S-4 1 d529167ds4.htm FORM S-4 FORM S-4
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As filed with the Securities and Exchange Commission on May 31, 2013

Registration No. 333-             

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

Form S-4

REGISTRATION STATEMENT

UNDER

THE SECURITIES ACT OF 1933

 

 

DriveTime Automotive Group, Inc.

(Exact name of registrant as specified in its charter)

 

 

 

Delaware   5500   86-0721358

(State or other jurisdiction of

incorporation or organization)

 

(Primary Standard Industrial

Classification Code Number)

 

(I.R.S. Employer

Identification Number)

DT Acceptance Corporation

(Exact name of registrant as specified in its charter)

 

 

 

Arizona   5500   82-0587346

(State or other jurisdiction of

incorporation or organization)

 

(Primary Standard Industrial

Classification Code Number)

 

(I.R.S. Employer

Identification Number)

 

 

4020 East Indian School Road

Phoenix, Arizona 85018

(602) 852-6600

(Address, including zip code, and telephone number, including area code, of registrants’ principal executive offices)

 

 

Jon D. Ehlinger

General Counsel

DriveTime Automotive Group, Inc.

DT Acceptance Corporation

4020 East Indian School Road

Phoenix, Arizona 85018

(602) 852-6600

(Name, address, including zip code, and telephone number, including area code, of agent for service)

 

 

With a copy to:

Steven D. Pidgeon, Esq.

David P. Lewis, Esq.

DLA Piper LLP (US)

2525 East Camelback Road, Suite 1000

Phoenix, Arizona 85016

(480) 606-5100

 

 

Approximate date of commencement of proposed sale of the securities to the public: As soon as practicable after this registration statement becomes effective.

If the securities being registered on this Form are being offered in connection with the formation of a holding company and there is compliance with General Instruction G, check the following box.  ¨

If this Form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  ¨

If this Form is a post-effective amendment filed pursuant to Rule 462(d) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large accelerated filer   ¨     Accelerated filer   ¨
Non-accelerated filer   x    (Do not check if a smaller reporting company)   Smaller reporting company   ¨

 

 

Title of Each Class of Securities

to be Registered

 

Amount

to be

Registered

 

Proposed

Maximum
Aggregate

Offering Price (1)

  Amount of
Registration Fee

12.625% Senior Secured Notes due 2017

  $50,000,000   $50,000,000   $6,820.00

Guarantees of 12.625% Senior Secured Notes due 2017 (2)

  $50,000,000       (3)

 

 

(1)

Estimated solely for the purpose of calculating the registration fee pursuant to rule 457 under the Securities Act of 1933, as amended (the “Securities Act”).

(2)

See schedule A to this cover page for a list of guarantors.

(3)

Pursuant to Rule 457(n), no additional registration fee is payable with respect to the guarantees.

 

 

The Registrant hereby amends this Registration Statement on such date or dates as may be necessary to delay its effective date until the Registrant shall file a further amendment which specifically states that this Registration Statement shall thereafter become effective in accordance with Section 8(a) of the Securities Act of 1933, as amended, or until the Registration Statement shall become effective on such date as the Securities and Exchange Commission, acting pursuant to said Section 8(a), may determine.

 

 

 


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SCHEDULE A

Additional Registrants

 

Exact Name of Registrant as
Specified in its Charter

  State or Other
Jurisdiction of
Incorporation or
Organization
    Primary
Standard
Industrial
Classification
Code
Number
    I.R.S. Employer
Identification
Number
   

Address, including Zip Code and Telephone
Number, including Area Code, of Registrant’s
Principal Executive Offices

DriveTime Car Sales Company, LLC

    Arizona        5500        86-0683232      4020 East Indian School Road, Phoenix, Arizona 85018, Tel. (602) 852-6600

DriveTime Sales and Finance Company, LLC

    Arizona        5500        86-0657074      4020 East Indian School Road, Phoenix, Arizona 85018, Tel. (602) 852-6600

DT Credit Company, LLC

    Arizona        5500        86-0677984      4020 East Indian School Road, Phoenix, Arizona 85018, Tel. (602) 852-6600

DT Jet Leasing, LLC

    Arizona        5500        27-1063772      4020 East Indian School Road, Phoenix, Arizona 85018, Tel. (602) 852-6600

DriveTime Ohio Company, LLC

    Arizona        5500        45-3088784      4020 East Indian School Road, Phoenix, Arizona 85018, Tel. (602) 852-6600

Carvana, LLC

    Arizona        5500        45-4788036      4020 East Indian School Road, Phoenix, Arizona 85018, Tel. (602) 852-6600

GFC Lending LLC

    Arizona        5500        45-2745914      4020 East Indian School Road, Phoenix, Arizona 85018, Tel. (602) 852-6600


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The information contained in this prospectus is not complete and may be changed. We may not sell these securities until the registration statement filed with the Securities and Exchange Commission is effective. This prospectus is not an offer to sell these securities and it is not a solicitation of an offer to buy these securities in any state or other jurisdiction where the offer or sale is not permitted.

 

SUBJECT TO COMPLETION, DATED MAY 31, 2013

PROSPECTUS

 

LOGO

Exchange Offer for 12.625% Senior Secured Notes due 2017

 

 

We hereby offer, upon the terms and subject to the conditions set forth in this prospectus and the accompanying letter of transmittal (which together constitute the “exchange offer”), to exchange up to $50,000,000 aggregate principal amount of our 12.625% Senior Secured Notes due 2017, and the guarantees thereof, which have been registered under the Securities Act of 1933, as amended, which we refer to as the exchange notes, for an equal aggregate principal amount of our currently outstanding 12.625% Senior Secured Notes due 2017, and the guarantees thereof, that were issued on May 2, 2013, which we refer to as the old notes. We refer to the old notes and the exchange notes collectively as the notes.

THE EXCHANGE OFFER AND WITHDRAWAL RIGHTS WILL EXPIRE AT 5:00 P.M., NEW YORK CITY TIME, ON                     , 2013, UNLESS EXTENDED.

The material terms of the exchange offer are summarized below and are more fully described in this prospectus.

MATERIAL TERMS OF THE EXCHANGE OFFER

 

   

The terms of the exchange notes are substantially identical to those of the old notes except that the exchange notes are registered under the Securities Act of 1933, as amended, and the transfer restrictions, registration rights and rights to additional interest applicable to the old notes do not apply to the exchange notes.

 

   

We will exchange all old notes that are validly tendered and not withdrawn prior to the expiration of the exchange offer.

 

   

You may withdraw tenders of old notes at any time prior to the expiration of the exchange offer.

 

   

We will not receive any proceeds from the exchange offer.

 

   

The exchange of notes should not be a taxable event for U.S. federal income tax purposes.

 

   

There is no public market for the exchange notes. We have not applied, and do not intend to apply, for listing of the exchange notes on any national securities exchange or automated quotation system.

 

 

See “Risk Factors” beginning on page 19 of this prospectus for a discussion of certain risks that you should consider carefully before participating in the exchange offer.

Each broker-dealer that receives exchange notes for its own account pursuant to the exchange offer must acknowledge that it will deliver a prospectus in connection with any resale of the exchange notes. This prospectus, as amended or supplemented, may be used by a broker-dealer in connection with resales of exchange notes received in exchange for old notes that were acquired by such broker-dealer as a result of market-making or other trading activities. For a period of 180 days after the expiration of the exchange offer, we will make this prospectus available to any broker-dealer for use in connection with any such resales. See “Plan of Distribution.”

Neither the Securities and Exchange Commission (the “SEC”) nor any state securities commission has approved or disapproved of these securities or passed upon the adequacy or accuracy of this prospectus. Any representation to the contrary is a criminal offense.

 

 

The date of this prospectus is                     , 2013

 

 


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You should rely only on the information contained in this prospectus. We have not authorized anyone to provide you with information different from that contained in this prospectus. We are offering to sell, and seeking offers to buy, notes only in jurisdictions where offers and sales are permitted. You should assume that the information contained in this prospectus is accurate only as of the date of this prospectus, regardless of the time of delivery of this prospectus or of any sale of notes. Our business, financial condition, results of operations, and prospects may have changed since that date.

 

 

TABLE OF CONTENTS

 

     Page  

WHERE YOU CAN FIND MORE INFORMATION

     ii   

INDUSTRY DATA

     ii   

SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

     iii   

SUMMARY

     1   

EXCHANGE OFFER SUMMARY

     8   

THE EXCHANGE NOTES

     11   

SUMMARY HISTORICAL CONSOLIDATED FINANCIAL AND OTHER DATA

     14   

RATIO OF EARNINGS TO FIXED CHARGES

     18   

RISK FACTORS

     19   

USE OF PROCEEDS

     43   

SELECTED HISTORICAL CONSOLIDATED FINANCIAL AND OTHER DATA

     44   

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

     47   

BUSINESS

     81   

MANAGEMENT

     93   

COMPENSATION DISCUSSION AND ANALYSIS

     96   

CERTAIN RELATIONSHIPS AND RELATED PARTY TRANSACTIONS

     104   

SECURITY OWNERSHIP

     107   

DESCRIPTION OF EXISTING INDEBTEDNESS

     108   

THE EXCHANGE OFFER

     112   

DESCRIPTION OF THE EXCHANGE NOTES

     120   

MATERIAL U.S. FEDERAL TAX CONSEQUENCES

     180   

PLAN OF DISTRIBUTION

     181   

LEGAL MATTERS

     182   

INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

     182   

APPENDIX A—GLOSSARY OF DEFINED TERMS

     A-1   

APPENDIX B—ENTITY ORGANIZATIONAL CHART OF THE ISSUERS

     B-1   

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

     F-1   

 

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WHERE YOU CAN FIND MORE INFORMATION

We are subject to the periodic reporting requirements of Section 15(d) of the Securities and Exchange Act of 1934, as amended, and, in accordance therewith, we file annual, quarterly and current reports pursuant to the requirements thereof. Our filings with the SEC are available to the public through the SEC’s internet site at http://www.sec.gov. You also may access our registration statement on Form S-4, which we filed to register the exchange notes offered hereby and of which this prospectus forms a part, on the SEC’s Internet site at http://www.sec.gov. This prospectus does not contain all of the information included in that registration statement. For further information about us and the exchange notes offered in this prospectus, you should refer to the registration statement and its exhibits. You may read and copy any materials we file with the SEC at the Public Reference Room of the SEC at 100 F Street, N.E., Washington, D.C. 20549. Please call the SEC at 1-800-SEC-0330 for more information about the operation of the Public Reference Room. You may also obtain certain of these documents on our Internet site at http://www.DriveTime.com. You may also request a copy of this information by writing or telephoning us at the following address or telephone number:

DriveTime Automotive Group, Inc.

4020 East Indian School Road

Phoenix, Arizona 85018

Attn: Joseph Terracciano

(602) 852-6600

Our web site and the information contained on that site, or connected to that site, are not incorporated into and are not a part of this prospectus.

INDUSTRY DATA

We use industry and market data throughout this prospectus, which we have obtained from market research, independent industry publications or other publicly available information. Our statement that we are the leading used vehicle retailer in the United States with a primary focus on the sale and financing of quality vehicles in the subprime market is based on our review of the other top companies’ financial statements, industry publications and research data with respect to such other companies. Although we believe that each such source is reliable as of its respective date, the information contained in such sources has not been independently verified. While we are not aware of any misstatements regarding any industry and market data presented herein, such data is subject to change based on various factors, including those discussed under the heading “Risk Factors” in this prospectus.

 

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SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

This prospectus contains “forward-looking statements,” which include information relating to future events, future financial performance, strategies, expectations, competitive environment, regulation, and availability of resources. These forward-looking statements include, without limitation, statements concerning projections, predictions, expectations, estimates, or forecasts as to our business, financial and operational results, and future economic performance; and statements of management’s goals and objectives and other similar expressions concerning matters that are not historical facts. Words such as “may,” “should,” “could,” “would,” “predicts,” “potential,” “continue,” “expects,” “anticipates,” “future,” “intends,” “plans,” “believes,” “estimates,” and similar expressions, as well as statements in future tense, identify forward-looking statements. Forward-looking statements should not be read as a guarantee of future performance or results, and will not necessarily be accurate indications of the times at, or by, which such performance or results will be achieved.

Forward-looking statements are based on information available at the time those statements are made or management’s good faith belief as of that time with respect to future events, and are subject to risks and uncertainties that could cause actual performance or results to differ materially from those expressed in or suggested by the forward-looking statements. Important factors that could cause such differences include, but are not limited to:

 

   

we require substantial capital to finance our business;

 

   

we may not be able to generate sufficient cash flow to meet our debt service obligations;

 

   

interest rates affect our profitability and cash flows and an increase in interest rates will increase our interest expense and lower our profitability and liquidity;

 

   

changes to our business plan that are currently being implemented, and those that may be implemented in the future, may not be successful and may cause unintended consequences;

 

   

our focus on customers with subprime credit;

 

   

general and economic conditions and their effect on automobile sales;

 

   

extensive governmental regulations applicable to us, the violation of which could cause our business to suffer;

 

   

changes in laws, regulations, or policies;

 

   

economic conditions that require us to reduce the scope of our operations;

 

   

seasonal and other fluctuations in our results of operations;

 

   

our failure to effectively manage our growth, access the additional required financing to fund our growth, and increased exposure to legal and regulatory risks as a result of our plans to expand;

 

   

we operate in a highly competitive environment, and if we are unable to compete with our competitors, our results of operations and financial condition could be materially adversely affected; and

 

   

other factors discussed in “Business,” “Risk Factors,” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”

Forward-looking statements speak only as of the date the statements are made. You should not put undue reliance on any forward-looking statements. We assume no obligation to update forward-looking statements to reflect actual results, changes in assumptions, or changes in other factors affecting forward-looking information, except to the extent required by applicable securities laws. If we do update one or more forward-looking statements, no inference should be drawn that we will make additional updates with respect to those or other forward-looking statements.

 

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SUMMARY

This summary highlights information contained elsewhere in this prospectus. This summary sets forth the material terms of the exchange offer, but does not contain all of the information that you should consider before investing in the notes. You should read the entire prospectus carefully before making an investment decision, especially the risks of investing in the notes described under “Risk Factors.” Unless otherwise indicated in this prospectus, the terms “DriveTime,” the “Issuers,” the “Company,” “we,” “our” and “us” refer to DriveTime Automotive Group, Inc. and DT Acceptance Corporation and their respective subsidiaries as a consolidated entity. For a glossary of terms used in this prospectus, see Appendix A.

Overview

We are the leading used vehicle retailer in the United States with a primary focus on the sale and financing of quality vehicles to the subprime market. Through our company owned dealerships, we provide our customers with a comprehensive end-to-end solution for their automotive needs, including the sale, financing, and maintenance of their vehicles with our DriveCare® limited warranty. Over our company history, we have sold and financed over 900,000 vehicles. As of March 31, 2013, we owned and operated 100 dealerships and 17 reconditioning facilities located in 44 geographic regions throughout 19 states. On average, we have over 7,500 vehicles available for sale at our dealerships at any time. For the quarter ended March 31, 2013, we sold 19,607 vehicles, generated $387.2 million of total revenue, and generated $48.5 million of Adjusted EBITDA. As of March 31, 2013, our loan portfolio had a total outstanding principal balance of $1.7 billion.

Over the past 20 years, we have developed an integrated business model focused on giving our customers the ability to acquire quality used vehicles. Our business model integrates seven key activities:

 

   

Vehicle acquisition. We acquire inventory primarily from both traditional live and on-live used vehicle auctions. Our centralized vehicle selection strategy takes into account many factors, including the retail value, age, and costs of buying, reconditioning, and delivering the vehicle for resale, along with buyer affordability and desirability. Approximately 95% of our inventory is acquired through on-line or live auctions, with the remainder purchased through fleet purchases and other sources. On-line purchases account for approximately 11% of our auction purchases. For the year ended December 31, 2012, we purchased 78,190 vehicles from over 120 auctions nationwide, with over 70% of those purchased from two national wholesale auction companies.

 

   

Vehicle reconditioning and distribution. Subsequent to acquisition, vehicles are transported to one of our 17 regional reconditioning facilities, where we recondition the vehicles and perform a rigorous multi-point inspection for safety and operability. The inspection process assists us in evaluating the extent of repairs required for each vehicle and helps in evaluating profitability of vehicle sales. We centrally determine the distribution of vehicles to our dealerships based on current inventory mix and levels, along with sales patterns at each dealership.

 

   

Vehicle sales. Our sales process is designed to facilitate the delivery of a vehicle to a customer, educate our customer on financing terms and payment options, educate the customer on our warranty, and choose the right vehicle for the customer’s needs. The sales process often begins with customers visiting our website and setting an appointment at a dealership. Our inventory and inventory pricing is available on-line and we have recently released a mobile website that allows customers to search vehicle inventory on their smartphones. Our no-haggle vehicle pricing is displayed on each vehicle’s sticker and on our website. Prices are determined centrally for all dealerships and all regions.

 

   

Marketing. We utilize targeted television, radio, and online advertising programs to promote our brand and encourage customers to complete an online credit application and visit one of our dealerships. Our current advertising campaign emphasizes information about our sales process, including the following: lower down payments than our competition, the option to be approved on our website, in person, or

 

 

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through a mobile device, and extra benefits included as part of the purchase price, such as our DriveCare® limited warranty. Our current TV advertising strategy features the tag line “We Bring People and Cars Together.” Our recent TV advertisements focus on the availability of our inventory to fit a variety of customer needs, whether those needs call for a family vehicle, economy car, SUV or pick-up truck.

 

   

Underwriting and finance. Using information provided as part of the credit application process, our centralized proprietary credit scoring system determines a customer’s credit grade and the corresponding minimum down payment and maximum installment payment. We monitor the performance of our portfolio and close rates on a real-time basis, allowing us to centrally adjust pricing and financing terms to balance sales volumes and loan performance.

 

   

Loan servicing. We perform all servicing functions for our loan portfolio, from collections through the resale of repossessed vehicles. Customers can make cash payments through an electronic payment network at over 3,900 Wal-Mart stores and more than 13,400 other locations nationwide. Customers also can make payments online and through traditional payment methods such as check, money order, bill-pay, and ACH.

 

   

After sale support. After-sale support consists of our DriveCare® limited warranty, a 36 month/36,000 mile warranty that covers major mechanical and other electronic components of the engine block, the transmission, climate control, and drive axles, along with a 60 month/50,000 extended powertrain coverage beginning in 2013. In the majority of the states in which we operate, the warranty is included with each vehicle we sell as part of the sales price. In certain states, the warranty is sold as a separate service contract. During the fourth quarter of 2012 we began a pilot, whereby we’re offering the DriveCare® warranty as a separately priced product, apart from the price of the vehicle.

Industry Overview

We operate in the large and highly fragmented used vehicle sales and financing markets. According to CNW Research, for 2012, used vehicle sales were generated from 54,000 franchise and independent dealers nationwide.

Used vehicle sales. The market for used vehicles is among the largest and most highly fragmented retail markets in the United States, with no single used vehicle retailer holding more than 1% of market share. Although the number of industry-wide dealerships has contracted in recent years, due to the recessionary environment and franchise terminations, unit sales of used vehicles have recently increased. According to CNW, in 2012 there were 40.5 million used vehicle sale transactions, representing 73.7% of the overall vehicle market by unit sales. Sales typically occur through one of three channels: (i) the used vehicle retail operations of the approximately 16,000 manufacturer-franchised new car dealerships, which represented 37.0% of industry sales in 2012, (ii) approximately 38,000 independent used vehicle dealerships, which represented 34.6% of industry sales in 2012, and (iii) individuals who sell used vehicles in private transactions, which represented 28.4% of industry sales in 2012.

Vehicle financing. The industry is generally segmented by credit characteristics of the borrower (prime versus subprime). According to CNW, originations for customers within the subprime used vehicle market averaged $29.1 billion per annum over the last five years ending December 31, 2012, and increased to $43.1 billion in 2012, a $2.5 billion increase over 2011.

Our market. Within the subprime market, we cater to customers who have the income necessary to purchase a used vehicle, but because of their impaired credit histories, cannot qualify for financing from traditional third-party sources generally because they do not have the required down payment. Our average customer is 30 to 45

 

 

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years of age, has an annual income of $35,000 to $50,000, and has a credit score, as determined by Fair Isaac & Co. (“FICO”) between 475 and 550. A customer with a FICO score below 620 is typically considered to have subprime credit.

Competitive Strengths

We believe we have developed a flexible and adaptive business model that has positioned us for controlled growth and addresses the competitive factors described below. Our competitive strengths consist of:

 

   

Industry leadership in the subprime auto sales and finance market. We are the leading used vehicle retailer in the United States with a primary focus on the sale and financing of vehicles to the subprime market and the eighth largest used vehicle retailer in the United States overall. Over our company history, we have sold and financed over 900,000 vehicles. We believe that our market presence, with 100 branded dealerships and 17 reconditioning facilities across 44 geographic regions, presents a distinct barrier to entry for competitors seeking to penetrate our markets. We intend to continue to penetrate this highly fragmented market by increasing sales in existing markets and through controlled expansion into new geographies.

 

   

Integrated and centralized business model. We have developed a business model that integrates our vehicle acquisition, reconditioning, sales, marketing, underwriting and finance, loan servicing, and after sale support activities, which we believe enables us to control and generate value from each aspect of our business. In addition, we have centralized the key components of each of these functions. We believe that our integrated business model and centralized operations enable us to carefully manage our business and provide consistent customer service, while providing us with a stable platform for growth.

 

   

Sophisticated and proprietary information-based systems that facilitate consistent loan performance. Our experience in the subprime market has enabled us to develop sophisticated, proprietary systems and databases that help us manage each aspect of our business. We use our credit scoring system to classify customers into various credit grades and determine minimum down payments, maximum payment terms, and interest rates. We believe that these models and databases enable us to rapidly adjust our business model to address changing market demands and customer trends, which we believe results in more predictive and less volatile loan performance.

 

   

Multiple sources of financing. We have been able to access a wide variety of sophisticated lending facilities, including, warehouse facilities, securitizations, bank term financings, inventory and other facilities, real estate mortgage financing and senior notes. Since January 1, 2007, we have raised approximately $7.7 billion to finance our business. Since 2009, we have completed seven securitizations and one private placement bank term financing totaling approximately $2.0 billion. While availability, advance rates, and interest rates vary depending on market conditions, we have recently reduced our interest rates and increased our advance rates. See “—Recent Financing Transactions” and “Description of Existing Indebtedness.”

 

   

Highly experienced management team with strong operating track record. Our executive management team has centralized our operations, created our data-driven and adaptive business model, and implemented the dealership model we operate today. Our Chairman and principal shareholder, Ernest C. Garcia II, founded the Company. Raymond C. Fidel, our Chief Executive Officer and President; Mark G. Sauder, our Chief Financial Officer; and Jon D. Ehlinger, our Secretary and General Counsel, have each been with the Company or one of its affiliates for more than 12 years. Our seven member senior management team has an average of over 12 years of relevant industry experience.

 

 

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Business Strategies

Strategic Objectives

We intend to leverage our competitive strengths by pursuing the following strategic objectives to expand our dealership base and market share and further distinguish ourselves as the leading used vehicle retailer to the subprime market:

 

   

Pursue controlled growth by expanding our dealership network. We believe we are well positioned to expand our dealership network throughout the United States, primarily through systematic, organic growth. It typically takes us from one to six months to select a site and execute a lease and an additional two to four months to open a new dealership, and we generally achieve profitability within six to 12 months of opening. We seek to locate new dealerships in existing commercial facilities, typically lease each facility for five years (with options to extend for another five to 15 years), and spend approximately $500,000 to $600,000 in leasehold improvements and equipment to establish each of our branded dealerships. We generally seek to expand into geographic regions in the United States with populations ranging from 300,000 to three million people, that have customer demographic concentrations consistent with our target market, and that have favorable operating environments.

 

   

Continue to enhance our credit scoring models, business analytics, and technology platforms. We believe continuous enhancement of our industry-leading analytics, processes, and systems is a key driver to our cash flow, future growth, and profitability. With a view to maximizing cash flow and monitoring portfolio risk, we intend to continue our efforts to enhance and expand our front-end retail sales system and analytics platform, improve our management information systems and databases, enhance our website and call center systems, and improve our customer lead tracking software.

 

   

Maintain a strong balance sheet. Historically, we have been able to access credit markets that we believe are not typically available to auto dealerships serving our customers in the subprime market. We believe that this success is attributable to our centralized operations, track record, and strong balance sheet. We will maintain a continued focus on further enhancing our liquidity and capital position to support our business.

Current Strategic Initiatives

Indirect Lending—GO Financial. In December 2011, we launched a new indirect lending line of business, GFC Lending LLC dba GO Financial (“GO Financial” or “GO”). GO provides subprime auto financing to third-party automobile dealerships. The third-party automobile dealerships originate retail installment sales contracts to finance purchases of vehicles by customers with demographics similar to DriveTime. GO enters into a dealer servicing agreement with each of the third-party automobile dealerships whereby, subsequent to verification of a qualifying customer loan, GO advances funds to the dealership through a non-recourse loan (“dealer advance”). Once originated, GO performs the loan servicing of both the dealer advance to the dealership and the underlying customer loan to the end customer. Another subsidiary of DT Acceptance Corporation (“DTAC”), DT Credit Company, LLC (“DTCC”) serves as the servicer of the underlying customer loans, on behalf of GO. We believe this indirect lending program provides an opportunity for independent dealerships to sell additional vehicles to customers with subprime credit, and provides us with incremental profitability to supplement our existing operations. At December 31, 2012 we had $41.0 million in dealer finance receivables outstanding.

On-Line Auto Sales—Carvana. In January 2013, through Carvana, LLC (“Carvana”), we launched a new sales channel that enables a customer to buy a car, from click to delivery, 100% online over the internet. Carvana’s target customer demographic is not specific to credit, and is geared to attract a broader credit spectrum and income classification than that of DriveTime and GO Financial. Carvana (www.Carvana.com) is a 360-degree, integrated used car buying experience that enables consumers to purchase used vehicles online through a highly efficient and transparent process. Initially launching in Georgia, with plans to expand regionally, then nationally, Carvana’s business and operations will fully integrate all steps of the vehicle sales process, including: (a) vehicle

 

 

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search, (b) vehicle tour and detail, (c) credit scoring, (d) customer financing, (e) eContracting, (f) verification of customer data, (g) electronic down payment, and (h) vehicle delivery. Carvana is not expected to have a significant net impact to our consolidated results for 2013. To a certain extent, Carvana will utilize DriveTime’s existing infrastructure, with customized aspects of each component of the DriveTime business process. Sales through Carvana may be financed by either DriveTime or third-party lenders.

Risks Affecting Us

Our business is subject to numerous risks, as discussed more fully in the section entitled “Risk Factors” immediately following this Prospectus Summary. In particular, our business would be adversely affected if:

 

   

we are unable to refinance existing credit facilities, or obtain new financings to fund our operations and growth plans;

 

   

our allowance for credit losses is insufficient or needs to be substantially increased;

 

   

we are unable to generate sufficient cash flow to meet our debt service obligations;

 

   

our proprietary credit system does not perform as expected and fails to properly quantify the credit risks associated with our customers;

 

   

we and our systems are unable to detect any misrepresentation in the information furnished to us by or on behalf of our customers;

 

   

we lose the right to service our portfolio of receivables;

 

   

we are unable to obtain sufficient numbers of used vehicles for our inventory in a cost-effective manner;

 

   

we are unable to distinguish ourselves from our competitors, including the numerous small “buy-here, pay-here” dealerships, independent used vehicle dealers, and used vehicle departments of franchise dealers that operate in the subprime segment of the used vehicle sales industry, and the banks and finance companies that purchase their loans;

 

   

larger companies with significant financial and other resources enter or announce plans to enter the used vehicle sales and/or finance industry, which could result in increased wholesale costs for used vehicles and lower margins; or

 

   

we are unable to attract and retain key personnel needed to sustain and grow our business.

Financing

We have historically funded our capital requirements primarily through operating cash flow, portfolio warehouse facilities, securitizations, term financing facilities, inventory and other term and revolving facilities, real estate mortgage financing, and other notes payable. We currently fund our capital requirements through the following sources:

 

   

portfolio term financings including asset-backed securitizations, which offer fixed rate secured financing for our receivables portfolio;

 

   

bank term financings;

 

   

non-recourse portfolio warehouse facilities with term-out features, limited foreclosure rights and no subjective mark-to-market provisions, including agreements with three different institutional lenders;

 

   

Senior Secured Notes due 2017;

 

   

a term residual facility;

 

   

an inventory facility;

 

 

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real estate mortgage financing; and

 

   

other notes and capital leases secured by property and equipment.

We actively manage utilization of our various funding sources as we seek to minimize borrowing costs through drawing on our lower cost facilities and minimizing unused line fees, while at the same time balancing the effective advance rates and liquidity generated by each of the credit facilities in order to meet our funding needs. The effective advance rates on our portfolio warehouse and term financings are based on the outstanding principal balance of the loans we originate. However, our initial investment in the loans we originate is lower than the original principal balance of the loans.

Recent Financing Transactions

In December 2012, we amended our $100.0 million term residual facility and extended the maturity date to December 2019, decreased the interest rate and provided the ability for borrowing base credit for unsecured credit enhancements (under certain conditions).

In November 2012, we entered into a $350.0 million bank term financing with Wells Fargo Bank, National Association, collateralized by $457.5 million of finance receivables. This agreement is substantially similar in structure to a securitization.

During the three months ended March 31, 2013, we renewed our portfolio warehouse facility with RBS. The facility amount is $125.0 million with an advance rate of 65%. Outstanding balances bear interest at LIBOR plus 2.25%. The facility expires in March 2014, with a one year term-out feature.

Collateral Structure

The following summarizes our basic corporate structure, indebtedness and collateral, at March 31, 2013:

 

LOGO

 

* Santander Residual Term Facility uses residual value of receivables pledged to certain warehouses and securitizations as collateral for debt.

 

 

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The above structure does not reflect, as of March 31, 2013, $29.4 million in repo recovery assets in which holders of the notes will have a security interest, as well as the following assets that are owned by the Issuers: (1) $70.8 million in plant, property and equipment, net of related debt, and (2) unrestricted cash and cash equivalents. “Receivables” represent gross finance receivables (principal, interest and loan origination costs) without regard for any allowance for credit losses. “Net debt” represents total debt less restricted cash and investments held in trust with respect to specific debt facilities. “Inventory” represents the inventory cost basis. For a more detailed chart of our corporate structure, see Appendix B to this prospectus.

The collateral for the notes will consist of the following:

 

   

a first lien on:

 

   

finance receivables held by the Issuers;

 

   

equity interests in certain of DTAC’s wholly-owned subsidiaries (“Pledged SPSs”), established solely in connection with portfolio warehouse facilities, securitizations or bank term financings; and

 

   

residual property rights in finance receivables securing other financings, in each case subject to certain exceptions; and

 

   

a second lien, behind one or more secured credit facilities, on inventory owned by the Issuers and DriveTime Car Sales Company, LLC (“DTCS”), one of the guarantors.

The Pledged SPSs are bankruptcy-remote special purpose entities formed solely to make automatic payments to a defined set of creditors in connection with our portfolio warehouse facilities, securitizations or bank term financings, and DTAC is restricted from engaging in any transfer of their equity interests until all of their obligations have been satisfied in full. Since the Pledged SPSs are prohibited from providing a direct guarantee of DTAC’s obligations or a direct second lien on the finance receivables they own, and in order to maintain the bankruptcy-remote status of these subsidiaries, DTAC pledged a first lien on the equity interests of the Pledged SPSs as collateral in favor of the holders of the notes. If, following a payment default under the notes, the holders of notes exercise their rights under the pledge agreement, a third-party paying agent will direct all cash flows from the Pledged SPSs to their respective defined sets of creditors, with the residual to be paid to the collateral agent for the notes. Therefore, a first-priority lien on the equity interests of the Pledged SPSs is effectively a second-priority lien on the underlying collateral held by such Pledged SPSs. In addition, certain of the residual interests in our Pledged SPSs may also be directed to be paid to our term residual facility, in which case a first-priority lien on the equity interests of the Pledged SPSs is effectively a third-priority lien on the underlying collateral held by such Pledged SPSs. See “Description of the Exchange Notes—Security—Collateral.”

Our Corporate Information

Our principal executive offices are located at 4020 East Indian School Road, Phoenix, Arizona 85018, and our telephone number is (602) 852-6600. For a detailed chart of our corporate entity organizational structure, see Appendix B to this prospectus. Our website is located at www.drivetime.com. The information on or accessible through our websites does not constitute a part of, and is not incorporated into, this prospectus.

 

 

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EXCHANGE OFFER SUMMARY

The following is a brief summary of certain material terms of the exchange offer. For a more complete description of the terms of the exchange offer, see “The Exchange Offer” in this prospectus.

 

Background

On May 2, 2013, we issued $50.0 million aggregate principal amount of our 12.625% Senior Secured Notes due 2017, or the old notes, to Jefferies LLC and Wells Fargo Securities, LLC, as initial purchasers, in transactions exempt from the registration requirements of the Securities Act. The old notes are additional notes issued under an indenture dated June 4, 2010, pursuant to which, on that date, we previously issued $200.0 million aggregate principal amount of our 12.625% Senior Secured Notes due 2017. Because the old notes were sold in reliance on exemptions from registration, the old notes are subject to transfer restrictions. In connection with the issuance of the old notes, we entered into a registration rights agreement with the initial purchasers pursuant to which we agreed, among other things, to complete an exchange offer for the old notes. The old notes are subject to increased interest of 0.25% per annum for the first 90-day period after August 30, 2013 and an additional 0.25% per annum at the beginning of each subsequent 90-day period until the exchange offer registration statement is filed. Additionally, if the exchange offer registration statement is not declared effective on or prior to November 28, 2013, the old notes will be subject to additional increased interest of 0.25% per annum for the first 90-day period after November 28, 2013, with such interest rate increasing by an additional 0.25% per annum at the beginning of each subsequent 90-day period until such exchange is completed (provided that such rate may not exceed 1.00% per annum).

 

The Exchange Offer

We are offering to exchange up to $50.0 million aggregate principal amount of our 12.625% Senior Secured Notes due 2017, or the exchange notes, for an equal aggregate principal amount of old notes. The terms of the exchange notes are identical in all material respects to the terms of the old notes, except that the exchange notes have been registered under the Securities Act and do not contain transfer restrictions, registration rights or additional interest provisions. You should read the discussion set forth under “Description of the Exchange Notes” for further information regarding the exchange notes. In order to be exchanged, an old note must be properly tendered and accepted. All old notes that are validly tendered and not withdrawn will be exchanged. We will issue and deliver the exchange notes promptly after the expiration of the exchange offer.

 

Resale of Exchange Notes

Based on interpretations by the SEC’s Staff, as detailed in a series of no-action letters issued to third parties unrelated to us, we believe that the exchange notes issued in the exchange offer may be offered for resale, resold or otherwise transferred by you without compliance with the registration and prospectus delivery requirements of the Securities Act as long as:

 

   

you, or the person or entity receiving the exchange notes, acquires the exchange notes in the ordinary course of business;

 

 

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neither you nor any such person or entity receiving the exchange notes is engaging in or intends to engage in a distribution of the exchange notes within the meaning of the federal securities laws;

 

   

neither you nor any such person or entity receiving the exchange notes has an arrangement or understanding with any person or entity to participate in any distribution of the exchange notes;

 

   

neither you nor any such person or entity receiving the exchange notes is an “affiliate” of DriveTime Automotive Group, Inc. or DT Acceptance Corporation as that term is defined in Rule 405 under the Securities Act; and

 

   

neither you nor any such person or entity receiving the exchange notes is prohibited by any law or policy of the SEC from participating in the exchange offer.

 

  We have not submitted a no-action letter to the SEC and there can be no assurance that the SEC would make a similar determination with respect to this exchange offer. If you do not meet the conditions described above, you must comply with the registration and prospectus delivery requirements of the Securities Act in connection with the resale of the exchange notes. If you fail to comply with these requirements you may incur liabilities under the Securities Act, and we will not indemnify you for such liabilities.

 

Expiration Date

5:00 p.m., New York City time, on                     , 2013, unless, in our sole discretion, we extend or terminate the exchange offer.

 

Withdrawal Rights

You may withdraw tendered old notes at any time prior to 5:00 p.m., New York City time, on the expiration date. See “The Exchange Offer—Terms of the Exchange Offer.”

 

Conditions to the Exchange Offer

The exchange offer is subject to certain customary conditions, including our determination that the exchange offer does not violate any law, statute, rule, regulation or interpretation by the Staff of the SEC or any regulatory authority or other foreign, federal, state or local government agency or court of competent jurisdiction, some of which may be waived by us. See “The Exchange Offer—Conditions to the Exchange Offer.”

 

Procedures for Tendering Old Notes

You may tender your old notes by instructing your broker or bank where you keep the old notes to tender them for you. In some cases, you may be asked to submit the letter of transmittal that may accompany this prospectus. By tendering your old notes, you will represent to us, among other things, (1) that you are, or the person or entity receiving the exchange notes, is acquiring the exchange notes in the ordinary course of business, (2) that neither you nor any such other person or entity has any arrangement or understanding with any person to participate in the distribution of the exchange notes within

 

 

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the meaning of the Securities Act and (3) that neither you nor any such other person or entity is our affiliate within the meaning of Rule 405 under the Securities Act. Your old notes must be tendered in integral multiples of $1,000. Exchange notes will be issued in minimum denominations of $2,000 and integral multiples of $1,000 in excess thereof. A timely confirmation of book-entry transfer of your old notes into the exchange agent’s account at The Depository Trust Company, or DTC, according to the procedures described in this prospectus under “The Exchange Offer,” must be received by the exchange agent before 5:00 p.m., New York City time, on the expiration date.

 

Consequences of Failure to Exchange

Any old notes not accepted for exchange for any reason will be credited to an account maintained at DTC promptly after the expiration or termination of the exchange offer. Old notes that are not tendered, or that are tendered but not accepted, will be subject to their existing transfer restrictions. We will have no further obligation, except under limited circumstances, to provide for registration under the Securities Act of the old notes. The liquidity of the old notes could be adversely affected by the exchange offer. See “Risk Factors—Risks Related to Retention of the Old Notes—If you do not exchange your old notes, your old notes will continue to be subject to the existing transfer restrictions and you may be unable to sell your old notes.”

 

Taxation

The exchange of old notes for exchange notes by tendering holders should not be a taxable event for U.S. federal income tax purposes. For more details, see “Material U.S. Federal Income Tax Consequences.”

 

Use of Proceeds

We will not receive any proceeds from the issuance of the exchange notes in the exchange offer. For more details, see “Use of Proceeds.”

 

Exchange Agent

Wells Fargo Bank, National Association is serving as the exchange agent in connection with the exchange offer. The address, telephone number and facsimile number of the exchange agent are listed under “The Exchange Offer—Exchange Agent.”

 

Risk Factors

An investment in the exchange notes involves substantial risk. See “Risk Factors” for a description of certain of the risks you should consider before investing in the exchange notes.

 

 

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THE EXCHANGE NOTES

The following summary contains basic information about the exchange notes. It does not contain all the information that is important to you. For a more complete understanding of the exchange notes, please refer to the section of this prospectus entitled “Description of the Exchange Notes.”

 

Issuers

DriveTime Automotive Group, Inc. (“DTAG”) and DT Acceptance Corporation (“DTAC”) jointly and severally as co-issuers of the exchange notes.

 

Notes Offered

$50,000,000 aggregate principal amount of 12.625% Senior Secured Notes due 2017. The exchange notes are additional notes issued under an indenture executed on June 4, 2010. On that date, we issued and sold $200.0 million of 12.625% Senior Secured Notes due 2017. The exchange notes will be pari passu with, of the same series as, and vote on any matter submitted to bondholders with the previously issued 12.625% Senior Secured Notes due 2017. The exchange notes will be identical to, and will trade as a single class with, the previously issued 12.625%.

 

Interest

We will pay interest on the exchange notes at the annual rate of 12.625% per year. Interest on the exchange notes will be payable semi-annually in arrears on each June 15 and December 15, commencing on June 15, 2013.

 

Maturity Date

June 15, 2017.

 

Collateral

The exchange notes are secured by a (i) first lien on (a) finance receivables held by the Issuers, (b) equity interests held by DTAC in the Pledged SPSs, and (c) residual property rights in finance receivables securing other financings, in each case subject to certain exceptions, and a (ii) second lien, behind one or more secured credit facilities, on inventory owned by the Issuers and one of the guarantors. If, following a payment default under the exchange notes, the holders of exchange notes exercise their rights under the pledge agreement with respect to the Pledged SPSs, a third-party paying agent will direct all cash flows from the Pledged SPSs to their respective defined sets of creditors, with the residual to be paid to the collateral agent for the exchange notes. Therefore, a first-priority lien on the equity interests of the Pledged SPSs is effectively a second-priority lien on the underlying collateral held by such Pledged SPSs. In addition, certain of the residual interests in our Pledged SPSs may also be directed to be paid to our term residual facility, in which case a first-priority lien on the equity interests of the Pledged SPSs is effectively a third-priority lien on the underlying collateral held by such Pledged SPSs. See “Description of the Exchange Notes—Security—Collateral.”

 

Ranking

The exchange notes will be our senior secured obligations. Certain of DTAG’s and DTAC’s material restricted subsidiaries will guarantee the exchange notes on an unsecured basis, but excluding, among

 

 

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others, the Pledged SPSs. The exchange notes will rank equally with all of our and our guarantors’ existing and future senior unsecured debt. The exchange notes will rank senior to all of our and our guarantors’ debt that is expressly subordinated to the exchange notes. The exchange notes will be effectively subordinated to obligations of our subsidiaries that do not guarantee the exchange notes, including indebtedness of the Pledged SPSs, even if the residual interest in such subsidiaries is pledged as collateral, and to our indebtedness secured by assets other than collateral pledged for the exchange notes or guarantees to the extent of the value of those other assets.

 

Guarantees

Certain of DTAG’s and DTAC’s material restricted subsidiaries will guarantee the exchange notes on a senior secured or unsecured basis. See “Description of the Exchange Notes—Guarantees.”

 

Optional Redemption

We may, at our option, redeem the exchange notes at any time prior to June 15, 2014 at the make-whole price determined in the manner described in this prospectus. From and after June 15, 2014, we may redeem the exchange notes, in whole or in part, at a redemption price equal to 100% of the principal amount plus a premium declining ratably to par, plus accrued and unpaid interest.

 

  In addition, at any time on or before June 15, 2013 we may redeem up to 35% of the aggregate principal amount of the exchange notes issued with the proceeds of qualified equity offerings at a redemption price equal to 112.625% of the principal amount, plus accrued and unpaid interest.

 

  See “Description of the Exchange Notes—Optional Redemption.”

 

Change of Control

If we experience a change of control triggering event, we will be required to offer to purchase the exchange notes at a purchase price equal to 101% of the principal amount, plus accrued and unpaid interest. See “Description of the Exchange Notes—Repurchase at the Option of Holders—Change of Control.”

 

Intercreditor Agreement

The inventory that we have pledged as collateral to support one of the exchange note guarantees is pledged on a second-lien basis after the first-lien claim of certain of our lenders providing credit under one or more secured credit facilities (the “Senior Inventory Facilities”). The agent for the lenders under such existing credit facility, and any future such credit facility, has entered into an intercreditor agreement (the “Intercreditor Agreement”) that provides, among other things, that (i) the liens securing the exchange notes guarantee may not be enforced at any time when obligations secured by first-priority liens are outstanding, and (ii) the exchange note holders will waive certain important rights they might otherwise have as secured creditors. The holders of the first-priority liens will receive all proceeds from any realization on the collateral or from the collateral or proceeds thereof in any insolvency or liquidation proceeding, until the obligations

 

 

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secured by the first-priority liens are paid in full, and only then will holders of the exchange notes be entitled to any collections on that inventory.

 

Maintenance Covenants

We must comply with certain maintenance covenants relating to minimum net worth and minimum collateral coverage. See “Description of the Exchange Notes—Certain Covenants—Maintenance of certain ratios.”

 

Certain Other Covenants

The indenture relating to the exchange notes contains covenants including, among other things, restrictions on our ability to:

 

   

incur additional indebtedness and issue certain preferred stock;

 

   

create liens;

 

   

pay dividends or make distributions in respect of capital stock;

 

   

purchase or redeem capital stock;

 

   

make investments or certain other restricted payments;

 

   

sell assets;

 

   

issue or sell stock of restricted subsidiaries;

 

   

enter into transactions with affiliates; and

 

   

effect a consolidation or merger.

 

  These covenants are subject to a number of important limitations and exceptions. See “Description of the Exchange Notes—Certain Covenants.”

 

Absence of a Public Market

After the old notes are exchanged for the exchange notes offered hereby, such exchange notes will trade as a single class with our existing registered notes. There is currently no established market for our existing registered notes. We do not intend to apply for the exchange notes offered hereby to be listed on any securities exchange. Accordingly, there can be no assurance as to the development or liquidity of any market for the exchange notes.

 

 

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SUMMARY HISTORICAL CONSOLIDATED FINANCIAL AND OTHER DATA

The following table sets forth summary historical consolidated financial and operating data as of the dates and for the periods indicated. The consolidated statements of operations for the years ended December 31, 2012, 2011, and 2010, and data from the consolidated balance sheet as of December 31, 2012 and 2011, have been derived from our audited financial statements, which are included elsewhere in this prospectus. The consolidated statements of operations for the years ended December 31, 2009 and 2008, and the consolidated balance sheet data as of December 31, 2010, 2009 and 2008, have been derived from our audited financial statements, which are not included in this prospectus. The summary consolidated statement of operations and other data for each of the three month periods ended March 31, 2013 and 2012, and the consolidated balance sheet data as of March 31, 2013, have been derived from our unaudited financial statements, which are presented elsewhere in this prospectus and include, in the opinion of management, all adjustments, consisting of normal, recurring adjustments, necessary for a fair presentation of such data. Our historical results are not necessarily indicative of our results for any future period.

You should read the following financial and other data in conjunction with “Selected Historical Consolidated Financial and Other Data,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” and our consolidated financial statements and related notes included elsewhere in this prospectus.

 

    Fiscal Year Ended December 31,     Three Months Ended
March 31,
 
    2008     2009     2010     2011     2012     2012     2013  

Statement of Operations Data:

             

Revenue:

             

Sales of used vehicles

  $ 796,750      $ 694,460      $ 760,767      $ 838,242      $ 920,507      $ 297,135      $ 309,468   

Interest income

    261,875        251,822        264,974        283,065        299,382        70,528        74,974   

Dealer finance and other income

    —          —          —          —          2,977        175        2,800   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total revenue

    1,058,625        946,282        1,025,741        1,121,307        1,222,866        367,838        387,242   

Operating costs:

             

Cost of used vehicles sold

    477,255        394,362        481,210        544,504        607,932        197,161        211,638   

Provision for credit losses

    300,884        223,686        175,900        207,198        253,603        60,342        77,842   

Other operating costs (1)

    182,594        164,841        199,443        207,196        227,692        59,145        60,685   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating income

    97,892        163,393        169,188        162,409        133,639        51,190        37,077   

Secured debt interest expense

    74,749        95,037        94,098        73,050        73,092        18,003        18,146   

Unsecured debt interest expense

    22,333        15,629        4,004        —          —          —          —     
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total interest expense

    97,082        110,666        98,102        73,050        73,092        18,003        18,146   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Income before income taxes

    810        52,727        71,086        89,359        60,547        33,187        18,931   

Income tax expense (2)

    1,090        730        404        1,221        1,194        392        342   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income (loss)

  $ (280   $ 51,997      $ 70,682      $ 88,138      $ 59,353      $ 32,795      $ 18,589   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Other Financial Data:

             

EBITDA (3)

  $ 111,980      $ 176,454      $ 182,939      $ 178,484      $ 153,789      $ 56,141      $ 42,485   

Adjusted EBITDA (3)

  $ 104,515      $ 159,478      $ 197,899      $ 179,642      $ 162,025      $ 56,179      $ 48,493   

Depreciation expense

  $ 14,088      $ 13,061      $ 13,751      $ 16,075      $ 20,150      $ 4,951      $ 5,408   

Average finance receivable principal balance

  $ 1,410,292      $ 1,364,782      $ 1,378,486      $ 1,469,528      $ 1,588,471      $ 1,484,085      $ 1,616,127   

Ratio of net debt to shareholders’ equity (4)

    3.9x        3.4x        2.4x        2.4x        2.8x        2.2x        2.8x   

Weighted average effective borrowing rate on total debt (5)

    8.4     10.6     9.2     6.6     5.7     6.1     5.1

($ in thousands, except percentage and ratio data)

 

 

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     As of December 31,      As of March 31, 2013  
     2011      2012      Actual      As Adjusted  (6)  

Balance Sheet Data:

           

Cash and Cash equivalents

   $ 25,930       $ 26,480       $ 25,731       $ 25,731   

Restricted cash and investments held in trust

   $ 99,716       $ 107,072       $ 126,951       $ 126,951   

Total assets

   $ 1,766,829       $ 1,989,117       $ 2,079,655       $ 2,080,892   

Total portfolio debt

   $ 924,026       $ 1,106,678       $ 1,134,206       $ 1,084,205   

Total debt (7)

   $ 1,221,380       $ 1,422,279       $ 1,469,266       $ 1,471,305   

Shareholders’ equity

   $ 457,849       $ 467,553       $ 486,038       $ 485,236   

Credit Ratios:

           

Ratio of net debt to shareholders’ equity (8)

     2.4x         2.8x         2.8x         2.8x   

Secured collateral coverage ratio (9)

     1.9x         2.1x         1.9x         2.3x   

Ratio of Adjusted EBITDA to interest expense (10)

     2.5x         2.2x         2.4x         2.4x   

($ in thousands, except ratio data)

 

    Fiscal Year Ended December 31,     Three Months Ended
March 31,
 
    2008     2009     2010     2011     2012     2012     2013  

Key Operating Data:

             

Retail:

             

Number of used vehicles sold

    55,415        49,500        52,498        56,109        59,930        19,145        19,607   

Dealerships in operation at end of period

    86        78        85        89        97        90        100   

Average number of vehicles sold per dealership per month

    49        52        54        54        55        72        67   

Per Vehicle Data:

             

Average age of vehicles sold (in years)

    4.1        4.1        4.3        5.4        6.0        5.9        5.9   

Average mileage of vehicles sold

    67,428        68,076        71,300        79,741        86,972        80,839        82,224   

Average selling price of vehicles sold

  $ 14,378      $ 14,029      $ 14,491      $ 14,490      $ 15,360      $ 15,520      $ 15,784   

Average gross profit

  $ 5,766      $ 6,062      $ 5,325      $ 5,236      $ 5,216      $ 5,222      $ 4,990   

Average gross margin

    40.1     43.2     36.7     35.0     34.0     33.6     31.6

Loan portfolio:

             

Principal balances originated

  $ 789,360      $ 686,214      $ 747,329      $ 829,164      $ 917,093      $ 292,970      $ 312,074   

Number of loans outstanding (end of period)

    125,070        127,737        134,264        137,293        140,748        142,627        145,225   

Principal outstanding (end of period)

  $ 1,342,855      $ 1,312,216      $ 1,381,092      $ 1,466,680      $ 1,601,710      $ 1,566,492      $ 1,707,051   

Average effective yield on portfolio (11)

    19.3     19.3     19.9     19.5     18.9     19.6     19.1

Portfolio performance data:

             

Portfolio delinquencies 31-90 days (12)

    9.4     7.4     9.1     10.9     15.1     6.5     10.1

Net charge-offs as percentage of average principal outstanding

    21.4     18.2     13.5     13.1     13.9     3.0     3.8

($ in thousands, except vehicle, loan, dealership and percentage data)

 

(1) 

Includes net gains on extinguishment of debt of $19.7 million and $30.3 million for the years ended December 31, 2008 and 2009, respectively, and a net loss on extinguishment of debt of $3.4 million for the year ended December 31, 2010. No gain or loss on extinguishment of debt was incurred for the years ending December 31, 2011 and 2012 or for the three months ending March 31, 2013 and 2012, respectively.

 

 

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(2) 

We elect to be treated as an S-corporation for federal and state income tax purposes. There is no provision for income taxes, except for a reduced amount of entity level state tax in certain jurisdictions, and for one of our subsidiaries which is a C-corporation. Income and losses flow through to our shareholders, who report such income and losses on individual income tax returns.

(3) 

We present EBITDA and Adjusted EBITDA because we consider them to be important supplemental measures of our operating performance. All of the adjustments made in our calculation of Adjusted EBITDA are adjustments to items that management does not consider to be reflective of our core operating performance. Management considers our core operating performance to be that which can be affected by our managers in any particular period through their management of the resources that affect our underlying revenue and profit generating operations during that period. However, EBITDA and Adjusted EBITDA are not recognized measurements under GAAP and when analyzing our operating performance, investors should use EBITDA and Adjusted EBITDA in addition to, and not as an alternatives for, net income, operating income, or any other performance measure presented in accordance with GAAP, or as alternatives to cash flow from operating activities or as measures of our liquidity. Because not all companies use identical calculations, our presentation of EBITDA and Adjusted EBITDA may not be comparable to similarly titled measures of other companies. EBITDA represents net income (loss) before income tax expense, total interest expense (secured and unsecured) and depreciation expense. Adjusted EBITDA represents EBITDA plus store closing costs, legal settlement, non-cash compensation expense, loss on extinguishment of debt, net, restricted stock compensation expense, IPO expense, CFPB expenses, and terminated sale transaction costs, less the gain on extinguishment of debt, net and sales tax refund. The following tables reconcile net income (loss) to EBITDA and EBITDA to Adjusted EBITDA for the periods presented:

 

    Fiscal Year Ended December 31,     Three Months Ended
March 31,
 
    2008     2009     2010     2011     2012          2012               2013       

Net income (loss)

  $ (280   $ 51,997      $ 70,682      $ 88,138      $ 59,353      $ 32,795      $ 18,589   

Income tax expense

    1,090        730        404        1,221        1,194        392        342   

Secured Interest expense

    74,749        95,037        94,098        73,050        73,092        18,003        18,146   

Unsecured interest expense

    22,333        15,629        4,004        —          —          —          —     

Depreciation expense

    14,088        13,061        13,751        16,075        20,150        4,951        5,408   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

EBITDA

  $ 111,980      $ 176,454      $ 182,939      $ 178,484      $ 153,789      $ 56,141      $ 42,485   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Dealership closing costs (a)

    9,984        3,485        1,184        (101     724        276        59   

Legal settlement (b)

    —          7,600        —          —          —          —          —     

Non-cash compensation expense (c)

    2,250        2,250        1,125        —          —          —          —     

(Gain)/Loss on extinguishment of debt, net (d)

    (19,699     (30,311     3,418        —          —          —          —     

Restricted stock compensation expense (e)

    —          —          3,874        2,789        1,546        465        310   

Sales tax refund adjustment (f)

    —          —          4,831        (1,530     (3,008     (703     283   

IPO Expense (g)

    —          —          528        —          —          —          —     

CFPB Expenses (h)

    —          —          —          —          3,090        —          —     

Terminated sale transaction costs (i)

    —          —          —          —          3,942        —          —     

Deferred income adjustments (j)

    —          —          —          —          1,942        —          5,356   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Adjusted EBITDA

  $ 104,515      $ 159,478      $ 197,899      $ 179,642      $ 162,025      $ 56,179      $ 48,493   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

($ in thousands)

 

  (a) 

Dealership closing costs represent costs to close dealerships in 2008 and 2009 related to downsizing (and do not include dealerships closed in the normal course of business). Typically, expense relates to rent paid on continued lease obligations and fees associated with required storage of original dealerships records. Additionally, 2012 included the loss on disposal of fixed assets for a closed dealership and a lease liability for a closed reconditioning facility. Credits in dealership closing costs are the result of negotiating lease terminations more favorable than amounts accrued.

  (b) 

Legal settlement represents cash paid in a legal settlement in April 2009.

  (c) 

Non-cash compensation expense related to an agreement directly between Mr. Garcia and Mr. Fidel (not between the Company and Mr. Fidel), which expired in June 2010. See “Certain Relationships and Related Party Transactions.”

  (d) 

Gain on extinguishment of debt, is a result of repurchasing outstanding indebtedness during 2008 and 2009 at a discount to par. Loss on extinguishment of debt is a result of repurchasing outstanding indebtedness in 2010.

  (e) 

In December 2010, our chief executive officer, entered into a Restricted Stock Agreement with DTAG and DTAC pursuant to which we awarded a specified number of shares of restricted stock to Mr. Fidel. Such shares will become vested over a three-year period based on the achievement by the Company of certain income before income tax targets. See “Compensation Discussion and Analysis—Overview—Chief Executive Officer Restricted Stock Grant.”

  (f) 

Represents non-cash adjustments to sales tax refunds related to loans charged-off in prior periods.

  (g) 

IPO expense represents costs incurred related to our withdrawn initial public offering in 2010.

  (h) 

Represents initial direct costs incurred in responding to the CFPB’s request for information.

  (i) 

Represents directs costs incurred in conjunction with the terminated sale of the Company in 2012.

 

 

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  (j) 

Represents the accounting effect of deferring income related to the sale of separately priced service contracts.

(4) 

Net debt is calculated as total debt less restricted cash and investments held in trust securing various debt facilities. Ratio of net debt to shareholders’ equity is calculated as net debt divided by total shareholders’ equity.

(5) 

Weighted average effective borrowing rate includes the effect of unused line fees and amortization of discounts and debt issuance costs.

(6) 

Gives effect to (i) the issuance and sale of $50 million of Senior Secured Notes due 2017 on May 2, 2013 as if the issuance occurred on March 31, 2013, including the use of proceeds to pay-down warehouse facility and inventory facility debt (ii) additional interest expense that would have been incurred had the $50 million of senior notes been outstanding since January 1, 2013, and (iii) the pledging of the residual interests in SPE’s (for collateral coverage ratio) not currently pledged.

(7) 

Total debt is calculated as the sum of our total portfolio debt, senior secured notes, inventory facility, real estate notes, and capital leases.

(8) 

Net debt is calculated as total debt less restricted cash and investments held in trust securing various debt facilities. Ratio of net debt to shareholders’ equity is calculated as net debt divided by shareholders’ equity.

(9) 

Defined as the ratio of (i) the sum of (a) DTAG and DTAC unencumbered finance receivables, (b) residual interests in receivable lines, (c) recoveries on charged-off loans and (d) excess of inventory and inventory debt, to (ii) aggregate principal amount of the notes.

(10) 

Our ratio of Adjusted EBITDA to interest expense differs from the calculation of Fixed Charge Coverage Ratio discussed in “Description of the Exchange Notes.”

(11) 

Represents the interest income earned at the contractual rate (stated APR) less the write-off of accrued interest on charged-off loans and amortization of loan origination costs (which includes the write-off of unamortized loan origination costs on charged-off loans), plus interest earned on investments held in trust and late fees earned.

(12) 

Presented on a Sunday-to-Sunday basis, which reflects delinquencies as of the nearest Sunday to period end. Sunday is used to eliminate any impact of the day of the week on delinquencies since delinquencies tend to be higher mid-week. We modified our charge-off policy in December 2011. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Factors Affecting Comparability—Modification to Charge-off Policy,” for more information.

 

 

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RATIO OF EARNINGS TO FIXED CHARGES

The following table sets forth the consolidated ratio of earnings to fixed charges for the periods shown:

 

     Year Ended December 31,      Three Months
Ended
March 31,
 
     2008      2009      2010      2011      2012      2013  

Ratio of earnings to fixed charges (1)(2)

     1.0x         1.5x         1.7x         2.1x         1.8x         2.0x   

 

(1) 

We compute the ratio of earnings to fixed charges by dividing (i) earnings (loss), which consists of net income from continuing operations before income taxes plus fixed charges and amortization of capitalized interest less interest capitalized during the period by (ii) fixed charges, which consist of interest expensed and capitalized, plus amortized premiums, discounts and capitalized expenses related to indebtedness, plus an estimate of the interest within rental expense. See Exhibit 12.1 for a calculation of the ratio of earnings to fixed charges.

(2) 

The ratio of earnings to fixed charges above is presented pursuant to Item 503(d) of Regulation S-K and is not the same as the Fixed Charge Coverage Ratio covenant embodied in the indenture governing the notes.

 

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RISK FACTORS

Investing in our exchange notes involves a high degree of risk. Before exchanging your old notes for our exchange notes, you should carefully consider the following risks and the other information contained in this prospectus, including our consolidated financial statements and related notes and “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” The risks described below are those that we believe are the material risks we face. Any of the risks described below, and others that we may not anticipate, could significantly and adversely affect our business, prospects, financial condition, results of operations, and liquidity. As a result, the trading price of our exchange notes could decline and you may lose all or part of your investment.

Risks Related to Our Business

We require substantial capital to finance our business.

We have borrowed, and will continue to borrow, substantial amounts of capital to fund our operations and we periodically refinance such debt. If we cannot obtain the financing we need, or cannot do so on a timely basis and on favorable terms, our liquidity could be materially adversely affected.

At March 31, 2013, we had approximately $1.5 billion in aggregate principal amount of indebtedness outstanding, which includes $145.0 million under portfolio warehouse facilities that are due to expire between 2013 and 2014, depending on the facility. The portfolio warehouse facilities contain term-out features resulting in final maturities between 12 and 24 months from their expiration dates, depending on the facility.

We historically have restored capacity under our portfolio warehouse facilities from time to time by securitizing portfolios of finance receivables and/or obtaining bank term financing. The volatility of the securitization market and our ability to successfully and efficiently complete securitizations and bank term financings are affected by the condition of the financial markets generally, conditions in the asset-backed securities market specifically, the performance of our securitized portfolio and the macro-economic environment generally.

Since the disruption in the securitization markets at the onset of the financial crisis a few years ago, we have obtained alternative financing through a variety of debt instruments, including bank term financing through which we entered into private securitization transactions, securing approximately $800.0 million in portfolio financing, $60.1 million in third-party junior secured notes, $200.0 million in Senior Secured Notes due 2017, and $75.0 million in shareholder financings.

There is a risk that in the future, we may not be able to secure similar additional financing, execute securitizations, or renew loans and facilities if lenders and counterparties are also facing liquidity and capital challenges. Such an inability to obtain or renew financing could adversely affect our liquidity, financial condition, and results of operations.

Our substantial debt could have adverse effects on our business and we may incur additional indebtedness in the future.

For the three months ended March 31, 2013 and the year ended December 31, 2012, we paid $11.6 and $73.0 million, respectively, in cash for interest charges associated with our debt obligations. We may incur additional debt in the future, causing our cash payments for interest to increase. The degree to which we are leveraged, and to which we may become leveraged, could have adverse effects on our business, including as follows:

 

   

Our ability to obtain additional financing in the future may be impaired.

 

   

A significant portion of our cash flow from operations must be dedicated to the payment of interest and principal on our debt, and related expenses, which reduces the funds available to us for our operations.

 

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Some of our debt is and will continue to be at variable rates of interest, which may result in higher interest expense in the event of increases in market interest rates.

 

   

The agreements that govern our indebtedness contain, and any agreements to refinance our indebtedness likely will contain, financial and restrictive covenants, and our failure to comply with such covenants may result in an event of default, decrease in advance rate, or increase in interest rate, which, if not cured or waived, could result in the acceleration of that indebtedness and trigger an event of default under other indebtedness.

 

   

Our level of indebtedness will increase our vulnerability to general economic downturns and adverse industry conditions.

 

   

Our debt service obligations could limit our flexibility in planning for, or reacting to, changes in our industry.

 

   

Our leverage could place us at a competitive disadvantage vis-à-vis our competitors who have less leverage relative to their overall capital structures.

Interest rates affect our profitability and cash flows and an increase in interest rates will increase our interest expense and lower our profitability, cash flows, and liquidity.

Much of our financing income results from the difference between the rate of interest that we pay on the funds we borrow and the rate of interest that we earn on the finance receivables in our portfolio. While we earn interest on our finance receivables at a fixed rate, we pay interest on certain of our borrowings at variable rates. When interest rates increase, our interest expense increases. Increases in our interest expense that we cannot offset by increases in interest income could have a material adverse impact on our profitability and liquidity. Correspondingly, a significant reduction in our average APR could have a material adverse impact on our profitability, if not offset by a corresponding reduction in our loan losses, borrowing costs, or increases to gross margin on vehicles sold.

A reduction in the credit rating of our 12.625% Senior Secured Notes due 2017 (“Senior Secured Notes”), or any of our credit facilities, could restrict our access to the capital markets and adversely affect our liquidity, financial condition and results of operations.

Credit rating agencies evaluate us, and their ratings of our Senior Secured Notes and creditworthiness are based on a number of factors. These factors include our financial strength and other factors not entirely within our control, including conditions affecting the financial services industry generally. The credit rating of our RBS warehouse facility, which we renewed in March 2013, was recently downgraded (as a result of a voluntary increase in advance rate), and there can be no assurance that we will maintain the current ratings on our Senior Secured Notes or on any of our credit facilities. Failure to maintain those ratings could, among other things, adversely limit our access to the capital markets and affect the cost and other terms upon which we are able to obtain financing, which may adversely affect our liquidity, financial condition and results of operations.

We may not be able to generate sufficient cash flow to meet our debt service obligations.

Our ability to generate sufficient cash flow from operations to make scheduled payments on our debt obligations will depend on our future financial performance and cash flows, which will be affected by a range of economic, competitive, and business factors, many of which are outside of our control. If we do not generate sufficient cash flow from operations, we may have to undertake alternative financing plans, such as refinancing or restructuring our debt, selling assets, reducing or delaying capital investments, or seeking to raise additional capital. The terms of the agreements that govern our indebtedness contain limitations on our ability to incur additional indebtedness. We cannot assure you that any refinancing would be possible, that any assets could be sold, or, if sold, of the timing of the sales and the amount of proceeds realized from those sales, or that additional financing could be obtained on acceptable terms, if at all, or would be permitted under the terms of the agreements governing our

 

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indebtedness then outstanding. Our inability to generate sufficient cash flow to satisfy our debt obligations, or to refinance our obligations on commercially reasonable terms or at all, would have a material adverse effect on our business, financial condition, and results of operations, as well as on our ability to satisfy our debt obligations.

Our failure to comply with the agreements relating to our outstanding indebtedness, including as a result of events beyond our control, could result in an event of default or limits on our ability to borrow funds to finance our business.

The agreements that govern our indebtedness (including the indenture governing the exchange notes) contain, and any agreements that govern future indebtedness may contain, covenants that impose significant operating and financial restrictions on, among other things, our ability to:

 

   

incur additional debt;

 

   

incur liens;

 

   

sell or otherwise dispose of assets;

 

   

make investments, loans, or advances;

 

   

engage in merger and acquisition activity;

 

   

pay dividends, redeem capital stock, or make certain other restricted payments or investments;

 

   

engage in certain sale and leaseback transactions;

 

   

enter into new lines of business; and

 

   

enter into transactions with our affiliates.

The agreements that govern our indebtedness also contain certain covenants relating to the performance of our portfolio, which ultimately impacts the manner in which we operate our business. The advance rates on our portfolio warehouse facilities may be reduced if our portfolio does not perform as expected, we exceed certain extension limits, term limits, delinquency limits, or fail to meet the required collateral levels. The agreements governing any future indebtedness could contain financial and other covenants more restrictive than those that are currently applicable to us.

Failure to comply with the agreements governing our indebtedness could result in an event of default under one or more such agreements, cause cross-defaults on other agreements governing our indebtedness, including the Senior Secured Notes, and prevent us from securing alternate sources of funds necessary to operate our business. Any of these events could have a material adverse effect on our results of operations and financial condition. From time to time in the past, we have breached technical or other covenants under the agreements governing our indebtedness, and have obtained waivers from the applicable lenders in such instances. In a future event of default, there can be no assurance we will be able to receive waivers, and our inability to obtain these waivers may have a material adverse impact on our business.

Our ability to obtain certain financings in the future is restricted by the fixed charge coverage ratio of the debt incurrence test under the indenture relating to the Senior Secured Notes. We do not currently meet these requirements nor do we anticipate meeting these requirements for the foreseeable future, which will limit our ability to obtain certain financings, especially the incurrence of senior unsecured debt.

There is a high degree of risk associated with borrowers with subprime credit. The allowance for credit losses that we have established to cover losses inherent in our loan portfolio may not be sufficient or may need to be increased, which could have a material adverse effect on our results of operations and the value of your collateral.

Substantially all of the sales financing we extend and the loans that we service are with borrowers with subprime credit. Loans to borrowers with subprime credit have lower collection rates and are subject to higher loss rates

 

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than loans to borrowers with prime credit. Although we have extensive experience in subprime auto lending, there can be no assurance that our collections and loss rates will not increase over time.

We maintain an allowance for credit losses to cover losses on an aggregate basis at a level we consider sufficient to cover estimated losses inherent in our portfolio of receivables. On a quarterly basis we review and may make upward or downward adjustments to the allowance. However, our allowance may not be sufficient to cover losses inherent in our portfolio, and we may need to increase our allowance for reasons related to, among other things, the continued weak economic environment and uncertainty in the housing market, or significant increases in delinquencies or charge-offs. A significant variation in the timing of or increase in credit losses in our portfolio or a substantial increase in our allowance or provision for credit losses would have a material adverse effect on our results of operations.

In addition, because a portion of the collateral securing the exchange notes consists of receivables, the remaining residual property rights in receivables securing other financings (and the value of which are therefore determined by the value of receivables sold or otherwise pledged) or the remaining residual value of special purpose entities that have themselves put in place financings secured by receivables (and the value of which are therefore determined by the value of receivables owned), the value of the collateral securing the exchange notes will be sensitive to the performance of the underlying receivables.

Our focus on customers with subprime credit may raise concerns on the part of future business partners, lenders, counterparties, and regulators, which may adversely affect our business.

We focus solely on the subprime segment of the used vehicle sales and financing market and provide loans to borrowers with subprime credit who, as a class, have lower collection rates and are subject to higher loss rates than prime and near prime borrowers. In addition, the subprime industry has been the subject of extensive media attention, enhanced regulatory scrutiny, and Congressional hearings as a result of what has been characterized as inappropriate consumer practices by subprime lenders in the mortgage industry.

These issues may raise concerns on the part of future business partners, lenders, counterparties, and regulators. As a result, we are unable to assess whether, and to what extent, they may have an adverse effect on our business in the future, including on our reputation, revenues and profitability. In particular, we cannot predict whether these issues may negatively affect our ability to obtain new financing to support our operations or any necessary regulatory approvals or business licenses in connection with our plans to expand our business, either of which could have a material adverse effect on our business.

Our proprietary credit scoring system may not perform as expected and fail to properly quantify the credit risks associated with our customers, which could have a material adverse effect on our financial condition and results of operations.

We have developed, and revise from time to time, complex proprietary credit scoring models that use traditional and non-traditional variables to classify our customers into various risk grades that are linked to loan parameters. There is no guarantee that our credit scoring models will perform as intended or that they will perform in future market conditions. Failure of our credit scoring models to properly quantify the credit risks associated with our customers could have a material adverse effect on our results of operations and financial condition.

We depend on the accuracy and completeness of information furnished to us by or on behalf of our customers. If we and our systems are unable to detect any misrepresentations in this information, we could experience a material adverse effect on our results of operations and financial condition.

Our typical customers have limited or no credit histories. In deciding whether to extend credit to customers, we rely heavily on information furnished to us by or on behalf of our customers, including employment and personal financial information. If a significant percentage of our customers intentionally or negligently misrepresented any

 

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of this information, and we and our systems did not detect such misrepresentations, this could have a material adverse effect on our ability to effectively manage our credit risk, which could have a material adverse effect on our results of operations, cash flows, and financial condition.

Our proprietary vehicle pricing system may not perform as expected and fail to properly set the retail price and effective margin associated with our used vehicle inventory for sale.

We have developed, and revise from time to time, a complex pricing engine that utilizes several variables in determining the retail price of our vehicles, including cost of vehicle, cost of reconditioning, relative market prices, and other external data to price our vehicles competitively. The failure of our pricing engine to properly calculate a retail price for each vehicle could have a material adverse effect on our results of operations and financial condition.

General economic conditions and their effect on automobile sales may adversely affect our business.

Vehicles sales historically have been impacted by economic factors. Many factors affect the industry, including general economic conditions, consumer confidence, the level of personal discretionary income, interest rates, the price of fuel, and credit availability. Deteriorating economic and market conditions throughout the United States or within a region in which we do business could result in a decline in vehicle sales, a decrease in collectability of our finance receivables, or an increase in vehicle pricing. We cannot assure you that the industry will not experience sustained periods of decline in vehicle sales in the future. Any future decline could have a material adverse effect on our business.

We are subject to significant governmental regulation, and if we are found to be in violation of any of the federal, state, or local laws or regulations applicable to us, our business could suffer. We are also subject to legal and administrative proceedings that, if the outcomes are unfavorable to us, could adversely affect our business, operating results, and prospects.

The automotive retail and finance industries are subject to a wide range of federal, state, and local laws and regulations, such as local licensing requirements, and retail financing, debt collection, consumer protection, environmental, health and safety, creditor, wage-hour, anti-discrimination, and other employment practices laws and regulations. The violation of these or future requirements or laws and regulations can result in administrative, civil, or criminal sanctions against us, which may include a cease and desist order against the subject operations or even revocation or suspension of our license to operate the subject business. As a result, we have incurred and will continue to incur capital and operating expenditures and other costs to comply with these requirements, laws, and regulations. Further, over the past several years, private plaintiffs and federal, state, and local regulatory and law enforcement authorities have increased their scrutiny of advertising, sales, financing, and insurance activities in the sale and leasing of motor vehicles. In addition, many state attorneys general have been increasingly active in the area of consumer protection. We are also subject, and may be subject in the future, to inquiries and audits from state and federal regulators. There can be no assurance that such activities will not continue in the future or will not have a material adverse effect on our business.

From time to time, we may be involved in various legal and administrative proceedings. We are also currently the subject of investigative inquiries from the Consumer Protection Division of the Office of Texas Attorney General. See “Business—Legal Proceedings.” It is not feasible to predict the outcome of these proceedings or any claims made against us, and the outcome of any such proceedings or claims could adversely affect our reputation, results of operations, or financial condition.

We are also subject to the Dodd-Frank Act of 2010, which represents a comprehensive overhaul of the rules and regulations governing the financial services industry. Although the regulatory decisions regarding its implementation continue, many parts of the Dodd-Frank Act are now in effect, including the establishment and operation of the Consumer Financial Protection Bureau (the “CFPB”), as an independent entity within the

 

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Federal Reserve. The CFPB has the authority to promulgate consumer protection regulations applicable to all entities offering consumer financial services or products, including non-bank commercial companies in the business of extending credit and servicing consumer loans. Further, the CFPB has issued rules allowing it to supervise non-bank “larger participants” in certain markets for consumer financial services and products and may in the future issue rules to supervise nonbank larger participants in the direct and/or indirect auto lending industries, which may include us. Although the CFPB has begun operations and now has a director, the exact scope and substance of the regulations that may be adopted by the CFPB, particularly as they relate to our operations, are still unknown at this time. However, on April 12, 2012, the CFPB delivered a Civil Investigative Demand to DTAG requesting that DTAG produce certain documents and information and answer questions relating to certain components of the business of DTAG and its affiliates, which we have provided. On February 21, 2013, we received a limited request to clarify and supplement certain information provided to the CFPB. Such information has since been provided. We also received a further request for information on May 1, 2013, and we are currently in the process of responding to the request. The CFPB has not alleged a violation by DTAG of any law and DTAG is cooperating with the CFPB’s requests for information. It is not feasible to predict the outcome of this investigation, and although no assertions or claims have been made against us, an adverse action by the CFPB could adversely affect our reputation, results of operations, or financial condition.

The Dodd-Frank Act contains numerous other provisions affecting financial industry participants of all types, including third parties that we deal with in the course of our business, such as rating agencies, insurance companies, and investors. Its implementing regulations have had, and likely will continue to have, the effect of increasing the compliance costs of operating our business. Additionally, its continued implementation may further impact our operating environment in other substantial and unpredictable ways that could have a material adverse effect on our financial condition and results of operations.

Changes in laws, regulations, or policies may adversely affect our business.

The laws and regulations governing our lending, servicing, debt collection, and insurance activities or the regulatory or enforcement environment at the federal level or in any of the states in which we operate may change at any time and may have an adverse effect on our business. For example, the CFPB is currently conducting studies on and reviewing consumer lending related regulations that affect our industry. Under the Dodd-Frank Act, the CFPB may restrict the use of pre-dispute mandatory arbitration clauses in contracts with consumers for consumer financial products or services, and the CFPB is currently studying the use of such clauses. The CFPB has also commenced the examination of banks and non-banking institutions, with a focus on consumer lending compliance. In addition, on March 21, 2013, the CFPB issued Bulletin 2013-02 addressing Indirect Auto Lending and Compliance with the Equal Credit Opportunity Act (ECOA), in which the CFPB provided guidance about compliance with the fair lending requirements of ECOA and its implementing regulations for indirect auto lenders that permit dealers to increase consumer interest rates and that compensate dealers with a share of the increased interest revenues. These regulatory activities may lead to changes in laws and regulations governing these activities that apply to our business, which may affect our cost of doing business, may limit our permissible activities, and could have a material adverse effect on us.

In addition, the Patient Protection and Affordable Care Act of 2010, as it is phased in over time, will significantly affect the administration of health care services and could significantly impact our cost of providing employees with health-care insurance.

We are unable to predict how these or any other future legislative or regulatory proposals or programs will be administered or implemented or in what form, or whether any additional or similar changes to statutes or regulations, including the interpretation or implementation thereof, will occur in the future. Any such action could affect us in substantial and unpredictable ways and could have an adverse effect on our results of operations and financial condition.

Our inability to remain in compliance with regulatory requirements in a particular jurisdiction could have a material adverse effect on our operations in that market and on our reputation generally. No assurance can be

 

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given that applicable laws or regulations will not be amended or construed differently or that new laws and regulations will not be adopted, either of which could materially adversely affect our business, financial condition, or results of operations.

Due to the most recent economic recession and continued uncertainty in capital markets, we have in the past, and could be required in the future to reduce the scope of our operations, which could have a material adverse effect on our results of operations, cash flows, and financial condition.

During 2008 and early 2009, we contracted our operations in response to the economic crisis. While we expanded our operations and opened new dealerships during 2010, 2011, 2012, and the first quarter of 2013, if we again experience economic uncertainty or economic deterioration, we could be required to reduce the scope of our operations. If we choose to close dealerships and/or reduce portfolio originations in the future, we will face certain additional risks, including risks related to:

 

   

an inability to obtain anticipated cost reductions;

 

   

legal and regulatory risks related to closed dealerships and lay-offs, including the risk of lawsuits;

 

   

vandalism, theft, or other damages to vacant dealerships;

 

   

diversion of management’s attention from normal business operations; and

 

   

failure to generate sufficient cash flows to help fund our operations.

If we were to lose the right to service our portfolio of receivables, we could experience a decrease in collections, which could have a material adverse effect on our results of operations and financial condition.

We retain the right to service all receivables that we finance, including those pledged as collateral to our portfolio warehouse facilities and those sold to securitization trusts. We are entitled to a fee for our servicing activities, which generates cash flow for operations. Subject to certain conditions, if we experience an event of default under the agreements governing our financing arrangements, we may lose the right to service our receivables. Loss of this right could have a material adverse effect on our cash flows. In addition, if we lose our servicing rights, transitioning servicing activities to a third party could result in interruptions in collections, which could decrease the likelihood that the receivables will be repaid. Moreover, a replacement servicer might lack the requisite experience in servicing such subprime receivables. As a result, we may experience decreased collections, which could have a material adverse effect on our results of operations and financial condition and on the value of the collateral securing the exchange notes.

Our operations and the finance receivables we generate are concentrated geographically, and a downturn in the economies or markets in which we operate could adversely affect vehicle sales and collections.

As of March 31, 2013, we operated our dealerships in 19 states. Approximately 50% of our portfolio is concentrated in three states, Texas, Florida and North Carolina. These states also account for approximately 45% of our sales volume. Adverse economic conditions, natural disasters, or other factors affecting any state or region where high concentrations of our customers reside could adversely affect vehicle sales and collections. If adverse economic conditions, natural disasters, or other factors occur that affect the regions in which we do business, or if borrowers in these regions experience financial difficulties, a significant number of borrowers may not be able to make timely loan payments, if at all, or may be more prone to filing for bankruptcy protection, which could have a material adverse effect on our results of operations and financial condition.

We may experience seasonal and other fluctuations in our results of operations.

Sales of motor vehicles historically have been subject to substantial cyclical variation characterized by periods of oversupply and weak demand. We believe that many factors affect the industry, including consumer confidence

 

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in the economy, the level of personal discretionary spending, interest rates, fuel prices, credit availability, and unemployment rates. A recession or an industry or general economic slowdown could materially adversely impact our business.

Historically, we have experienced higher revenues in the first quarter of the calendar year than in the last three quarters of the calendar year. We believe these results are due to seasonal buying patterns resulting in part because many of our customers receive income tax refunds, which are a primary source of down payments on used vehicle purchases, during the first quarter of the year. Our loan performance also has historically followed a seasonal pattern with delinquencies and charge-offs being the highest in the second half of the year. Accordingly, our results in any quarter may not indicate the results we may achieve in any subsequent quarter or for the full year. A significant portion of our general and administrative expenses do not vary proportionately with fluctuations in revenues. We expect quarterly fluctuations in operating results to continue as a result of seasonal patterns. Such patterns may change, however, due to factors affecting the automotive industry or otherwise.

Our failure to effectively manage our growth could harm our business, we may not be able to access the additional financing required to fund our growth, and our plans to expand our operations will expose us to increased legal and regulatory risks that may adversely affect our business.

We continually evaluate expanding our operations by opening new dealerships and reconditioning centers, some of which will potentially be located in existing DriveTime markets and some of which are expected to be located in markets in which we do not currently operate. This growth may result in the incurrence of additional debt and operating expenses, which could adversely affect our profitability and liquidity. Moreover, growth and expansion of our operations may place a significant strain on our resources and increase demands on our executive management team, management information and reporting systems, financial management controls and personnel, and regulatory compliance systems and personnel. We may not be able to expand our operations or effectively manage or integrate our expanding operations, or achieve planned growth on a timely or profitable basis. If we are unable to achieve our planned growth or manage our growth effectively, we may experience operating inefficiencies and our results of operations may be materially adversely affected.

In addition, expansion into new states will increase our legal and regulatory risk. Our failure or alleged failure to comply with applicable laws and regulations in any new jurisdiction, and ensuing inquiries or investigations by regulatory and enforcement authorities, may result in regulatory action, including suspension or revocation of one or more of our licenses, civil or criminal penalties, or other disciplinary actions, and restrictions on or suspension of some or all of our business operations. As a result, our business could suffer, our reputation could be harmed, and we could be subject to additional legal risk. This could, in turn, increase the size and number of claims and damages asserted against us, subject us to regulatory investigations, enforcement actions, or other proceedings, or lead to increased regulatory or supervisory concerns. We may also be required to spend additional time and resources on any necessary remedial measures, which could have an adverse effect on our business. We cannot predict the timing or form of any current or future regulatory or law enforcement initiatives, and any such initiatives could have a material adverse effect on our results of operations and financial condition.

We operate in a highly competitive environment, and if we are unable to compete with our competitors, our results of operations and financial condition could be materially adversely affected.

Our primary competitors are the “buy-here, pay-here” dealerships, independent used vehicle dealers, and used vehicle departments of franchise dealers that operate in the subprime segment of the used vehicle sales industry, and the banks, finance companies and indirect lenders that purchase their loans. There is no assurance that we can successfully distinguish ourselves from our competitors or compete in this industry in a cost-effective manner or at all. Moreover, if our competitors grow and strengthen through consolidation in the industry while we are unable to identify attractive consolidation opportunities, we could end up at a competitive disadvantage and experience declining market share and revenue. In addition, larger companies with significant financial and other resources have periodically entered or announced plans to enter the used vehicle sales and/or finance

 

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industry, or relax their credit standards and compete with us, at least at the upper end of our customer segment. These dealerships also compete with us in areas such as the purchase of inventory, which can result in increased wholesale costs for used vehicles and lower margins, and the dealerships and finance companies could also enter into direct competition with us at any time at the lower end of the subprime market.

Increased competition may cause downward pressure on the interest rates that we charge on finance receivables originated by our dealerships, or lower margins, or may cause an increase in our operating costs, all of which could have a material adverse effect on our results of operations and financial condition.

If we are unable to obtain sufficient numbers of used vehicles for our inventory in a cost-effective manner, our operations and financial results will be adversely impacted.

We require a large number of quality used vehicles for our dealerships. We acquire most of our used-vehicle inventory through auctions, and primarily through two auction companies. To a lesser extent, we also acquire used vehicles from wholesalers, franchised and independent dealers, and fleet owners, such as leasing companies and rental companies. The sources from which we can purchase vehicles of a quality and in a quantity acceptable to us are limited, and there is substantial competition to acquire the vehicles we purchase. Consequently, we may not be able to obtain sufficient inventory in a cost-effective manner or at all. Any decline in the number of or increased competition for quality vehicles could diminish our ability to obtain sufficient inventory at a price that we can reflect in retail market prices and would adversely affect our business.

If our inventory or other costs of operations increase and we are unable to pass along these costs to our customers, we may be unable to maintain or grow margins.

Our inventory and other costs are variable and dependent upon various factors, many of which are outside of our control. A rise in vehicle acquisition cost could erode our sales margins and negatively affect our results of operations. Rising auction prices have also led to the acquisition of a higher mileage and older age vehicle, which could cause an increase in reconditioning and warranty costs, both of which would also negatively affect our sales margins and overall profitability. If we incur cost increases, we may seek to pass those increases along to our customers. However, the income of our average customer limits the maximum monthly payment our customers can afford, and we may be unable to pass these costs along to our customers in the form of higher sales prices, which would adversely affect our ability to maintain or increase margins. Recently, used vehicle values have continued to increase.

We rely heavily on logistics in transporting vehicles for delivery from auctions to reconditioning facilities and to our dealerships. Our ability to manage this process both internally and through our network of transportation partners could cause a rise in inventory costs and disruption in inventory supply chain and distribution. Further, any disruption in the vehicle transport industry or the cost of transport could adversely affect our results of operations.

A failure of or interruption in our communications and information systems could adversely affect our revenues and profitability.

Our business is highly dependent on communications and information systems and is exposed to many types of operational risks, including the risk of fraud by employees or other parties, record-keeping error, errors resulting from faulty computer or telecommunication systems, computer failures or interruption, and damage to computer and telecommunication systems caused by internal or external events. We periodically update or change the integrated computer systems and other components of our operating systems. Any significant failure of such systems, whether as a result of third-party actions or in connection with planned upgrades and conversions, could disrupt our operations and adversely affect our ability to collect on contracts and comply with legal and regulatory requirements. Additionally, our systems are vulnerable to interruption or malfunction due to events beyond our control, including natural disasters and network and telecommunications failures. Our systems may

 

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also be vulnerable to unauthorized access, computer hackers, computer viruses, and other security problems. A user who circumvents security measures could misappropriate proprietary information or cause interruptions to or malfunctions in operations. As a result, we may be required to expend significant resources to protect against the threat of these security breaches or to alleviate problems caused by these incidents. We have backup systems and we periodically test disaster recovery scenarios; however, this may not prevent a systems failure or allow us to timely resolve any systems failures. Any interruption to our systems could have a material adverse effect on our results of operations and financial condition.

Reliance on our outsourced business functions could adversely affect our business.

We outsource a portion of our collections and internet sales functions to companies located outside the contiguous United States. While we believe there are benefits to these arrangements, outsourcing increases our operational complexity and decreases our control. We rely on these service providers to provide a high level of service and support, which subjects us to risks associated with inadequate or untimely service. For example, the outsourcing of collection functions could result in lower collection rates than we would have achieved had we performed the same functions internally. In addition, if these outsourcing arrangements were not renewed or were terminated or the services provided to us were otherwise disrupted, we would have to obtain these services from an alternative provider or provide them using our internal resources. We may be unable to replace, or be delayed in replacing, these sources and there is a risk that we would be unable to enter into a similar agreement with an alternate provider on terms that we consider favorable or in a timely manner. In the future, we may outsource other business functions. If any of these or other risks related to outsourcing were realized, our financial position, liquidity and results of operations could be adversely affected. We are also subject to work strikes and work stoppages in the countries/regions in which we operate, which could adversely affect our collections.

Anti-outsourcing legislation, if adopted, could adversely affect our business, financial condition and results of operations.

Outsourcing services and corporate functions to organizations operating in countries outside the United States is a topic of political discussion in many countries, including the United States. Federal and state legislation has been proposed, and enacted in some states, that could restrict or discourage U.S. companies from outsourcing their services to companies outside the United States in order to address concerns over the perceived association between offshore outsourcing and the loss of jobs domestically. The enactment of additional such legislation could broaden existing restrictions on outsourcing and impact private industry with measures that include, but are not limited to, tax disincentives, fees or penalties, intellectual property transfer restrictions, mandatory government audit requirements, and new standards that have the effect of restricting the use of certain business and/or work visas.

The personal information that we collect may be vulnerable to breach, theft, or loss, the occurrence of any of which could adversely affect our reputation and operations.

Possession and use of personal information in our operations subjects us to risks and costs that could harm our business. We collect, use, and retain large amounts of personal information regarding our customers, employees, and their families, including social security numbers, tax return information, personal and family financial data, and credit card numbers. Our computer networks and the networks of certain of our vendors that hold and manage confidential information on our behalf may be vulnerable to unauthorized access, employee theft or misuse, computer hackers, computer viruses, and other security threats. Confidential information may also inadvertently become available to third parties when we integrate systems or migrate data to our servers following an acquisition or in connection with periodic hardware or software upgrades.

Due to the sensitive nature of the personal information stored on our servers, our networks may be targeted by hackers seeking to access this data. A user who circumvents security measures could misappropriate sensitive

 

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information or cause interruptions or malfunctions in our operations. Although we use security and business controls to limit access and use of personal information, a third party may be able to circumvent those security and business controls, which could result in a breach of privacy. In addition, errors in the storage, use, or transmission of personal information could result in a breach of privacy. Possession and use of personal information in our operations also subjects us to legislative and regulatory burdens that could require us to implement certain policies and procedures, such as the procedures we adopted to comply with the Red Flags Rule that was promulgated by the Federal Trade Commission under the federal Fair Credit Reporting Act and that requires the establishment of guidelines and policies regarding identity theft, and could require us to make certain notifications of data breaches and restrict our use of personal information. A violation of any laws or regulations relating to the collection or use of personal information could result in the imposition of fines against us. As a result, we may be required to expend significant resources to protect against the threat of these security breaches or to alleviate problems caused by these breaches. A major breach, theft, or loss of personal information that is held by us or our vendors, or a violation of laws or regulations relating to the same, could have a material adverse effect on our reputation and result in further regulation and oversight by federal and state authorities and increased costs of compliance.

New business ventures could expose us to business risks not previously encountered.

In the fourth quarter of 2011, we introduced an indirect lending line of the business through our wholly-owned subsidiary GO Financial. This line of business is a complement to our other operations, and does not replace DriveTime vehicle sales or financings. Although we have leveraged much of the knowledge and resources of our existing infrastructure, the third-party nature of GO transactions exposes GO’s portfolio to risk that has not been traditionally present in the DriveTime portfolio. We will continue to monitor and make changes to our business plan to minimize risks to the GO portfolio; however, the following risks are inherent in GO:

 

   

GO relies on third-party dealers, not owned or operated by DriveTime, for its originations. Accordingly, the quality and accuracy of the loans originated, including customer fraud, vehicle quality, and the presence or absence of warranties or extended services contracts covering vehicle repair, will impact the quality of receivables in our GO portfolio.

 

   

GO deals have customer payment terms that are different than our traditional arrangements, but which are customary in the indirect lending business.

 

   

The infrastructure we built to facilitate GO transactions could fail, resulting in substantial write-offs to capitalized software projects.

 

   

GO may experience operating difficulty in certain states in which we are operating due to regulatory restrictions specific to subprime lending.

 

   

Loan portfolio performance may prove to be unprofitable if loss rates of the GO portfolio exceed our expectations.

 

   

The GO brand could negatively impact the DriveTime brand.

 

   

As GO grows, it may end up with a concentration of third-party dealers in a state or states increasing credit quality and dealer risks.

 

   

Third parties administer ancillary product offerings, such as vehicle service contracts, and if they fail to perform our loans may perform worse than anticipated and we will have the cost and risk of finding competent, cost effective alternatives in a timely manner.

 

   

Our third-party dealers must also comply with credit and trade practice statutes and regulations. Their failure to comply with these statutes and regulations could result in consumers having rights of rescission and other remedies.

 

   

The sale of vehicle service contracts and other products by our third-party dealers in connection with loans assigned to us is also subject to state laws and regulations. As we are the holder of loans that

 

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may, in part, finance these products, some of these state laws and regulations may apply to our servicing and collection of the loans. Although these laws and regulations do not significantly affect our business, there can be no assurance that insurance or other regulatory authorities in the jurisdictions in which these products are offered will not seek to regulate or restrict the operation of our business in these jurisdictions.

 

   

A number of risks related to DriveTime also apply to GO, including capital to finance the business, our substantial debt, cash flow, compliance with our agreements with our lenders, the risk of being in the subprime segment of the market, interest rates, efficacy of our credit scoring model, servicing of our loans, key personnel, confidentiality of customer information, and regulatory changes and concerns.

There can be no assurance that GO will be successful, and it could have unintended consequences which would have an adverse effect on our results of operations or financial condition. GO also involves numerous other risks, including the diversion of management’s attention from other business concerns.

In the first quarter of 2013, we introduced a new on-line used vehicle sales channel through Carvana, which is a wholly-owned subsidiary of DTAG. The Carvana business model is designed to facilitate the sale of a used vehicle through a sale process that is 100% on-line. Carvana is a complement to our other operations, however, and does not replace our core DriveTime businesses of vehicle sales and financings. Although we have leveraged much of the knowledge and resources of our existing infrastructure, the prospect of this new business venture presents risks to our core operations. We will continue to monitor and make changes to our business plan to minimize risks to DriveTime. However, the following risks, among others, are inherent in Carvana:

 

   

The infrastructure we built to facilitate Carvana transactions could fail, resulting in substantial write-offs to capitalized software projects.

 

   

Carvana may experience operating difficulty in certain states in which we are operating due to regulatory restrictions.

 

   

The Carvana brand could negatively impact the DriveTime brand.

 

   

Operating the Carvana business could divert excessive time and attention of DriveTime management and personnel away from core DriveTime businesses.

 

   

Carvana is initially concentrated in Atlanta, Georgia. Any economic disruption, geographic natural disaster, or other negative impact in the local area could cause a negative financial impact to DriveTime.

 

   

Third parties may administer ancillary product offerings, such as vehicle service contracts, and if they fail to perform our loans may perform worse than anticipated and we will have the cost and risk of finding competent, cost effective alternatives in a timely manner.

 

   

A number of risks related to DriveTime also apply to Carvana, including capital to finance the business, our substantial debt, risks to operating cash flow, compliance with lender agreements, interest rates, efficacy of our credit scoring model, our reliance on key personnel, confidentiality of customer information, and regulatory changes and concerns.

 

   

Carvana’s business focus as an on-line retailer could be significantly affected by internet fraud, identity theft, credit card, debit card and ACH fraud.

 

   

Carvana will rely heavily on logistics in transporting vehicles for delivery. Our ability to manage this process both internally and through a potential network of transportation partners could cause a disruption in business. Further, any disruption in the vehicle transport industry or the cost of transport could adversely affect both Carvana and DriveTime.

There can be no assurance that Carvana will be successful, and it could have unintended consequences which would have an adverse effect on our results of operations or financial condition.

 

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We are dependent on the services of certain key personnel and the loss of their services could harm our business.

We believe that our success depends on the continued employment of our senior executive management team, including our Chief Executive Officer and President, Raymond C. Fidel, our Chief Financial Officer, Mark G. Sauder, and our Executive Vice President and General Counsel, Jon D. Ehlinger. The unexpected loss of the services of any of our key executive management personnel or our inability to attract new management when necessary could have a material adverse effect on our operations. We do not currently maintain key person life insurance on any member of our executive management team.

Additionally, our success depends on the key management personnel at our corporate offices and the dealerships in our local markets. The market for qualified employees in the automotive and finance industries and in the markets in which we operate, particularly for qualified general managers, loan managers, and collections personnel, is highly competitive and may subject us to increased labor costs during periods of low unemployment. We also believe that our competitors pursue many of our managerial and collections and sales and service personnel from time to time. The loss of a group of key employees in any of our markets could have a material adverse effect on our business and results of operations in that market or across many or all markets in which we operate.

If all or some portion of our employees elect to collectively bargain or join a union, these actions could adversely affect our operations.

As of March 31, 2013, none of our employees were represented by a labor union. The automotive industry is historically an industry in which there is a high degree of labor union participation. If all or some portion of our employees elects to join a labor union, we could experience increased operational costs, work stoppages or strikes, and/or barriers to communication between management and employees. These factors could lead to inefficiencies in the operation of the affected facilities or groups and could cause us to experience a material adverse effect.

We are subject to environmental laws, regulations, and permits that could impose significant liabilities, costs, and obligations.

We are subject to a complex variety of federal, state, and local laws, regulations, and permits relating to the environment and human health and safety. If we violate or fail to comply with these laws, regulations, or permits, we could be fined or otherwise sanctioned by regulators. These environmental requirements, and the enforcement thereof, change frequently, have tended to become more stringent over time, and may necessitate substantial capital expenditures or operating costs. Under certain environmental laws, we could be responsible for the costs relating to any contamination at our or our predecessors’ current or former owned or operated properties or third-party waste disposal sites. We cannot assure you that our costs and liabilities relating to environmental matters will not adversely affect our results of operations, business, financial condition, reputation, or liquidity.

We could also be responsible for costs relating to any contamination at our current or formerly owned or operated properties or third-party waste disposal sites. This liability may be imposed even if we were not at fault. In addition to potentially significant expenses to investigate and remediate contamination, such matters can give rise to claims from governmental authorities and other third parties for fines or penalties, natural resource damages, or personal injury or property damage.

States impose limits on the interest rates we can charge on the installment sales contracts we provide to our customers, and new or lower limits may harm our ability to offset increased interest expenses and can adversely affect our profitability and liquidity.

We operate in states that impose limits on the contract interest rate that a lender may charge, and laws or regulations that limit the interest rates that we can charge can adversely affect our profitability and liquidity.

 

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When a state limits the amount of interest that we can charge on our installment sales contracts, we may not be able to offset an increase in interest expense caused by rising interest rates or greater levels of borrowings under our credit facilities. In addition, no assurance can be given that we will not be prohibited by new state laws from charging the interest rates we are currently able to charge on our installment sales contracts or from raising interest rates above certain desired levels. Therefore, these interest rate limitations can adversely affect our profitability and liquidity.

A change in state laws, or the application thereof, relating to the extent to which we can obtain a refund of sales tax for customer defaults could have a material adverse effect on our business.

In general, we are required to collect and remit state and local sales tax on each vehicle we sell. Subject to certain requirements, certain states allow us to collect a refund of prior sales taxes paid to the extent that the receivable becomes uncollectible. If state laws change with respect to the extent to which we can claim a refund for sales tax in such situations, or state taxing authorities change their position with respect thereto, we could experience a material adverse effect. In this regard, on February 24, 2011, we received an unfavorable ruling from the Nevada Supreme Court with respect to the efficacy of certain sales tax refunds we requested for prior tax years. While only applicable to 2002 and 2003, this ruling could affect subsequent tax years as well.

Reliability and safety of vehicle manufactured products could have a material adverse effect on our results of operations.

Manufacturer recalls, product reliability, safety issues and overall vehicle quality could adversely affect the demand for used vehicles at our dealerships and adversely affect loan performance. Such issues could also expose us to litigation and negative publicity related to the sale of the vehicles in question, which could have an adverse material effect on our sales, reputation, and results of operations.

We may be adversely affected by product liability exposure claims.

DriveTime, and the automotive industry generally, is exposed to product liability claims in the event that the failure of our products to perform to specifications results, or is alleged to result, in property damage, bodily injury, and/or death. In connection with such product liability claims, we may incur significant costs to defend such claims and we may experience material product liability losses in the future. We cannot assure you that we will have sufficient resources, including insurance to the extent it is available, to cover such product liability claims, and the outcome of various legal actions and claims could have a material adverse effect on our results of operations and financial condition.

We have programs for our customers to provide insurance covering our collateral in the event of theft or an accident. If our customers do not maintain insurance, it could negatively impact our operations and/or profitability.

Certain of our customers have difficulty obtaining and maintaining affordable insurance for their vehicles. We offer a separate collateral protection insurance program. Under this program, we offer customers dual interest collateral protection insurance administered through a third party with whom we have a contractual relationship. We do not offer a liability insurance product. There is a risk customers will not maintain collateral protection insurance, which could adversely affect our recoveries.

Failure to register our dealership sales business subsidiary in the relevant jurisdictions would cause a severe disruption in our operations.

In connection with our applications for renewal of the relevant license or registration, a state licensing authority could decide to withhold or delay approval of the relevant license or registration and prohibit DTCS, a subsidiary

 

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of DTAG, from operating one or more of our dealerships until certain requirements are met. We cannot anticipate what these requirements might entail or whether we will be able to comply with any such requirements in a timely manner. If the relevant license or registration is not granted for DTCS to operate in any state, it would cause a severe disruption in our operations in that state, which could have a material adverse effect on our business, financial condition and results of operations. We have recently expanded our operations into new states and intend to continue our expansion. A failure to attain the proper licensing and registration requirements for our expansion could disrupt our ability to further expand our business.

We could suffer a material adverse effect if the IRS challenged our position on intercompany sales of receivables.

We generally recognize losses for U.S. federal income tax purposes on the intercompany sales of receivables from DTAG to DTAC. This practice is standard within our industry and our interpretation is not meaningfully different from other companies in our industry. However, the IRS may challenge our position and seek to defer our recognition of such losses. If the IRS were able to successfully challenge our position, there could be a material adverse effect on our results of operations and financial condition.

Our Chairman and principal shareholder can direct our management and policies through his right to elect our board of directors and to control substantially all matters requiring a stockholder vote.

Ernest C. Garcia II, our Chairman and principal shareholder, beneficially owns the majority of our outstanding common stock. Certain agreements to which we are a party, including the indenture governing the exchange notes, the agreements governing our other indebtedness, and our origination agreement with DTAC pursuant to which DTAC purchases all of the auto loan receivables we originate, limit the control Mr. Garcia otherwise could exercise over our business and operations. Mr. Garcia has the power to elect our entire board of directors and determine the terms and outcome of any corporate transaction or other matters required to be submitted to shareholders for approval, including the amendment of our certificate of incorporation, mergers, consolidations and the sale of all or substantially all of our assets. Because his interests as an equity holder may conflict with the interests of holders of the exchange notes, he may cause us to take actions that, in his judgment, could enhance his equity but may be prejudicial to the holders of the exchange notes.

Conflicts of interest may arise as a result of affiliations that our directors or executive officers have with Verde Investments, Inc. or other companies with which we have material relationships.

Ernest C. Garcia II, our Chairman and controlling stockholder, is also the owner of Verde Investments, Inc. (“Verde”), a company with which we have historically had material leasing and financing relationships. See “Certain Relationships and Related Party Transactions.” In addition, there may occur future transactions between us and Verde which could give rise to a conflict of interest on the part of Mr. Garcia. While transactions that we enter into in which a director or officer has a conflict of interest are generally permissible so long as the material facts relating to the director’s or officer’s relationship or interest as to the transaction are disclosed to our Board of Directors and a majority of our disinterested directors, or a committee consisting solely of disinterested directors, approves the transaction, any such conflict of interest could have a material adverse effect on our business, results of operations or financial condition.

Changes in accounting policies could adversely affect our reported results of operations.

We have identified several accounting policies as being “critical” to the fair presentation of our financial condition and results of operations because they involve major aspects of our business and require management to make judgments about matters that are inherently uncertain. Materially different amounts could be recorded under different conditions or using different assumptions.

Additionally, the U.S. based Financial Accounting Standards Board is currently working together with the International Accounting Standards Board on several projects to converge certain accounting principles and

 

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facilitate more comparable financial reporting between companies that are required to follow U.S. GAAP and those that are required to follow International Financial Reporting Standards (“IFRS”) outside of the United States. These efforts may result in different accounting principles under GAAP, which may have a material impact on the way in which we report financial results in areas including, but not limited to, potential changes in accounting for leases, revenue recognition, and impairment of financial assets. The SEC may make a determination in the future regarding the incorporation of IFRS into the financial reporting system for U.S. based companies. A change in accounting principles from U.S. GAAP to IFRS, or the implementation of these or other converged or new accounting requirements, could adversely affect our reported results of operations and financial condition, and cause us to restate prior period reported results under the proposed guidance.

Risks Related to the Exchange Notes and the Exchange Offer

The exchange notes will be structurally subordinated to the liabilities of non-guarantor subsidiaries, including any non-guarantor subsidiary whose residual interest is pledged as collateral and included in the calculation of collateral value.

Although certain of our subsidiaries will guarantee the exchange notes, many of our subsidiaries, including subsidiaries through which we conduct securitization and warehouse financings, will not be guarantors. Instead, the equity interests of the Pledged SPSs will be pledged as collateral for the exchange notes. The Pledged SPSs are bankruptcy-remote entities established solely to make automatic payments to a defined set of creditors in connection with securitization and warehouse financings, and DTAC is restricted from engaging in any transfer of their equity interests until such time as all of their obligations have been satisfied in full. Since the Pledged SPSs are prohibited from providing a direct guarantee of DTAC’s obligations or a direct second lien on the finance receivables they own, and in order to maintain the bankruptcy-remote status of these subsidiaries, DTAC pledged a first lien on the equity interests of the Pledged SPSs as collateral in favor of the holders of the exchange notes. If, following a payment default under the exchange notes, the holders of exchange notes exercise their rights under the pledge agreement, a third-party paying agent will direct all cash flows from the Pledged SPSs to their respective defined sets of creditors, with the residual to be paid to the collateral agent for the exchange notes. Therefore, a first-priority lien on the equity interests of the Pledged SPSs is effectively a second-priority lien on the underlying collateral held by such Pledged SPSs. All obligations of our non-guarantor subsidiaries will have to be satisfied before any of the assets of such subsidiaries would be available for distribution, upon a liquidation or otherwise, to us or a guarantor of the exchange notes. Accordingly, claims of holders of the exchange notes will be structurally subordinated to the claims of creditors of these non-guarantor subsidiaries. These creditors or other claimants against a non-guarantor subsidiary will include, in addition to any creditors holding debt for borrowed money of such subsidiary, any trade creditors, preferred stockholders, and creditors asserting liabilities entitled by law to be asserted against us and certain of our consolidated subsidiaries on a joint and several basis, including certain U.S. statutory claims. Because the collateral value of a pledged residual interest will be determined after netting out debt for borrowed money but not any other liabilities, the assertion of these additional prior claims against such non-guarantor may reduce the value that may ultimately be realized for these entities in any enforcement or insolvency proceeding.

Because the collateral for the exchange notes is primarily comprised of equity and other residual interests in the Pledged SPSs, and such residual interests cannot be distributed to holders of the exchange notes until the creditors of the Pledged SPSs are paid in full, payment of the principal, interest and other amounts on the exchange notes or on each exchange note guarantee is effectively subordinated in right of payment to such financings at the Pledged SPS in which it is conducted. As noted above, none of those Pledged SPSs will guarantee the exchange notes, nor will any of them provide a direct pledge on their receivables or other assets in favor of the exchange notes or the exchange note guarantees. Accordingly, upon our bankruptcy, liquidation or reorganization or similar proceeding, the holders of the exchange notes will have no claim against the proceeds of these assets until the applicable portfolio warehouse lenders and securitization transactions and any other obligations of the Pledged SPSs have been paid in full.

 

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If a non-guarantor subsidiary is a restricted subsidiary under the indenture governing the exchange notes, the indenture will permit it to incur certain additional indebtedness and will not limit its ability to incur other liabilities that are not considered indebtedness under the indenture. If a non-guarantor subsidiary is an unrestricted subsidiary under the indenture, the indenture will not limit its ability to incur indebtedness or other liabilities.

Our subsidiaries that will not guarantee the exchange notes accounted for $73.3 million, or 18.9%, of our consolidated revenues for the three months ended March 31, 2013. As of March 31, 2013, such entities accounted for $1.5 billion, or 87.0%, of our consolidated finance receivables principal balances and $1.2 billion, or 79.9%, of our consolidated debt, all of which would have ranked structurally senior to the exchange notes and the guarantees.

Our portfolio warehouse facilities, securitizations, bank term financings and other financing transactions have liens and other rights with respect to collateral which could affect or prevent recovery and the taking of certain actions. These assets will not be pledged as collateral for the exchange notes, and holders of exchange notes will not control disposition or other remedies with respect to such assets.

The proceeds to service our debt under the exchange notes and other obligations are generated from receivables which have been pledged to the lenders on our warehouse facilities, securitizations and bank term financing transactions. Our portfolio warehouse facilities, residual facility securitizations and bank term financing transactions are subject to certain covenants and events of default or events of termination which, if breached, could result in the acceleration of the indebtedness set forth therein, cessation of funding and distributions during a period of accelerated amortization, and/or foreclosure on the pledged assets. If the indebtedness on any of the portfolio warehouse facilities or residual facilities was accelerated or accelerated amortization period, we would not receive any cash payments from the residual interests or residual property rights of such credit facility until the breach is cured, if at all, or until the applicable portfolio warehouse facilities are paid in full. If the pledged assets were foreclosed upon by any applicable lender, we would not receive any cash payments from the residual interests or residual property rights related to such portfolio warehouse facility or residual facility unless there were excess funds available after sale thereof. Any foreclosure sale could result in a realization on the underlying receivables and other assets that is significantly less than book or face amount, and any shortfall in that amount would adversely affect the value of the residual interest and residual property rights that are pledged as collateral to support the exchange notes. Moreover, a failure to receive cash flow from any or all of the residual interests or residual property rights outside of an insolvency proceeding involving the Company would adversely affect our ability to pay the exchange notes timely or at all.

The lenders on our portfolio warehouse facilities, securitizations, and bank term financing transactions are secured directly by the auto loans, receivables and other assets owned by the Company or our subsidiary that is the borrower or issuer of such financing. Creditors of the Company financing subsidiary that owns the underlying auto loans, receivables and other assets will control all rights and remedies with respect to those underlying assets for so long as those financings are outstanding. The providers of these direct financings may take action (or delay or refuse to take action) to dispose of, foreclose on, or exercise other remedies with respect to the shared collateral, all at times and under circumstances that may be unfavorable to the owner of the pledged residual interest and pledged residual property rights.

Inventory pledged as collateral will be subject to the prior first lien in favor of other creditors. Holders of the exchange notes will not be entitled to any collections with respect to that collateral until the first-lien creditors have been paid in full, and the Intercreditor Agreement significantly limits note holders’ rights and remedies as secured creditors.

A portion of the collateral securing the exchange notes consists of inventory pledged on a second-lien basis. The holders of the first lien—certain lenders or other creditors under one or more Senior Inventory Facilities—will have the right to be paid in full in cash before any proceeds of inventory are available for any payment on the exchange notes. The rights of the holders of the exchange notes with respect to this inventory collateral will also be governed and substantially limited by the terms of the Intercreditor Agreement. Under the Intercreditor Agreement, at any time the indebtedness secured on a first-priority basis remains outstanding, any actions that

 

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may be taken with respect to such collateral, including the ability to cause the commencement of enforcement proceedings against such collateral and to control the conduct of such proceedings, will be at the direction of the holders of the obligations secured by the first-priority liens and the holders of the exchange notes may be adversely affected.

Under the Intercreditor Agreement, the exchange note holders will also agree to certain other limitations on their status as secured creditors. For example, certain amendments to the security agreements entered into by the first-priority lien holders will automatically apply to the security agreements governing the second-priority liens for the exchange notes, and certain releases of first-priority liens will also release the second-priority liens securing the exchange notes on the same collateral. See “Description of the Exchange Notes—Security—Collateral.” Because the lenders under the Senior Inventory Facilities will control the disposition of the inventory collateral, if there were an event of default under the exchange notes, such lenders could decide not to proceed against the collateral, regardless of whether or not there is a default under a Senior Inventory Facility. In such event, the only remedy available to the holders of the exchange notes would be to sue for payment on the exchange notes and the guaranties. By virtue of the direction of the administration of the pledges and security interests, actions may be taken under the collateral documents that may be adverse to you.

The value of the collateral may not be sufficient to satisfy all our obligations under the exchange notes.

The value of the collateral in the event of an insolvency proceeding or liquidation will depend upon a number of factors, including market and economic conditions at the time, and the availability of appropriate buyers. The collateral valuations included in this memorandum have been prepared on a going concern basis, and there can be no assurance that going-concern values of our operations will be relevant in the case of any attempted realization. No independent appraisal of the receivables, the residual interests or the residual property rights pledged as collateral have been performed. Nor have we attempted to eliminate “ineligible” receivables or inventory in determining collateral value.

For these and other reasons, we cannot assure holders of the exchange notes that the proceeds of any sale of the collateral at maturity or following an acceleration of maturity with respect to the exchange notes would not be less than the collateral value then assigned to it, or that such proceeds would be sufficient to satisfy, or would not be substantially less than, the collateral or amounts due on the exchange notes. If the proceeds of any sale of the collateral were not sufficient to repay all amounts due on the exchange notes, a holder of exchange notes (to the extent their exchange notes were not repaid from the proceeds of the sale of the collateral) would have only an unsecured claim against our remaining assets. Some or all of the collateral may be illiquid and may have no readily ascertainable market value. Likewise, we cannot assure holders of the exchange notes that the collateral will be saleable or, if saleable, that there will not be substantial delays in their liquidation. In addition, because a portion of the collateral consists of residual property rights in receivables pledged in connection with secured financing or residual interests in special purpose entities that are themselves vehicles for secured financing, and a portion consists of a second lien on inventory, our ability to realize value on this collateral depends upon the prior payment of these other creditors, which may be implemented through foreclosure or other exercise of remedies at a time and in a manner that may not be in the best interest of the exchange note holders. Moreover, tax authorities and other statutory creditors may in some circumstances be entitled to assert a joint and several claim against special purpose entitles or other subsidiaries whose residual interests are pledged as collateral. If they do so, that claim will effectively be prior to the rights of the exchange note holders with respect to the residual assets included as collateral, and may further reduce the remaining value of those assets as collateral.

There are circumstances other than repayment or discharge of the exchange notes under which the guarantees and the collateral securing the exchange notes and exchange note guaranties will be released automatically, without consent of the trustee or the exchange note holders.

Under various circumstances, guarantees or collateral securing the exchange notes will be released automatically, including:

 

   

a sale, transfer or other disposal of all of the capital stock of any guarantor not prohibited under the indenture;

 

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a sale, transfer or other disposal of such collateral in a transaction not prohibited under the indenture or a Senior Inventory Facility;

 

   

with respect to collateral held by a guarantor, upon the release of such guarantor from its guaranty;

 

   

with respect to collateral that is capital stock or other equity interests, upon the dissolution of the issuer of such capital stock in accordance with the indenture and the Senior Inventory Facility; and

 

   

with respect to any collateral in which the exchange notes have a second-priority security interest, upon release by the lenders under any Senior Inventory Facility of their first-priority security interest in such inventory (subject to certain limits).

Although we will be subject to the covenants in the indenture, including a minimum collateral coverage ratio, any of these events will reduce the aggregate value of the collateral securing the exchange notes.

The ability of the trustee to foreclose on the collateral may be limited.

If we were to commence a proceeding or otherwise become the subject of a case under the Bankruptcy Code, your rights as a secured creditor to foreclose on and sell collateral, including the equity interests in our Pledged SPSs upon the occurrence of an event of default would be subject to significant limitations under applicable bankruptcy laws. Various provisions of the Bankruptcy Code could prevent the trustee from repossessing and disposing of the collateral upon the occurrence of an event of default once a bankruptcy case is commenced. Under the Bankruptcy Code, secured creditors, such as the holders of the exchange notes, may be prohibited from repossessing their collateral from a debtor in a bankruptcy case, or from disposing of collateral repossessed from such debtor, without prior bankruptcy court approval. Furthermore, other provisions of the Bankruptcy Code permit a debtor to continue to retain and to use the collateral (and the proceeds, products, rents or profits of such collateral) so long as the secured creditor is afforded “adequate protection” of its interest in the collateral. Although the precise meaning of the term “adequate protection” may vary according to circumstances, it is intended in general to protect a secured creditor against any diminution in the value of the creditor’s interest in its collateral. Accordingly, a bankruptcy court may find that a secured creditor is “adequately protected” if, for example, the debtor makes certain cash payments or grants the creditor additional or replacement liens as security for any diminution in the value of the collateral occurring for any reason during the pendency of the bankruptcy case. Because application of the doctrine of “adequate protection” will vary depending on the circumstances of the particular case and the broad discretionary powers of a bankruptcy court, it is impossible to predict how long payments under the exchange notes could be delayed following commencement of a bankruptcy case, whether or when the trustee could repossess or dispose of the collateral, or whether or to what extent holders of the exchange notes would be compensated for any delay in payment or loss of value of the collateral as a result. Furthermore, if the bankruptcy court determines the value of the collateral is not sufficient to repay all amounts due on the exchange notes, you would hold a secured claim to the extent of the value of the collateral to which you are entitled, and an unsecured claim to the extent of any shortfall.

In the case of inventory included in the collateral, this collateral will be subject to the rights of the first-lien holders under the Intercreditor Agreement, which will significantly curtail rights and remedies to which the exchange note holders might otherwise be entitled.

In addition, the trustee’s ability to foreclose on the collateral on your behalf may be subject to lack of perfection, the consent of third parties, prior liens (as discussed above, including the claims of non-guarantor subsidiaries to whom holders of the exchange notes will be structurally subordinated) and practical problems associated with the realization of the trustee’s security interest in the collateral.

Moreover, the Bankruptcy Code contains provisions permitting both secured and unsecured claims to be impaired, including materially re-written as to their terms and, under certain circumstances, extinguished, pursuant to a Chapter 11 plan of reorganization that has been approved by a bankruptcy court. There are statutory

 

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requirements (including requirements intended to provide specific economic protections for holders of both secured and unsecured claims) that are to be satisfied before a bankruptcy court is legally entitled to approve or confirm a Chapter 11 plan of reorganization.

However, the bankruptcy court will determine, based on evidence at the confirmation hearing on such plan, whether certain of those statutory requirements have been satisfied upon the basis of the factual circumstances existing at the time of such confirmation hearing. The bankruptcy court’s factual findings on such matters generally are accorded deference by any appellate court and generally are not to be reversed on appeal unless “clearly erroneous.” Also, there is another doctrine generally applied by federal appellate courts, which generally is referred to as the “equitable mootness” doctrine and generally requires dismissal of any appeal of a bankruptcy court’s order confirming a Chapter 11 plan if a stay pending appeal has not been granted and if the plan has been so consummated (e.g., the transactions contemplated under the plan such as the payment of certain claims and/or the issuance of new debt or equity instruments have taken place) such that it would be unduly burdensome or unfair to third persons to unravel or “unwind” the plan. Thus, a bankruptcy court’s determination to confirm a Chapter 11 plan of reorganization is likely to be based in part on the bankruptcy court’s factual findings as to the future circumstances existing at the time of confirmation (as well as on its legal conclusions), may be subject with respect to those factual findings to a deferential review standard if appealed, and further may evade appellate review altogether if the appellate court determines that the “equitable mootness” doctrine is applicable to the circumstances surrounding such appeal and that, consequently, the appeal of that plan should be dismissed as being “equitably moot.” Accordingly, there can be no guarantee as to the manner in which the claims under the exchange notes will be treated under any confirmed Chapter 11 plan of reorganization for us or any of our subsidiaries.

Subject to pro forma compliance with the collateral coverage ratio, we will be able to transfer receivables and related assets to securitizations, bank term financing, or warehouse financing entities who will be able to pledge those assets to parties in connection with permitted securitization and other financings.

We expect to use a portion of the receivables generated in our business to finance our operations under facilities other than the exchange notes. These include securitizations and other secured financings that will provide the relevant creditors a prior, secured claim both through the security interest granted and, in the case of financings at special purpose entities, through structural seniority. Because of this ongoing need for new financings to replace existing ones or to increase our borrowings, we are permitted under the indenture to transfer receivables, residual interests and other assets that are included as collateral to other entities and for the benefit of other financings. Although our ability to do so will be limited by the requirement that we comply, pro forma for the transfer, with a minimum collateral coverage ratio, there can be no assurance that the value of the assets remaining in the collateral package after any transfer will in fact be sufficient, upon any realization, to repay all or any portion of the exchange notes.

The value of interests pledged as collateral for the exchange notes may diminish in times of financial stress.

Although we are required to maintain a collateral coverage ratio between the value of the exchange notes and the value of the collateral pledged to support them, the value assigned to that collateral for purposes of the collateral coverage ratio may not provide an accurate measure of its value in a time of financial stress. For example, residual property rights in receivables owned by Pledged SPSs are valued for the collateral ratio at 85% of the face amount of all receivables owned by such Pledged SPSs minus the net debt owed by the entity or outstanding under their related financings. We have not established an incremental allowance for loss on those receivables, and have no ability to change the 85% ratio for purposes of the coverage ratio. Most or all of our warehouse financings, on the other hand, provide for the adjustment of the ratio of loan-to-value for such financing by determining the “eligibility” criteria under which the entity-owned receivables are afforded value, if at all. Thus if economic conditions deteriorate for our industry generally or our pool of customers in particular, the creditors of our Pledged SPSs will likely see a corresponding reduction in the “eligibility” of receivables in its receivables pool and, as a result, will see an increase in the percentage of collections they retain from their receivables pool. That increase will, in turn, reduce the amount of remaining collections available for distributions in respect of

 

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residual interests pledged for the exchange notes, since, as noted above, the creditors of our Pledged SPSs must be paid in full before the residual interest is available for distribution to the holders of exchange notes, upon a liquidation or otherwise.

The same is true for inventory in which we have granted a second lien behind existing or future inventory financings. Receivables we own and pledge directly rather than through a securitization vehicle or a pledge of its interest or a pledge of residual property rights in certain receivables will not be subject to a prior claim on behalf of relevant creditors, but the value afforded in the collateral coverage ratio is similarly not sensitive to changes in the interest rate environment or financial markets or to a deterioration in our ongoing collection experience. Any deterioration in those conditions or any adverse modification of the terms of securitization vehicles or other contractually or structurally senior financing arrangements will likely have a material adverse effect not only on our results of operations and financial condition, but also on the value of the collateral pledged to support the exchange notes.

We may not be able to purchase the exchange notes upon a change of control.

Upon the occurrence of certain specific kinds of change of control events, we will be required to offer to repurchase all outstanding exchange notes at a price equal to 101% of their principal amount plus accrued and unpaid interest, if any, to the date of repurchase. To the extent that we are required to offer to repurchase the exchange notes upon the occurrence of a Change of Control Triggering Event, we may not have sufficient funds to repurchase the exchange notes in cash at such time. In addition, our ability to repurchase the exchange notes for cash may be limited by law or the terms of other agreements relating to our indebtedness outstanding at the time. The failure to make such repurchase would result in a default under the Indenture governing the exchange notes. See “Description of the Exchange Notes—Repurchase at the Option of Holders—Change of Control.”

We may enter into transactions that would not constitute a change of control that could affect our ability to satisfy our obligations under the exchange notes.

Legal uncertainty regarding what constitutes a change of control and the provisions of the indenture may allow us to enter into transactions, such as acquisitions, refinancing or recapitalizations, that would not constitute a change of control but may increase our outstanding indebtedness or otherwise affect our ability to satisfy our obligations under the exchange notes. The definition of change of control includes a phrase relating to the transfer of “all or substantially all” of our and our subsidiaries’ assets, taken as a whole. Although there is a limited body of case law interpreting the phrase “substantially all,” there is no precise established definition of the phrase under applicable law. Accordingly, your ability to require us to repurchase exchange notes as a result of a transfer of less than all of our assets to another person may be uncertain.

The terms of the indenture governing the exchange notes provide only limited protection against significant corporate events that could affect adversely your investment in the exchange notes.

While the indenture governing the exchange notes contains terms intended to provide protection to holders upon the occurrence of certain events involving significant corporate transactions and our creditworthiness, these terms are limited and may not be sufficient to protect your investment in the exchange notes. As described under “Description of the Exchange Notes—Repurchase at the Option of Holders—Change of Control,” upon the occurrence of a change of control triggering event, holders are entitled to require us to repurchase their exchange notes at 101% of their principal amount. However, the definition of the term “change of control triggering event” is limited and does not cover a variety of transactions (such as acquisitions by us or recapitalizations) that could negatively affect the value of your exchange notes. If we were to enter into a significant corporate transaction that negatively affects the value of the exchange notes, but would not constitute a change of control triggering event, you would not have any rights to require us to repurchase the exchange notes prior to their maturity, which also would adversely affect your investment.

 

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The guarantees provided by us and our subsidiaries are subject to certain defenses that may limit your right to receive payment from the guarantors with regard to the exchange notes.

Although the guarantees provide the holders of the exchange notes with a direct claim against the assets of the guarantors, enforcement of the guarantees against any guarantor would be subject to certain “suretyship” defenses available to guarantors generally. Enforcement could also be subject to other defenses available to the guarantors in certain circumstances. To the extent that the guarantees are not enforceable, you would not be able to assert a claim successfully against such guarantors.

Rights of the holders of the exchange notes in the collateral may be adversely affected by the failure to perfect security interests in certain collateral acquired in the future.

The collateral securing the exchange notes includes certain assets that we may acquire in the future. Applicable law requires that certain property and rights, including real property, acquired after the grant of a general security interest can only be perfected at the time such property and rights are acquired and identified. The collateral agent for the exchange notes has no obligation to monitor the acquisition of, or the perfection of any security interests in, additional property or rights that constitute collateral. There can be no assurance that the trustee or the collateral agent will monitor, or that we will inform the trustee or the collateral agent of, the future acquisition of property and rights that constitute collateral, or that the necessary action will be taken to properly or timely perfect the security interest in such after acquired collateral. Such failure may result in the loss of the security interest in the collateral or the priority of the security interest in favor of the exchange notes against third parties.

Any future pledge of collateral might be avoidable in bankruptcy.

Any future pledge of collateral to secure the exchange notes, including pursuant to security documents delivered after the date of the indenture, might be avoidable by the pledgor (as debtor in possession) or by its trustee in bankruptcy if certain events or circumstances exist or occur, including, among others, if (1) the pledgor is insolvent at the time of the pledge, (2) the pledge permits the holders of the exchange notes to receive a greater recovery than if the pledge had not been given, and (3) a bankruptcy proceeding in respect of the pledgor is commenced within 90 days following the pledge, or, in certain circumstances, a longer period.

Federal and state fraudulent transfer or conveyance laws may permit a court to void or subordinate the exchange notes, the security interests or the guarantees, and, if that occurs, you may not receive any payments on the exchange notes.

The issuance of the exchange notes, the grant of the security interests and the issuance of the guarantees may be subject to review under federal and state fraudulent transfer and conveyance statutes in a bankruptcy or reorganization case or lawsuit commenced by or on behalf of our or our guarantors’ unpaid creditors. Under these laws, if a court were to find that, at the time we issued the exchange notes and our guarantors issued the guarantees or we or our guarantors granted the security interests, we or such guarantor:

 

   

incurred the indebtedness or granted the security interests with the intent of hindering, delaying or defrauding present or future creditors;

 

   

received less than reasonably equivalent value or fair consideration for incurring the indebtedness or granting the security interests;

 

   

were insolvent or rendered insolvent by reason of the incurrence of the indebtedness or the grant of the security interests;

 

   

were left with inadequate capital to carry on business; or

 

   

intended to incur, or did incur, or believed or reasonably should have believed that we or such guarantor would incur, debts beyond our or its’ ability to repay as they matured or became due, then, such court might:

 

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subordinate the exchange notes, the guarantees or the security interests to our or such guarantor’s presently existing or future indebtedness or any liens securing such indebtedness;

 

   

void the issuance of the exchange notes, the guarantees or the security interests; or

 

   

take other actions detrimental to holders of the exchange notes, including avoiding any payment by us pursuant to the exchange notes or by the guarantors pursuant to the guarantees and requiring the return of any such payment to a fund for the benefit of our or our guarantors’ unpaid creditors.

Although each guarantee will include a “savings clause” intended to limit the amount of the guarantee claim thereunder to an amount that would not constitute a fraudulent conveyance or transfer under applicable law, there can be no assurance that this savings clause would protect any guarantee from a finding that it constituted a fraudulent conveyance or transfer. At least one bankruptcy court has determined that a similar savings clause was unenforceable and therefore ineffective to insulate the guarantees at issue in that case from being voided as fraudulent conveyances. A court could similarly find that any savings clause included in a guarantee is also unenforceable.

In the event of a finding that a fraudulent conveyance occurred, you may not receive any repayment on the exchange notes. Further, the avoidance of the exchange notes could result in an event of default with respect to our other debt that could result in acceleration of such debt.

Generally, an entity would be considered insolvent if, at the time it incurred indebtedness:

 

   

the sum of its debts, including contingent liabilities, was greater than the fair salable value of all its assets;

 

   

the present fair salable value of its assets was less than the amount that would be required to pay its probable liability on its existing debts and liabilities, including contingent liabilities, as they become absolute and mature; or

 

   

it could not (or believed that it could not, or intended not to) pay its debts as they become due.

Without limiting the generality of the preceding paragraphs, we cannot predict:

 

   

what standard a court would apply in order to determine whether we or our guarantors were insolvent as of the date we or our guarantors issued the exchange notes or the guarantees or granted the security interests, as applicable, or that regardless of the method of valuation, a court would determine that we or our guarantors were insolvent on that date; or

 

   

whether a court would not determine that the exchange notes, the guarantees or the security interests constituted fraudulent transfers on another ground.

There is no existing market for the exchange notes, and we do not know if one will develop to provide you with adequate liquidity.

There has been no public market for the exchange notes offered hereby. An active and liquid public market for the exchange notes offered hereby may not develop or be sustained after this exchange offer. The price of the exchange notes offered hereby in any such market may be higher or lower than the price you pay. If you acquire exchange notes in this exchange offer, you will do so at a price that was negotiated with the initial purchaser, and such price may not be indicative of prices that will prevail in the open market following this offering.

Because no active trading market is developed, the liquidity and value of the exchange notes could be harmed.

After the old notes are exchanged for the exchange notes offered hereby, such exchange notes will trade as a single class with our existing registered notes. There is currently no established market for our existing registered notes. We do not intend to apply for the exchange notes or our existing registered notes to be listed on any

 

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securities exchange. Accordingly, there can be no assurance as to the development or liquidity of any market for the exchange notes. Because no active trading market for the exchange notes is developed, the liquidity and value of the exchange notes could be harmed and you may be unable to sell your exchange notes at the price you desire or may not be able to sell them at all. Even if a public market for the exchange notes develops, trading prices will depend on many factors, including prevailing interest rates, our operating results and the market for similar securities. Historically, the market for non-investment grade debt has been subject to disruptions that have caused substantial volatility in the prices of securities similar to the exchange notes. We cannot assure you that the market, if any, for the exchange notes will not be subject to similar disruptions. Any such disruptions may materially and adversely affect the liquidity of the exchange notes, independent of our financial performance.

Risks Related to the Retention of the Old Notes

If you do not exchange your old notes, your old notes will continue to be subject to the existing transfer restrictions and you may be unable to sell your old notes.

We will only issue exchange notes in exchange for old notes that are validly tendered in accordance with the procedures set forth in this prospectus. Therefore, you should carefully follow the instructions on how to tender your old notes. See “The Exchange Offer—Procedures for Tendering Old Notes.” We did not register the old notes under the Securities Act, nor do we intend to do so following the exchange offer. If you do not exchange your old notes in the exchange offer, or if your old notes are not accepted for exchange, then, after we consummate the exchange offer, you may continue to hold old notes that are subject to the existing transfer restrictions and may be transferred only in limited circumstances under the securities laws. If you do not exchange your old notes, you will lose your right to have your old notes registered under the federal securities laws, except in limited circumstances. As a result, you will not be able to offer or sell old notes except in reliance on an exemption from, or in a transaction not subject to, the Securities Act and applicable state securities laws.

Because we anticipate that most holders of old notes will elect to exchange their old notes, we expect that the liquidity of the trading market for any old notes remaining after the completion of the exchange offer will be substantially reduced. Any old notes tendered and exchanged in the exchange offer will reduce the aggregate number of old notes outstanding. Accordingly, the liquidity of the market for any old notes could be adversely affected and you may be unable to sell them.

 

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USE OF PROCEEDS

We will not receive any cash proceeds from the issuance of the exchange notes in the exchange offer. In consideration for issuing the exchange notes, we will receive in exchange old notes in like principal amount. The form and terms of the exchange notes are identical in all material respects to the form and terms of the old notes, except that the transfer restrictions, registration rights and rights to additional interest applicable to the old notes do not apply to the exchange notes. The old notes surrendered in exchange for the exchange notes will be retired and canceled and cannot be reissued. Accordingly, issuance of the exchange notes will not result in any increase in our outstanding debt.

 

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SELECTED HISTORICAL CONSOLIDATED FINANCIAL AND OTHER DATA

The following table sets forth our selected historical consolidated financial and operating data as of the dates and for the periods indicated. The consolidated statements of operations for the years ended December 31, 2012, 2011, and 2010, and data from the consolidated balance sheet as of December 31, 2012 and 2011, have been derived from our audited financial statements, which are included elsewhere in this prospectus. The consolidated statements of operations for the years ended December 31, 2009 and 2008, and the consolidated balance sheet data as of December 31, 2010, 2009 and 2008, have been derived from our audited financial statements, which are not included in this prospectus. The summary consolidated statement of operations and other data for each of the three month periods ended March 31, 2013 and 2012, and the consolidated balance sheet data as of March 31, 2013, have been derived from our unaudited financial statements, which are presented elsewhere in this prospectus and include, in the opinion of management, all adjustments, consisting of normal, recurring adjustments, necessary for a fair presentation of such data. Our historical results are not necessarily indicative of our results for any future period.

 

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You should read the following selected financial and other data in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements and related notes included elsewhere in this prospectus.

 

    Years Ended December 31,     Three Months Ended March 31,  
    2008     2009     2010     2011     2012             2012                     2013          
                (Unaudited)                          

Consolidated Statement of Operations Data

             

Total Revenue

  $ 1,058,625      $ 946,282      $ 1,025,741      $ 1,121,307      $ 1,222,866      $ 367,838      $ 387,242   

Total Costs and Expenses

  $ 1,057,815      $ 893,555      $ 954,655      $ 1,031,948      $ 1,162,319      $ 334,651      $ 368,311   

Income Before Income Taxes

  $ 810      $ 52,727      $ 71,086      $ 89,359      $ 60,547      $ 33,187      $ 18,931   

Net Income/(Loss)

  $ (280   $ 51,997      $ 70,682      $ 88,138      $ 59,353      $ 32,795      $ 18,589   

Other Financial Data:

             

EBITDA (1)

  $ 111,980      $ 176,454      $ 182,939      $ 178,484      $ 153,789      $ 56,141      $ 42,485   

Adjusted EBITDA (1)

  $ 104,515      $ 159,478      $ 197,899      $ 179,642      $ 162,025      $ 56,179      $ 48,493   

Dealerships: *

             

Dealerships in operation at end of period

    86        78        85        89        97        90        100   

Average number of vehicles sold per dealership per month

    49        52        54        54        55        72        67   

Retail Sales: *

             

Number of used vehicles sold

    55,415        49,500        52,498        56,109        59,930        19,145        19,607   

Average age of vehicles sold (in years)

    4.1        4.1        4.3        5.4        6.0        5.9        5.9   

Average mileage of vehicles sold

    67,428        68,076        71,300        79,741        86,972        80,839        82,224   

Per vehicle sold data:

             

Average net revenue per vehicle

  $ 14,378      $ 14,029      $ 14,491      $ 14,940      $ 15,360      $ 15,520      $ 15,784   

Average cost of used vehicles

  $ 8,612      $ 7,967      $ 9,166      $ 9,704      $ 10,144      $ 10,298      $ 10,794   

Average gross margin

  $ 5,766      $ 6,062      $ 5,325      $ 5,236      $ 5,216      $ 5,222      $ 4,990   

Gross margin percentage

    40.1     43.2     36.7     35.0     34.0     33.6     31.6

Loan Portfolio: *

             

Principal balances originated

  $ 789,360      $ 686,214      $ 747,329      $ 829,164      $ 917,093      $ 292,970      $ 312,074   

Average amount financed per origination

  $ 14,250      $ 13,867      $ 14,244      $ 14,781      $ 15,418      $ 15,298      $ 15,982   

Number of loans outstanding—end of period

    125,070        127,737        134,264        137,293        140,748        142,627        145,225   

Principal outstanding—end of period

  $ 1,342,855      $ 1,312,216      $ 1,381,092      $ 1,466,680      $ 1,601,710      $ 1,566,492      $ 1,707,051   

Average principal outstanding

  $ 1,410,292      $ 1,364,782      $ 1,378,486      $ 1,469,528      $ 1,588,471      $ 1,484,085      $ 1,616,127   

Average effective yield on portfolio (2)

    19.3     19.3     19.9     19.5     18.9     19.6     19.1

Allowance for credit losses as a percentage of portfolio principal

    18.1     16.6     15.0     15.1     15.7     15.1     15.7

($ in thousands, except vehicle, loan, dealership and percentage data)

 

* Denotes Selected Financial Data, excluding GO Financial.

 

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    Years Ended December 31,     Three Months Ended March 31,  
    2008     2009     2010     2011     2012             2012                     2013          
                (Unaudited)                          

Portfolio Performance Data: *

             

Portfolio delinquencies 31-90 days (3)

    9.4     7.4     9.1     10.9     15.1     6.5     10.1

Principal charged-off as a percentage of average principal outstanding

    30.3     26.6     22.0     23.0     23.4     5.6     6.1

Recoveries as a percentage of principal charged-off

    29.4     31.7     38.5     42.8     40.3     45.9     37.9

Net charge-offs as a percentage of average principal outstanding

    21.4     18.2     13.5     13.1     13.9     3.0     3.8

Financing and Liquidity: *

             

Unrestricted cash and availability (4)

  $ 50,232      $ 40,407      $ 145,837      $ 230,267      $ 138,402      $ 224,075      $ 177,763   

Ratio of net debt to shareholders’ equity (5)

    3.9x        3.4x        2.4x        2.4x        2.8x        2.2x        2.8x   

Total average debt

  $ 1,153,122      $ 1,047,522      $ 1,141,428      $ 1,100,128      $ 1,263,432      $ 1,189,990      $ 1,440,300   

Weighted average effective borrowing rate on total debt (6)

    8.4     10.6     9.2     6.6     5.7     6.1     5.1

 

     Years Ended December 31,     March 31,  
     2008     2009     2010     2011     2012     2013  

Consolidated Balance Sheet Data:

            

Cash and cash equivalents

   $ 25,533      $ 21,526      $ 23,677      $ 25,930      $ 26,480      $ 25,731   

DriveTime and GO Finance receivables (7)

   $ 1,375,019      $ 1,340,591      $ 1,408,741      $ 1,495,364      $ 1,675,578      $ 1,814,293   

Allowance for credit losses—DriveTime

   $ (242,600   $ (218,259   $ (208,000   $ (221,533   $ (252,590   $ (269,622

Inventory

   $ 100,211      $ 115,257      $ 145,961      $ 212,330      $ 270,733      $ 228,876   

Total assets

   $ 1,430,738      $ 1,432,080      $ 1,568,154      $ 1,766,829      $ 1,989,117      $ 2,079,655   

Total debt (8)

   $ 1,107,067      $ 1,087,215      $ 1,070,207      $ 1,221,380      $ 1,422,279      $ 1,469,266   

Shareholders’ equity

   $ 266,008      $ 293,145      $ 418,767      $ 457,849      $ 467,553      $ 486,038   

($ in thousands, except percentage and ratio data)

 

* Denotes Selected Financial Data, excluding GO Financial.

 

(1) 

See definition of EBITDA and Adjusted EBITDA in Management’s Discussion and Analysis—Non GAAP discussion.

(2) 

Average effective yield represents the interest income earned at the contractual rate (stated APR) less the write-off of accrued interest on charged-off loans and amortization of loan origination costs (which includes the write-off of unamortized loan origination costs on charged-off loans), plus interest earned on investments held in trust and late fees earned.

(3) 

Delinquencies are presented on a Sunday-to-Sunday basis, which reflects delinquencies as of the nearest Sunday to period end. Sunday is used to eliminate any impact of the day of the week on delinquencies since delinquencies tend to be higher mid-week. We modified our charge-off policy in December 2011. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Factors Affecting Comparability—Modification to Charge-off Policy,” for more information.

(4) 

Unrestricted cash and availability consists of cash and cash equivalents plus available borrowings under the portfolio warehouse, residual, and inventory facilities, based on assets pledged or available to be pledged to the facilities.

(5) 

Net debt is calculated as total debt less restricted cash and investments held in trust securing various debt facilities. Ratio of net debt to shareholders’ equity is calculated as net debt divided by total shareholders’ equity.

(6) 

Weighted average effective borrowing rate includes the effect of unused line fees and amortization of discounts and debt issuance costs.

(7) 

Includes DriveTime principal balances, accrued interest, and capitalized loan origination costs, and GO carrying value of dealer finance receivables.

(8) 

Total debt excludes accounts payable, accrued expenses, and other liabilities.

 

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MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our condensed consolidated interim financial statements and related notes that appear elsewhere in this prospectus. In addition to historical financial information, the following discussion contains forward-looking statements that reflect our plans, estimates, and beliefs. Our actual results could differ materially from those discussed in the forward-looking statements. Factors that could cause or contribute to these differences include those discussed below and elsewhere in this prospectus, particularly in “Risk Factors” and “Special Note Regarding Forward-Looking Statements.”

Overview

We are the leading used vehicle retailer in the United States with a primary focus on the sale and financing of quality vehicles to the subprime market. Through our branded dealerships, we provide our customers with a comprehensive end-to-end solution for their automotive needs, including the sale, financing, and maintenance of their vehicles. As of March 31, 2013, we owned and operated 100 dealerships and 17 reconditioning facilities in 19 states. For the three months ended March 31, 2013, we sold 19,607 vehicles, generated $387.2 million of total revenue and $48.5 million of Adjusted EBITDA. We provide our customers with financing for substantially all of the vehicles we sell. We historically have not utilized third-party finance companies or banks to finance vehicles for our customers, and many of our customers may be unable to obtain financing to purchase a vehicle from another company, therefore, financing is an essential component of the services that we provide to our customers. As of March 31, 2013, our loan portfolio had a total outstanding principal balance of $1.7 billion. We maintain our loan portfolio and related financings on our balance sheet.

First Quarter 2013 Highlights

 

   

Total revenue increased 5.3% to $387.2 million, compared to first quarter 2012.

 

   

Unit sales increased 2.4% to 19,607 vehicles sold, compared to first quarter 2012.

 

   

Originations increased 6.5% to $312.1 million, compared to first quarter 2012.

 

   

GO Financial increased its active dealer base from 191 to 262 dealers and funded $39.0 million in dealer advances.

 

   

We opened three new dealerships in two new geographic regions, including Miami and Fort Myers, Florida.

Statement of Operations—Line Item Descriptions

Revenue

Sales of used vehicles

We derive a significant portion of our revenue from the sale of used vehicles. Revenue from sales of used vehicles is derived by the number of vehicles sold multiplied by the sales price per vehicle. Sales revenue is reported net of a reserve for returns, and net of deferred service contract revenue, where applicable. Factors affecting revenue from sales of used vehicles include the number of used vehicles we sell and the price at which we sell our vehicles.

The number of used vehicles we sell depends on the volume of customer applications received and the conversion rate from customer application to sale. Application volume is a function of the number of dealerships, advertising, customer referrals, repeat customer volume, other marketing efforts, competition from other used car dealerships, availability of credit from other subprime finance companies, and general economic conditions. The

 

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conversion rate from customer application to sale is a function of our underwriting standards, customer sales experience, customer affordability, vehicle inventory, and warranty provided. The price at which we sell our vehicles is dependent on base inventory cost, reconditioning costs, and our pricing strategy.

Interest income

Interest income consists of interest earned on finance receivables, net of amortization of loan origination costs, plus late payment fees and interest earned on investments held in trust. We write-off accrued interest on charged-off loans as a reduction to interest income. Interest income is affected by (i) the principal balance of our loan portfolio, (ii) the average APR of our loan portfolio, and (iii) the payment performance by our borrowers on their loans.

Dealer Finance and Other Income

Dealer finance and other income consists of revenue recognized from GO Financial’s dealer finance receivables under the effective interest method and income from other ancillary products offered by GO Financial, respectively.

Costs and Expenses

Cost of used vehicles sold

Cost of used vehicles sold includes the cost to acquire vehicles, reconditioning and transportation costs associated with preparing the vehicles for resale, vehicle warranty, and other related costs. The cost to acquire vehicles includes the vehicle purchase price, auction fees, wages, and other buyer costs. A liability for the estimated cost of vehicle repairs under our DriveCare® limited vehicle warranty program is established at the time a used vehicle is sold by charging cost of used vehicles sold.

The cost of used vehicles sold is affected by a variety of factors, including the following: (i) the cost of vehicles purchased at auction, (ii) the supply and demand of vehicles purchased at auction, (iii) the quality, make, model, and age of vehicles acquired, (iv) transportation costs, (v) reconditioning parts and labor costs along with costs to operate our reconditioning facilities, and (vi) warranty costs.

Provision for credit losses

Provision for credit losses is the charge recorded to operations to maintain an allowance adequate to cover losses inherent in the portfolio. We charge-off the entire principal balance of receivables that are contractually 91 or more days past due at the end of a month unless the customer has made a qualifying minimum payment within the previous 30 days from month-end, in which case the customer loan would not charge-off until 121 days contractually past due. At time of charge-off, we record a receivable for estimated recoveries on charged-off receivables, which is included in other assets. The allowance for credit losses varies based on size of the loan portfolio and the expected performance of the loans. Loan performance is a function of the underlying credit quality of the portfolio, the effectiveness of collection activities, auction values for repossessed vehicles, other ancillary collections, and overall economic conditions.

We anticipate the allowance for credit losses to grow as we increase origination volume and grow our portfolio. However, the allowance as a percentage of portfolio principal may increase or decrease based on the underlying performance of loans originated, value of collateral, and the change in credit grade mix of loans originated.

Interest expense

Portfolio debt interest expense consists of interest and related amortization of debt issuance costs on our portfolio warehouse facilities, securitizations, bank term financings, and term residual financings.

 

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Non-portfolio debt interest expense consists of interest expense and related amortization of discounts and debt issuance costs on our senior unsecured notes payable, inventory facility, real estate mortgage financing, and an equipment note payable. Non-portfolio debt interest expense is dependent on the amount of indebtedness and the interest expense associated therewith, both of which are dependent on the financial markets and economy as a whole.

Senior secured debt interest expense consists of interest expense and related amortization of discount and fees on our Senior Secured Notes.

Selling and marketing

Selling and marketing expenses are generally affected by sales volume, cost of advertising media, and our marketing strategy. Selling and marketing expenses include advertising and marketing related costs.

General and administrative

General and administrative expenses include compensation and benefits, property-related expenses, collection expenses on our portfolio, dealership closing costs, and other ancillary expenses, such as professional fees and services.

General and administrative expenses increase and decrease primarily as a result of costs associated with expansion and contraction of our dealership base. As we grow our portfolio, certain collection related costs may increase as we manage a larger servicing platform.

Loss on extinguishment of debt

Loss on extinguishment of debt represents the difference between the carrying value of the debt we repurchased and the purchase price at which we repurchased the debt, net of the write-off of unamortized debt issuance costs and discounts.

Critical Accounting Policies

The discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with United States GAAP. The preparation of these financial statements requires management to make estimates and judgments that affect the reported amounts of assets and liabilities, revenue and expenses, and related disclosures of contingent assets and liabilities at the date of our financial statements. Actual results may differ from these estimates under different assumptions or conditions, impacting our reported results of operations and financial condition.

Certain accounting policies involve significant judgments and assumptions by management, which have a material impact on the carrying value of assets and liabilities and the recognition of income and expenses. Management considers these accounting policies to be critical accounting policies. The estimates and assumptions used by management are based on historical experience and other factors, which are believed to be reasonable under the circumstances. The significant accounting policies which we believe are the most critical to aid in fully understanding and evaluating our reported financial results are described below.

Revenue Recognition—DriveTime

Revenue from the sale of used vehicles is recognized upon delivery, when the sales contract is signed, and the agreed-upon down payment or purchase price has been received. Sales of used vehicles include revenue from the sale of used vehicles at the contractual sales price, net of a reserve for returns and excludes sales tax. The reserve for returns is estimated using historical experience and trends and could be affected if future vehicle returns differ from historical averages. A 10% increase in our rate of returns would result in a $0.3 million increase in

 

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our sales return allowance (and corresponding decrease in revenue) for the three months ended March 31, 2013, and a $0.2 million and $0.1 million increase in our sales return allowance (and corresponding decrease in revenue) for the years ended December 31, 2012 and 2011, respectively. Revenue is recognized at time of sale since persuasive evidence of an arrangement in the form of an installment sales contract exists, we have delivered the vehicle to the customer, transferred title, the sale has a fixed and determinable price, and collectability is reasonably assured.

Interest income consists of interest earned on finance receivables, net of amortization of loan origination costs, plus late payment fees and interest earned on investments held in trust. Interest income is recognized on the accrual basis, when earned, based on a simple interest method. Finance receivables continue to accrue interest until repayment or charge-off. Customer loans may be prepaid without penalty. Direct loan origination costs related to loans originated at our dealerships are deferred and charged against interest income over the life of the related loans using the effective interest method.

Revenue Recognition—GO Financial

We recognize revenue for dealer finance receivables (dealer finance income) under the effective interest method, by applying a loss adjusted forecast of cash flows for each dealer pool, such that revenue is recognized on a level-yield basis. Open pools establish an effective yield at either their first fiscal quarter, or upon maturation of the pool. The effective yield established is held constant for an open pool until pool closure, unless circumstances warrant a yield adjustment or impairment assessment prior to pool closure. For each accounting period subsequent to pool closure, expected cash flows are re-estimated. Deterioration in expected cash flows, both in the open and closed pool stage, is reflected as a provision for loan loss and corresponding allowance for credit losses, at the pool level. Any subsequent improvement in expected cash flows of the impaired pool(s) will first reverse any previous allowance for credit loss and be prospectively reflected as an increase in the pool yield. For closed pools, if the re-estimation of expected cash flows results in a higher effective yield, an increase in the pool yield is reflected prospectively.

Allowance for Credit Losses

DriveTime maintains an allowance for credit losses on an aggregate basis at a level we consider sufficient to cover probable credit losses inherent in our portfolio of receivables as of each reporting date utilizing a loss emergence period to cover estimated losses. The allowance takes into account historical credit loss experience, including timing, frequency and severity of losses. This estimate of existing probable credit losses inherent in the portfolio is primarily based on static pool analyses by month of origination based on origination principal, credit grade mix and deal structure, including down payment and term. The evaluation of the adequacy of the allowance also considers factors and assumptions regarding the overall portfolio quality, delinquency status, the value of the underlying collateral, current economic conditions that may affect the borrowers’ ability to pay, and the overall effectiveness of collection efforts.

The static pool loss curves by grade are adjusted for actual performance to date, and historical seasonality patterns. The forecasted periodic loss rates, which drive the forecast for estimated gross losses (before recoveries) are calculated by factoring amortization speed and origination terms. Charge-offs have a natural seasonality pattern such that they are typically lower during the first and second quarters of each calendar year because customers tend to have additional money from tax refunds to apply to their loans, compared to the third and fourth quarters when charge-offs tend to increase. Recoveries are estimated using historical unit and dollar static pool recovery activity to forecast recoveries for estimated charge-offs at the balance sheet date. The forecasted recovery rates (on a per unit basis) are based on the historical unit recovery trend by recovery type and adjusted for the estimated impact of economic and market conditions.

The allowance model is sensitive to changes in assumptions such that an increase or decrease in our forecasted net charge-offs would increase or decrease the allowance as a percentage of principal outstanding required to be maintained. The amount of our allowance is sensitive to losses within credit grades, recovery values, deal

 

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structure, the loss emergence period and overall credit grade mix of the portfolio. In the event loss assumptions used in the calculation of the allowance for credit losses were to increase, there would be a corresponding increase in the amount of the allowance for credit losses, which would decrease the net carrying value of finance receivables and increase the amount of provision for credit losses, thereby decreasing net income. A 5% increase in our frequency loss assumption would increase the allowance for credit losses and our provision for credit losses by $11.7 million, $11.0 million and $10.4 million as of March 31, 2013 and December 31, 2012 and 2011, respectively. Also, a 5% decrease in our assumed recoveries per loan charged-off, would result in an increase to the allowance for credit losses and provision for credit losses of $6.5 million, $6.1 million and $6.0 million as of March 31, 2013 and December 31, 2012 and 2011, respectively. Our ability to forecast net charge-offs and track static pool net losses by month of origination are a critical aspect of this analysis.

Although it is reasonably possible that events or circumstances could occur in the future that are not presently foreseen, which could cause actual credit losses to be materially different from the recorded allowance for credit losses, we believe that we have given appropriate consideration to the relevant factors and have made reasonable assumptions in determining the level of the allowance. Our credit and underwriting policies, adherence to such policies, and the execution of collections processes have a significant impact on collection results, as does the economy as a whole. Changes to the economy, unemployment, auction prices for repossessed vehicles, and collections and recovery processes could materially affect our reported results.

See “Revenue Recognition—GO Financial” for a description of allowance for credit losses on GO finance receivables.

Recovery Receivables

Recovery receivables consist of estimated recoveries to be received on charged-off receivables, including proceeds from selling repossessed vehicles at auction, along with insurance, bankruptcy and deficiency collections. The recovery amount from selling repossessed vehicles at auction is a forecast of vehicles to be recovered from loans previously charged-off and vehicles currently in our possession. Based on our extensive experience and historical database of auction recoveries, we estimate the number of units we will recover and the value that we will receive for these vehicles at auction. Our forecast utilizes historical data with respect to recovery rates, values, and time from charge-off to repossession. In order to estimate auction recoveries we utilize historical static pool unit recovery rates, as adjusted for recent market trends, to arrive at the forecasted recovery dollars by static pool month of charge-off. Insurance, bankruptcy and deficiency collections are estimated using historical trends adjusted for changes to recovery practices.

Valuation of Inventory

Inventory consists of used vehicles held-for-sale or currently undergoing reconditioning and is stated at the lower of cost or market value. Vehicle inventory cost is determined by specific identification. Direct and indirect vehicle reconditioning costs including parts and labor, costs to transport the vehicles to our dealership locations, buyer costs, and other incremental costs are capitalized as a component of inventory cost. Determination of the market value of inventory involves assumptions regarding wholesale loss rates derived from historical trends and could be affected by changes in supply and demand at our retail locations and at the auctions. A 1.0% decrease in the valuation of our inventory at March 31, 2013 would result in a decrease in net income of approximately $2.3 million. A 1.0% decrease in the valuation of our inventory at December 31, 2012 would result in a decrease in net income of approximately $2.7 million.

Secured Financings

Securitizations

We sell loans originated at our dealerships to our bankruptcy-remote securitization subsidiaries, which, in turn, transfer the loans to separate trusts that issue notes and certificates collateralized by these loans. The notes (asset-

 

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backed securities) are sold to investors, and we retain the certificates. We continue to service all securitized loans. We have determined that the trusts are variable interest entities and that DTAC is the primary beneficiary of those trusts. Therefore, loans included in the securitization transactions are recorded as finance receivables and the asset-backed securities that are issued by the trusts are recorded as a component of portfolio term financings in the accompanying consolidated balance sheets.

Bank Term Financings

Since the disruption in the securitization markets at the onset of the financial crisis a few years ago, we have obtained alternative financing through a variety of debt instruments, including bank term financing through which we entered into private securitization transactions, securing approximately $800.0 million in portfolio financing, $60.1 million in third party junior secured notes, $200.0 million in Senior Secured Notes, and $75.0 million in shareholder financings. As with our traditional securitization program, under our bank term financings, we pooled loans originated at our dealerships and sold them to either (i) a special purpose entity which transfers the loans to a separate trust which, in turn, issues a note collateralized by the loans; or (ii) we sold the pooled loans, in a secured financing transaction, directly to a third-party financial institution to yield a specified return with the right to repurchase these loans at a specified date. We retained all servicing.

Limited Warranty

A liability for the estimated cost of vehicle repairs under our DriveCare® limited warranty is established at the time a used vehicle is sold by charging costs of used vehicles sold. The liability is evaluated for adequacy through an analysis based on the program’s historical performance of cost incurred per unit sold, management’s estimate of frequency of vehicles to be repaired and severity of claims based on vehicles currently under warranty, the make, mileage, and age of vehicles under warranty, which are based on the program’s historical performance and our expectation of future usage. These assumptions are further affected by mix, mileage, and age of vehicles sold and our ability to recondition vehicles prior to sale. A 5.0% increase in our warranty frequency assumptions related to warranty usage and a 5.0% increase in our warranty severity assumptions would result in a $0.9 million increase in our warranty at March 31, 2013 and a $0.9 million increase in our warranty accrual at December 31, 2012, along with corresponding reductions in net income in both cases.

Factors Affecting Comparability

We have set forth below selected factors that we believe have had, or can be expected to have, a significant effect on the comparability of recent or future results of operations:

Revenue Recognition

We typically include our DriveCare® limited warranty as part of the bundled retail price of each vehicle we sell, recognizing revenue and costs related to the warranty at the time of the sale. Beginning in the fourth quarter of 2012, however, we began offering our DriveCare® limited warranty as a separately priced unbundled service contract in our dealerships located in Tennessee, Virginia and Ohio and, subsequent to December 31, 2012, expanded this offering to California. The revenue and costs related to these unbundled service contracts is deferred and recognized over the life of the service contract instead of at the time of the sale of the vehicle. Expansion of the regions in which we offer unbundled service contracts will negatively impact our gross revenue, gross margin, and net income in future periods when compared to historical results due to the revenue deferral associated with unbundling. However, we do not expect unbundling to have a negative economic or cash flow impact on the Company. For the first quarter 2013 compared to first quarter 2012, total revenue and net income were negatively impacted by $6.7 million and $5.4 million, respectively, as a result of deferred revenue associated with separately priced service contracts.

GO Financial

In December 2011, we launched GO Financial. GO provides indirect subprime auto financing to non-DriveTime dealers. GO began operations during our fourth quarter of 2011 and was not material to our financial results for

 

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the first quarter March 31, 2012. However, for the three months ended March 31, 2013, GO originated $39.0 million in dealer finance receivables and at March 31, 2013 had total assets of $76.5 million. For the first quarter of 2013, GO generated $2.8 million in total revenue and $0.8 million in net income compared to $0.2 million of revenue and $1.1 million loss for the first quarter 2012. We expect that GO’s originations of dealer finance receivables will continue to grow during 2013, thereby increasing our total revenue, portfolio size, and operating expenses as GO hires personnel, organizes and registers in various states with various regulatory authorities, and incurs other costs of doing business.

New Business Line—Carvana

In January 2013, through Carvana, we launched a new sales channel that enables the customer to buy a car, from click to delivery, 100% online over the internet. Carvana’s target customer demographic is not specific to credit, and is geared to attract a broader credit spectrum and income classification than that of DriveTime and GO Financial. Carvana (www.Carvana.com) is a 360-degree, integrated used car buying experience that enables consumers to purchase used vehicles online through a highly efficient and transparent process. Initially launching in Georgia, with plans to expand regionally, then nationally, Carvana’s business and operations will fully integrate all steps of the vehicle sales process, including: (a) vehicle search, (b) vehicle tour and detail, (c) credit scoring, (d) customer financing, (e) eContracting (f) verification of customer data (g) electronic down payment, and (h) vehicle delivery. Carvana is not expected to have a significant net impact to our consolidated results for 2013, though it will incur operating expenses as it hires personnel, obtains state licensing and registers with regulatory agencies and incurs other costs of doing business, thereby increasing our general and administrative expenses. To a certain extent, Carvana will utilize DriveTime’s existing infrastructure, with customized aspects of each component of the DriveTime business process. Sales through Carvana may be financed by either DriveTime or third-party lenders. Carvana’s operating results were not material for the three months ended March 31, 2013, or for 2012.

Transaction Costs

We incurred certain legal, accounting, tax consulting, and other professional service fees in connection with a planned sale of DTAG and DTAC in 2012. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Termination of Material Definitive Agreement” for more information. The aggregate expense paid to third parties associated therewith of approximately $3.9 million was recorded in general and administration expenses for the year ended December 31, 2012. We have incurred all costs associated with this transaction in the 2012 fiscal year and do not expect these costs in the future, nor did we incur such costs in 2011.

Modification to Charge-off Policy

Prior to December 2011, loans were charged-off at 91 days contractually past due. In December 2011, we made a modification to our charge-off policy for DriveTime, which was treated as a change in accounting estimate. Under our new charge-off policy, we charge-off the entire principal balance of receivables that are contractually 91 or more days past due at the end of a month, unless the customer has made a qualifying minimum payment within the previous 30 days from month-end, in which case the customer loan would not charge-off until 121 days contractually past due. This change was made as a result of a change in delinquency patterns, partially resulting from a fully centralized collections environment, and an analysis which indicated that loans which have made a qualifying payment within 30 days, are collectible, and therefore, should not be charged-off.

Seasonality

Historically, we have experienced higher revenues in the first quarter of the calendar year than in the last three quarters of the calendar year. We believe these results are due to seasonal buying patterns resulting, in part, because many of our customers receive income tax refunds during the first quarter of the year, which are a primary source of down payments on used vehicle purchases. Our portfolio of finance receivables also has historically followed a seasonal pattern, with delinquencies and charge-offs being the highest in the second half of the year.

 

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Results of Operations—DriveTime

Comparison of the three months ended March 31, 2013 and 2012

The following table sets forth our results of operations for the periods indicated:

 

     Three Months Ended March 31,         
             2013                      2012              % Change  
     ($ in thousands)  

Revenue:

        

Sales of Used Vehicles

   $ 309,468       $ 297,135         4.2

Interest Income

     74,974         70,528         6.3

Dealer Finance and Other Income

     2,800         175         1,500.0
  

 

 

    

 

 

    

Total Revenue

     387,242         367,838         5.3
  

 

 

    

 

 

    

Costs and Expenses:

        

Cost of Used Vehicles Sold

     211,638         197,161         7.3

Provision for Credit Losses

     77,842         60,342         29.0

Portfolio Debt Interest Expense

     10,186         10,354         (1.6 )% 

Non-Portfolio Debt Interest Expense

     1,319         1,043         26.5

Senior Secured Debt Interest Expense

     6,641         6,606         0.5

Selling and Marketing

     8,917         9,470         (5.8 )% 

General and Administrative

     46,360         44,724         3.7

Depreciation Expense

     5,408         4,951         9.2
  

 

 

    

 

 

    

Total Costs and Expenses

     368,311         334,651         10.1
  

 

 

    

 

 

    

Income Before Income Taxes

     18,931         33,187         (43.0 )% 

Income Tax Expense

     342         392         (12.8 )% 
  

 

 

    

 

 

    

Net Income

   $ 18,589       $ 32,795         (43.3 )% 
  

 

 

    

 

 

    

The following table sets forth net income, adjusted for factors affecting comparability, which are more fully described in the “Net Income” discussion below:

 

     Three Months Ended March 31,         
             2013                     2012              % Change  
     ($ in thousands)  

Net Income

   $ 18,589      $ 32,795         (43.3 )% 

GO Financial (Income)/Loss

     (768     1,131         (167.9 )% 

Carvana (Income)/Loss

     977        —           100.0

Change in Deferred Income (1)

     5,356        —           100.0
  

 

 

   

 

 

    

Adjusted Net Income

   $ 24,154      $ 33,926         (28.8 )% 
  

 

 

   

 

 

    

 

(1) 

Deferred income is the net effect of the change in deferred costs and revenues related to the sale of unbundled service contracts.

Sales of used vehicles

Revenue from sales of used vehicles increased during the three months ended March 31, 2013 compared to 2012. The increase in revenue was primarily due to an increase in sales volume as a result of opening new dealerships, coupled with an increase in the average sales price per vehicle sold. Since March 31, 2012 we opened a net of ten additional dealerships. The increase in average sales price per vehicle sold is attributable to an overall increase in the average cost of used vehicles sold, primarily as a result of an increase in wholesale used vehicle prices causing our acquisition costs to increase. In addition, sales revenue was negatively affected by approximately $6.7 million of deferred revenue, as a result of offering our DriveCare® limited warranty as a separately priced

 

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product in Virginia, Tennessee and Ohio, as well as by the IRS delays in processing income tax refunds, which caused a negative impact on the seasonal buying patterns of our customers. See also “—Cost of used vehicles sold” and “—Gross Margin” for further discussion on vehicle cost and deferred revenue.

Interest income

Interest income increased during the three months ended March 31, 2013, compared to the same period in 2012. This increase is primarily due to an increase in our average portfolio principal outstanding. Average portfolio principal outstanding increased $132.0 million for the three months ended March 31, 2013 compared to 2012. This increase was the result of an increase in originations over portfolio run-off. Partially offsetting the increase in average portfolio size was a decrease in average effective yield on our receivables period over period, as a result of a decrease in average APR of contracts originated. See also “—Originations” for further discussion.

Cost of used vehicles sold

Total cost of used vehicles sold increased for the three months ended March 31, 2013, compared to 2012. The increase was due to an increase in the number of vehicles sold and an increase in the average cost per vehicle sold. Our cost of vehicles sold per unit increased primarily as a result of higher acquisition costs at auction. Wholesale used vehicle prices are higher primarily due to an increased demand for used vehicles, coupled with a decrease in supply of used vehicles nationwide. Vehicles sold in the first quarter are generally acquired in the fourth quarter of the prior year, therefore, since wholesale auction prices were still at relatively high levels when acquired, our costs of vehicles remained at fourth quarter levels. In addition, in the fourth quarter 2012 we began acquiring newer vehicles with lower mileage, which also affected our average costs.

Gross margin

Gross margin as a percentage of sales revenue decreased to 31.6% from 33.6% for the three months ended March 31, 2013 compared to 2012. Gross margin was adversely impacted in the first quarter of 2013 as a result of the effects related to offering our DriveCare® limited warranty as a separately priced product in Virginia, Tennessee and Ohio. Excluding the effects of unbundling the warranty in these states, gross margin percentage would have been 33.4% in 2013 compared to 33.6% in 2012. Gross margin also continues to be affected by an increased vehicle acquisition cost. Only a portion of the increase in base cost of vehicles were passed on to customers through an increase in sales price due to competitive pressure and to maintain affordability for our customers. As we experience wholesale pricing pressure, our ability to pass on costs to our customers is limited, because our customers are generally sensitive to down payment and monthly payment amounts.

Provision for credit losses

Provision for credit losses increased for the three months ended March 31, 2013, compared to 2012. The increase is primarily the result of an increase in the principal balance of loans outstanding as a result of increased sales volume, plus an increase in net charge-off.

Net charge-offs as a percent of average outstanding principal increased to 3.8% from 3.0% for the three months ended March 31, 2013 compared to 2012, as a result of an increase in gross charge-offs, coupled with a decrease in our recovery rate. Gross principal charged-off increased to 6.1% in the first quarter 2013 compared to 5.6% in 2012. Influencing gross loss rates were higher average principal charged-offs due in part to historical high used vehicle prices, which resulted in the sale of older, higher mileage vehicles and longer financing terms to maintain customer payment affordability, plus general economic conditions including unemployment and underemployment rates, and the latent impact of the disruption of our collection operations resulting from the terminated transaction for the sale of the Company in 2012. Recoveries as a percentage of principal charged-off decreased to 37.9% from 45.9% for the three months ended March 31, 2013 compared to 2012. Through the first quarter of 2012, the used vehicle wholesale market continually realized increases in values as a result of increased demand for used vehicles coupled

 

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with a decline in supply, leading to historical high post-repossession wholesale recovery values at auction. However, beginning in the second quarter of 2012 and continuing into the first quarter of 2013, the market softened partially as a result of rising new vehicle sales, increasing the inventory of used vehicles from trade-ins and an increase in supply of fleet vehicles as rental companies are retiring more vehicles.

Our allowance as a percent of principal outstanding increased from 15.1% at March 31, 2012 to 15.7% at March 31, 2013. The increase in the allowance rate is driven by our expectation that recovery values will continue to decline during 2013, combined with an increase in gross charge-off expectations as a result of an increase in average term.

Portfolio debt interest expense

Total portfolio debt interest expense decreased slightly for the three months ended March 31, 2013, compared to the same period in 2012. The decrease in expense is the result of the decrease in the overall cost of funds of our portfolio debt offset by an increase in the outstanding balance of portfolio debt period over period. Cost of funds of portfolio debt decreased to 3.7% for the three months ended March 31, 2013 compared to 4.6% in 2012. The decrease in our costs of funds is attributable to lower borrowing costs of our recent securitizations, bank term financing, and warehouse facilities. We utilize our warehouse facilities to fund our origination growth.

Non-portfolio debt interest expense

Total non-portfolio debt interest expense increased for the three months ended March 31, 2013, compared to the same period in 2012. The increase was primarily due to increased borrowings on our inventory facility as a result of an increase in our vehicle inventory. In addition, we added a $25.0 million real estate facility in 2012. As a result, the average balance outstanding of non-portfolio debt increased to $119.2 million for the three months ended March 31, 2013 from $97.3 million for the same period in 2012.

Selling and marketing expense

Selling and marketing expenses decreased for the three months ended March 31, 2013, compared to the same period in 2012. The decrease was due primarily to a decrease in television production costs. In the first quarter of 2012, we incurred costs to produce a new advertising campaign, whereas our production for the 2013 campaign was incurred and expensed in December 2012. The decrease in television production costs was partially offset by an increase in expense related to our internet marketing efforts, and entering into new markets.

General and administrative expense

General and administrative expenses increased for the three months ended March 31, 2013 compared to 2012, primarily as a result of the increased number of dealerships and reconditioning centers in operation year over year, and a corresponding increase in salaries and wages as we increased the number of employees in conjunction with our overall expansion. Total employees increased by approximately 190 from March 31, 2012 to March 31, 2013. Operating lease expense also increased due to the increased number of facilities in operation combined with an increase in the per facility location costs as our new locations have a larger footprint than legacy locations.

Depreciation expense

Depreciation expense increased for the three months ended March 31, 2013 compared to 2012. This increase was primarily the result of an increase in capital expenditures associated with the expansion of our dealership base and information technology infrastructure.

 

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Net income

Net income decreased $14.2 million for the three months ended March 31, 2013 compared to 2012. Excluding the effects of deferred service contract revenue, GO Financial and Carvana net income/(loss), proforma net income for the three months ended March 31, 2013 was $23.4 million, a $10.5 million decrease compared to first quarter 2012. We attribute the decrease in first quarter 2013 net income primarily to (i) IRS delays in processing income tax refunds, causing a negative impact on the seasonal buying patterns of our customers coupled with seasonal collection patterns; (ii) higher net charge-offs related to loan performance and lower recovery rates on repossessed vehicles due to a decline in wholesale auction values; (iii) higher retail operating expenses from new dealership openings in the second half of 2012; and (iv) the effects of deferred service contract revenue in regions where we recently began offering our limited warranty as a separately priced service contract.

Originations

The following table sets forth information regarding our originations for the periods indicated.

 

     Three Months Ended March 31,     Change  
           2013                 2012          
     ($ in thousands except per loan data)  

Amount originated

   $ 312,074      $ 292,970      $ 19,104   

Number of loans originated

     19,526        19,141        385   

Average amount financed per origination

   $ 15,982      $ 15,298      $ 684   

Average APR originated

     19.9     20.4     (0.5 )% 

Average term (in months)

     63.6        57.5        6.1   

Average down payment per origination

   $ 1,194      $ 1,230      $ (36

Down payment as a percent of amount financed

     7.5     8.0     (0.5 )% 

Percentage of sales revenue financed (1)

     100.8     98.6     2.2 

 

(1) 

Sales revenue is calculated as gross revenue net of sales back-out reserve and sales discounts.

We originate loans in conjunction with each vehicle we sell, unless the sale is a cash transaction. The balance on these loans, together with accrued interest and unamortized loan origination costs, comprises our portfolio of finance receivables. Our receivables are then financed through securitizations, bank term financings and warehouse facilities in order to generate liquidity for our business. See “—Liquidity and Capital Resources.”

The principal amount of loans we originated increased for the three months ended March 31, 2013 compared to 2012. The increase was due to an increase in the number of used vehicles sold, an increase in the average amount financed per loan originated as a direct result of an increase in the average sales price per vehicle sold, and a decrease in the average down payment per loan originated. Average APR decreased and average term increased as a result of our overall interest rate and financing/underwriting strategy, which is designed to optimize affordability to our customers, while considering the effects of retail costs and vehicle pricing. The increase in vehicle costs have indirectly affected origination APR and increased term in an effort to maintain customer affordability. The increase in the percentage of sales revenue financed is primarily a result of a lower average down payment combined with a higher average sales price, coupled with the effects of customers financing the cost of the DriveCare® warranty in states where we offer the warranty as a separately priced service contract.

 

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Receivables portfolio

The following table shows the characteristics of our finance receivables portfolio for the periods indicated:

 

     As of and for the
Three Months Ended March 31,
       
             2013                     2012             Change  
     ($ in thousands except per loan data)  

Average remaining principal per loan, end of period

   $ 11,755      $ 10,983      $ 772   

Weighted Average APR of contracts outstanding

     20.3     20.6     (0.3 )% 

Average age per loan (in months)

     14.5        15.1        (0.6

Delinquencies:

      

Delinquencies 31-60 days

     6.9     4.3     2.6

Delinquencies 61-90 days

     3.2     2.2     1.0

Delinquencies 91-120 days

     0.5     0.3     0.2
  

 

 

   

 

 

   

 

 

 

Total Delinquencies over 30 days

     10.6     6.8     3.8
  

 

 

   

 

 

   

 

 

 

Delinquencies

As a percentage of total outstanding loan principal balances, delinquencies over 30 days increased year over year. The increase in delinquencies is the result of our change in collection strategy for early delinquencies aimed to improve customer experience while reducing cost of servicing and centralization of collection efforts for early delinquencies, which includes the use of off-shore services. As a result of the terminated transaction for the sale of the Company in 2012, turnover of collections personnel increased, we enacted a collections hiring freeze, and experienced a general disruption of our collections operations, all which adversely impacted delinquencies. We also closed our regional collection centers in Orlando, Florida, and Richmond, Virginia, which temporarily impacted delinquencies. Since the termination of the transaction and closure of our regional facilities, we have taken steps to increase collections personnel and supplement our closed regional centers, to our normal staffing levels.

Comparison of years ended December 31, 2012 and 2011

The following table sets forth our results of operations for the periods indicated:

 

     Year Ended  
     2012      2011      % Change  
     ($ in thousands)         

Revenue:

        

Sales of used vehicles

   $ 920,507       $ 838,242         9.8

Interest income

     299,382         283,065         5.8

Dealer Finance and Other Income

     2,977         —           100.0
  

 

 

    

 

 

    

 

 

 

Total revenue

     1,222,866         1,121,307         9.1
  

 

 

    

 

 

    

 

 

 

Costs and Expenses:

        

Cost of used vehicles sold

     607,932         544,504         11.6

Provision for credit losses

     253,603         207,198         22.4

Portfolio debt interest expense

     41,978         43,475         (3.4 )% 

Non-portfolio debt interest expense

     4,644         3,034         53.1

Senior secured debt interest expense

     26,470         26,541         (0.3 )% 

Selling and marketing

     28,139         22,790         23.5

General and administrative

     179,403         168,331         6.6

Depreciation expense

     20,150         16,075         25.3
  

 

 

    

 

 

    

 

 

 

Total costs and expenses

     1,162,319         1,031,948         12.6
  

 

 

    

 

 

    

 

 

 

Income before income taxes

     60,547         89,359         (32.2 )% 

Income tax expense

     1,194         1,221         (2.2 )% 
  

 

 

    

 

 

    

 

 

 

Net income

   $ 59,353       $ 88,138         (32.7 )% 
  

 

 

    

 

 

    

 

 

 

 

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Sales of used vehicles

Revenue from sales of used vehicles increased for the year ended December 31, 2012 compared to 2011 primarily due to an increase in sales volume of 6.8%, coupled with a 2.8% increase in the average sales price per vehicle net of sales returns and allowances. The increase in sales volume is primarily attributable to an increase in the average number of dealerships in operation as a result of opening 10 new dealerships and closing two in 2012. The increase in average sales price per vehicle sold is attributable to an overall increase in the average cost of used vehicles sold, both as a result of an increase in wholesale used vehicle prices causing our acquisition cost to increase, and an increase in reconditioning costs, as a result of acquiring vehicle inventory with higher mileage and age, year over year. See also “ —Cost of used vehicles sold” below.

Interest income

Interest income increased for the year ended December 31, 2012 compared to 2011 primarily due to an increase in our average portfolio principal outstanding year over year, partially offset by a decrease in average portfolio yield. Average portfolio principal outstanding increased as a result of an increase in originations over portfolio run-off. Average portfolio yield decreased slightly, as a result of a decrease in average APR of loans originated during the period. See “Originations” below for further discussion.

Cost of used vehicles sold

Total cost of used vehicles sold increased for the year ended December 31, 2012 compared to 2011 as a result of an increase in the number of vehicles sold and an increase in the per unit average cost of vehicles sold. Our cost of vehicles sold per unit increased primarily as a result of higher acquisition costs at auction and an increase in vehicle reconditioning costs. Acquisition costs have increased as a result of an appreciation in wholesale used vehicle prices. Wholesale used vehicle prices increased throughout most of 2012, with prices starting to soften at the end of the fourth quarter. Price appreciation was caused by increased demand for used vehicles, coupled with a decrease in supply of used vehicles nationwide. In an effort to maintain overall affordability for our customers, we purchased vehicles with a higher average age and mileage to limit our base cost of vehicles acquired at auction. As a result, reconditioning costs have also increased.

Gross margin

Gross margin as a percentage of sales revenue decreased for the year ended December 31, 2012 compared to 2011. The decrease in gross margin is primarily attributable to an increase in our “Cost of used vehicles sold” as described above, while only a portion of these costs were passed on to our customers through an increase in sales price due to competitive pressure, and to maintain affordability for our customers. As we experience wholesale pricing pressure, our ability to pass on cost to our customers is limited, because our customers are generally down payment and monthly payment sensitive.

Provision for credit losses

Provision for credit losses increased for the year ended December 31, 2012 compared to 2011 primarily as a result of an increase in the principal balance of loans outstanding in conjunction with an increase in allowance for credit losses as a percentage of loan principal. Portfolio principal increased as a result of an increase in originations, mostly driven from an increase in dealership growth.

Net charge-offs as a percent of average outstanding principal increased to 13.9% from 13.1% for the year ended December 31, 2012 compared to 2011, as a result of an increase in gross charge-offs, coupled with a decrease in our recovery rate. Gross principal charged-off increased to 23.4% for the year ended December 31, 2012, compared to 23.0% in 2011. Influencing gross loss rates are general economic conditions including unemployment and underemployment rates and wholesale vehicle prices, which have resulted in the sale of older, higher mileage

 

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vehicles and longer financing terms to maintain customer payment affordability. Recoveries as a percentage of principal charged-off decreased to 40.3% from 42.8% for the year ended December 31, 2012, compared to 2011. However, auction values continue to be near historical highs.

Our allowance as a percent of principal outstanding increased from 15.1% at the end of 2011 to 15.7% at December 31, 2012. The increase in the allowance rate is driven by our expectation that recovery values will continue to decline during 2013, combined with an increase in gross charge-off expectations as a result of an increase in average term.

Portfolio debt interest expense

Total portfolio debt interest expense decreased for the year ended December 31, 2012 compared to 2011. This decrease is a result of a decrease in the overall cost of funds of portfolio debt to 4.5% for the year ended December 31, 2012, compared to 5.1% for 2011, partially offset by an increase in the average balance of portfolio debt outstanding. The decrease in our costs of funds is attributable to lower borrowing costs of our recent securitizations, bank term financing, and a decrease in borrowing costs of our warehouse facilities. We utilize our warehouse facilities for our origination growth. Therefore, our average debt outstanding increased as a result of an increase in finance receivable originations during the year.

Non-portfolio debt interest expense

Total non-portfolio debt interest expense increased for the year ended December 31, 2012 compared to 2011. The increase was primarily due to increased borrowings on our inventory line as a result of increasing the capacity of that facility from $50.0 million to $130.0 million (excluding a $10.0 million seasonal increase) as of October 2011. In addition, we added a real estate facility in 2012 with average borrowings of approximately $8.0 million. As a result, the average balance outstanding of non-portfolio debt increased $38.6 million from 2011 to 2012, which was partially offset by a decline in the average cost of funds for non-portfolio debt.

Senior secured debt interest expense

The weighted average effective rate on the Senior Secured Notes was 13.2% and 13.3% for the years ended December 31, 2012 and 2011, respectively, which includes amortization of discount and deferred financing costs. In June 2010 we issued $200.0 million of Senior Secured Notes. The Senior Secured Notes were issued with an original issuance price of 98.854%. Interest on the Senior Secured Notes is payable semi-annually in arrears on June 15th and December 15th of each year.

Selling and marketing expense

Selling and marketing expenses increased for the year ended December 31, 2012 compared to 2011. This increase was primarily a result of an increase in our advertising expenses, primarily related to our television and internet marketing strategy, an increase in television commercial production, and an increase in advertising associated with operating in new geographic locations as a result of expansion of our dealership base into several new geographic regions.

General and administrative expense

General and administrative expenses increased for the year ended December 31, 2012 compared to 2011. This increase was primarily the result of the increased number of dealerships and reconditioning centers in operation year over year, and a corresponding increase in salaries and wages as we increased the number of employees in conjunction with our overall expansion. Lease expense increased due to the increased number of facilities in operation combined with an increase in the per facility location costs as our new locations have a larger footprint than legacy locations. In addition, we incurred approximately $3.9 million in transaction-related costs associated with the potential sale of the Company that was terminated in the fourth quarter of 2012 and approximately $3.1 million in initial costs associated with the CFPB requests for information.

 

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Depreciation expense

Depreciation expense increased for the year ended December 31, 2012 compared to 2011. This increase was primarily the result of an increase in capital expenditures associated with the expansion of our dealership base, the addition of a reconditioning facility and improvements to our information technology infrastructure.

Net income

Net income for the year ended December 31, 2012 decreased compared to 2011. The decrease in net income is primarily attributable to increases in general and administrative expenses associated with our retail expansion, one time sale transaction costs and initial CFPB costs, an increase in marketing and advertising expenses, and an increase in provision for loan losses, partially offset by increases in interest income and gross margin dollars from increased sales volume.

Originations

The following table sets forth information regarding our originations for the periods indicated:

 

     Year Ended December 31,        
     2012     2011     Change  
     ($ in thousands,
except per loan data)
       

Amount originated

   $ 917,093      $ 829,164      $ 87,929   

Number of loans originated

     59,483        56,096        3,387   

Average amount financed

   $ 15,418      $ 14,781      $ 637   

Average APR originated

     20.3     20.7     (0.4 )% 

Average term (in months)

     57.4        56.9        0.5   

Average down payment

   $ 998      $ 1,103      $ (105

Down payment as a percent of amount financed

     6.5     7.5     (1.0 )% 

Percentage of sales revenue financed (1)

     99.6     98.9     0.7

 

(1) 

Represents the dollar amount originated divided by the dollar amount of revenue from sales of used vehicles.

We originate loans in conjunction with each vehicle we sell, unless the sale is a cash transaction. The balance on these loans, together with accrued interest and unamortized loan origination costs, comprises our portfolio of finance receivables. Our receivables are then financed through securitizations, bank term facilities, and warehouse facilities in order to generate liquidity for our business. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources” below.

The increase in origination volume and number of loans originated were due to an increase in the number of used vehicles sold and an increase in the average amount financed per loan originated as a direct result of an increase in the average sales price per vehicle sold and a decrease in the average down payment per loan originated. Average APR decreased and average term increased for the year ended December 31, 2012 compared to 2011. These changes are a result of our overall interest rate and financing/underwriting strategy, which is designed to optimize affordability to our customers, while considering the effects of retail costs and vehicle pricing. The increase in the percentage of sales revenue financed is primarily a result of a lower average down payment combined with a higher average sales price.

 

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Receivables portfolio

The following table shows the characteristics of our finance receivables portfolio for the periods indicated:

 

     As of and for the
Year Ended December 31
       
         2012             2011         % Change  

Average Remaining Principal Per Loan, End of Period

   $ 11,380      $ 10,683      $ 697   

Weighted Average APR of Contracts Outstanding

     20.4     20.8     (0.4 )% 

Average Age Per Loan (in months)

     14.4        15.0        (0.6

Delinquencies:

      

Delinquencies 31-60 Days

     10.0     7.1     2.9

Delinquencies 61-90 Days

     5.1     3.8     1.3

Delinquencies 91-120 Days

     2.8     0.3     2.5
  

 

 

   

 

 

   

 

 

 

Total Delinquencies Over 30 Days

     17.9     11.2     6.7
  

 

 

   

 

 

   

 

 

 

Finance receivables principal balance, average principal balance and the number of loans outstanding period over period increased as of and for the year ended December 31, 2012, compared to 2011, due to origination volume exceeding portfolio run-off (regular principal payments, payoffs, and charge-offs).

Delinquencies

As a percentage of total outstanding loan principal balances, delinquencies over 30 days increased year over year. The increase in delinquencies is the result of our change in collection strategy for early delinquencies aimed to improve customer experience while reducing cost of servicing, centralization of collection efforts for early delinquencies, which includes the use of off-shore services. As a result of the proposed sale of the portfolio in the latter half of 2012, turnover of collections personnel increased, we enacted a collections hiring freeze, and experienced a general disruption of our collections operations, all which adversely impacted delinquencies. We also closed our regional collection centers in Orlando, Florida and Richmond, Virginia, which temporarily impacted delinquencies. Since the termination of the transaction and closure of our regional facilities, we have taken necessary steps to increase collections personnel and supplement our closed regional centers, to our normal staffing levels.

 

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Results of Operations—DriveTime

Comparison of years ended December 31, 2011 and 2010

The following table sets forth our results of operations for the periods indicated:

 

     Year Ended  
     2011      2010      % Change  
     ($ in thousands)         

Revenue:

        

Sales of used vehicles

   $ 838,242       $ 760,767         10.2

Interest income

     283,065         264,974         6.8
  

 

 

    

 

 

    

 

 

 

Total revenue

     1,121,307         1,025,741         9.3
  

 

 

    

 

 

    

 

 

 

Costs and Expenses:

        

Cost of used vehicles sold

     544,504         481,210         13.2

Provision for credit losses

     207,198         175,900         17.8

Portfolio debt interest expense

     43,475         68,314         (36.4 )% 

Non-portfolio debt interest expense

     3,034         14,757         (79.4 )% 

Senior secured debt interest expense

     26,541         15,031         76.6

Selling and marketing

     22,790         16,783         35.8

General and administrative

     168,331         165,491         1.7

Depreciation expense

     16,075         13,751         16.9

Loss on extinguishment of debt

     —           3,418         (100.0 )% 
  

 

 

    

 

 

    

 

 

 

Total costs and expenses

     1,031,948         954,655         8.1
  

 

 

    

 

 

    

 

 

 

Income before income taxes

     89,359         71,086         25.7

Income tax expense

     1,221         404         202.2
  

 

 

    

 

 

    

 

 

 

Net income

   $ 88,138       $ 70,682         24.7
  

 

 

    

 

 

    

 

 

 

Sales of used vehicles

Revenue from sales of used vehicles increased for the year ended December 31, 2011 compared to the same period during 2010. This increase in revenue was primarily due to an increase in sales volume of 6.9%, coupled with an increase in the average sales price per vehicle of 3.1%. The increase in sales volume is primarily attributable to an increase in the average number of dealerships in operation as a result of opening a net of four new dealerships in 2011. The increase in average sales price per vehicle sold is attributable to an overall increase in the average cost of used vehicles sold, primarily as a result of an increase in wholesale used vehicle prices causing our acquisition cost to increase. See also “—Cost of used vehicles sold” below.

Interest income

Interest income increased for the year ended December 31, 2011 compared to 2010. This increase is primarily due to an increase in our average portfolio principal outstanding for the year ended December 31, 2011, partially offset by a decrease in average portfolio yield. Average portfolio principal outstanding increased $91.0 million during the year ended December 31, 2011, compared to 2010. This increase was the result of an increase in originations over portfolio run-off. Average portfolio yield decreased slightly, as a result of a decrease in average APR of loans originated during the period. See “Originations” below for further discussion.

Cost of used vehicles sold

Total cost of used vehicles sold increased for the year ended December 31, 2011 compared to 2010. This increase is due to an increase in the number of vehicles sold and an increase in the average total cost of vehicles sold of

 

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5.9%. Our cost of vehicles sold per unit increased primarily as a result of higher acquisition costs at auction and an increase in vehicle reconditioning costs. Acquisition costs have increased as a result of an appreciation in wholesale used vehicle prices. Wholesale used vehicle prices increased during the year ended December 31, 2011, compared to 2010, as a result of increased demand for used vehicles, coupled with a decrease in supply of used vehicles nationwide. Vehicle reconditioning costs have increased as a result of an increase in the average age and mileage of vehicles sold, in an effort to maintain overall affordability for our customers.

Gross margin

Gross margin total dollars increased for the year ended December 31, 2011 compared to 2010, however gross margin as a percentage of sales revenue decreased. The increase in gross margin dollars is attributable to an increase in total units sold year over year. The decrease in gross margin percentage is primarily attributable to an increase in our “Cost of used vehicles sold” as described above, while only a portion of these costs were passed on to our customers through an increase in sales price. In an effort to maintain affordability for our customers, our total cost per vehicle sold increased 5.9% during the year ended December 31, 2011, while our average price per vehicle sold only increased 3.1%, for the year ended December 31, 2011, compared to the same period in 2010.

Provision for credit losses

Provision for credit losses increased for the year ended December 31, 2011, compared to 2010. The increase is primarily the result of an increase in the principal balance of loans outstanding as a result of an increase in originations over portfolio run-off, in conjunction with a slight increase in allowance for credit losses as a percentage of loan principal.

Net charge-offs as a percent of average outstanding principal decreased to 13.1% from 13.5% for the year ended December 31, 2011 compared to the same period in 2010 as a result of an increase in gross charge-offs which was more than offset by an improvement in our recovery rate. Gross principal charged-off increased to 23.0% for the year ended December 31, 2011, compared to 22.0% in 2010. Influencing gross loss rates are general economic conditions including unemployment and underemployment rates and wholesale vehicle prices, which have resulted in the sale of an older, higher mileage vehicle and longer financing terms to maintain customer payment affordability. Recoveries as a percentage of principal charged-off increased to 42.8% from 38.5% for the year ended December 31, 2011, compared to 2010. The improvement in recoveries is due primarily to higher auction values stemming from appreciation in the wholesale used vehicle market.

Portfolio debt interest expense

Total portfolio debt interest expense decreased for the year ended December 31, 2011 compared to 2010. This decrease was a result of a decrease in the overall cost of funds of portfolio debt to 5.1% for the year ended December 31, 2011, compared to 8.2% for 2010. The decrease in our costs of funds is attributable to lower borrowing costs of our securitizations in 2011 and a decrease in borrowing costs of our warehouse facilities. The original duration weighted average coupon of our three most recent securitizations as of December 31, 2011 was 3.03% for 2011-1, 2.88% for 2011-2, and 3.97% for 2011-3. In addition, our warehouse facility renewals and additions in 2011 were at lower interest rates than in 2010.

Non-portfolio debt interest expense

Total non-portfolio debt interest expense decreased for the year ended December 31, 2011 compared to 2010. This decrease was primarily due to the exchange of $60.1 million junior secured notes and $40.0 million of subordinated debt (with effective rates of 22.4% and 12.2%, respectively) for equity, and the exchange of $2.0 million junior secured notes and $35.0 million in subordinated debt for an equal principal amount of Senior Secured Notes, both of which occurred in conjunction with the offering of our Senior Secured Notes in June 2010. As a result, the average balance of non-portfolio debt decreased $64.8 million for the year ended

 

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December 31, 2011 compared to 2010. Further, the average cost of funds of non-portfolio debt decreased to 4.7% for the year ended December 31, 2011, from 11.6% for the same period in 2010, as a result of these transactions.

Senior secured debt interest expense

Senior secured debt interest expense increased during the year ended December 31, 2011 compared to 2010. This increase was a result of the issuance in June 2010 of our Senior Secured Notes. As a result, we incurred a full year of interest expense in 2011 versus a partial year in 2010. The weighted average effective rate on these notes is 13.3%, which includes amortization of discount and deferred financing costs.

Selling and marketing expense

Selling and marketing expenses decreased for the year ended December 31, 2011 compared to 2010. This decrease was primarily a result of a decrease in sales commissions as we completed the transition from a 100% commission structure to a base salary plus team and individual bonus compensation structure for sales personnel. This transition began in 2010 and was fully complete in 2011. This decrease was partially offset by an increase in our advertising expenses, primarily related to our television and internet marketing strategy, an increase in television commercial production, and an increase in advertising associated with operating in new geographic locations as a result of expansion of our dealership base into seven new geographic regions.

General and administrative expense

General and administrative expenses increased for the year ended December 31, 2011 compared to 2010. This increase was primarily the result of the increased number of dealerships and reconditioning centers in operation year over year and a corresponding increase in salaries and wages as we increased the number of employees in conjunction with our overall expansion. Salaries and wages expense also increased due to the new salaries and wages structure of sales personnel. See “—Selling and marketing expense” as described above. Lease expense also increased due to the increased number of facilities in operation.

Depreciation expense

Depreciation expense increased for the year ended December 31, 2011 compared to 2010. This increase was primarily the result of an increase in capital expenditures associated with the expansion of our dealership base and information technology infrastructure.

Net income

Net income for the year ended December 31, 2011 increased compared to 2010. The increase in net income for 2011 is a result of an increase in total revenue of 9.3%, primarily as a result of an increase in the volume of vehicles sold and a larger average loan portfolio. Partially offsetting the increase in total revenue was an increase in provision for credit losses and general and administrative expenses, as discussed above.

 

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Originations

The following table sets forth information regarding our originations for the periods indicated:

 

     Year Ended December 31,        
     2011     2010     Change  
     ($ in thousands,
except per loan data)
       

Amount originated

   $ 829,164      $ 747,329      $ 81,835   

Number of loans originated

     56,096        52,468        3,628   

Average amount financed

   $ 14,781      $ 14,244      $ 537   

Average APR originated

     20.7     21.8     (1.1 )% 

Average term (in months)

     56.9        53.9        3.0   

Average down payment

   $ 1,103      $ 1,213      $ (110

Down payment as a percent of amount financed

     7.5     8.5     (1.0 )% 

Percentage of sales revenue financed (1)

     98.9     98.2     0.7

 

(1) 

Represents the dollar amount originated divided by the dollar amount of revenue from sales of used vehicles.

We originate loans in conjunction with each vehicle we sell, unless the sale is a cash transaction. The balance on these loans, together with accrued interest and unamortized loan origination costs, comprises our portfolio of finance receivables. Our receivables are then financed through securitizations and warehouse facilities in order to generate liquidity for our business. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources” below.

During 2011, the number of loans and principal balance of loans we originated increased as compared to 2010. These increases were due to an increase in the number of used vehicles sold and an increase in the average amount financed per loan originated as a direct result of an increase in the average sales price per vehicle sold and a decrease in the average down payment per loan originated. Average APR decreased for the year ended December 31, 2011 compared to the same period in the prior year. The average term increased for the year ended December 31, 2011, compared to the same period in 2010. These changes are a result of our overall interest rate and financing/underwriting strategy, which is designed to optimize affordability to our customers, while considering the effects of retail costs and vehicle pricing.

Receivables portfolio

The following table shows the characteristics of our finance receivables portfolio for the periods indicated:

 

     As of and for the
Year Ended December 31
       
         2011             2010         Change  

Average Remaining Principal Per Loan, End of Period

   $ 10,683      $ 10,286      $ 397   

Weighted Average APR of Contracts Outstanding

     20.8     21.0     (0.2 )% 

Average Age Per Loan (in months)

     15.0        15.3        (0.3

Delinquencies:

      

Delinquencies 31-60 Days

     7.1     6.3     0.8

Delinquencies 61-90 Days

     3.8     2.8     1.0

Delinquencies 91-120 Days

     0.3     —          0.3
  

 

 

   

 

 

   

 

 

 

Total Delinquencies over 30 Days

     11.2     9.1     2.1
  

 

 

   

 

 

   

 

 

 

Finance receivables principal balance, average principal balance and the number of loans outstanding period over period increased as of and for the year ended December 31, 2011, compared to 2010, due to origination volume exceeding portfolio run-off (regular principal payments, payoffs, and charge-offs).

 

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Delinquencies

As a percentage of total outstanding loan principal balances, delinquencies over 30 days were 11.2% and 9.1% at December 31, 2011 and 2010, respectively. The increase in delinquencies is the result of our change in collection strategy for early delinquencies, including utilizing dialer technology, coupled with our modification in charge-off policy (see “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Factors Affecting Comparability—Modification to Charge-off Policy”). Further influencing delinquencies is the effects of the current economic environment, including high unemployment and underemployment. In conjunction with our centralization of collections during 2010, we are utilizing messaging and dialer technologies for early delinquencies in order to achieve a more cost effective collections process. As a result, we anticipate delinquencies to be relatively higher than our historical rates. We will continue to monitor portfolio performance and delinquencies in an effort to balance cost effectiveness and efficiencies based on the current economy.

Seasonality

Historically, we have experienced higher revenues in the first quarter of the calendar year than in the last three quarters of the calendar year. We believe these results are due to seasonal buying patterns resulting, in part, because many of our customers receive income tax refunds during the first quarter of the year, which are a primary source of down payments on used vehicle purchases. Our portfolio of finance receivables also has historically followed a seasonal pattern, with delinquencies and charge-offs being the highest in the second half of the year.

Seasonality of Earnings

To illustrate the seasonality in total revenue, costs and expenses, and income before taxes, a summary of the quarterly financial data follows:

 

     First Quarter      Second Quarter      Third Quarter      Fourth Quarter     Total  
     ($ in thousands)  

2012:

             

Total revenue

   $ 367,838       $ 302,202       $ 304,957       $ 247,869      $ 1,222,866   

Costs and expenses

   $ 334,651       $ 272,609       $ 300,190       $ 254,869      $ 1,162,319   

Income / (loss) before income taxes

   $ 33,187       $ 29,593       $ 4,767       $ (7,000   $ 60,547   

Net income / (loss)

   $ 32,795       $ 29,326       $ 4,396       $ (7,164   $ 59,353   

2011:

             

Total revenue

   $ 332,856       $ 275,405       $ 286,012       $ 227,034      $ 1,121,307   

Costs and expenses

   $ 291,841       $ 242,975       $ 273,575       $ 223,557      $ 1,031,948   

Income / (loss) before income taxes

   $ 41,015       $ 32,430       $ 12,437       $ 3,477      $ 89,359   

Net income / (loss)

   $ 40,503       $ 32,093       $ 12,376       $ 3,166      $ 88,138   

2010:

             

Total revenue

   $ 297,038       $ 245,747       $ 263,323       $ 219,633      $ 1,025,741   

Costs and expenses (1)

   $ 263,405       $ 225,975       $ 244,838       $ 220,437      $ 954,655   

Income / (loss) before income taxes

   $ 33,633       $ 19,772       $ 18,485       $ (804   $ 71,086   

Net income / (loss)

   $ 33,284       $ 19,322       $ 19,232       $ (1,156   $ 70,682   

 

(1) 

Includes net gains / losses on extinguishment of debt.

 

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Seasonality of Vehicle Sales

To illustrate the seasonality of retail sales units, a summary of quarterly data has been provided:

 

Year

   First Quarter     Second Quarter     Third Quarter     Fourth Quarter     Full Year  
     Units      %     Units      %     Units      %     Units      %     Units      %  

2008

     20,820         37.5     12,745         23.0     12,230         22.1     9,620         17.4     55,415         100

2009

     15,787         32.0     11,941         24.1     12,297         24.8     9,475         19.1     49,500         100

2010

     16,303         31.0     12,284         23.4     13,382         25.5     10,529         20.1     52,498         100

2011

     18,095         32.2     13,639         24.3     14,233         25.4     10,142         18.1     56,109         100

2012

     19,145         31.9     14,667         24.5     14,839         24.8     11,279         18.8     59,930         100

Seasonality of Loan Performance

This table represents the performance of our entire loan portfolio outstanding for each period shown, and does not represent static pools based on origination year. As is evident from the table below, the seasonality in our business results in net charge-offs typically being the highest in the third and fourth quarter of each year and the lowest in the first and second quarter of each year.

Net Charge-Offs as a Percent of Average Portfolio Principal Balance:

 

Year

   First Quarter     Second Quarter     Third Quarter     Fourth Quarter     Full Year  

2008

     4.9     4.4     5.7     6.5     21.5

2009

     4.9     3.9     4.8     4.6     18.2

2010

     3.3     2.5     3.7     4.0     13.5

2011

     3.0     2.4     3.7     4.0     13.1

2012

     3.0     2.7     3.9     4.3     13.9

Results of Operations—GO Financial

Comparison of the three months ended March 31, 2013 and 2012

GO Financial began operations in December 2011. The first quarter 2012 was GO’s first quarter of operations, which was the primary driver of the variances period over period. The following table sets forth our results of operations for the periods indicated:

 

     Three Months Ended March 31,  
         2013              2012      
     (in thousands)  

Revenue:

     

Dealer Finance Income

   $ 2,039       $ 124   

Other Income

     764         51   
  

 

 

    

 

 

 

Total Revenue

     2,803         175   
  

 

 

    

 

 

 

Costs and Expenses:

     

Selling and Marketing

     13         65   

General and Administrative

     1,891         1,166   

Depreciation Expense

     131         75   
  

 

 

    

 

 

 

Total Costs and Expenses

     2,035         1,306   
  

 

 

    

 

 

 

Income (Loss) before Income Taxes

     768         (1,131

Income Tax Expense (Benefit)

     —           —     
  

 

 

    

 

 

 

Net Income / (Loss)

   $ 768       $ (1,131
  

 

 

    

 

 

 

 

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Dealer finance and other income

Dealer finance and other income represents the finance income recognized on our dealer finance receivable portfolio and income recognized on other ancillary products offered by GO. Our average portfolio of dealer finance receivables for the three months ended March 31, 2013 was $57.9 million. We had 262 active dealers participating in our indirect lending program at March 31, 2013. Other income consists of income from GPS devices and service contracts offered by GO dealer participants to their customers at time of originating an installment sale contract.

Operating Expenses

GO’s total operating expenses for the three months ended March 31, 2013 increased compared to the same period in 2012. The primary components leading to the increase in operating expenses are an increase in salaries, wages, and other employee expenses combined with an increase in servicing fees. Salaries and wages increased due to the increase in headcount related to GO’s growth. For the three months ended March 31, 2013 we had 67 employees compared to 15 for the same period in 2012. Servicing fees increased as we serviced a greater number on contracts for the three months ended March 31, 2013 than we did during the same period in 2012. Total open contracts as of March 31, 2013 were 9,604 compared to 643 at the end of the same period in 2012.

The following table summarizes information related to the GO portfolio of dealer finance receivables, originations, collections, portfolio performance, and other key operating metr