to be purchased pursuant to such exercise has not been registered under the Securities Act of 1933, as amended, and under applicable state securities laws, and shall continue to be applicable for so long as such registration has not occurred: (a) The optionee hereby agrees, warrants and represents that he will acquire the Common Stock to be issued hereunder for his own account for 3 investment purposes only, and not with a view to, or in connection with, any resale or other distribution of any of such shares, except as hereafter permitted. The optionee further agrees that he will not at any time make any offer, sale, transfer, pledge or other disposition of such Common Stock to be issued hereunder without an effective registration statement under the Securities Act of 1933, as amended, and under any applicable state securities laws or an opinion of counsel acceptable to the Company to the effect that the proposed transaction will be exempt from such registration. The optionee shall execute such instruments, representations, acknowledgements and agreements as the Company may, in its sole discretion, deem advisable to avoid any violation of federal, state, local or securities exchange rule, regulation or law. (b) The certificates for Common Stock to be issued to the optionee hereunder shall bear the following legend: "The shares represented by this certificate have not been registered under the Securities Act of 1933, as amended, or under applicable state securities laws. The shares have been acquired for investment and may not be offered, sold, transferred, pledged or otherwise disposed of without an effective registration statement under the Securities Act of 1933, as amended, and under any applicable state securities laws or an opinion of counsel acceptable to the Company that the proposed transaction will be exempt from such registration." The foregoing legend shall be removed upon registration of the legended shares under the Securities Act of 1933, as amended, and under any applicable state laws or upon receipt of any opinion of counsel acceptable to the Company that said registration is no longer required. The sole purpose of the agreements, warranties, representations and legend set forth in the two immediately preceding paragraphs is to prevent violations of the Securities Act of 1933, as amended, and any applicable state securities laws. It is the intention of the Company and you that this option shall not be an "Incentive Stock Option" as that term is used in Section 422(b) of the Code and the regulations thereunder. ANY DISPUTE OR DISAGREEMENT BETWEEN YOU AND THE COMPANY WITH RESPECT TO ANY PORTION OF THIS OPTION OR ITS VALIDITY, CONSTRUCTION, MEANING, PERFORMANCE OR YOUR RIGHTS HEREUNDER SHALL, AT THE OPTION OF THE COMPANY, BE SETTLED BY ARBITRATION IN ACCORDANCE WITH THE COMMERCIAL ARBITRATION RULES OF THE AMERICAN ARBITRATION ASSOCIATION OR ITS SUCCESSOR, AS AMENDED FROM TIME TO TIME. HOWEVER, PRIOR TO SUBMISSION TO ARBITRATION YOU WILL ATTEMPT TO RESOLVE ANY DISPUTES OR DISAGREEMENTS WITH THE COMPANY OVER THIS OPTION AMICABLY AND INFORMALLY, IN GOOD FAITH, FOR A PERIOD NOT TO EXCEED TWO WEEKS. THEREAFTER, THE DISPUTE OR DISAGREEMENT WILL BE SUBMITTED TO ARBITRATION AT THE OPTION OF THE COMPANY. AT ANY TIME PRIOR TO A DECISION FROM THE ARBITRATOR(S) BEING RENDERED, YOU AND THE COMPANY MAY RESOLVE THE DISPUTE BY SETTLEMENT. YOU AND THE COMPANY SHALL EQUALLY SHARE THE COSTS CHARGED BY THE AMERICAN ARBITRATION ASSOCIATION OR ITS SUCCESSOR, BUT YOU AND THE COMPANY SHALL OTHERWISE BE SOLELY RESPONSIBLE FOR 4 YOUR OWN RESPECTIVE COUNSEL FEES AND EXPENSES. THE DECISION OF THE ARBITRATOR(S) SHALL BE MADE IN WRITING, SETTING FORTH THE AWARD, THE REASONS FOR THE DECISION AND AWARD AND SHALL BE BINDING AND CONCLUSIVE ON YOU AND THE COMPANY. FURTHER, NEITHER YOU NOR THE COMPANY SHALL APPEAL ANY SUCH AWARD. JUDGMENT OF A COURT OF COMPETENT JURISDICTION MAY BE ENTERED UPON THE AWARD AND MAY BE ENFORCED AS SUCH IN ACCORDANCE WITH THE PROVISIONS OF THE AWARD. This option shall be subject to the terms of the Plan in effect on the date this option is granted, which terms are hereby incorporated herein by reference and made a part hereof. In the event of any conflict between the terms of this option and the terms of the Plan in effect on the date of this option, the terms of the Plan shall govern. This option constitutes the entire understanding between the Company and you with respect to the subject matter hereof and no amendment, supplement or waiver of this option, in whole or in part, shall be binding upon the Company unless in writing and signed by the President of the Company. This option and the performances of the parties hereunder shall be construed in accordance with and governed by the laws of the Commonwealth of Pennsylvania. Please sign the copy of this option and return it to the Company's Secretary, thereby indicating your understanding of and agreement with its terms and conditions. NCO GROUP, INC. By: /s/ Michael J. Barrist ---------------------------------------- Michael J. Barrist Chairman & Chief Executive Officer Date of Grant: -------------------------------------------- Options Granted: shares @ $ -------------------------------------------- 5 ACKNOWLEDGEMENT AND ELECTRONIC DELIVERY CONSENT I hereby acknowledge receipt of a copy of the foregoing stock option and of the Plan as of the date of grant set forth above, hereby acknowledge that this stock option grant discharges any promise (either verbal or written) of the Company made on or prior to the date of grant to give me a stock option, and, having read it, hereby signify my understanding of, and my agreement with, its terms and conditions. In consideration of the grant, I hereby release any claim I may have against the Company with respect to any promise of a stock option grant or other equity interest in the Company. By signing and returning this form, I also consent to receiving the Section 10(a) prospectus to the Plan and any amendments or supplements thereto and any documents required to be delivered therewith, including a copy of the Company's Form 10-K or Annual Report to Shareholders commencing with the fiscal year ended December 31, 2004, by email at the email address maintained for me by the Company as set forth below. I further acknowledge that I may revoke this consent in whole by providing written notice to: _______________________________________________________________________________ __________________________________________ _____________________________ Signature of Director (Date) __________________________________________ Name of Director (Printed) __________________________________________ Social Security Number Email Address:____________________________ (Print Name) 6 EX-31.1 7 ex31-1.txt EXHIBIT 31.1 EXHIBIT 31.1 CERTIFICATION I, Michael J. Barrist, Chief Executive Officer of NCO Group, Inc., certify that: 1. I have reviewed this quarterly report on Form 10-Q of NCO Group, Inc.; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have: a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles; c) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and d) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions): a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: November 9, 2005 /s/ Michael J. Barrist ------------------------ Michael J. Barrist Chief Executive Officer (Principal Executive Officer) EX-31.2 8 ex31-2.txt EXHIBIT 31.2 EXHIBIT 31.2 CERTIFICATION I, Steven L. Winokur, Chief Financial Officer of NCO Group, Inc., certify that: 1. I have reviewed this quarterly report on Form 10-Q of NCO Group, Inc.; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have: a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles; c) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and d) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions): a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: November 9, 2005 /s/ Steven L. Winokur ------------------------ Steven L. Winokur Chief Financial Officer (Principal Financial Officer) EX-32.1 9 ex32-1.txt EXHIBIT 32.1 EXHIBIT 32.1 CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (Section 1350 of Chapter 63 of Title 18 of the United States Code), each of the undersigned officers of NCO Group, Inc. (the "Company") does hereby certify with respect to the Quarterly Report of the Company on Form 10-Q for the quarterly period ended September 30, 2005 (the "Report") that: (1) The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and (2) The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company. Date: November 9, 2005 /s/ Michael J. Barrist ---------------- ----------------------------------- Michael J. Barrist Chief Executive Officer Date: November 9, 2005 /s/ Steven L. Winokur ---------------- ----------------------------------- Steven L. Winokur Chief Financial Officer The foregoing certification is being furnished solely pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (Section 1350 of Chapter 63 of Title 18 of the United States Code) and is not being filed as part of the Report or as a separate disclosure document. -----END PRIVACY-ENHANCED MESSAGE-----