10-K 1 a09-36268_110k.htm 10-K

Table of Contents

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

Form 10-K

 

(Mark One)

 

x

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the Fiscal Year ended December 31, 2009

 

or

 

o

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from              to             

 

Commission File No. 333-158745; 333-150885

 

NCO GROUP, INC.

(Exact name of registrant as specified in its charter)

 

Delaware

 

02-0786880

(State or other jurisdiction of

 

(IRS Employer Identification No.)

incorporation or organization)

 

 

 

507 Prudential Road, Horsham, Pennsylvania

 

19044

(Address of principal executive offices)

 

(Zip Code)

 

Registrant’s telephone number, including area code  (215) 441-3000

 

Securities registered pursuant to Section 12(b) of the Act:  None

 

Securities registered pursuant to Section 12(g) of the Act:  None

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.  Yes o  No x

 

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.  Yes o  No x

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes x  No o

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes o  No o

 

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  x

 

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 definition of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer o

 

Accelerated filer o

 

 

 

Non-accelerated filer x

 

Smaller reporting company o

(Do not check if a smaller reporting company)

 

 

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).  Yes o  No x

 

The aggregate market value of the registrant’s voting stock held by non-affiliates is zero. The registrant is a privately held corporation.

 

The number of shares of each of the registrant’s classes of common stock outstanding as of March 31, 2010 was: 2,960,847 shares of Class A common stock, $0.01 par value, and 399,814 shares of Class L common stock, $0.01 par value.

 

 

 



Table of Contents

 

TABLE OF CONTENTS

 

 

 

 

Page

 

 

 

 

PART I

 

 

 

 

Item 1.

Business

 

2

Item 1A.

Risk Factors

 

13

Item 1B.

Unresolved Staff Comments

 

26

Item 2.

Properties

 

27

Item 3.

Legal Proceedings

 

27

Item 4.

Reserved

 

28

 

 

 

 

PART II

 

 

 

 

Item 5.

Market for Registrant’s Common Equity, Related Stockholder Matters, and Issuer Purchases of Equity Securities

 

28

Item 6.

Selected Financial Data

 

29

Item 7.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

30

Item 7A.

Quantitative and Qualitative Disclosures about Market Risk

 

44

Item 8.

Financial Statements and Supplementary Data

 

44

Item 9.

Changes in and Disagreements with Accountants on Accounting And Financial Disclosure

 

44

Item 9A(T).

Controls and Procedures

 

44

Item 9B.

Other Information

 

45

 

 

 

 

PART III

 

 

 

 

Item 10.

Directors, Executive Officers and Corporate Governance

 

46

Item 11.

Executive Compensation

 

48

Item 12.

Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

 

66

Item 13.

Certain Relationships and Related Transactions, and Director Independence

 

68

Item 14.

Principal Accounting Fees and Services

 

69

 

 

 

 

PART IV

 

 

 

 

Item. 15.

Exhibits, Financial Statement Schedules

 

71

 

Signatures

 

78

 

 

 

 

 

Index to Consolidated Financial Statements

 

F-1

 



Table of Contents

 

As used in this Annual Report on Form 10-K, unless the context otherwise requires, “we,” “us,” “our,” “Company” or “NCO” refers to NCO Group, Inc. and its subsidiaries.

 

Forward-Looking Statements

 

Certain statements included in this Annual Report on Form 10-K, other than historical facts, are forward-looking statements (as such term is defined in the Securities Exchange Act of 1934, as amended, and the regulations thereunder), which are intended to be covered by the safe harbors created thereby. Forward-looking statements include, without limitation, statements as to:

 

·                  the Company’s expected future results of operations;

·                  economic conditions;

·                  the Company’s business and growth strategy;

·                  fluctuations in quarterly operating results;

·                  the integration of acquisitions;

·                  the final outcome of the Company’s litigation with its former landlord;

·                  the effects of terrorist attacks, war and the economy on the Company’s business;

·                  expected increases in operating efficiencies;

·                  anticipated trends in the business process outsourcing industry, referred to as BPO;

·                  estimates of future cash flows and allowances for impairments of purchased accounts receivable;

·                  estimates of intangible asset impairments and amortization expense of customer relationships and other intangible assets;

·                  the effects of legal proceedings, regulatory investigations and tax examinations;

·                  the effects of changes in accounting guidance; and

·                  statements as to trends or the Company’s or management’s beliefs, expectations and opinions.

 

The words “anticipate,” “believe,” “estimate,” “expect,” “intend,” “may,” “plan,” “will,” “would,” “should,” “guidance,” “potential,” “continue,” “project,” “forecast,” “confident,” and similar expressions are typically used to identify forward-looking statements. These statements are based on assumptions and assessments made by the Company’s management in light of their experience and their perception of historical trends, current conditions, expected future developments and other factors they believe to be appropriate. Forward-looking statements are not guarantees of the Company’s future performance and are subject to risks and uncertainties and may be affected by various factors that may cause actual results, developments and business decisions to differ materially from those in the forward-looking statements. Some of the factors that may cause actual results, developments and business decisions to differ materially from those contemplated by such forward-looking statements include:

 

·                  risks related to the instability in the financial markets;

·                  risks related to adverse capital and credit market conditions;

·                  the ability of governmental and regulatory bodies to stabilize the financial markets;

·                  risks related to the domestic and international economies;

·                  risks related to derivative transactions;

·                  risks related to the Company’s ability to grow internally;

·                  risks related to the Company’s ability to compete;

·                  risks related to the Company’s substantial indebtedness and its ability to service such debt;

·                  risks related to the Company’s ability to meet liquidity needs;

·                  the risk that the Company will not be able to implement its growth strategy as and when planned;

·                  risks associated with growth and acquisitions;

·                  the risk that the Company will not be able to realize operating efficiencies in the integration of its acquisitions;

·                  fluctuations in quarterly operating results;

·                  risks related to the timing of contracts;

·                  risks related to purchased accounts receivable;

·                  risks related to possible impairment of goodwill and other intangible assets;

·                  the Company’s dependence on senior management;

·                  risks related to security and privacy breaches;

·                  risks related to union organizing efforts at the Company’s facilities;

·                  risks associated with technology;

·                  risks related to the final outcome of the Company’s litigation with its former landlord;

·                  risks related to litigation, regulatory investigations and tax examinations;

 

1



Table of Contents

 

·                  risks related to past or possible future terrorist attacks;

·                  risks related to natural disasters or the threat or outbreak of war or hostilities;

·                  the risk that the Company will not be able to improve margins;

·                  risks related to the Company’s international operations;

·                  risks related to the availability of qualified employees, particularly in new or more cost-effective locations;

·                  risks related to currency fluctuations;

·                  risks related to reliance on independent telecommunications service providers;

·                  risks related to concentration of the Company’s clients in the financial services, telecommunications and healthcare sectors;

·                  risks related to the possible loss of key clients;

·                  risks related to changes in government regulations.

 

The Company can give no assurance that any of the events anticipated by the forward-looking statements will occur or, if any of them does, what impact they will have on our results of operations and financial condition. The Company disclaims any intent or obligation to publicly update or revise any forward-looking statements, regardless of whether new information becomes available, future developments occur or otherwise. For additional information concerning the risks that affect us, see “Part I. — Item 1A. Risk Factors” of this Report on Form 10-K.

 

PART I

 

Item 1.                                                         Business

 

General

 

NCO Group, Inc. is a holding company and conducts substantially all of its business operations through its subsidiaries. NCO is an international provider of business process outsourcing services, referred to as BPO, primarily focused on accounts receivable management, referred to as ARM, and customer relationship management, referred to as CRM. We provide a wide range of ARM services to our clients by utilizing an extensive technological infrastructure. Although traditional ARM services have focused on the recovery of delinquent accounts, we also engage in the recovery of current accounts receivable and early stage delinquencies (generally, accounts that are 180 days or less past due). Our CRM services allow our clients to strengthen their customer relationships by providing a high level of support to their customers and generate incremental sales by acquiring new customers. We support essential business functions across key portions of the customer lifecycle including acquisition, growth, care, resolution and retention. The primary market sectors we support in our BPO business are financial services, telecommunications, healthcare, retail and commercial, utilities, education, technology, transportation/logistics and government. Historically we have also purchased and collected past due consumer accounts receivable from consumer creditors. However, we expect to limit future purchases, as further discussed below (see “Business Strategy — Portfolio Management”). We operate our business in three segments: ARM, CRM and Portfolio Management.

 

Our extensive industry knowledge, technological expertise, management depth, international scale, broad service offerings and long-standing client relationships enable us to deliver customized solutions that help our clients reduce their operating costs, increase cash flow, and improve their customers’ experience. We provide our services through our customer-driven model that provides optimal performance, leading-edge technology, proven efficiency and quality, to a wide range of clients in North America and abroad. We currently have approximately 32,900 full and part-time employees (including approximately 2,100 non-employee personnel utilized through subcontractors) who provide our services through our network of over 100 offices in 11 countries. We also have employees who work in “virtual” offices out of their homes.

 

Our website is www.ncogroup.com. We make available on our website, free of charge, our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and all amendments to those reports, filed or furnished pursuant to Section 13(a) or 15(d) of the Exchange Act, as soon as reasonably practicable after such material is electronically filed with or furnished to the SEC.

 

2



Table of Contents

 

In addition, we will provide to our investors, at no cost, paper or electronic copies of our reports and other filings (excluding exhibits) made with the SEC. Requests should be directed to:

 

NCO Group, Inc.

507 Prudential Road

Horsham, PA  19044

Attention:  Investor Relations

 

The information on the website listed above, is not and should not be considered part of this Annual Report on Form 10-K and is not incorporated by reference in this document. This website is, and is only intended to be, an inactive textual reference.

 

Industry Background

 

Companies are outsourcing many essential, non-core business functions in order to focus on revenue-generating activities and core competencies, reduce costs and improve productivity and service levels. In particular, many large corporations are recognizing the advantages of outsourcing accounts receivable management and customer service and support. This trend is being driven by a number of industry-specific factors, including:

 

·                  an increase in the complexity of collection and other customer service processes, which requires sophisticated call management and database systems for efficient operations;

·                  the lack of expertise, resources and infrastructure necessary to provide optimal customer support due to the growing scope and complexity of such activities;

·                  significant economies of scale achievable by third parties with focused capabilities; and

·                  a trend in certain industries to outsource essential, non-core functions due to competitive pressures, regulatory considerations and/or required capital expenditures.

 

The BPO industry is highly fragmented in the U.S. The leading providers of BPO services are large multinational companies. We believe that many smaller competitors have insufficient capital to expand and invest in technology and are unable to meet the geographic coverage, and regulatory requirements and quality standards demanded by businesses seeking to outsource their essential, non-core business functions.

 

Business Strategy

 

Our primary business strategy is to strengthen our global position in the ARM and CRM markets, and to opportunistically expand our service offerings to other complementary BPO services. We believe we build quality partnerships and use our operational expertise to create value for our customers, employees and shareholders.

 

Expand our relationships with clients — An integral component of our growth strategy is focused on the expansion of existing client relationships. We plan to continue to grow these relationships and the resulting opportunities in both scale and depth. We believe these relationships will continue to transition from vendor relationships, focusing on the operational delivery of services, to strategic partnerships focused on long-term, goal-oriented delivery of services. A key focus of this strategy is leveraging existing client relationships in one market to cross-sell our services in other markets.

 

Enhance our operating margins — We intend to continue pursuing the following initiatives to increase profitability:

 

·                  standardization of systems and practices;

·                  consolidation of facilities;

·                  automation of clerical functions;

·                  utilization of near shore and offshore labor;

·                  use of statistical analysis to improve performance and reduce operating expenses;

·                  use of segmentation strategy to improve profitability; and

·                  leveraging our international size and presence.

 

Continuously improve business processes We intend to continue developing and enhancing our technology and infrastructure with initiatives that improve the efficiency of our operations and enhance client service. Examples of our recent initiatives include:

 

3



Table of Contents

 

· Decision support system:  We developed and implemented an innovative, proprietary, web-based suite of call center management tools called InsiteSM, which provides decision support for call center performance optimization. Insite provides us with a consistent view of performance and opportunity across the enterprise to ensure that NCO provides top tier performance on behalf of its clients.

 

· Enhanced data management and analytics:  We have both client-specific and pooled segmentation models to focus better our collections efforts. These models, coupled with iterative segment-based treatment testing, provide benefits by reducing operating expense and increasing collection revenues. Segmentation allows us to focus resources on accounts with the highest likelihood of recovery, and devote less costly resources to lower probability accounts. Additionally, we began applying the use of segmentation models to make more strategic portfolio purchase decisions.

 

· Online access for our clients’ customers:  We implemented a self-service website to allow our clients’ customers to access their accounts with us. Our clients’ customers can use the website to update their account information, request statements and make payments. Additionally, we launched a separate consumer help website designed to allow our clients’ customers to easily communicate with us anytime, via email, telephone, or request one of our representatives to call them.

 

· Pattern recognition system:  Our pattern recognition system is designed to determine the patterns and profiles that precede customer decisions such as purchase or defection. Leveraging predictive analytic technologies increases the ability to predict customers’ behaviors, thus improving the results of the outsourced solutions we provide to our clients, as well as improving our purchased portfolio analytics, while reducing our costs.

 

· Technology upgrades:  We are continuously upgrading and fine-tuning our technology to meet current and future client needs, while maximizing our investment through aggressive re-use philosophy wherever possible.

 

· Enhanced data security: We continue to deploy both physical and system security enhancements to help ensure ongoing protection and privacy of NCO’s and clients’ data as well as network and systems hardening. We incorporate sophisticated password, access and authentication controls, and emphasize security awareness training programs.

 

Expand internationally — We believe that the BPO industry is gaining widespread acceptance throughout Canada, Europe, the Asia-Pacific region and Latin America. Our international expansion strategy is designed to continue to capitalize on each of these markets in the near term, as well as continue to develop access to lower-cost foreign labor. We believe we are a leading provider of BPO services in Canada, Europe and Australia. During 2008, we expanded our presence in Australia, and began providing services in Mexico, both through acquisitions. We expect to further penetrate all of these markets through increased sales of ARM and CRM services. Additionally, we expect to pursue direct investments, strategic alliances and partnerships as well as further explore acquisitions in these markets and other markets.

 

Portfolio Management — Historically, we have participated in the purchased accounts receivable business on an opportunistic basis. Given the decline in liquidation rates, competition for purchased accounts receivable and the continued uncertainty of collectibility, we significantly reduced our purchases of accounts in 2009. We currently expect to limit our purchases in 2010 to certain of our non-cancelable forward flow commitments. Additionally, we may opportunistically purchase accounts receivable that allow us to leverage meaningful third-party servicing contracts. Our amended senior credit facility (see note 12 in our Notes to Consolidated Financial Statements) limits purchases in 2010 to $20 million and purchases in 2011 and beyond to $10 million.

 

Pursue strategic acquisition opportunities — We have developed a disciplined approach to acquisitions. We believe our approach enables us to efficiently integrate acquired businesses, personnel and facilities into our existing technology platform, personnel matrix and facilities. By leveraging our shared services and infrastructure, we facilitate the realization of cost synergies and growth of sales and earnings. We intend to evaluate and pursue strategic acquisitions on an opportunistic basis as they become available.

 

4



Table of Contents

 

The following table is a list of our acquired companies in the past two years:

 

Date

 

Acquired Company

 

Description

August 2009

 

TSYS Total Debt Management (“TDM”)

 

Attorney network receivables management

May 2009

 

Complete Credit Management, Ltd.

 

Receivables management in the UK

February 2008

 

Outsourcing Solutions Inc. (“OSI”)

 

Receivables management

January 2008

 

Systems & Services Technologies, Inc. (“SST”)

 

Active account servicing

2008

 

Various international companies

 

Receivables management

 

Our Services

 

We provide the following BPO services:

 

Accounts Receivable Management

 

We provide a wide range of ARM services to our clients by utilizing an extensive technological infrastructure. Although traditional ARM services have focused on the recovery of delinquent accounts (third-party), we also engage in the recovery of current accounts receivable and early stage delinquencies (generally, accounts that are 180 days or less past due) (first-party). We generate ARM revenue from the recovery of delinquent accounts receivable on a contingency fee basis and from contractual collection services and other related services.

 

ARM services typically include the following activities:

 

Engagement Planning.  We customize solutions for our clients based on a number of factors, including account size and demographics, the client’s specific requirements and our management’s estimate of the collectibility of the account. We integrate our standard processes for accounts receivable management, developed from decades of accumulated experience, to create a customized recovery solution. In many instances, the approach will evolve and change as the relationship with the client develops, and both parties evaluate the most effective means of recovering accounts receivable. Our systematic approach to accounts receivable management removes most decision making from the recovery staff and is designed to ensure uniform, cost-effective performance.

 

Once the approach has been defined, we electronically or manually transfer pertinent client data into our information system. When the client’s records have been established in our system, we begin the recovery process.

 

Account Notification.  We initiate the recovery process by forwarding a preliminary letter that is designed to seek payment of the amount due or open a dialogue with the client’s customers. This letter also serves as an official notification to each client’s customer of his or her rights as required by the Federal Fair Debt Collection Practices Act. We continue the recovery process with a series of mail and telephone notifications. Telephone representatives remind the client’s customer of their obligation, inform them that their account has been placed for collection with us and begin a dialogue to develop a payment program.

 

Skip Tracing.  In cases where the client’s customer’s contact information is unknown, we systematically search the U.S. Post Office National Change of Address service, consumer databases, electronic telephone directories, credit agency reports, tax assessor and voter registration records, motor vehicle registrations, military records, and other sources. The geographic expansion of banks, credit card companies, national and regional telecommunications companies, and national and regional hospital chains, along with the mobility of consumers, has increased the demand for locating the client’s customers. Once we have located the client’s customer, the notification process can begin.

 

First Party/Early Stage Delinquency Calls.  Although companies understand the importance of contacting customers early in the delinquency cycle, some do not possess the resources necessary to sustain consistent and cost-effective outbound telephone campaigns. We provide a customized, service approach to contact our clients’ customers and remind them of their obligation to pay their accounts.

 

We typically conduct reminder calls to recently past due customers and courtesy collection calls to more seriously delinquent customers. Our representatives leave courteous messages if telephone contact attempts are unsuccessful after the second day.

 

Third Party Collection Services.  The most common challenges encountered by companies are how to prompt seriously delinquent customers to make payment before they are charged off as uncollectible or to collect the full

 

5



Table of Contents

 

balance after charge-off. Our third party collection services communicate a sense of urgency to seriously delinquent customers during these periods, reducing net charge-offs and the cost of collection.

 

Credit Reporting.  Credit bureau reporting is used as a collection tool in accordance with NCO’s policy, applicable laws, and client guidelines. At a client’s request, we will electronically report delinquent accounts to one or more of the national credit bureaus where it will remain for a period of up to seven years. The possible denial of future credit often motivates the resolution of past due accounts.

 

Payment Processing.  After we receive payment from the client’s customer, depending on the terms of our contract with the client, we can either remit the amount received minus our fee to the client or remit the entire amount received to the client and subsequently bill the client for our collection services.

 

Attorney Network Services.  We coordinate and implement legal collection solutions undertaken on behalf of our clients through the management of nationwide legal resources specializing in collection litigation. Our collection support staff manages the attorney relationships and facilitates the transfer of necessary documentation.

 

Agency Management.  We help our clients manage their accounts receivable management vendors. We establish consistent performance reporting and hold agencies to rigorous performance standards. We monitor and audit all of the agencies in our clients’ network for quality to ensure they are meeting all performance standards.

 

NCOePayments.  We provide our clients’ customers with multiple secure payment options, accessible via the telephone and the Internet, 24 hours a day, 365 days a year. We also provide contact center solutions utilizing our extranet technology, allowing representatives to take payments directly from the customer.

 

Consumer Loan Servicing.  We provide consumer loan servicing for a variety of consumer assets through an end-to-end servicing model, from asset generation to deficiency collections.

 

Transworld Systems.  Our subsidiary, Transworld Systems Inc., provides first- and third-party early stage and past due account recovery services for small, medium and large businesses on a fixed fee basis, through a demand series, reminder calls, or a customized program to fit individual business needs.

 

University Accounting Services.  We provide loan billing services for institutions of higher education.

 

Healthcare Services.  We provide several specialty services for healthcare providers such as:

 

·                  Eligibility Patient Advocacy Liaison provides federal, state, and jurisdictional assistance programs to the uninsured and underinsured.

·                  Extended Business Office Services — operates as an extension of a healthcare business office. Services include the provision of all appropriate billing and follow-up, including billing, re-billing, and follow-up activities for any financial class and any age of placement.

·                  Patient Service Outsourcing — provides the resources needed to perform inbound and outbound patient contact services for third-party eligibility verification, including Medicaid.

 

Customer Relationship Management

 

Our CRM services allow our clients to strengthen their customer relationships by providing a high level of support to their customers and generate incremental sales by acquiring new customers. We design and implement customized outsourced customer care solutions including the following:

 

Customer Care and Retention.  Our representatives specialize in developing and maintaining the relationships that our clients value. Customer care programs vary depending upon each client’s specific goals, but often include services such as customer development and outbound and inbound calling campaigns. Our representatives handle customer care inquiries such as billing questions, product and service inquiries, and complaint resolution. We also place calls on behalf of clients in welcoming new customers, retaining current customers, delivering notifications and conducting market research or satisfaction surveys. Our programs include specialized training in order to ensure that each representative is a seamless extension of our clients’ businesses.

 

Customer Acquisition and Sales.  We support inbound and outbound sales efforts by conducting customized programs designed to acquire new customers, renew current customers, and win back or win over targeted customers. We execute multiple phases of the sales order process, pre- and post-sale, from answering product related questions and making sales presentations to up selling, cross selling and order processing.

 

6



Table of Contents

 

Product and Technical Support.  In support of the increasing dependence of customers and businesses on technology, prompt and accurate responses to technology inquires, product-related support issues, and service related concerns has become a cornerstone to maintaining high customer satisfaction and achieving retention goals. Our product support services include help desk, troubleshooting, warranty, recall, and upgrade support. We strive for first call resolution and are committed to meeting client service level requirements. We believe that our highly trained customer contact staff is knowledgeable in all components of technical support and help desk related service requirements, and is adept at troubleshooting, evaluation and escalation procedures and resolving complaints quickly and effectively to increase our clients’ customer retention and loyalty.

 

Interactive Voice Response.  We use interactive voice response (IVR) technology to cost-effectively facilitate customer care for our clients. Customers can efficiently obtain account balance information, transfer funds, place an order, check status of an order, pay a bill, or answer a survey. Incoming calls are routed to representatives through systematic call transfer protocols or as a result of a toll-free number being included on customer correspondence. The process is completely automated, and if the caller wants to speak to a representative they can choose to be connected to a live NCO customer service professional. This combination of live and recorded telephone interaction benefits the customer through efficient, 24-hour service, and decreased operating costs.

 

Email Management.  An important component to attracting and retaining customers is easy accessibility. Our email management services allow our clients’ customers to communicate with them day or night, 24 hours a day, seven days a week. Our response generation and intelligent routing provide an efficient means to respond to customer needs while increasing our clients’ operational effectiveness and decreasing their costs.

 

Web Chat.  We have the ability to communicate with clients’ customers through our live Web chat service. Faster than email, our Web chat solution allows customers to interact with agents in real time. We can leverage our Web chat technology to provide customer care, answer product questions, or offer technical support.

 

Text Messaging Services.  Using text messaging, we can relay a wide variety of information, including information about new services, promotions, or important information like confirmation numbers.

 

In-Language Contact.  Our global network of call centers support all major languages, including English, Spanish, French, Arabic, Korean, Hindi, Polish, Russian, Tagalog, and numerous Asian dialects. We have a wealth of experience supporting multilingual programs and can work with clients to meet any language requirement.

 

Order Processing.  We support multiple phases of order processing, including answering product-related questions and making sale presentations, up selling and cross selling, order entry, and providing post-sale support.

 

Technology and Infrastructure

 

We have implemented a scalable technical infrastructure that can flexibly support growing client volume while delivering a high level of reliability and service. Our customer contact centers feature advanced technologies, including predictive dialers, automated call distribution systems, digital switching, Voice over Internet Protocol (“VoIP”) technologies, digital recording, workforce management systems and customized computer software, including the NCO ACCESS Interface Manager. This is a graphical user interface we developed for use in large-scale outsourcing engagements that enables better data integration, enhanced reporting, representative productivity, implementation speed, and security.  As a result, we believe we are able to address outsourced business process activities more reliably and more efficiently than our competitors. Our IT staff is comprised of over 450 professionals. We provide our services through the operation of over 100 centers that are linked through an international wide area network.

 

We maintain disaster recovery contingency plans and have implemented procedures to protect against the loss of data resulting from power outages, fire and other casualties. We believe fast recovery and continuous operation are ensured with multiple redundancies, uninterruptible power supplies and contracted backup and recovery services. We have implemented security systems to protect the integrity and confidentiality of our computer systems and data, and we maintain comprehensive business interruption and critical systems insurance on our telecommunications and computer systems. Our systems also permit secure network access to enable clients to establish real time communications with us and monitor operational activity. We employ a variety of industry leading measures including advanced firewalls, data encryption, role specific access permissions, and site security to ensure data remains safe and secure.

 

We continue to be an early adopter of the Credit Card Industry best practices and compliance for data protection. A Level I, audit/assessment is conducted annually by an outside third-party firm, resulting in the satisfactory compliance with the Payment Card Industry (“PCI”), VISA Cardholder Information Security Program (“CISP”), MasterCard Site

 

7


 


Table of Contents

 

Data Protection (“SDP”) Program and American Express Data Security System (“DSS”) requirements. VISA and MasterCard have validated NCO as a Level I provider, which is the most stringent level in the PCI schema.

 

In 2009, the FSA changed its requirements to establish a continuous monitoring program to ensure that controls are reviewed on a consistent basis and that documentation is up to date. To that end, the US Department of Education required that its third party collections agencies comply with the Federal Information Security Management Act (FISMA) and to ensure that the system maintains its accreditation and “Authorization to Process” by the end of October 2009. On October 22, 2009 NCO received the formal “Security Authorization to Operate Decision” from the Department of Education. This process will continue on an annual basis.

 

Our ARM call centers utilize both virtual and onsite predictive dialers with a total of over 4,800 stations to address our low-balance, high-volume accounts, and our CRM centers utilize approximately 400 predictive dialer stations to conduct our clients’ outbound calling campaigns. These systems scan our databases, simultaneously initiate calls on all available telephone lines, and determine if a live connection is made. Upon determining that a live connection has been made, the computer immediately switches the call to an available representative and instantaneously displays the associated account record on the representative’s workstation. Calls that reach other signals, such as a busy signal, telephone company intercept or no answer, are tagged for statistical analysis and placed in priority recall queues or multiple-pass calling cycles. NCO systems also automate almost all record keeping and workflow activities including letter and report generation. We believe that our automated method of operations dramatically improves the productivity of our staff.

 

Quality Assurance and Client Service

 

We believe a reputation for quality service is critical to acquiring and retaining clients. Therefore, our representatives are supervised, by both NCO and our clients, for strict compliance with client specifications, our policies, and applicable laws and regulations. We regularly measure the quality of our services by capturing and reviewing such information as the amount of time spent talking with clients’ customers, level of customer complaints and operating performance. In order to provide ongoing improvement to our telephone representatives’ performance and to ensure compliance with our policies and standards, as well as federal, state and local guidelines, quality assurance personnel supervise each telephone representative on a frequent basis and provide ongoing training to the representative based on this review. Our information systems enable us to provide clients with reports on a real-time basis as to the status of their accounts and clients can choose to network with our computer system to access such information directly.

 

We maintain a client service department to promptly address client issues and questions and alert senior executives of potential problems that require their attention. In addition to addressing specific issues, a team of client service representatives contact clients on a regular basis in order to establish a close relationship, determine clients’ overall level of satisfaction, and identify practical methods of improving their satisfaction.

 

Additionally, in 2009 we launched a new consumer help website designed to allow our clients’ customers to communicate with us 24 hours a day, seven days a week, 365 days a year. Consumers can choose to contact us via email or telephone, or they can choose to have one of our representatives call them. We have a dedicated team of representatives to support the website.

 

Client Relationships

 

Our active client base currently includes over 18,500 companies in the financial services, telecommunications, healthcare, retail and commercial, education and government, utilities, technology and transportation/logistics sectors. Our 10 largest clients in 2009 accounted for approximately 38.7 percent of our consolidated revenue excluding reimbursable costs and fees. Our largest client during the year ended December 31, 2009, was in the telecommunications sector and represented 9.6 percent of our consolidated revenue, excluding reimbursable costs and fees, for the year ended December 31, 2009. While our CRM division relies on revenue from a few key clients, none of these clients represented more than 10 percent of our consolidated revenue. In 2009, we derived 34.5 percent of our revenue from financial services (which includes the banking and insurance sectors), 22.1 percent from telecommunications companies, 10.6 percent from healthcare organizations, 10.2 percent from retail and commercial entities, 8.6 percent from education and government organizations, 8.1 percent from utilities, 3.1 percent from technology companies and 2.8 percent from transportation/logistics companies, in each case excluding purchased accounts receivable.

 

Our ARM contracts generally define, among other things, fee arrangements, scope of services and termination provisions. Clients may usually terminate such contracts on 30 or 60 days notice. In the event of termination, however,

 

8



Table of Contents

 

clients typically do not withdraw accounts referred to us prior to the date of termination, thus providing us with an ongoing stream of revenue from such accounts, which diminishes over time. Under the terms of our contracts, clients are not required to place accounts with us but do so on a discretionary basis.

 

Our CRM contracts are generally for terms of up to three years. Contracts are typically terminable by either party upon 60 days notice; however, in some cases, particularly in our longer term inbound contracts which often require substantial capital expenditures on our part, a client may be required to pay us a termination fee in connection with an early termination of the contract.

 

In addition, certain inbound CRM contracts may contain minimum volume commitments requiring our clients to provide us with agreed-upon levels of calls during the terms of the contracts. Our fees for services rendered under these contracts are based on pre-determined contracted chargeable rates that may include a base rate per minute or per hour plus a higher rate or “bonus” rate if we meet pre-determined objective performance criteria, such as sales generated during a defined period, and may be reduced by any contractual monthly performance penalties to which the client may be entitled. Additionally, we may receive additional discretionary client determined bonuses based upon criteria established by our clients.

 

Some of our customer contracts provide for limited currency rate protection below certain pre-determined exchange rate levels and limited gain sharing above certain pre-determined exchange rate levels. Such contracts may mitigate certain currency risks, however, there can be no assurance that new contracts will be successfully negotiated with such provisions or that existing contract provisions will result in the reduction of currency risk for such contracts.

 

Personnel and Training

 

Our success in recruiting, hiring and training a large number of employees is critical to our ability to provide high quality BPO services to our clients. We seek to hire personnel with previous experience in the industry or with experience as telephone representatives. We generally offer internal promotion opportunities and competitive compensation and benefits.

 

All of our call center personnel receive comprehensive training that consists of three stages: introduction training, behavioral training and functional training. These programs are conducted through a combination of classroom and role-playing sessions. Prior to customer contact, new employees receive one week of training in our operating systems, procedures and telephone techniques and instruction in applicable federal and state regulatory requirements. Our personnel also receive a wide variety of continuing professional education and on-going refresher training, as well as additional product training on an as-needed basis.

 

As of December 31, 2009, we had a total of approximately 28,200 full-time employees and 2,600 part-time employees, of which approximately 17,700 were telephone representatives. In addition, as of December 31, 2009, we utilized approximately 1,400 telephone representatives and 700 sales professionals through subcontractors. We believe that our relations with our employees are good.

 

Typically, our employees are not represented by a labor union. However, from time to time, our facilities are targeted by union organizers. We are not aware of any current union organizing efforts at any of our facilities.

 

Sales and Marketing

 

Our sales force is organized to best match our sales professionals’ experience and expertise with the appropriate target market. Our core sales force, composed of approximately 50 sales professionals, is organized by industry and geographical location to ensure the highest level of focus and service to potential and existing business partners. This group is focused on forming and cultivating strategic, long-term partnerships with large, multinational firms in order to maximize outsourcing opportunities via our full suite of BPO services.  Additionally, we have a sales force of approximately 700 people, working on a contract basis, focused on selling account recovery services for small, medium and large businesses on a fixed fee basis.

 

Our in-house marketing department provides innovative customer contact solutions and sales support by performing a wide range of personalized services such as customer database administration, advertising, marketing campaigns and direct mailings, collateral development, trade show and site visit management, market and competitive research, and more. These functions are all integrated with our client relationship management system to provide a seamless interface between our sales team and our marketing department. We also maintain a dedicated team of skilled writers who prepare detailed, professional responses to formal requests for proposals and requests for information.

 

9



Table of Contents

 

Competition

 

The BPO industry is highly competitive. We compete with a large number of ARM providers, including large national corporations such as Alliance One, GC Services LP and iQor, Inc., as well as many regional and local firms. We also compete with large CRM providers such as Convergys Corporation, Sitel Worldwide Corporation, Sykes Enterprises, Inc., TeleTech Holdings, Inc., and West Corporation. Some of our competitors may offer more diversified services and/or operate in broader geographic areas than we do. In addition, many companies perform the BPO services offered by us in-house. Moreover, many larger clients retain multiple outsourcing providers, which exposes us to continuous competition in order to remain a preferred vendor. We believe that the primary competitive factors in obtaining and retaining clients are the ability to provide customized solutions to a client’s requirements, personalized quality service, sophisticated call and information systems, and a competitive price.

 

Regulation

 

We devote significant and continuous efforts, through training of personnel and monitoring of compliance, to ensure that we comply with all applicable foreign, federal and state regulatory requirements. We believe that we are in material compliance with all such regulatory requirements.

 

Accounts Receivable Management

 

The ARM industry in the United States is regulated both at the federal and state level. The Federal Fair Debt Collection Practices Act, referred to as the FDCPA, regulates any person who regularly collects or attempts to collect, directly or indirectly, consumer debts owed or asserted to be owed to another person. The FDCPA establishes specific guidelines and procedures that debt collectors must follow in communicating with consumer debtors, including the time, place and manner of such communications. Further, it prohibits harassment or abuse by debt collectors, including the threat of violence or criminal prosecution, obscene language or repeated telephone calls made with the intent to abuse or harass. The FDCPA also places restrictions on communications with individuals other than consumer debtors in connection with the collection of any consumer debt and sets forth specific procedures to be followed when communicating with such third parties for purposes of obtaining location information about the consumer. Additionally, the FDCPA contains various notice and disclosure requirements and prohibits unfair or misleading representations by debt collectors. We are also subject to the Fair Credit Reporting Act, which regulates the consumer credit reporting industry and which may impose liability on us to the extent that the adverse credit information reported on a consumer to a credit bureau is false or inaccurate. The Federal Trade Commission, referred to as the FTC, has the authority to investigate consumer complaints against debt collection companies and to recommend enforcement actions and seek monetary penalties. The ARM business is also subject to state regulation. Some states require that we be licensed as a debt collection company. We believe that we currently hold applicable state licenses from all states where required.

 

We provide services to healthcare clients that are considered “covered entities” under the Health Insurance Portability and Accountability Act of 1996, referred to as HIPAA. As covered entities, our clients must comply with the standards for privacy, transaction and code sets, and data security. Under HIPAA, we are considered a “business associate,” which requires that we protect the security and privacy of “protected health information” provided to us by our clients for the collection of payments for healthcare services. We believe that we operate in compliance with all applicable standards under HIPAA in all material respects.

 

The collection of accounts receivable by collection agencies in Canada is regulated at the provincial and territorial level in substantially the same fashion as is accomplished by federal and state laws in the United States. The manner in which we conduct the business of collecting accounts is subject, in all provinces and territories, to established rules of common law or civil law and statute. Such laws establish rules and procedures governing the tracing, contacting and dealing with debtors in relation to the collection of outstanding accounts. These rules and procedures prohibit debt collectors from engaging in intimidating, misleading and fraudulent behavior when attempting to recover outstanding

 

10



Table of Contents

 

debts. In Canada, our collection operations are subject to licensing requirements and periodic audits by government agencies and other regulatory bodies. Generally, such licenses are subject to annual renewal. We believe that we hold all necessary licenses in those provinces and territories that require them.

 

In Australia, debt collection and debt purchasing activities are regulated by legislation and regulation at a state and federal level, with licenses required for corporations and individuals with varying effect at a state Level. The Trade Practices Act, The Privacy Act and the Anti Money Laundering legislation are the primary federal laws, and the Commercial Agents legislation is the state level legislation. NCO’s Australian operations are licensed across all required jurisdictions. We believe that we hold all necessary licenses in those jurisdictions that require them.

 

In addition, the ARM industry is regulated in the United Kingdom and Europe, including licensing requirements. We believe we hold all necessary licenses required in the United Kingdom and Europe. If we expand our international operations, we may become subject to additional government control and regulation in other countries, which may be more onerous than those in the United States.

 

Several of the industries served by us are also subject to varying degrees of government regulation. Although compliance with these regulations is generally the responsibility of our clients, we could be subject to various enforcement or private actions for our failure or the failure of our clients to comply with such regulations.

 

Customer Relationship Management

 

In the United States, there are two major federal laws that specifically address telemarketing, the Telephone Consumer Protection Act, referred to as TCPA, which authorized the Federal Communications Commission, referred to as the FCC, to regulate the telemarketing industry, and the Telemarketing and Consumer Fraud and Abuse Prevention Act, referred to as the Fraud Prevention Act, which authorized the FTC, to adopt the Telemarketing Sales Rule, referred to as the TSR, which includes restrictions on telemarketing activities. These laws have been amended several times since their inception. In addition, the states have various regulatory restrictions and requirements for telemarketing companies.

 

The TCPA places restrictions on unsolicited automated telephone calls to residential telephone subscribers by means of automatic telephone dialing systems, prerecorded or artificial voice messages and telephone fax machines. It provides requirements for caller identification and call abandonment. In addition, the regulations require CRM firms to develop and maintain an internal “Do Not Call” list, to comply with the rules regarding the national “Do-Not-Call” registry, as discussed below, and to train their CRM personnel to comply with these restrictions. We train our service representatives to comply with all of these regulations of the TCPA.

 

The FTC regulates both general sales practices and telemarketing specifically and has broad authority to prohibit a variety of advertising or marketing practices that may constitute “unfair or deceptive acts or practices.” The FTC administers the Fraud Prevention Act under which the FTC has issued the TSR prohibiting a variety of deceptive, unfair or abusive practices in direct telephone sales. Generally, these rules prohibit misrepresentations of the cost, quantity, terms, restrictions, performance or characteristics of products or services offered by telephone solicitation or of refund, cancellation or exchange policies. The rules also require that a telemarketer identify promptly and clearly the seller on whose behalf the CRM representative is calling, the purpose of the call, the nature of the goods or services offered and that no purchase or payment is necessary to win a prize. Service providers are required to maintain records on various aspects of their businesses. The TSR also established the national “Do Not Call” registry, where consumers could register once to stop all unwanted telemarketing calls. A consumer who receives a telemarketing call despite being on the registry can file a complaint with the FTC. In addition, the TSR restricts call abandonment (with certain safe harbors) and unauthorized billing, and it requires telemarketers to transmit their telephone numbers and, if possible, their names to consumers’ caller identification services.

 

Most states have also enacted consumer protection statutes prohibiting unfair or deceptive acts or practices as they relate to telemarketing sales. For example, telephone sales in certain states are not final until a written contract is delivered to and signed by the buyer, and such a contract often may be canceled within three business days. At least one state also prohibits parties conducting direct telephone sales from requesting credit card numbers in certain situations, and several other states require certain providers of such services to register annually, post bonds or submit sales scripts to the state’s attorney general. Some states have established their own statewide “Do Not Call” lists while other states have opted to use the FTC’s “Do Not Call” list as their official state list.

 

11



Table of Contents

 

Additionally, some states have enacted laws and others are considering enacting laws targeted at direct telephone sales practices. Some examples include laws regulating electronic monitoring of telephone calls and laws prohibiting any interference by direct telephone sales with caller identification services.

 

In Canada, the Canadian Radio-Television and Telecommunications Commission, referred to as CRTC, enforces rules regarding unsolicited communications using automatic dialing and announcing devices, live voice and fax. Canada also instituted the Canadian National Do Not Call list, referred to as the NDNCL, under which a telemarketer shall not initiate a telemarketing communication on behalf of a client unless that client is a registered subscriber of the NDNCL and the applicable fees have been paid. We are registered as a telemarketer with the NDNCL. Additionally, we ensure that our clients have properly registered and paid for the NDNCL by requesting the client’s registration number.

 

Canada’s Personal Information Protection and Electronic Documents Act, referred to as the Federal Act requires all commercial enterprises to obtain consent for the collection, use, and disclosure of an individual’s personal information. The Federal Act permits any Province of Canada to enact substantially similar legislation governing the subject matter of the Federal Act, in which case the legislation of the Province will override the provisions of the Federal Act. Our Canadian operations are located primarily in the Provinces of Ontario, British Columbia and New Brunswick. British Columbia has enacted legislation, referred to as the B.C. Act, governing the subject matter of the Federal Act. The federal government of Canada has not yet declared the B.C. Act substantially similar to the Federal Act. Until such time as the federal government of Canada makes such declaration, both the B.C. Act and the Federal Act will apply concurrently to our operations in British Columbia. Though neither has yet enacted legislation that is substantially similar to the Federal Act, both Ontario and New Brunswick have indicated that they may enact legislation governing the subject matter of the Federal Act.

 

Canada’s Competition Act contains a number of provisions that regulate the conduct of telemarketers in Canada, in particular the manner in which outbound calls are to be conducted.

 

The industries we serve are also subject to government regulation, and, from time to time, bills are introduced in Congress, which, if enacted, could affect our operations. We, and our employees who sell insurance products, are required to be licensed by various state and Canadian provincial insurance commissions for the particular type of insurance product to be sold and are required to participate in regular continuing education programs.

 

We provide service to the telecommunications industry, which is subject to government regulation. For example, “slamming” is the illegal practice of changing a consumer’s telephone service without permission. The FCC has promulgated regulations regarding slamming rules that apply solely to the telecommunications carrier and not the telemarketer or the independent party verifying the service change. However, some state slamming rules may extend liability for violations to agents and other representatives of telecommunications carriers, such as telemarketers.

 

Our representatives undergo an extensive training program, part of which is aimed to ensure their compliance with all such laws and regulations affecting the telemarketing industry. We also program our call management system to avoid initiating telephone calls during restricted hours or to individuals maintained on our “Do Not Call” list.

 

12



Table of Contents

 

Segment and Geographical Financial Information

 

See Note 20 in our Notes to Consolidated Financial Statements for the year ended December 31, 2009 for disclosure of financial information regarding our segments. The following table presents revenues and total assets, net of any intercompany balances, by geographic location (amounts in millions):

 

 

 

For the Years Ended December 31,

 

 

 

2009

 

2008

 

2007

 

Revenues:

 

 

 

 

 

 

 

U.S.

 

$

1,432.5

 

$

1,369.7

 

$

1,151.8

 

Canada

 

44.5

 

46.8

 

57.2

 

Panama

 

28.7

 

28.7

 

27.1

 

Australia

 

23.1

 

19.2

 

15.5

 

U.K.

 

22.4

 

25.7

 

24.1

 

Mexico

 

12.7

 

10.9

 

 

Other

 

 

12.1

 

9.7

 

 

 

 

 

 

 

 

 

Total assets:

 

 

 

 

 

 

 

U.S.

 

$

1,284.7

 

$

1,411.5

 

$

1,441.0

 

Panama

 

46.9

 

55.9

 

56.8

 

Australia

 

33.3

 

47.0

 

28.9

 

U.K.

 

27.5

 

18.7

 

15.5

 

Canada

 

29.2

 

121.4

 

118.2

 

Philippines

 

18.4

 

25.1

 

8.3

 

Mexico

 

11.5

 

5.9

 

 

Other

 

8.5

 

16.1

 

9.3

 

 

Item 1A.                                                  Risk Factors

 

You should carefully consider the following risk factors. The risks and uncertainties described below are not the only ones we face. Additional risks and uncertainties that we are unaware of, or that we currently deem immaterial, also may become important factors that affect us.

 

Risks Related to the Current Environment and Recent Developments

 

Recent instability in the financial markets and global economy may affect our access to capital, our ability to purchase accounts, and the success of our collection efforts which could have a material adverse effect on our results of operations and revenue.

 

The stress experienced by global capital markets that began in the second half of 2007, and which substantially increased during the second half of 2008, continued in 2009. Concerns over inflation, energy costs, geopolitical issues, the availability and cost of credit, the U.S. mortgage market and a declining real estate market in the U.S. have contributed to increased volatility and diminished expectations for the economy and the markets going forward. These factors, combined with volatile oil prices, declining business and consumer confidence and increased unemployment, have precipitated a recession. This economic downturn has adversely affected the ability and willingness of consumers to pay their debts and resulted in a weaker collection environment in 2008 and 2009. The economic downturn may continue and unemployment may continue to rise. The ability and willingness of consumers to pay their debts could continue to be adversely affected, which could have a material adverse effect on our results of operations, collections and revenue.

 

Further deterioration in economic conditions in the United States may also lead to higher rates of personal bankruptcy filings. Defaulted consumer loans that we service or purchase are generally unsecured, and we may be unable to collect these loans in the case of personal bankruptcy of a consumer. Increases in bankruptcy filings could have a material adverse effect on our results of operations, collections and revenue.

 

Continued or further credit market dislocations or sustained market downturns may also reduce the ability of lenders to originate new credit, limiting our ability to service or purchase defaulted consumer loans in the future. We are currently in compliance with all of our debt covenants, but the future impact on our operations and financial projections from the challenging economic and business environment may impact our ability to meet our debt covenants in the

 

13



Table of Contents

 

future. Further, increased financial pressure on the distressed consumer may result in additional regulatory restrictions on our operations and increased litigation filed against us. We are unable to predict the likely duration or severity of the current disruption in financial markets and adverse economic conditions and the effects they may have on our business, financial condition and results of operations.

 

Adverse capital and credit market conditions may significantly affect our ability to meet liquidity needs and access capital.

 

The current global financial and credit crisis exposes us to a variety of risks. The capital and credit markets have been experiencing extreme volatility and disruption for more than twelve months. Disruptions in the credit markets make it harder and more expensive to obtain funding.  In some cases, the markets have exerted downward pressure on availability of liquidity and credit capacity for certain issuers.

 

We need liquidity to pay our operating expenses and debt service obligations. Without sufficient liquidity, we could be forced to limit our investment in growth opportunities or curtail operations. The principal sources of our liquidity are cash flows from operations, including collections on purchased accounts receivable, bank borrowings, and equity and debt offerings. As a result of the global financial crisis, there is a risk that one or more lenders in our senior credit facility syndicate could be unable to meet contractually obligated borrowing requests in the future. In the event current resources do not satisfy our needs, we may have to seek additional financing. The availability of additional financing will depend on a variety of factors such as market conditions and the general availability of credit. If current levels of market disruption and volatility continue or worsen, we may not be able to successfully obtain additional financing on favorable terms, or at all.

 

There can be no assurance that actions of the U.S. Government, Federal Reserve and other governmental and regulatory bodies for the purpose of stabilizing the financial markets will achieve the intended effect.

 

In response to the financial crises affecting the banking system and financial markets and going concern threats to investment banks and other financial institutions, the Federal Government, Federal Reserve and other governmental and regulatory bodies have taken action and are considering taking further actions to address the financial crisis. There can be no assurance as to what impact such actions will have on the financial markets, including the extreme levels of volatility currently being experienced.

 

Derivative transactions may expose us to unexpected risk and potential losses.

 

We are party to certain derivative transactions, such as interest rate swap contracts and foreign exchange contracts, with financial institutions to hedge against certain financial risks. Changes in the fair value of these derivative financial instruments that are not cash flow hedges are reported in income, and accordingly could materially affect our reported income in any period. Moreover, in the light of current economic uncertainty and potential for financial institution failures, we may be exposed to the risk that our counterparty in a derivative transaction may be unable to perform its obligations as a result of being placed in receivership or otherwise. In the event that a counterparty to a material derivative transaction is unable to perform its obligations thereunder, we may experience material losses that could materially adversely affect our results of operations and financial condition.

 

Risks Related to our Business

 

Our business is dependent on our ability to grow internally.

 

Our business is dependent on our ability to grow internally, which is dependent upon:

 

· our ability to retain existing clients and expand our existing client relationships; and

· our ability to attract new clients.

 

Our ability to retain existing clients and expand those relationships is subject to a number of risks, including the risk that:

 

·      we fail to maintain the quality of services we provide to our clients;

·      we fail to maintain the level of attention expected by our clients;

·      we fail to successfully leverage our existing client relationships to sell additional services; and

·      we fail to provide competitively priced services.

 

14



Table of Contents

 

Our ability to attract new clients is subject to a number of risks, including:

 

·      the market acceptance of our service offerings;

·      the quality and effectiveness of our sales force; and

·      the competitive factors within the BPO industry.

 

If our efforts to retain and expand our client relationships and to attract new clients do not prove effective, it could have a materially adverse effect on our business, results of operations and financial condition.

 

We compete with a large number of providers in the ARM and CRM industries. This competition could have a materially adverse effect on our future financial results.

 

We compete with a large number of companies in the industries in which we provide services. In the ARM industry, we compete with other sizable corporations in the U.S. and abroad such as Alliance One, GC Services LP and IntelliRisk Management Corporation, as well as many regional and local firms. In the CRM industry, we compete with large customer care outsourcing providers such as Convergys Corporation, Sitel Worldwide Corporation, Sykes Enterprises, Inc., TeleTech Holdings, Inc., and West Corporation. We may lose business to competitors that offer more diversified services, have greater financial and other resources and/or operate in broader geographic areas than we do. We may also lose business to regional or local firms who are able to use their proximity to or contacts at local clients as a marketing advantage. In addition, many companies perform the BPO services offered by us in-house. Many larger clients retain multiple BPO providers, which exposes us to continuous competition in order to remain a preferred provider. Because of this competition, in the future we may have to reduce our fees to remain competitive and this competition could have a materially adverse effect on our future financial results.

 

Many of our clients are concentrated in the financial services, telecommunications, and healthcare sectors. If any of these sectors performs poorly or if there are any adverse trends in these sectors it could materially adversely affect us.

 

For the year ended December 31, 2009, we derived 34.5 percent of our revenue from clients in the financial services sector, 22.1 percent of our revenue from clients in the telecommunications industry, 10.6 percent of our revenue from clients in the healthcare sector, and 10.2 percent from clients in the retail and commercial sector, in each case excluding purchased accounts receivable. If any of these sectors performs poorly, clients in these sectors may do less business with us, or they may elect to perform the services provided by us in-house. If there are any trends in any of these sectors to reduce or eliminate the use of third-party BPO service providers, it could harm our business and results of operations.

 

We have international operations and utilize foreign sources of labor, and various factors relating to our international operations, including fluctuations in currency exchange rates, could adversely affect our results of operations.

 

Approximately 5.7% of our 2009 revenues were derived from clients in Canada, the United Kingdom and Australia. Political or economic instability in Canada, the United Kingdom or Australia could have an adverse impact on our results of operations due to diminished revenues in these countries. Our future revenue, costs of operations and profitability could also be affected by a number of other factors related to our international operations, including changes in economic conditions from country to country, changes in a country’s political condition, trade protection measures, licensing and other legal requirements, and local tax or foreign exchange issues. Unanticipated currency fluctuations in the Canadian Dollar, British Pound, Euro or the Australian Dollar could lead to lower reported consolidated results of operations due to the translation of these currencies into U.S. dollars when we consolidate our financial results.

 

We provide ARM and CRM services to our U.S. clients utilizing foreign sources of labor through call centers in Canada, India, the Philippines, Barbados, Antigua, Australia, Panama, Mexico and Guatemala. Any political or economic instability in these countries could result in our having to replace or reduce these labor sources, which may increase our labor costs and have an adverse impact on our results of operations. A decrease in the value of the U.S. dollar in relation to the currencies of the countries in which we operate could increase our cost of doing business in those countries. In addition, we expect to expand our operations into other countries and, accordingly, will face similar risks with respect to the costs of doing business in such countries including as a result of any decreases in the value of the U.S. dollar in relation to the currencies of such countries. There is no guarantee that we will be able to successfully hedge our foreign currency exposure in the future.

 

15



Table of Contents

 

We seek growth opportunities for our business in parts of the world where we have had little or no prior experience. International expansion into new markets with different cultures and laws poses additional risks and costs, including the risk that we will not be able to obtain the required permits, comply with local laws and regulations, hire, train and maintain a workforce, and obtain and maintain physical facilities in a culture and under laws that we are not familiar with. In addition, we may have to customize certain of our collection techniques to work with a different consumer base in a different regulatory environment. Also, we may have to revise certain of our analytical portfolio techniques as we apply them in different countries.

 

We are dependent on our employees and a higher turnover rate would have a material adverse effect on us.

 

We are dependent on our ability to attract, hire and retain qualified employees. The BPO industry, by its nature, is labor intensive and experiences a high employee turnover rate. Many of our employees receive modest hourly wages and some of these employees are employed on a part-time basis. A higher turnover rate among our employees would increase our recruiting and training costs and could materially adversely impact the quality of services we provide to our clients. If we were unable to recruit and retain a sufficient number of employees, we would be forced to limit our growth or possibly curtail our operations. Growth in our business will require us to recruit and train qualified personnel at an accelerated rate from time to time. We cannot assure that we will be able to continue to hire, train and retain a sufficient number of qualified employees to meet the needs of our business or to support our growth. If we are unable to do so, our results of operations could be harmed. Any increase in hourly wages, costs of employee benefits or employment taxes could also have a materially adverse affect on our results of operations.

 

The employees at one of our offices voted to join a labor union. Our other employees could become unionized in the future, which could increase our costs and result in a loss of customers.

 

In February 2006, the employees at our call center in Surrey, British Columbia, Canada voted in favor of joining the B.C. Government and Services Employees’ Union, and a collective agreement was ratified in the first quarter of 2007. We are currently not aware of any other union organizing efforts at any of our other facilities. If our other employees are successful in organizing a labor union at any of our locations, it could further increase labor costs, decrease operating efficiency and productivity in the future, result in office closures, and result in a loss of customers.

 

If we are not able to respond to technological changes in telecommunications and computer systems in a timely manner, we may not be able to remain competitive.

 

Our success depends in large part on our sophisticated telecommunications and computer systems. We use these systems to identify and contact large numbers of debtors and record the results of our collection efforts, as well as to provide customer service to our clients’ customers. If we are not able to respond to technological changes in telecommunications and computer systems in a timely manner, we may not be able to remain competitive. We have made a significant investment in technology to remain competitive and we anticipate that it will be necessary to continue to do so in the future. Telecommunications and computer technologies are changing rapidly and are characterized by short product life cycles, so we must anticipate technological developments. If we are not successful in anticipating, managing, or adopting technological changes on a timely basis or if we do not have the capital resources available to invest in new technologies, our business could be materially adversely affected.

 

We are highly dependent on our telecommunications and computer systems.

 

As noted above, our business is highly dependent on our telecommunications and computer systems. These systems could be interrupted by terrorist acts, natural disasters, power losses, computer viruses, or similar events. Our business is also materially dependent on services provided by various local and long distance telephone companies. If our equipment or systems cease to work or become unavailable, or if there is any significant interruption in telephone services, we may be prevented from providing services and collecting on accounts receivable portfolios we have purchased. Because we generally recognize revenue and generate operating cash flow primarily through ARM collections and providing CRM services, any failure or interruption of services and collections would mean that we would continue to incur payroll and other expenses without any corresponding income.

 

An increase in communication rates or a significant interruption in communication service could harm our business.

 

Our ability to offer services at competitive rates is highly dependent upon the cost of communication services provided by various local and long distance telephone companies. Any change in the telecommunications market that would affect our ability to obtain favorable rates on communication services could harm our business. Moreover, any

 

16



Table of Contents

 

significant interruption in communication service or developments that could limit the ability of telephone companies to provide us with increased capacity in the future could harm existing operations and prospects for future growth.

 

We may seek to make strategic acquisitions of companies. Acquisitions involve additional risks that may adversely affect us.

 

From time to time, we may seek to make acquisitions of businesses that provide BPO services. We may be unable to make acquisitions if suitable businesses that provide BPO services are not available at favorable prices due to increased competition for these businesses.

 

We may have to borrow money, incur liabilities, or sell or issue stock to pay for future acquisitions and we may not be able to do so on terms favorable to us, or at all. Additional borrowings and liabilities may have a materially adverse effect on our liquidity and capital resources. If we issue stock for all or a portion of the purchase price for future acquisitions, our stockholders’ ownership interest may be diluted. Our common stock is not publicly traded and potential sellers may be unwilling to accept equity in a privately held company as payment for the sale of their business. If potential sellers are not willing to accept our common stock as payment for the sale of their business, we may be required to use more of our cash resources, if available, in order to continue our acquisition strategy.

 

Completing acquisitions involves a number of risks, including diverting management’s attention from our daily operations, other additional management, operational and financial resources, system conversions and the inability to maintain key pre-acquisition relationships with customers, suppliers and employees. We might not be able to successfully integrate future acquisitions into our business or operate the acquired businesses profitably, and we may be subject to unanticipated problems and liabilities of acquired companies.

 

Our success depends on our senior management team and if we are not able to retain them, it could have a materially adverse effect on us.

 

We are highly dependent upon the continued services and experience of our senior management team, including Michael J. Barrist, our Chairman, President and Chief Executive Officer. We depend on the services of Mr. Barrist and the other members of our senior management team to, among other things, continue the development and implementation of our growth strategies, and maintain and develop our client relationships.

 

Goodwill and other intangible assets represented 60.2 percent of our total assets at December 31, 2009. If the goodwill or the other intangible assets, primarily our customer relationships and trade name, are deemed to be impaired, we may need to take a charge to earnings to write-down the goodwill or other intangibles to its fair value.

 

Our balance sheet includes goodwill, which represents the excess of the purchase price over the fair market value of the net assets of acquired businesses based on their respective fair values at the date of acquisition. Trade name represents the fair value of the NCO name and is an indefinite-lived intangible asset. Other intangibles are composed of customer relationships, which represent the information and regular contact we have with our clients and non-compete agreements.

 

Goodwill is tested at least annually for impairment. The test for impairment uses a fair value based approach, whereby if the implied fair value of a reporting unit’s goodwill is less than its carrying amount, goodwill would be considered impaired. The trade name intangible asset is also reviewed for impairment on an annual basis.

 

As a result of the annual impairment testing, we recorded goodwill impairment charges of $24.7 million in the CRM segment in 2009. We recorded goodwill impairment charges of $275.5 million and trade name impairment charges of $14.0 million in 2008. We were not required to record any impairment charges based upon the annual impairment tests in 2007. If our goodwill or trade name are deemed to be further impaired, we will need to take an additional charge to earnings in the future to write-down the asset to its fair value.

 

We make significant assumptions to estimate the future revenue and cash flows used to determine the fair value of our reporting units. These assumptions include future growth rates, profitability, discount factors, market comparables, future tax rates, and other factors. Variations in any of these assumptions could result in materially different calculations of impairment amounts. If the expected revenue and cash flows are not realized, additional impairment losses may be recorded in the future.

 

17


 


Table of Contents

 

Our other intangible assets, consisting of customer relationships and non-compete agreements, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying value may not be recoverable. For example, the loss of a larger client could require a review of the customer relationship for impairment. We made significant assumptions to estimate the future cash flows used to determine the fair value of the customer relationship. If we lost a significant customer relationship, the future cash flows expected to be generated by the customer relationship would be less than the carrying amount, and an impairment loss may be recorded.

 

During 2009, we began to reduce our purchases of portfolios of accounts receivable and we made a decision to minimize further investments in the future. As a result of this decision, we recorded an impairment charge of $5.3 million for customer relationship intangible assets.

 

As of December 31, 2009, our balance sheet included goodwill, trade name and other intangibles that represented 36.7 percent, 5.8 percent and 17.7 percent of total assets, respectively, and 233.9 percent, 36.6 percent and 112.9 percent of stockholders’ equity, respectively.

 

Security and privacy breaches of the systems we use to protect personal data could adversely affect our business, results of operations and financial condition.

 

Our databases contain personal data of our clients’ customers, including credit card and healthcare information. Any security or privacy breach of these databases could expose us to liability, increase our expenses relating to the resolution of these breaches and deter our clients from selecting our services. Our data security procedures may not effectively counter evolving security risks, address the security and privacy concerns of existing or potential clients or be compliant with federal, state, and local laws and regulations in all respects. Any failures in our security and privacy measures could adversely affect our business, financial condition and results of operations.

 

If we fail to maintain an effective system of internal control over financial reporting and disclosure controls and procedures, we may be unable to accurately report our financial results and comply with the reporting requirements under the Securities Exchange Act of 1934.  As a result, investors may lose confidence in our financial reporting and disclosure required under the Securities Exchange Act of 1934, which could adversely affect our business and could subject us to regulatory scrutiny.

 

Pursuant to Section 404 of the Sarbanes-Oxley Act of 2002, referred to as Section 404, we are required to include in our Annual Reports on Form 10-K, our management’s report on internal control over financial reporting and, beginning with our Annual Report on Form 10-K for 2010, our registered public accounting firm’s attestation report on our internal control over financial reporting. While we have reported no “material weaknesses” in the Form 10-K for the fiscal year ended December 31, 2009, we cannot guarantee that we will not have any “material weaknesses” reported by our management or our independent registered public accounting firm in the future. Compliance with the requirements of Section 404 is expensive and time-consuming. If in the future we fail to complete this evaluation in a timely manner, or if our independent registered public accounting firm cannot timely attest to our internal controls, we could be subject to regulatory scrutiny and a loss of public confidence in our internal control over financial reporting. In addition, any failure to establish an effective system of disclosure controls and procedures could cause our current and potential investors and customers to lose confidence in our financial reporting and disclosure required under the Securities Exchange Act of 1934, which could adversely affect our business.

 

Terrorist attacks, war and threats of attacks and war may adversely impact our results of operations, revenue and profitability.
 

Terrorist attacks in the United States and abroad, as well as war and threats of war or actual conflicts involving the United States or other countries in which we operate, may adversely impact our operations, including affecting our ability to collect our clients’ accounts receivable. More generally, any of these events could cause consumer confidence and spending to decrease. They could also result in an adverse effect on the economies of the United States and other countries in which we operate. Any of these occurrences could have a material adverse effect on our results of operations, collections and revenue.

 

Risks Related to our ARM Business

 

We are subject to business-related risks specific to the ARM business. Some of those risks are:

 

Most of our ARM contracts do not require clients to place accounts with us, may be terminated on 30 or 60 days notice, and are on a contingent fee basis. We cannot guarantee that existing clients will continue to use our services at historical levels, if at all.

 

Under the terms of most of our ARM contracts, clients are not required to give accounts to us for collection and usually have the right to terminate our services on 30 or 60 days notice. Accordingly, we cannot guarantee that existing

 

18



Table of Contents

 

clients will continue to use our services at historical levels, if at all. In addition, most of these contracts provide that we are entitled to be paid only when we collect accounts. Therefore, for these contracts, we can only recognize revenues upon the collection of funds on behalf of clients.

 

If we fail to comply with government regulation of the collections industry, it could result in the suspension or termination of our ability to conduct business.

 

The collections industry is regulated under various U.S. federal and state, Canadian, United Kingdom and Australian laws and regulations. Many states, as well as Canada, the United Kingdom and Australia, require that we be licensed as a debt collection company. The Federal Trade Commission, referred to as the FTC, has the authority to investigate consumer complaints against debt collection companies and to recommend enforcement actions and seek monetary penalties. If we fail to comply with applicable laws and regulations, it could result in fines as well as the suspension or termination of our ability to conduct collections, which would materially adversely affect us. State regulatory authorities have similar powers. If such matters resulted in further investigations and subsequent enforcement actions, we could be subject to fines as well as the suspension or termination of our ability to conduct collections, which would materially adversely affect our financial position and results of operations. In addition, new federal, state or foreign laws or regulations, or changes in the ways these rules or laws are interpreted or enforced, could limit our activities in the future or significantly increase the cost of regulatory compliance. If we expand our international operations, we may become subject to additional government controls and regulations in other countries, which may be stricter or more burdensome than those government controls and regulations to which we are currently subject.

 

Several of the industries we serve are also subject to varying degrees of government regulation. Although our clients are generally responsible for complying with these regulations, we could be subject to various enforcement or private actions for our failure, or the failure of our clients, to comply with these regulations.

 

Risks Related to our CRM Business

 

We are subject to business-related risks specific to the CRM business. Some of those risks are:

 

The CRM division relies on a few key clients for a significant portion of its revenues. The loss of any of these clients or their failure to pay us could reduce revenues and adversely affect results of operations.

 

The CRM division is characterized by substantial revenues from a few key clients. While no individual CRM client represented more than 10 percent of our consolidated revenue, we are exposed to customer concentration within this division. Most of these clients are not contractually obligated to continue to use our services at historic levels or at all. If any of these clients were to significantly reduce the amount of service, fail to pay, or terminate the relationship altogether, our CRM business could be harmed.

 

Government regulation of the CRM industry and the industries we serve may increase our costs and restrict the operation and growth of our CRM business.

 

The CRM services industry is subject to an increasing amount of regulation in the United States and Canada. In the United States, the FCC places restrictions on unsolicited automated telephone calls to residential telephone subscribers by means of automatic telephone dialing systems, prerecorded or artificial voice messages and telephone fax machines, and requires CRM firms to develop a “do not call” list and to train their CRM personnel to comply with these restrictions. The FTC regulates both general sales practices and telemarketing specifically and has broad authority to prohibit a variety of advertising or marketing practices that may constitute “unfair or deceptive acts or practices.” Most of the statutes and regulations in the United States allow a private right of action for the recovery of damages or provide for enforcement by the FTC, state attorneys general or state agencies permitting the recovery of significant civil or criminal penalties, costs and attorneys’ fees in the event that regulations are violated. The Canadian Radio-Television and Telecommunications Commission enforces rules regarding unsolicited communications using automatic dialing and announcing devices, live voice and fax. We cannot assure you that we will be in compliance with all applicable regulations at all times. We also cannot assure you that new laws, if enacted, will not adversely affect or limit our current or future operations.

 

Several of the industries we serve, particularly the insurance, financial services and telecommunications industries, are subject to government regulation. We could be subject to a variety of private actions or regulatory enforcement for our failure or the failure of our clients to comply with these regulations. Our results of operations could be adversely impacted if the effect of government regulation of the industries we serve is to reduce the demand for our CRM services or expose us to potential liability. We, and our employees who sell insurance products, are required to be

 

19



Table of Contents

 

licensed by various state insurance commissions for the particular type of insurance product sold and to participate in regular continuing education programs. Our participation in these insurance programs requires us to comply with certain state regulations, changes in which could materially increase our operating costs associated with complying with these regulations.

 

Risks Related to our Purchased Accounts Receivable Business

 

We are subject to business-related risks specific to the Purchased Accounts Receivable business. Some of those risks are:

 

Collections may not be sufficient to recover the cost of investments in purchased accounts receivable and support operations.

 

We purchase past due accounts receivable generated primarily by consumer credit transactions. These are obligations that the individual consumer has failed to pay when due. The accounts receivable are purchased from consumer creditors such as banks, finance companies, retail merchants, hospitals, utilities, and other consumer-oriented companies. Substantially all of the accounts receivable consist of account balances that the credit grantor has made numerous attempts to collect, has subsequently deemed uncollectible, and charged off. After purchase, collections on accounts receivable could be reduced by consumer bankruptcy filings. The accounts receivable are purchased at a significant discount, typically less than 10 percent of face value, and, although we estimate that the recoveries on the accounts receivable will be in excess of the amount paid for the accounts receivable, actual recoveries on the accounts receivable will vary and may be less than the amount expected, and may even be less than the purchase price paid for such accounts. In addition, the timing or amounts to be collected on those accounts receivable cannot be assured. If cash flows from operations are less than anticipated as a result of our inability to collect accounts receivable, we may have difficulty servicing our debt obligations and may not be able to purchase new accounts receivable, and our future growth and profitability will be materially adversely affected.

 

We use estimates to report results. For the year ended December 31, 2009, we recorded an impairment charge of $21.5 million relating to our purchased receivables portfolio. If the amount and/or timing of collections on portfolios are materially different than expected, we may be required to record further impairment charges that could have a materially adverse effect on us.

 

Our revenue is recognized based on estimates of future collections on portfolios of accounts receivable purchased. Although these estimates are based on analytics, the actual amount collected on portfolios and the timing of those collections will differ from our estimates. If collections on portfolios are less than estimated, we may be required to record an allowance for impairment of our purchased receivables portfolio, which could materially adversely affect our earnings, financial condition and creditworthiness. For the year ended December 31, 2009, we recorded an impairment charge of $21.5 million relating to our purchased receivables portfolio. If we continue to experience adverse effects of the challenging economic and business environment, including changes in financial projections, we may have to recognize further impairment charges on our purchased receivables portfolio.

 

Risks Related to our Structure

 

We are controlled by an investor group led by One Equity Partners, a private equity firm, and its affiliates, whose interests may not be aligned with those of our noteholders.

 

Our equity investors control the election of our directors and thereby have the power to control our affairs and policies, including the appointment of management, the issuance of additional stock, stock repurchase programs and the declaration and payment of dividends. In addition, our equity investors must consent to the entering into of mergers, sales of substantially all our assets and certain other transactions.

 

Circumstances may occur in which the interests of our equity investors could be in conflict with those of our noteholders. For example if we encounter financial difficulties or are unable to pay our debts as they mature, our equity investors might pursue strategies that favor equity investors over our debt investors. One Equity Partners may also have an interest in pursuing acquisitions, divestitures, financing or other transactions that, in their judgment, could enhance their equity investments, even though such transaction might involve risk to our noteholders. Additionally, One Equity Partners is not prohibited from making investments in any of our competitors.

 

Risks Related to our $165.0 million of Floating Rate Senior Notes due 2013 (“senior notes”), our $200.0 million of 11.875 percent Senior Subordinated Notes due 2014 (“senior subordinated notes”) (collectively, the

 

20



Table of Contents

 

“notes”) and our Other Indebtedness

 

Our substantial leverage and significant debt service obligations could adversely affect our financial condition and our ability to fulfill our obligations and operate our business.

 

We are highly leveraged and have significant debt service obligations. Our financial performance could be affected by our substantial leverage. At December 31, 2009, our total indebtedness was $951.5 million, and we had $71.2 million of borrowing capacity under the revolving portion of our senior credit facility and $11.8 million of letters of credit outstanding. We may also incur additional indebtedness in the future.

 

This high level of indebtedness could have important negative consequences to us and our noteholders, including:

 

·                                          we may have difficulty satisfying our obligations with respect to our senior notes and our senior subordinated notes, collectively referred to as the notes;

·                                          we may have difficulty obtaining financing in the future for working capital, capital expenditures, acquisitions or other purposes;

·                                          we will need to use all, or a substantial portion, of our available cash flow to pay interest and principal on our debt, which will reduce the amount of money available to finance our operations and other business activities;

·                                          some of our debt, including our borrowings under our senior credit facilities, has variable rates of interest, which exposes us to the risk of increased interest rates;

·                                          our debt level increases our vulnerability to general economic downturns and adverse industry conditions;

·                                          our debt level could limit our flexibility in planning for, or reacting to, changes in our business and in our industry in general;

·                                          our substantial amount of debt and the amount we must pay to service our debt obligations could place us at a competitive disadvantage compared to our competitors that have less debt;

·                                          our customers may react adversely to our significant debt level and seek or develop alternative suppliers;

·                                          we may have insufficient funds, and our debt level may also restrict us from raising the funds necessary, to repurchase all of the notes tendered to us upon the occurrence of a change of control, which would constitute an event of default under the notes; and

·                                          our failure to comply with the financial and other restrictive covenants in our debt instruments which, among other things, require us to maintain specified financial ratios and limit our ability to incur debt and sell assets, could result in an event of default that, if not cured or waived, could have a material adverse effect on our business or prospects.

 

Our high level of indebtedness requires that we use a substantial portion of our cash flow from operations to pay principal of, and interest on, our indebtedness, which will reduce the availability of cash to fund working capital requirements, capital expenditures or other general corporate or business activities, including future acquisitions.

 

In addition, a substantial portion of our indebtedness bears interest at variable rates, including indebtedness under our senior notes and our senior credit facility. If market interest rates increase, debt service on our variable-rate debt will rise, which would adversely affect our cash flow. We may employ hedging strategies to help reduce the impact of fluctuations in interest rates. The portion of our variable rate debt that is not hedged will be subject to changes in interest rates.

 

We may be unable to generate sufficient cash to service all of our indebtedness, including the notes, and meet our other ongoing liquidity needs and may be forced to take other actions to satisfy our obligations under our indebtedness, which may be unsuccessful.

 

Our ability to make scheduled payments or to refinance our debt obligations, including the notes, and to fund our planned capital expenditures and other ongoing liquidity needs, depends on our financial and operating performance, which is subject to prevailing economic and competitive conditions and to certain financial, business and other factors beyond our control. Our business may not generate sufficient cash flow from operations or future borrowings may not be available to us under our senior credit facility or otherwise in an amount sufficient to permit us to pay the principal, premium, if any, and interest on our indebtedness or to fund our other liquidity needs. We may need to refinance all or a portion of our debt on or before maturity. We may be unable to refinance any of our debt on commercially reasonable terms.

 

21



Table of Contents

 

If our cash flows and capital resources are insufficient to fund our debt service obligations, we may be forced to reduce or delay capital expenditures, seek additional capital or seek to restructure or refinance our indebtedness, including the notes. These alternative measures may be unsuccessful and may not permit us to meet our scheduled debt service obligations. In the absence of such operating results and resources, we could face substantial liquidity problems and might be required to sell material assets or operations to attempt to meet our debt service and other obligations. Our senior credit facility and the indentures governing the notes restrict our ability to use the proceeds from certain asset sales. We may be unable to consummate those asset sales to raise capital or sell assets at prices that we believe are fair and proceeds that we do receive may be inadequate to meet any debt service obligations then due.

 

Despite our current leverage, we and our subsidiaries may still be able to incur substantially more debt. This could further exacerbate the risks that we and our subsidiaries face.

 

We and our subsidiaries may be able to incur substantial additional indebtedness in the future. The terms of the indentures do not fully prohibit us or our subsidiaries from doing so. The revolving credit portion of our senior credit facility provides commitments of up to $100.0 million, $71.2 million of which was available for future borrowings, subject to certain conditions, as of December 31, 2009. All of those borrowings are secured, and as a result, are effectively senior to the notes and the guarantees of the notes by our subsidiary guarantors. If we incur any additional indebtedness that ranks equally with the notes, the holders of that debt will be entitled to share ratably with the holders of the notes in any proceeds distributed in connection with any insolvency, liquidation, reorganization, dissolution or other winding-up of us. This may have the effect of reducing the amount of proceeds paid to our noteholders. If new debt is added to our current debt levels, the related risks that we and our subsidiaries now face could intensify.

 

Our senior credit facility contains, and the indentures governing the notes contain, a number of restrictive covenants which will limit our ability to finance future operations or capital needs or engage in other business activities that may be in our interest.

 

Our senior credit facility and the indentures governing the notes impose, and the terms of any future indebtedness may impose, operating and other restrictions on us and our subsidiaries. Such restrictions affect or will affect, and in many respects limit or prohibit, among other things, our ability and the ability of our restricted subsidiaries to:

 

·                                          incur additional indebtedness;

·                                          create liens;

·                                          pay dividends and make other distributions in respect of our capital stock;

·                                          redeem our capital stock;

·                                          purchase accounts receivable;

·                                          make certain investments or certain other restricted payments;

·                                          sell certain kinds of assets;

·                                          enter into certain types of transactions with affiliates; and

·                                          effect mergers or consolidations.

 

In addition, our senior credit facility includes other more restrictive covenants. Our senior credit facility also requires us to achieve certain financial and operating results and maintain compliance with specified financial ratios. Our ability to comply with these ratios may be affected by events beyond our control.

 

The restrictions contained in our senior credit facility and the indentures could:

 

·                                          limit our ability to plan for or react to market or economic conditions or meet capital needs or otherwise restrict our activities or business plans; and

·                                          adversely affect our ability to finance our operations, acquisitions, investments or strategic alliances or other capital needs or to engage in other business activities that would be in our interest.

 

A breach of any of these covenants or our inability to comply with the required financial ratios could result in a default under our senior credit facility and/or the indentures. If an event of default occurs under our senior credit facility, which includes an event of default under the indentures governing the notes, the lenders could elect to:

 

·                                          declare all borrowings outstanding, together with accrued and unpaid interest, to be immediately due and payable;

·                                          require us to apply all of our available cash to repay the borrowings; or

·                                          prevent us from making debt service payments on the notes;

 

22



Table of Contents

 

any of which could result in an event of default under the notes. The lenders will also have the right in these circumstances to terminate any commitments they have to provide further financing.

 

If we were unable to repay or otherwise refinance these borrowings when due, our lenders could sell the collateral securing our senior credit facility, which constitutes substantially all of our and our domestic wholly-owned subsidiaries’ assets (other than certain assets relating to portfolio transactions). Although holders of the notes could accelerate the notes upon the acceleration of the obligations under our senior credit facility, we cannot assure you that sufficient assets will remain to repay the notes after we have paid all the borrowings under our senior credit facility and any other senior debt.

 

We are a holding company and we depend upon cash from our subsidiaries to service our debt. If we do not receive cash distributions, dividends or other payments from our subsidiaries, we may be unable to make payments on the notes.

 

We are a holding company and all of our operations are conducted through our subsidiaries. Accordingly, we are dependent upon the earnings and cash flows of, and cash distributions, dividends and other payments from, our subsidiaries to provide the funds necessary to meet our debt service obligations, including the required payments on the notes. If we do not receive such cash distributions, dividends or other payments from our subsidiaries, we may be unable to pay the principal or interest on the notes. In addition, certain of our subsidiaries who are guarantors of the notes are holding companies that will rely on subsidiaries of their own as a source of funds to meet any obligations that might arise under their guarantees.

 

Generally, the ability of a subsidiary to make cash available to its parent is affected by its own operating results and is subject to applicable laws and contractual restrictions contained in its debt instruments and other agreements. Although the indentures governing the notes will limit the extent to which our subsidiaries may restrict their ability to make dividend and other payments to us, these limitations will be subject to significant qualifications and exceptions. The indentures governing the notes also allow us to include the operating results of our subsidiaries in our consolidated Adjusted EBITDA, as defined in the indentures, for the purpose of determining whether we can incur additional indebtedness under the indentures, even though some of those subsidiaries are subject to contractual restrictions on making dividends or distributions of cash to us for the purposes of servicing such indebtedness. In addition, the indentures allow us to create limitations on distributions and dividends under the terms of our and any of our subsidiaries’ future credit facilities. Moreover, there may be restrictions on payments by our subsidiaries to us under applicable laws, including laws that require companies to maintain minimum amounts of capital and to make payments to stockholders only from profits. As a result, although our subsidiaries may have cash, we or our subsidiary guarantors may be unable to obtain that cash to satisfy our obligations under the notes or the guarantees, as applicable.

 

Each noteholder’s right to receive payments on the notes is effectively junior to those lenders who have a security interest in our assets.

 

Our obligations under the notes and our guarantors’ obligations under their guarantees of the notes are unsecured, but our obligations under our senior credit facility and each guarantor’s obligations under their respective guarantees of the senior credit facility are secured by a security interest in substantially all of our domestic tangible and intangible assets (other than certain assets relating to portfolio transactions) and the assets and a portion of the stock of certain of our non-U.S. subsidiaries. If we are declared bankrupt or insolvent, or if we default under our senior credit facility, the lenders could declare all of the funds borrowed thereunder, together with accrued interest, immediately due and payable. If we were unable to repay such indebtedness, the lenders could foreclose on the pledged assets to the exclusion of holders of the notes, even if an event of default exists under the indentures governing the notes at such time. Furthermore, if the lenders foreclose and sell the pledged equity interests in any subsidiary guarantor under the notes, then that guarantor will be released from its guarantee of the notes automatically and immediately upon such sale. In any such event, because the notes are not secured by any of our assets or the equity interests in subsidiary guarantors, it is possible that there would be no assets remaining from which noteholders’ claims could be satisfied or, if any assets remained, they might be insufficient to satisfy noteholders’ claims fully.

 

As of December 31, 2009, the notes and the guarantees were subordinated or effectively subordinated to $566.3 million of indebtedness (representing borrowings under our senior credit facility which did not include availability of approximately $71.2 million under the revolving portion of our senior credit facility after giving effect to letters of credit outstanding as of December 31, 2009). The indentures will permit the incurrence of substantial additional indebtedness by us and our restricted subsidiaries in the future, including secured indebtedness.

 

23



Table of Contents

 

Claims of noteholders will be structurally subordinate to claims of creditors of all of our non-U.S. subsidiaries and some of our U.S. subsidiaries because they have not guaranteed the notes.

 

The notes are not guaranteed by any of our non-U.S. subsidiaries, and certain other domestic subsidiaries. Accordingly, claims of holders of the notes will be structurally subordinate to the claims of creditors of these non-guarantor subsidiaries, including trade creditors. 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 notes.

 

As of December 31, 2009, our non-guarantor subsidiaries had total liabilities (excluding intercompany liabilities) of $78.4 million, representing 6.4 percent of our total consolidated liabilities. Our non-guarantor subsidiaries accounted for $320.8 million, or 20.5 percent of our consolidated revenue, and had $14.8 million of net loss, compared to our consolidated net loss of $84.2 million, for the year ended December 31, 2009. In addition, our non-guarantor subsidiaries accounted for $238.7 million, or 16.3 percent, of our consolidated assets at December 31, 2009.

 

Because a portion of our operations are conducted by subsidiaries that have not guaranteed the notes, our cash flow and our ability to service debt, including our and the guarantors’ ability to pay the interest on and principal of the notes when due, are dependent to a significant extent on interest payments, cash dividends and distributions and other transfers of cash from subsidiaries that have not guaranteed the notes. In addition, any payment of interest, dividends, distributions, loans or advances by subsidiaries that have not guaranteed the notes to us and the guarantors, as applicable, could be subject to taxation or other restrictions on dividends or repatriation of earnings under applicable local law, monetary transfer restrictions and foreign currency regulations in the jurisdiction in which these subsidiaries operate. Moreover, payments to us and the guarantors by subsidiaries that have not guaranteed the notes will be contingent upon these subsidiaries’ earnings.

 

Our subsidiaries that have not guaranteed the notes are separate and distinct legal entities and have no obligation, contingent or otherwise, to pay any amounts due pursuant to the notes, or to make any funds available therefore, whether by dividends, loans, distributions or other payments. Any right that we or the guarantors have to receive any assets of any subsidiaries that have not guaranteed the notes upon the liquidation or reorganization of those subsidiaries, and the consequent rights of holders of notes to realize proceeds from the sale of any of those subsidiaries’ assets, will be effectively subordinated to the claims of that subsidiary’s creditors, including trade creditors and holders of debt of that subsidiary.

 

We also have joint ventures and subsidiaries in which we own less than 100 percent of the equity so that, in addition to the structurally senior claims of creditors of those entities, the equity interests of our joint venture partners or other stockholders in any dividend or other distribution made by these entities would need to be satisfied on a proportionate basis with us. These joint ventures and less than wholly-owned subsidiaries may also be subject to restrictions on their ability to distribute cash to us in their financing or other agreements and, as a result, we may not be able to access their cash flow to service our debt obligations, including in respect of the notes.

 

Each noteholder’s right to receive payments on the notes is junior to all of our existing and future senior indebtedness and the guarantees of the notes is junior to all the guarantors’ existing and future senior indebtedness.

 

The notes are general unsecured obligations that are junior in right of payment to all our existing and future senior indebtedness, including our senior credit facility. The guarantees are general unsecured obligations of the guarantors that are junior in right of payment to all of the applicable guarantor’s existing and future senior indebtedness, including our senior credit facility.

 

We and the guarantors may not pay principal, premium, if any, interest or other amounts on account of the notes or the guarantees in the event of a payment default or certain other defaults in respect of certain of our senior indebtedness, including debt under our senior credit facility, unless the senior indebtedness has been paid in full or the default has been cured or waived. In addition, in the event of certain other defaults with respect to the senior indebtedness, we or the guarantors may not be permitted to pay any amount on account of the notes or the guarantees for a designated period of time.

 

The subordination provisions in the notes and the guarantees provide that, in the event of a bankruptcy, liquidation or dissolution of us or any guarantor, our or the guarantor’s assets will not be available to pay obligations under the notes or the applicable guarantee until we or the guarantor has made all payments on its respective senior indebtedness. We and the guarantors may not have sufficient assets after all these payments have been made to make any payments

 

24



Table of Contents

 

on the notes or the applicable guarantee, including payments of principal or interest when due.

 

As of December 31, 2009, the notes and the guarantees were subordinated or effectively subordinated to $566.3 million of indebtedness (representing borrowings under our senior credit facility which did not include availability of approximately $71.2 million under the revolving portion of our senior credit facility after giving effect to letters of credit outstanding as of December 31, 2009). The indentures will permit the incurrence of substantial additional indebtedness, including senior debt, by us and our restricted subsidiaries in the future.

 

If we default on our obligations to pay our other indebtedness, we may be unable to make payments on the notes.

 

Any default under the agreements governing our indebtedness, including a default under our senior credit facility that is not waived by the required lenders, and the remedies sought by the holders of such indebtedness could make us unable to pay principal, premium, if any, and interest on the notes and substantially decrease the market value of the notes. If we are unable to generate sufficient cash flow and are otherwise unable to obtain funds necessary to meet required payments of principal, premium, if any, and interest on our indebtedness, or if we otherwise fail to comply with the various covenants, including financial and operating covenants, in the instruments governing our indebtedness (including our senior credit facility), we could be in default under the terms of the agreements governing such indebtedness. In the event of such default, the holders of such indebtedness could elect to declare all the funds borrowed thereunder to be due and payable, together with accrued and unpaid interest, the lenders under the revolving portion of our senior credit facility could elect to terminate their commitments, cease making further loans and institute foreclosure proceedings against our assets, and we could be forced into bankruptcy or liquidation. If our operating performance declines, we may in the future need to seek and obtain waivers from the required lenders under our senior credit facility to avoid being in default. If we breach our covenants under our senior credit facility and seek a waiver, we may not be able to obtain a waiver from the required lenders. If this occurs, we would be in default under our senior credit facility, the lenders could exercise their rights as described above, and we could be forced into bankruptcy or liquidation.

 

Federal and state fraudulent transfer laws may permit a court to void the notes and the guarantees and if that occurs, noteholders may not receive any payments on the notes.

 

The issuance of the notes and the guarantees may be subject to review under federal bankruptcy law or relevant state fraudulent transfer and conveyance statutes. While the relevant laws may vary from state to state, under such laws, generally, the payment of consideration will be a fraudulent conveyance if (1) we paid the consideration with the intent of hindering, delaying or defrauding creditors or (2) we or any of the guarantors, as applicable, received less than reasonably equivalent value or fair consideration in return for issuing either the notes or a guarantee, and, in the case of (2) only, one of the following is also true:

 

·                                          we or any of the guarantors was insolvent or rendered insolvent by reason of the incurrence of the indebtedness; or

·                                          payment of the consideration left us or any of the guarantors with an unreasonably small amount of capital to carry on the business; or

·                                          we or any of the guarantors intended to, or believed that it would, incur debts beyond its ability to pay as they mature.

 

If a court were to find that the issuance of the notes or a guarantee was a fraudulent conveyance, the court could void the payment obligations under the notes or such guarantee or further subordinate the notes or such guarantee to presently existing and future indebtedness of ours or such guarantor, or require the holders of the notes to repay any amounts received with respect to the notes or such guarantee. In the event of a finding that a fraudulent conveyance occurred, noteholders may not receive any repayment on the notes. Further, the voidance of the notes could result in an event of default with respect to our and our subsidiaries’ other debt that could result in the 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; or

·                                          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 pay its debts as they become due.

 

25



Table of Contents

 

We cannot be certain as to the standards a court would use to determine whether or not we or the guarantors were solvent at the relevant time, or regardless of the standard that a court uses, that the issuance of the notes and the guarantees would not be further subordinated to our or any of our guarantors’ other debt.

 

If the guarantees were legally challenged, any guarantee could also be subject to the claim that, since the guarantee was incurred for our benefit, and only indirectly for the benefit of the applicable guarantor and none of the proceeds of the notes were paid to any guarantor, the obligations of the applicable guarantor were incurred for less than fair consideration. A court could thus void the obligations under the guarantees, subordinate them to the applicable guarantor’s other debt or take other action detrimental to the holders of the notes.

 

Noteholders’ ability to transfer the notes may be limited by the absence of an active trading market, and there is no assurance that any active trading market will develop for the notes.

 

The notes are securities for which there is no existing public market. Accordingly, the development or liquidity of any market for the notes is uncertain. We cannot assure noteholders as to the liquidity of markets that may develop for the notes, noteholders’ ability to sell the notes or the price at which noteholders would be able to sell the notes. We do not intend to apply for a listing of the notes on a securities exchange or on any automated dealer quotation system.

 

In connection with the private offering of the notes, the placement agents in such offering have advised us that they intend to make a market in the notes, as permitted by applicable laws and regulations. However, the placement agents are not obligated to make a market in the notes, and they may discontinue their market-making activities at any time without notice. Additionally, we are controlled by One Equity Partners, an affiliate of J.P. Morgan Securities Inc., one of the placement agents of the notes. As a result of this affiliate relationship, if J.P. Morgan Securities Inc. conducts any market making activities with respect to the notes, J.P. Morgan Securities Inc. will be required to deliver a market making prospectus when effecting offers and sales of the notes. For as long as a market making prospectus is required to be delivered, the ability of J.P. Morgan Securities Inc. to make a market in the notes may, in part, be dependent on our ability to maintain a current market making prospectus for its use. If we are unable to maintain a current market making prospectus, J.P. Morgan Securities Inc. may be required to discontinue its market making activities without notice. Therefore, we cannot assure you that an active market for the notes will develop or, if developed, that it will continue. 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 notes. The market, if any, for the notes may experience similar disruptions and any such disruptions may adversely affect the prices at which noteholders may sell the notes. In addition, the notes may trade at discounts from their initial offering prices, depending upon prevailing interest rates, the market for similar notes, our financial and operating performance and other factors.

 

Item 1B.                                                Unresolved Staff Comments

 

Not Applicable

 

26



Table of Contents

 

Item 2.                                                         Properties

 

The following table summarizes the locations of our facilities by segment. Certain of our facilities are used for both ARM and CRM operations. Portfolio Management operates in one of the “ARM Only” U.S. facilities and one of the “ARM and CRM” U.S. facilities. We lease all but one of these facilities. The leases expire between 2010 and 2021, and most contain renewal options.

 

 

 

ARM Only

 

CRM Only

 

ARM and CRM

 

Total

 

U.S.

 

56

 

4

 

8

 

68

 

Canada

 

6

 

1

 

1

 

8

 

Australia

 

5

 

 

 

5

 

Panama

 

 

3

 

1

 

4

 

United Kingdom

 

2

 

 

 

2

 

Philippines

 

 

 

4

 

4

 

Barbados

 

 

 

1

 

1

 

Antigua

 

 

 

1

 

1

 

Puerto Rico

 

2

 

 

 

2

 

Mexico

 

4

 

 

1

 

5

 

Guatemala

 

 

1

 

 

1

 

Total

 

75

 

9

 

17

 

101

 

 

We believe that our facilities are adequate for our current operations, but additional facilities may be required to support growth. We believe that suitable additional or alternative space will be available as needed on commercially reasonable terms.

 

Item 3.                                                         Legal Proceedings

 

Fort Washington Flood:

 

In June 2001, the first floor of our Fort Washington, Pennsylvania, headquarters was severely damaged by a flood caused by remnants of Tropical Storm Allison. We subsequently decided to relocate our corporate headquarters to Horsham, Pennsylvania. We filed a lawsuit on August 14, 2001 in the Court of Common Pleas, Montgomery County, Pennsylvania (Civil Action No. 01-15576) against the current landlord and the former landlord of the Fort Washington facilities to terminate the leases and to obtain other relief. The landlord and former landlord filed counter-claims against us. We maintain a reserve that we believe is adequate to address our exposure to this matter and we plan to continue to contest this matter.

 

U.S. Department of Justice:

 

On February 24, 2006, the U.S. Department of Justice alleged certain civil damages of approximately $5.0 million. The alleged damages relate to a matter we reported to federal authorities and the client in 2003 involving three employees who engaged in unauthorized student loan consolidations in connection with a client contract. The responsible employees were terminated at that time in 2003. We did not agree with the allegations regarding damages. In March 2010, we settled this matter with the Department of Justice for $500,000 and full release of all liabilities with respect to the unauthorized student loan consolidations. The amount paid was partially covered by insurance.

 

Tax Matters:

 

We received notice of a reassessment from a foreign taxing authority relating to certain matters occurring from 1998 through 2001 regarding one of our subsidiaries in the amount of $16.2 million including interest and penalties. In order to pursue an appeal of the reassessment, we paid a deposit of $8.5 million in December 2006. In October 2009, we entered into a settlement agreement regarding the reassessment. In January 2010, we received a refund of approximately $2.8 million (net of a $1.7 million payment due back to the taxing authority). Management has adjusted its reserve to cover any potential future exposure.

 

27



Table of Contents

 

Attorneys General:

 

From time to time, we receive subpoenas or other similar information requests from various states’ Attorneys General, requesting information relating to NCO’s debt collection practices in such states. We respond to such inquires or investigations and provide certain information to the respective Attorneys General offices. We believe we are in compliance with the laws of the states in which we do business relating to debt collection practices in all material respects. However, no assurance can be given that any such inquiries or investigations will not result in a formal investigation or an enforcement action. Any such enforcement actions could result in fines as well as the suspension or termination of our ability to conduct business in such states.

 

Other:

 

We are involved in other legal proceedings, regulatory investigations, client audits and tax examinations from time to time in the ordinary course of business. Management believes that none of these other legal proceedings, regulatory investigations, client audits or tax examinations will have a materially adverse effect on our financial condition or results of operations.

 

Item 4.                   [Reserved]

 

PART II

 

Item 5.                   Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

 

There is no established public trading market for each of our Class A common stock and our Class L common stock, and all of our outstanding common equity is privately held.  As of March 31, 2010, there were 51 holders of record of our Class A common stock (including holders of our restricted stock) and 18 holders of our Class L common stock.

 

Our ability to pay cash dividends on our capital stock is limited by the terms of our senior credit facility and the indentures governing the terms of our notes.  We do not anticipate paying a cash dividend on our capital stock in the near future. See Note 15 in our Notes to Consolidated Financial Statements included elsewhere in this Report on Form 10-K for disclosure of information regarding the payment of dividends.

 

See Part III, Item 12 of this Form 10-K for information regarding equity compensation plan information.

 

28



Table of Contents

 

Item 6.                   Selected Financial Data

 

SELECTED FINANCIAL DATA (1)

(Amounts in thousands)

 

 

 

Successor(2)

 

 

 

Successor(2)

 

Predecessor(2)

 

 

 

 

 

 

 

 

 

 

 

Period from

 

 

 

 

 

 

 

 

 

 

 

 

 

Combined

 

July 13, 2006

 

Period from

 

 

 

 

 

 

 

 

 

 

 

For the

 

(date of inception)

 

January 1

 

For the

 

 

 

 

 

 

 

 

 

year ended

 

through

 

through

 

year ended

 

 

 

For the years ended December 31,

 

December 31,

 

December 31,

 

November 15,

 

December 31,

 

 

 

2009(3)

 

2008(4)

 

2007

 

2006(5)(6)

 

2006(7)

 

2006(8)

 

2005

 

Statement of Operations Data:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Revenues:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Services

 

$

1,400,610

 

$

1,466,318

 

$

1,102,343

 

$

998,493

 

$

130,877

 

$

867,616

 

$

897,990

 

Portfolio

 

51,398

 

18,029

 

132,413

 

165,263

 

13,557

 

151,706

 

133,868

 

Portfolio sales

 

361

 

3,002

 

21,093

 

22,757

 

 

22,757

 

12,157

 

Reimbursable costs and fees

 

111,549

 

25,792

 

29,581

 

9,653

 

1,931

 

7,722

 

8,268

 

Total revenues

 

1,563,918

 

1,513,141

 

1,285,430

 

1,196,166

 

146,365

 

1,049,801

 

1,052,283

 

Operating costs and expenses:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Payroll and related expenses

 

781,888

 

845,481

 

679,951

 

633,048

 

79,165

 

553,883

 

528,932

 

Selling, general and administrative expenses

 

508,378

 

536,547

 

429,589

 

415,619

 

48,191

 

367,428

 

368,338

 

Reimbursable costs and fees

 

111,549

 

25,792

 

29,581

 

9,653

 

1,931

 

7,722

 

8,268

 

Depreciation and amortization expense

 

119,570

 

121,324

 

102,349

 

58,923

 

12,228

 

46,695

 

45,787

 

Impairment of intangible assets

 

30,032

 

289,492

 

 

69,898

 

69,898

 

 

 

Restructuring charges

 

10,868

 

11,600

 

 

12,765

 

 

12,765

 

9,621

 

Income (loss) from operations

 

1,633

 

(317,095

)

43,960

 

(3,740

)

(65,048

)

61,308

 

91,337

 

Other expense

 

90,941

 

110,208

 

89,051

 

36,064

 

14,422

 

21,642

 

19,423

 

(Loss) income before income taxes

 

(89,308

)

(427,303

)

(45,091

)

(39,804

)

(79,470

)

39,666

 

71,914

 

Income tax (benefit) expense

 

(1,166

)

(71,947

)

(16,104

)

11,220

 

(3,522

)

14,742

 

26,182

 

Net (loss) income

 

(88,142

)

(355,356

)

(28,987

)

(51,024

)

(75,948

)

24,924

 

45,732

 

Less: Net (loss) income attributable to noncontrolling interests

 

(3,921

)

(18,250

)

2,735

 

4,047

 

157

 

3,890

 

1,213

 

Net (loss) income attributable to NCO Group, Inc.

 

$

(84,221

)

$

(337,106

)

$

(31,722

)

$

(55,071

)

$

(76,105

)

$

21,034

 

$

44,519

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Statement of Cash Flows Data:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net cash provided by (used in) operating activities

 

$

98,474

 

$

93,733

 

$

43,995

 

$

104,715

 

$

(4,957

)

$

109,672

 

$

89,550

 

Net cash provided by (used in) investing activities

 

16,714

 

(424,159

)

(32,719

)

(1,006,275

)

(990,329

)

(15,946

)

(221,994

)

Net cash (used in) provided by financing activities

 

(107,153

)

332,204

 

(2,869

)

914,898

 

1,010,775

 

(95,877

)

130,147

 

 

 

 

Successor

 

Predecessor

 

 

 

December 31,

 

December 31,

 

 

 

2009

 

2008

 

2007

 

2006

 

2005

 

Balance Sheet Data:

 

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

39,221

 

$

29,880

 

$

31,283

 

$

20,703

 

$

23,716

 

Working capital

 

86,708

 

151,547

 

162,471

 

200,398

 

171,587

 

Total assets

 

1,460,035

 

1,701,639

 

1,677,999

 

1,692,673

 

1,327,962

 

Long-term debt, net of current portion

 

909,831

 

1,048,517

 

903,052

 

892,271

 

321,834

 

Noncontrolling interests

 

11,450

 

22,803

 

48,948

 

55,628

 

34,643

 

Stockholders’ equity

 

240,550

 

283,789

 

408,045

 

420,434

 

743,114

 

 


(1)

 

This data should be read in conjunction with the consolidated financial statements, including the accompanying notes, included elsewhere in this Report on Form 10-K.

(2)

 

On November 15, 2006, NCO Group, Inc. was acquired by and became a wholly owned subsidiary of Collect Holdings, Inc., an entity controlled by One Equity Partners and its affiliates, with participation by certain members of executive management and other co-investors, referred to as the Transaction. Subsequent to the Transaction, NCO Group, Inc. was merged with and into Collect Holdings, Inc. and the surviving corporation was renamed NCO Group, Inc. The selected financial data are presented for two periods, Predecessor and Successor which relate to the period of operations preceding the Transaction and the period of operations succeeding the Transaction, respectively. Collect Holdings was formed on July 13, 2006 (there were no operations from the date of inception until the Transaction on November 15, 2006).

(3)

 

Includes $30.0 million of impairment charges to goodwill and customer relationships and $11.6 million of restructuring, integration and acquisition costs.

(4)

 

The Company acquired Outsourcing Solutions, Inc. on February 29, 2008 (see note 4 in the Company’s Notes to Consolidated Financial Statements, included elsewhere in this Report on Form 10-K). Also includes $289.5 million of impairment charges to goodwill and trade name, and $15.2 million of merger, restructuring and integration costs.

(5)

 

The combined results for the year ended December 31, 2006 represent the addition of the Predecessor period from January 1, 2006 through November 15, 2006 and the Successor period from July 13, 2006 through December 31, 2006. This combination does not comply with GAAP or with the rules of pro forma presentation, however we believe it provides investors the most meaningful comparison of our results. The combined operating results do not reflect the actual results we would have achieved if the Transaction did not occur and may not be predictive of future results of operations.

(6)

 

Includes $33.9 million, net of taxes, of charges and costs related to the Transaction and restructuring and integration plans.

(7)

 

Includes $22.8 million, net of taxes, of charges and costs related to the Transaction, and a $69.9 million SST goodwill impairment charge.

(8)

 

Includes $11.1 million, net of taxes, of charges and costs related to the Transaction and restructuring and integration plans.

 

29



Table of Contents

 

Item 7.                   Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

Overview

 

We are a holding company and conduct substantially all of our business operations through our subsidiaries. We are an international provider of business process outsourcing services, referred to as BPO, primarily focused on accounts receivable management, referred to as ARM, and customer relationship management, referred to as CRM, serving a wide range of clients in North America and abroad through our global network of over 100 offices. We also purchase and collect past due accounts receivable from consumer creditors such as banks, finance companies, retail merchants, utilities, healthcare companies, and other consumer-oriented companies.

 

We operate our business in three segments: ARM, CRM and Portfolio Management.

 

During 2009, we generated approximately 50 percent of our ARM revenue from the recovery of delinquent accounts receivable on a contingency fee basis. Our ARM contingency fees range from five percent for the management of accounts placed early in the accounts receivable cycle to 52 percent for accounts that have been serviced extensively by the client or by third-party providers. Our average fee for ARM contingency-based revenue across all industries was approximately 18 percent during 2009 and 17 percent during 2008, and 2007. In addition, we generate revenue from certain contractual ARM services. Generally, revenue is earned and recognized upon collection of accounts receivable for contingency fee services and as work is performed for contractual services. We enter into contracts with most of our clients that define, among other things, fee arrangements, scope of services, and termination provisions. Clients typically have the right to terminate their contracts on 30 or 60 days’ notice. Approximately 50 percent of our ARM revenue is generated from contractual collection services, where fees are based on a monthly rate or a per service charge, and other ARM services.

 

During 2009, approximately 94 percent of our CRM revenue was generated from inbound services, which consist primarily of customer service and technical support programs, and to a lesser extent acquisition and retention services. Inbound services involve the processing of incoming calls, often placed by our clients’ customers using toll-free numbers, to a customer service representative for service, order fulfillment or information. During 2009, outbound services, which consist of customer acquisition and customer retention services, represented approximately six percent of our CRM revenue.

 

Historically, we have participated in the purchased accounts receivable business on an opportunistic basis. Given the decline in liquidation rates, competition for purchased accounts receivable and the continued uncertainty of collectibility, we significantly reduced our purchases of accounts in 2009. We currently expect to limit our purchases in 2010 to certain of our non-cancelable forward flow commitments.  Additionally, we may opportunistically purchase accounts receivable that allow us to leverage meaningful third-party servicing contracts.  Our amended Credit Facility limits purchases in 2010 to $20 million and purchases in 2011 and beyond to $10 million.

 

Our operating costs consist principally of payroll and related costs; selling, general and administrative costs; and depreciation and amortization. Payroll and related expenses consist of wages and salaries, commissions, bonuses, and benefits for all of our employees, including management and administrative personnel. Selling, general and administrative expenses include telephone, postage and mailing costs, outside collection attorneys and other third-party collection services providers, and other collection costs, as well as expenses that directly support operations, including facility costs, equipment maintenance, sales and marketing, data processing, professional fees, and other management costs.

 

Due to the expected impact of the economic environment on our clients’ business in 2010, in the fourth quarter of 2009 we reduced our budgeted volumes from certain of our clients in the CRM reporting unit. As a result, our 2009 annual impairment test for goodwill indicated that the carrying value of our CRM reporting unit exceeded its fair value and we recorded goodwill impairment charges of $24.7 million in the CRM segment in 2009. We were not required to record trade name impairment charges in 2009. Late in 2008, the ARM and Portfolio Management reporting units experienced a significant reduction in the collectability of both customer-placed and purchased accounts receivable resulting from deteriorating economic conditions. Due to the expected impact of the economic environment, we reduced our 2009 budgeted expectations for each of our reporting units. As a result, our 2008 annual impairment test for goodwill and trade name indicated that the carrying values of all of our reporting units exceeded their fair values and we recorded goodwill impairment charges of $275.5 million and trade name impairment charges of $14.0 million in 2008. We were not required to record any impairment charges based upon the annual impairment tests in 2007. Additionally, revenue for 2009 and 2008 was reduced by a $21.5 million and a $98.9 million, respectively, impairment charge recorded to increase the valuation allowance against the carrying value of the portfolios of purchased accounts receivable.

 

30



Table of Contents

 

During the second half of 2007 and during 2008, our payroll and related expenses were negatively impacted by the decline in the U.S. dollar against the Canadian dollar.  During 2009, the U.S. dollar strengthened, resulting in a positive impact compared to the prior year.

 

Changes to the economic conditions in the U.S., either positive or negative, could have a significant impact on our business, including, but not limited to:

 

·      further impairment charges to our goodwill, trade name and purchased accounts receivable;

·      fluctuations in the volume of placements of accounts and the collectability of those accounts for our ARM contingency fee based services;

·      volume fluctuations in our ARM fixed fee based services;

·      volume fluctuations in our CRM services; and,

·      variability in the collectability of existing.

 

We have grown rapidly, through both acquisitions as well as internal growth. The following table lists the companies we have acquired in the past three years (purchase price in millions):

 

Date

 

Acquired Company

 

Description

 

Purchase
Price

 

August 2009

 

TSYS Total Debt Management (“TDM”)

 

Attorney network receivables management

 

$

4.5

(1)

May 2009

 

Complete Credit Management, Ltd.

 

Receivables management in the UK

 

$

0.7

 

February 2008

 

Outsourcing Solutions, Inc. (“OSI”)

 

Receivables management

 

$

334.0

 

January 2008

 

Systems & Services Technologies, Inc. (“SST”)

 

Active account servicing

 

$

18.4

 

2008

 

Various international companies

 

Receivables management

 

$

9.3

 

January 2007

 

Statewide Mercantile Services (“SMS”)

 

Receivables management in Australia

 

$

2.1

 

 


(1) Subject to post-closing adjustments.

 

In October 2009, we sold our print and mail business for approximately $20.0 million in cash, subject to certain post-closing adjustments.

 

Prior to the acquisition of SST on January 2, 2008, SST was a wholly owned subsidiary of JPMorgan Chase & Co., referred to as JPM. JPM also wholly owns One Equity Partners, which has had a controlling interest in us since our “going-private” transaction on November 15, 2006, referred to as the Transaction. Transfers of net assets or exchanges of equity interests between entities under common control are accounted for similar to the pooling-of-interests method (“as-if pooling-of-interests”) in that the entity that receives the net assets or the equity interests initially recognizes the assets and liabilities transferred at their carrying amounts in the accounts of the transferring entity at the date of transfer. Because NCO and SST were under common control at the time of the SST acquisition, the transfer of assets and liabilities of SST were accounted for at historical cost in a manner similar to a pooling of interests. For financial accounting purposes, the acquisition was viewed as a change in reporting entity and, as a result, required restatement of our financial statements for all periods subsequent to November 15, 2006, the date of the Transaction and the date at which common control of NCO and SST by JPM commenced.

 

Critical Accounting Policies and Estimates

 

General

 

The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the amounts reported in the financial statements and the accompanying notes. Actual results could differ from those estimates. We believe the following accounting policies and estimates are the most critical and could have the most impact on our results of operations. For a discussion of these and other accounting policies, see note 2 in our Notes to Consolidated Financial Statements.

 

As a result of the Transaction, the majority of our assets and liabilities, including our portfolio of accounts receivable, were adjusted to their fair value as of the date of the Transaction. We made significant assumptions in determining the fair value of intangible assets and other assets and liabilities in connection with purchase accounting. Additionally, a portion of the equity related to our management stockholders was recorded at the stockholder’s predecessor basis and a corresponding portion of the acquired assets was reduced accordingly.

 

31



Table of Contents

 

Goodwill, Other Intangible Assets and Purchase Accounting

 

Assets acquired and liabilities assumed must be recorded at their fair value at the date of acquisition. Our balance sheet includes amounts designated as “Goodwill”, “Trade name” and “Customer relationships and other intangible assets.” Goodwill represents the excess of the purchase price over the fair value of the net assets of acquired businesses. Trade name represents the fair value of the NCO name. Other intangible assets consist primarily of customer relationships, which represent the information and regular contact we have with our clients, and non-compete agreements.

 

As of December 31, 2009, our balance sheet included goodwill, trade name and other intangibles that represented 36.7 percent, 5.8 percent and 17.7 percent of total assets, respectively, and 233.9 percent, 36.6 percent and 112.9 percent of stockholders’ equity, respectively.

 

Goodwill and trade name are tested for impairment at least annually and as triggering events occur. The test for impairment is performed at the reporting unit level and involves a two-step approach, the first step identifies any potential impairment and the second step measures the amount of the impairment, if applicable. The first test for potential impairment compares the fair value of a reporting unit’s goodwill to its carrying amount. If the fair value is less than the carrying amount, the reporting unit’s goodwill would be considered impaired and we could be required to take a charge to earnings, which could be material.

 

Due to the expected impact of the economic environment on our clients’ business in 2010, in the fourth quarter of 2009 we reduced the expected volumes from certain of our clients in the CRM reporting unit. As a result, our 2009 annual impairment test for goodwill indicated that the carrying value of our CRM reporting unit exceeded its fair value. Fair values were determined by using a combination of the market approach and income approach. Our fair value calculations were based on projected financial results that were prepared in connection with our annual budget and forecasting process that included the expected impact of the reduction in CRM business volume. The fair value calculations were also based on other assumptions including long-term growth rates of 3 percent and weighted average cost of capital ranging from 13 percent to 14 percent.

 

Late in 2008, our ARM and Portfolio Management reporting units experienced a significant reduction in the collectability of both customer-placed and purchased accounts receivable resulting from deteriorating economic conditions. Due to the expected impact of the economic environment, we reduced our 2009 budgeted expectations for each of our reporting units. As a result, our 2008 annual impairment test for goodwill and trade name indicated that the carrying values of all of our reporting units exceeded their fair values. Fair values were determined by using a combination of the market approach and income approach. Our fair value calculations were based on projected financial results that were prepared in connection with our annual budget and forecasting process that included the expected impact of the current economic environment. The fair value calculations were also based on other assumptions including long-term growth rates of 4 percent and weighted average cost of capital ranging from 13 percent to 14 percent.

 

As a result of the annual impairment testing, we recorded goodwill impairment charges of $24.7 million in the CRM reporting unit in 2009. We were not required to record any trade name impairment charges in 2009. We recorded total goodwill impairment charges of $275.5 million and total trade name impairment charges of $14.0 million in the ARM and Portfolio Management reporting units in 2008. We were not required to record any impairment charges based upon the annual impairment tests in 2007.

 

We make significant assumptions to estimate the future revenue and cash flows used to determine the fair value of our reporting units. These assumptions include future growth rates, profitability, discount factors, market comparables, future tax rates, and other factors. Variations in any of these assumptions could result in materially different calculations of impairment amounts. If the expected revenue and cash flows are not realized, additional impairment losses may be recorded in the future.

 

We periodically evaluate the net realizable value of identifiable definite-lived intangible assets for impairment, based on the estimated undiscounted future cash flows, whenever events or changes in circumstances indicate that the carrying amount of the asset may not be recoverable.

 

During 2009, the Company began to reduce its purchases of portfolios of accounts receivable and has made a decision to minimize further investments in purchased accounts receivable in the future. This decision resulted primarily from the continuation of the difficult collection environment, the competitive market for portfolio investments, as well as potential regulatory changes affecting the purchased accounts receivable business. As a result of this decision, the

 

32



Table of Contents

 

Company recorded an impairment charge of $5.3 million for the Portfolio Management reporting unit’s customer relationship intangible assets.

 

Revenue Recognition for Purchased Accounts Receivable

 

In the ordinary course of accounting for purchased accounts receivable, estimates have been made by management as to the amount of future cash flows expected from each portfolio. We have historical collection records for all of our purchased accounts receivable which provide us a reasonable basis for our judgment that it is probable that we will ultimately collect the recorded amount of our purchased accounts receivable plus a premium or yield. The historical collection amounts also provide a reasonable basis for determining the timing of the collections. We use all available information to forecast the cash flows of our purchased accounts receivable including, but not limited to, historical collections, payment patterns on similar purchases, credit scores of the underlying debtors, seller’s credit policies, and location of the debtor. The estimated future cash flow of each portfolio is used to compute the internal rate of return, referred to as the IRR, for each portfolio. The IRR is used to allocate collections between revenue and amortization of the carrying values of the purchased accounts receivable.

 

If the original collection estimates are lowered, an allowance is established in the amount required to maintain the original IRR. If collection estimates are raised, increases are first used to recover any previously recorded allowances and then recognized prospectively through an increase in the IRR over a portfolio’s remaining life. Any increase in the IRR must be used for subsequent revenue recognition and allowance testing.

 

If management came to a different conclusion as to the future estimated collections, it could have had a significant impact on the amount of revenue that was recorded from the purchased accounts receivable. A five percent increase in the amount of future expected collections would have resulted in additional income of $2.5 million for the year ended December 31, 2009, largely as a result of lower allowances since increases in future expected collections are recognized to the extent sufficient to recover any allowances or to increase the expected IRR. A five percent decrease in the amount of future expected collections would have resulted in additional loss of $2.5 million for the year ended December 31, 2009, largely as a result of higher allowances.

 

Income Taxes

 

Deferred tax assets and liabilities are recognized using enacted tax rates for the effect of temporary differences between the book and tax bases of recorded assets and liabilities. Deferred tax assets are reduced by a valuation allowance, if it is more likely than not that some portion or all of the deferred tax asset will not be realized. Deferred taxes have not been provided on the cumulative undistributed earnings of foreign subsidiaries because such amounts are expected to be reinvested indefinitely.

 

In assessing the realization of deferred tax assets, management considers whether it is more likely than not that some portion of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences become deductible or the net operating losses can be utilized. A valuation allowance of $36.5 million has been provided on federal and certain state deferred tax assets due to the uncertainty of realizing the benefit of certain deferred tax assets.  In addition, a valuation allowance of $31.9 million has been provided on a portion of deferred tax assets relating to certain foreign and state net operating losses and state tax credits that, based on management’s assessment, it is more likely than not that such amounts will not be realized. This represents an increase of $37.1 million due to the increase in federal and certain state deferred tax assets and additional state and foreign net operating losses in 2009. The utilization of net operating loss carryforwards and tax credits is an estimate based on a number of factors beyond our control, including the level of taxable income available from successful operations in the future. If we are unable to utilize the federal net operating loss carryforwards, it may result in incremental tax expense in future periods.

 

Our annual provision for income taxes and the determination of the resulting deferred tax assets and liabilities involve a significant amount of judgment and are based on the latest information available at the time. We are subject to audit within the federal, state and international taxing jurisdictions, and these audits can involve complex issues that may require an extended period of time to resolve. We maintain reserves for estimated tax exposures, which are ultimately settled primarily through the settlement of audits within these tax jurisdictions, changes in applicable tax law, or other factors. We believe that an appropriate liability has been established for financial statement purposes; however, actual results may differ from these estimates.

 

As of December 31, 2009 and 2008, we had $4.9 million and $8.3 million, respectively, in reserves for uncertain tax positions, including penalties, that, if recognized, would affect the effective tax rate. We recognize interest related to

 

33



Table of Contents

 

uncertain tax positions in interest expense. As of December 31, 2009, 2008 and 2007, we had approximately $4.5 million, $6.1 million and $4.1 million, respectively, of accrued interest related to uncertain tax positions. The Company recognizes penalties related to uncertain tax positions in the provision for income taxes.

 

We are subject to federal, state and foreign income tax audits from time to time that could result in proposed assessments. We cannot predict with certainty how these audits will be resolved and whether we will be required to make additional tax payments, which may or may not include penalties and interest. As of December 31, 2009, we are no longer subject to federal income tax examinations for years prior to 2005. For most states and foreign countries where we conduct business, we are subject to examination for the preceding three to six years. In certain states and foreign countries, the period could be longer.

 

Allowance for Doubtful Accounts

 

Allowances for doubtful accounts are determined based on estimates of losses related to customer receivable balances. In establishing the appropriate provision for customer receivables balances, we make assumptions with respect to their future collectibility. Our assumptions are based on an individual assessment of a customer’s credit quality as well as subjective factors and trends, including the aging of receivable balances. Generally, these individual credit assessments occur at regular reviews during the life of the exposure and consider factors such as a customer’s ability to meet and sustain their financial commitments, a customer’s current financial condition and historical payment patterns. Our level of reserves for our customer accounts receivable fluctuates depending upon all of the factors mentioned above, in addition to any contractual rights that allow us to reduce outstanding receivable balances through the application of future collections. If our estimate is not sufficient to cover actual losses, we would be required to take additional charges to our earnings.

 

Results of Operations

 

The following table sets forth selected historical statement of operations data (amounts in thousands):

 

 

 

For the Years Ended December 31,

 

 

 

2009

 

2008

 

2007

 

 

 

Amount

 

Ratio

 

Amount

 

Ratio

 

Amount

 

Ratio

 

Revenues:

 

 

 

 

 

 

 

 

 

 

 

 

 

Services

 

$

1,400,610

 

89.6

%

$

1,466,318

 

96.9

%

$

1,102,343

 

85.8

%

Portfolio

 

51,398

 

3.3

 

18,029

 

1.2

 

132,413

 

10.3

 

Portfolio sales

 

361

 

 

3,002

 

0.2

 

21,093

 

1.6

 

Reimbursable costs and fees

 

111,549

 

7.1

 

25,792

 

1.7

 

29,581

 

2.3

 

Total revenues

 

1,563,918

 

100.0

 

1,513,141

 

100.0

 

1,285,430

 

100.0

 

Payroll and related expenses

 

781,888

 

50.0

 

845,481

 

55.9

 

679,951

 

52.9

 

Selling, general and admin. expenses

 

508,378

 

32.5

 

536,547

 

35.5

 

429,589

 

33.4

 

Reimbursable costs and fees

 

111,549

 

7.1

 

25,792

 

1.7

 

29,581

 

2.3

 

Depreciation and amortization

 

119,570

 

7.6

 

121,324

 

8.0

 

102,349

 

8.0

 

Impairment of intangible assets

 

30,032

 

1.9

 

289,492

 

19.1

 

 

 

Restructuring charges

 

10,868

 

0.7

 

11,600

 

0.8

 

 

 

Income (loss) from operations

 

1,633

 

0.1

 

(317,095

)

21.0

 

43,960

 

3.4

 

Other expense

 

90,941

 

5.8

 

110,208

 

7.3

 

89,051

 

6.9

 

Income tax benefit

 

(1,166

)

0.1

 

(71,947

)

4.8

 

(16,104

)

1.3

 

Net loss attributable to noncontrolling interests

 

(3,921

)

0.3

 

(18,250

)

1.2

 

2,735

 

0.2

 

Net loss attributable to NCO

 

$

(84,221

)

5.4

%

$

(337,106

)

22.3

%

$

(31,722

)

2.5

%

 

Year ended December 31, 2009 Compared to Year ended December 31, 2008

 

Revenue.  Revenue increased $50.8 million, or 3.4 percent, to $1,563.9 million for 2009, from $1,513.1 million in 2008. Revenue for the year ended December 31, 2009 was reduced by a $21.5 million impairment charge recorded to increase the valuation allowance against the carrying value of the portfolios of purchased accounts receivable, compared to an impairment charge of $98.9 million in 2008.

 

34



Table of Contents

 

Revenue by segment (amounts in thousands):

 

 

 

For the Year Ended December 31,

 

 

 

 

 

 

 

 

 

% of

 

 

 

% of

 

 

 

 

 

 

 

2009

 

Revenue

 

2008

 

Revenue

 

$ Change

 

% Change

 

ARM

 

$

1,246,555

 

79.7

%

$

1,219,348

 

80.6

%

$

27,207

 

2.2

%

CRM

 

334,492

 

21.4

%

361,096

 

23.9

%

(26,604

)

(7.4

)%

Portfolio Management

 

48,482

 

3.1

%

18,389

 

1.2

%

30,093

 

163.6

%

Eliminations

 

(65,611

)

(4.2

)%

(85,692

)

(5.7

)%

20,081

 

(23.4

)%

Total

 

$

1,563,918

 

100.0

%

$

1,513,141

 

100.0

%

$

50,777

 

3.4

%

 

ARM’s revenue for 2009 included $60.5 million of intercompany revenue earned on services performed for Portfolio Management and CRM’s revenue for 2009 included $5.1 million of intercompany revenue earned on services performed for ARM, which were eliminated upon consolidation. ARM’s revenue for 2008 included $82.8 million of intercompany revenue earned on services performed for Portfolio Management and CRM’s revenue for 2008 included $2.9 million of intercompany revenue earned on services performed for ARM, which were eliminated upon consolidation.

 

The increase in ARM’s revenue was primarily attributable to increased volume from new and existing clients in both first-party (early stage) and contingent collections as well as a full year of revenue from the OSI acquisition completed on February 29, 2008. This increase was offset in part by the weaker collection environment during 2009 and a $22.3 million decrease in fees from collection services performed for Portfolio Management.

 

The decrease in CRM’s revenue was primarily due to lower volumes from certain existing clients attributable to the impact of the economy on the clients’ business, partially offset by increased client volumes related to the implementation of new contracts during 2008 and 2009.

 

Portfolio Management’s collections, excluding all portfolio sales, decreased $48.4 million, or 24.6 percent, to $148.4 million in 2009, from $196.8 million in 2008. Revenue for 2009 was reduced by a $21.5 million impairment charge recorded to increase the valuation allowance against the carrying value of the portfolios of purchased accounts receivable, due to the impact of the deteriorating economic conditions on cash collected and lower estimates of future collections, compared to an impairment charge of $98.2 million in the prior year. Excluding the effect of the impairment charges as well as portfolio sales, Portfolio Management’s revenue represented 46.0 percent of collections in 2009, as compared to 57.1 percent of collections in 2008. The remaining decrease in revenue and collections was attributable to lower portfolio purchases and the affect of the weaker collection environment during 2009. Portfolio sales revenue for 2009 was $361,000 compared to $3.0 million for 2008.

 

Payroll and related expenses.  Payroll and related expenses decreased $63.6 million to $781.9 million in 2009, from $845.5 million in 2008, and decreased as a percentage of revenue to 50.0 percent from 55.9 percent.

 

Payroll and related expenses by segment (amounts in thousands):

 

 

 

For the Year Ended December 31,

 

 

 

 

 

 

 

 

 

% of

 

 

 

% of

 

 

 

 

 

 

 

2009

 

Revenue

 

2008

 

Revenue

 

$ Change

 

% Change

 

ARM

 

$

542,919

 

43.6

%

$

583,658

 

47.9

%

$

(40,739

)

(7.0

)%

CRM

 

238,836

 

71.4

%

256,895

 

71.1

%

(18,059

)

(7.0

)%

Portfolio Management

 

5,244

 

10.8

%

7,822

 

42.5

%

(2,578

)

(33.0

)%

Eliminations

 

(5,111

)

7.8

%

(2,894

)

3.4

%

(2,217

)

76.6

%

Total

 

$

781,888

 

50.0

%

$

845,481

 

55.9

%

$

(63,593

)

(7.5

)%

 

The decrease in ARM’s payroll and related expenses as a percentage of revenue was primarily due to the integration efforts following the acquisition of OSI on February 29, 2008, as well as the deployment of additional staff in off-shore locations where labor costs are lower. Included in ARM’s payroll and related expenses was $5.1 million of intercompany expense to CRM, for services provided to ARM.

 

35



Table of Contents

 

CRM’s payroll and related expenses decreased as a percentage of revenue primarily as a result of our continuing deployment of additional staff in off-shore locations where labor costs are lower.

 

Portfolio Management outsources all of its collection services to ARM and, therefore, has a relatively small fixed payroll cost structure. The decrease in payroll and related expenses as a percentage of revenue was primarily attributable to the $98.9 impairment charge recorded on purchased accounts receivables in 2008, which is recorded in revenue, compared to a $21.5 million impairment charge in 2009.

 

Selling, general and administrative expenses.  Selling, general and administrative expenses decreased $28.1 million to $508.4 million in 2009, from $536.5 million in 2008, and decreased as a percentage of revenue to 32.5 percent from 35.5 percent.

 

Selling, general and administrative expenses by segment (amounts in thousands):

 

 

 

For the Year Ended December 31,

 

 

 

 

 

 

 

 

 

% of

 

 

 

% of

 

 

 

 

 

 

 

2009

 

Revenue

 

2008

 

Revenue

 

$ Change

 

% Change

 

ARM

 

$

443,040

 

35.5

%

$

463,083

 

38.0

%

$

(20,043

)

(4.3

)%

CRM

 

59,892

 

17.9

%

61,723

 

17.1

%

(1,831

)

(3.0

)%

Portfolio Management

 

62,779

 

129.5

%

86,533

 

470.6

%

(23,754

)

(27.5

)%

Eliminations

 

(57,333

)

87.4

%

(74,792

)

87.3

%

17,459

 

(23.3

)%

Total

 

$

508,378

 

32.5

%

$

536,547

 

35.5

%

$

(28,169

)

(5.3

)%

 

The decrease in ARM’s selling, general and administrative expenses as a percentage of revenue was primarily attributable to the effective management of expenses and integration efforts following the OSI acquisition.

 

The increase in CRM’s selling, general and administrative expenses as a percentage of revenue was primarily attributable to increasing capacity due to anticipated higher client volumes, in advance of the offsetting revenue generation.

 

The decrease in Portfolio Management’s selling, general and administrative expenses resulted from a $22.3 million decrease in fees for collection services provided by ARM. The decrease as a percentage of revenue was primarily due to the decrease in revenue resulting from lower collections. Included in Portfolio Management’s selling, general and administrative expenses for 2009 and 2008 was $60.5 million and $82.8 million, respectively, of intercompany expense to ARM, for services provided to Portfolio Management.

 

Reimbursable costs and fees.  Reimbursable costs and fees consist of court costs, legal fees and repossession fees, representing out-of-pocket expenses that are reimbursed by the Company’s clients. Reimbursable costs and fees are recorded as both revenue and operating expenses on the statement of operations. The increase in reimbursable costs and fees was due to the acquisition of TDM in August 2009.

 

Depreciation and amortization.  Depreciation and amortization decreased to $119.6 million in 2009, from $121.3 million in 2008. This decrease was primarily attributable to lower depreciation expense resulting from a lower level of property and equipment, offset partially by higher amortization of customer relationships and other intangible assets following the OSI acquisition in February 2008.

 

Impairment of intangible assets.  During the fourth quarter of 2009, the Company recorded goodwill impairment charges of $24.7 million in the CRM segment, and customer relationship impairment charges of $5.3 million in the Portfolio Management segment.

 

Restructuring charges.  We incurred restructuring charges of $10.9 million in 2009, which related to restructuring of our legacy operations to streamline our cost structure. The charges consisted primarily of severance costs. This compares to $11.6 million of restructuring charges in 2008, which primarily related to the OSI acquisition.

 

Other income (expense).  Interest expense increased to $99.2 million for 2009, from $94.8 million for 2008. Interest expense for 2009 included $14.1 million of losses, compared to $717,000 of gains in 2008, from interest rate swap agreements and embedded derivatives. This was offset partially by lower interest expense under our amended senior credit facility in 2009, due to a lower level of debt resulting from debt repayments during 2009. Other income (expense), net for 2009 and 2008 included approximately $7.0 million of net gains and $16.8 million of net losses,

 

36



Table of Contents

 

respectively, resulting from the settlement of certain foreign exchange contracts. Other income (expense) for 2009 also included a $5.0 million loss from writing down one of our notes receivable and a $4.4 million gain on sale of our print and mail business.

 

Income tax benefit.  For 2009, the effective income tax rate decreased to 1.3 percent from 16.8 percent for 2008, due primarily to the recognition of a valuation allowance on certain domestic net deferred tax assets.

 

Year ended December 31, 2008 Compared to Year ended December 31, 2007

 

Revenue.  Revenue increased $227.7 million, or 17.7 percent, to $1,513.1 million for 2008, from $1,285.4 million in 2007. Revenue for the year ended December 31, 2008 was reduced by a $98.9 million impairment charge recorded to increase the valuation allowance against the carrying value of the portfolios of purchased accounts receivable.

 

Revenue by segment (amounts in thousands):

 

 

 

For the Year Ended December 31,

 

 

 

 

 

 

 

 

 

% of

 

 

 

% of

 

 

 

 

 

 

 

2008

 

Revenue

 

2007

 

Revenue

 

$ Change

 

% Change

 

ARM

 

$

1,219,348

 

80.6

%

$

915,603

 

71.2

%

$

303,745

 

33.2

%

CRM

 

361,096

 

23.9

%

328,560

 

25.6

%

32,536

 

9.9

%

Portfolio Management

 

18,389

 

1.2

%

150,909

 

11.7

%

(132,520

)

(87.8

)%

Eliminations

 

(85,692

)

(5.7

)%

(109,642

)

(8.5

)%

23,950

 

(21.8

)%

Total

 

$

1,513,141

 

100.0

%

$

1,285,430

 

100.0

%

$

227,711

 

17.7

%

 

ARM’s revenue for 2008 included $82.8 million of intercompany revenue earned on services performed for Portfolio Management and CRM’s revenue for 2008 included $2.9 million of intercompany revenue earned on services performed for ARM, which were eliminated upon consolidation. ARM’s revenue for 2007 included $109.1 million of intercompany revenue earned on services performed for Portfolio Management and CRM’s revenue for 2007 included $532,000 of intercompany revenue earned on services performed for ARM, which were eliminated upon consolidation.

 

The increase in ARM’s revenue was primarily attributable to the acquisition of OSI on February 29, 2008, which added $337.3 million of revenue. This increase was offset in part by the weaker collection environment during 2008 and a $26.3 million decrease in fees from collection services performed for Portfolio Management. Included in ARM’s intercompany service fees for 2008, was $1.7 million of commissions from the sales of portfolios by Portfolio Management, compared to $12.8 million in 2007.

 

The increase in CRM’s revenue was primarily due to increased client volume, related to the implementation of new contracts during 2007 and 2008, partially offset by lower volumes from certain existing clients due to the impact of the economy.

 

Portfolio Management’s collections, excluding all portfolio sales, decreased $25.9 million, or 11.6 percent, to $196.8 million in 2008, from $222.7 million in 2007. Revenue for 2008 was reduced by a $98.2 million impairment charge recorded to increase the valuation allowance against the carrying value of the portfolios of purchased accounts receivable, due to the impact of the deteriorating economic conditions on cash collected and lower estimates of future collections, compared to an impairment charge of $25.0 million in the prior year. Excluding the effect of the impairment charges and all portfolio sales, Portfolio Management’s revenue represented 57.1 percent of collections in 2008, as compared to 68.3 percent of collections in 2007. The remaining decrease in revenue and collections primarily reflected the effect of the weaker collection environment during 2008. Portfolio sales for 2008 were $3.0 million compared to $21.1 million for 2007.

 

Payroll and related expenses.  Payroll and related expenses increased $165.5 million to $845.5 million in 2008, from $680.0 million in 2007, and increased as a percentage of revenue to 55.9 percent from 52.9 percent. The increase in payroll and related expenses as a percentage of revenue was primarily attributable to the decrease in revenues due to the $98.9 impairment charge recorded on purchased accounts receivables in the year ended December 31, 2008.

 

37



Table of Contents

 

Payroll and related expenses by segment (amounts in thousands):

 

 

 

For the Year Ended December 31,

 

 

 

 

 

 

 

 

 

% of

 

 

 

% of

 

 

 

 

 

 

 

2008

 

Revenue

 

2007

 

Revenue

 

$ Change

 

% Change

 

ARM

 

$

583,658

 

47.9

$

426,177

 

46.5

$

157,481

 

37.0

%

CRM

 

256,895

 

71.1

%

246,655

 

75.1

%

10,240

 

4.2

%

Portfolio Management

 

7,822

 

42.5

%

7,651

 

5.1

%

171

 

2.2

%

Eliminations

 

(2,894

)

3.4

%

(532

)

0.5

%

(2,362

)

444.0

%

Total

 

$

845,481

 

55.9

$

679,951

 

52.9

$

165,530

 

24.3

%

 

ARM’s payroll and related expenses increased primarily due to the acquisition of OSI on February 29, 2008, and increased as a percentage of revenue due to the OSI acquisition as well as the effect of the weaker collection environment on ARM’s revenue. Included in ARM’s payroll and related expenses was $2.9 million of intercompany expense to CRM, for services provided to ARM.

 

The decrease in CRM’s payroll and related expenses as a percentage of revenue was primarily a result of our continuing deployment of additional staff in off-shore locations.

 

Portfolio Management outsources all of its collection services to ARM and, therefore, has a relatively small fixed payroll cost structure.

 

Selling, general and administrative expenses.  Selling, general and administrative expenses increased $106.9 million to $536.5 million in 2008, from $429.6 million in 2007, and increased as a percentage of revenue to 35.5 percent from 33.4 percent.

 

Selling, general and administrative expenses by segment (amounts in thousands):

 

 

 

For the Year Ended December 31,

 

 

 

 

 

 

 

 

 

% of

 

 

 

% of

 

 

 

 

 

 

 

2008

 

Revenue

 

2007

 

Revenue

 

$ Change

 

% Change

 

ARM

 

$

463,083

 

38.0

$

362,242

 

39.6

$

100,841

 

27.8

%

CRM

 

61,723

 

17.1

%

54,323

 

16.5

%

7,400

 

13.6

%

Portfolio Management

 

86,533

 

470.6

%

112,708

 

74.7

%

(26,175

)

(23.2

)%

Eliminations

 

(74,792

)

87.3

%

(99,684

)

90.9

%

24,892

 

(25.0

)%

Total

 

$

536,547

 

35.5

$

429,589

 

33.4

$

106,958

 

24.9

%

 

The increase in ARM’s selling, general and administrative expenses was primarily due to the OSI acquisition. The decrease in ARM’s selling, general and administrative expenses as a percentage of revenue was primarily attributable to leveraging our infrastructure over the larger revenue base.

 

The increase in CRM’s selling, general and administrative expenses as a percentage of revenue was primarily attributable to ramping up capacity due to increasing client volumes, in advance of the offsetting revenue generation.

 

The decrease in Portfolio Management’s selling, general and administrative expenses resulted from a $26.3 million decrease in fees for collection services provided by ARM. The increase as a percentage of revenue was primarily due to the decrease in revenue due to lower collections. Included in Portfolio Management’s selling, general and administrative expenses for 2008 and 2007 was $82.8 million and $109.1 million, respectively, of intercompany expense to ARM, for services provided to Portfolio Management.

 

Reimbursable costs and fees.  Reimbursable costs and fees consist of court costs, legal fees and repossession fees, representing out-of-pocket expenses that are reimbursed by the Company’s clients. Reimbursable costs and fees are recorded as both revenue and operating expenses on the statement of operations.

 

Depreciation and amortization.  Depreciation and amortization increased to $121.3 million in 2008, from $102.3 million in 2007. This increase was primarily attributable to the amortization of the customer relationships resulting from the OSI acquisition.

 

38



Table of Contents

 

Impairment of intangible assets.  During the fourth quarter of 2008, the Company performed its annual impairment tests of goodwill and trade name and recorded impairment charges totaling $289.5 million.

 

Restructuring charges.  During 2008 we incurred restructuring charges of $11.6 million related to restructuring of our legacy operations to streamline our cost structure, in conjunction with the OSI acquisition. The charges consisted primarily of costs associated with the closing of redundant facilities and severance.

 

Other income (expense).  Interest expense decreased to $94.8 million for 2008, from $95.3 million for 2007.  The decrease was attributable to lower floating interest rates on the senior credit facility and the senior notes. The lower interest rates were partially offset by additional borrowings under the senior credit facility primarily to fund a portion of the acquisition of OSI. Other income (expense), net for 2008 and 2007 included approximately $16.8 million of net losses and $2.2 million of net gains, respectively, resulting from the settlement of certain foreign exchange contracts.

 

Income tax (benefit) expense.  For 2008, the effective income tax rate decreased to 16.8 percent from 35.7 percent for 2007, due to losses in the domestic ARM, CRM and Portfolio Management businesses combined with income from certain foreign businesses, which are not subject to income tax, and less income attributable to noncontrolling interests.

 

Liquidity and Capital Resources

 

Our primary sources of cash are cash flows from operations, including collections on purchased accounts receivable, bank borrowings, and equity and debt offerings. Cash has been used for acquisitions, repayments of bank borrowings, purchases of equipment, purchases of accounts receivable, and working capital to support our growth.

 

The cash flow from our contingency collection business and our purchased portfolio business is dependent upon our ability to collect from consumers and businesses. Many factors, including the economy and our ability to hire and retain qualified collectors and managers, are essential to our ability to generate cash flows. Fluctuations in these factors that cause a negative impact on our business could have a material impact on our expected future cash flows.

 

The capital and credit markets have experienced significant volatility in the recent past and if this continues, it is possible that our ability to access the capital and credit markets may be limited. Currently, our senior notes and senior subordinated notes are assigned ratings by certain rating agencies. Changes in our business environment, operating results, cash flows, or financial position could impact the ratings assigned by these rating agencies. Such significant volatility could also significantly affect the costs of borrowing, which could have a material impact on our financial condition and results of operations. We are currently in compliance with all of our debt covenants, but the future impact on the Company’s operations and financial projections from the challenging economic and business environment may impact our ability to meet our debt covenants in the future.

 

At this time, we believe that we will be able to finance our current operations, planned capital expenditure requirements, internal growth and debt service obligations, at least through the next twelve months, with the funds generated from our operations, with our existing cash and available borrowings under our Credit Facility (as defined below). Additionally, we may obtain cash through additional equity and debt offerings, if needed.

 

We have a senior credit facility, referred to as the Credit Facility, that consists of a term loan ($549.3 million outstanding as of December 31, 2009) and a $100.0 million revolving credit facility ($17.0 million outstanding as of December 31, 2009). Additionally, we have $165.0 million of floating rate senior notes and $200.0 million 11.875 percent senior subordinated notes. The Credit Facility contains certain financial and other covenants, the most restrictive of which are the maximum leverage ratio and the minimum interest coverage ratio. At December 31, 2009, our leverage ratio was 4.59, compared to the maximum of 5.50, and our interest coverage ratio was 2.30, compared to the minimum of 1.85.

 

Due to the expected impact of the economic environment on our clients’ business, and the resulting expected impact of that on our 2010 results, as well as financial covenant ratio adjustments required under the Credit Facility in 2010, we became uncertain of our ability to remain in compliance with the financial covenants through 2010. Therefore, on March 31, 2010, we amended the Credit Facility to, among other things, adjust the financial covenants, including increasing maximum leverage ratios and decreasing minimum interest coverage ratios. In 2010, our maximum leverage ratio covenant is 5.75 and our minimum interest coverage ratio covenant is 1.80. We believe we will be able to maintain compliance with such covenants in 2010. Our ability to maintain compliance with our covenants will be highly dependent on our results of operations and, to the extent necessary, our ability to implement remedial measures such as further reductions in operating costs. If we were to enter into an agreement with our lenders for future covenant compliance relief, such relief could result in additional fees and higher interest expense.

 

39



Table of Contents

 

Our Credit Facility permits us to repurchase our senior notes and senior subordinated notes out of the net cash proceeds of new equity issuances. We are aware that our senior notes and senior subordinated notes are currently trading at a substantial discount to their face amounts. We or our stockholders may from time to time seek to retire or purchase our outstanding notes through cash purchases and/or exchanges for equity securities, in open market purchases, privately negotiated transactions or otherwise. Our stockholders who acquire such notes may seek to contribute them to us, for retirement, in exchange for the issuance of additional equity. The amounts involved may be material.

 

On March 25, 2009, we privately placed 148,463.6 shares of our Series B-1 Preferred Stock and 19,957.4 shares of our Series B-2 Preferred Stock to One Equity Partners, Michael J. Barrist and certain members of executive management, and other co-investors for an aggregate purchase price of $40.0 million. The proceeds were used to pay down $15.0 million of term loan borrowings, and the remainder, net of expenses, of $22.5 million was used to repay borrowings under our revolving credit facility.

 

In February 2009, we issued 7,400 shares of Series A Preferred Stock to JPM as additional consideration for the acquisition of SST (see Note 4 to our Notes to Consolidated Financial Statements included elsewhere in this Report).

 

The exclusivity agreement to our nonrecourse credit facility expired on June 30, 2009. As a result, we are no longer required to offer all purchases with a purchase price in excess of $1.0 million to the nonrecourse lender for financing. The borrowings outstanding under the nonrecourse credit facility were not affected and remain subject to the terms discussed below.

 

Given the decline in liquidation rates, competition for purchased accounts receivable and the continued uncertainty of collectibility, we significantly reduced our purchases of accounts in 2009. We currently expect to limit our purchases in 2010 to certain of our non-cancelable forward flow commitments. Additionally, we may opportunistically purchase accounts receivable that allow us to leverage meaningful third-party servicing contracts.  Our amended Credit Facility limits purchases in 2010 to $20 million and purchases in 2011 and beyond to $10 million.

 

Cash Flows from Operating Activities.  Cash provided by operating activities was $98.5 million in 2009, compared to $93.7 million in 2008. The increase in cash provided by operating activities was primarily attributable to a decrease in accounts receivable, trade of $43.9 million for 2009, compared to a decrease of $11.8 million in the prior year, resulting from the collection of a large outstanding receivable balance during 2009, offset partially by decreases in accounts payable and accrued expenses and income taxes payable.

 

Cash provided by operating activities was $93.7 million in 2008, compared to $44.0 million in 2007. The increase in cash provided by operating activities was primarily attributable to the operating activities of OSI, which was acquired on February 29, 2008, and a decrease in accounts receivable, trade of $11.8 million for 2008, compared to an increase of $28.6 million in the prior year, resulting from the collection of a large outstanding receivable balance during 2008. These increases were partially offset by a decrease in accounts payable and accrued expenses of $23.2 million for 2008, compared to an increase of $3.4 million in the prior year.

 

Cash Flows from Investing Activities.  Cash provided by investing activities was $16.7 million in 2009 compared to cash used in investing activities of $424.2 million in 2008. The change in investing activities was primarily attributable to cash paid for acquisitions and acquisition-related costs of $349.4 million in 2008 primarily incurred in connection with the acquisition of OSI on February 29, 2008, as well as lower purchases of accounts receivable in 2009 and $20.0 million of cash received from the sale of our print and mail business in 2009.

 

Cash used in investing activities was $424.2 million in 2008, compared to $32.7 million in 2007. The increase in cash used in investing activities was primarily attributable to cash paid for acquisitions and acquisition-related costs of $349.4 million in 2008 primarily incurred in connection with the acquisition of OSI on February 29, 2008.

 

Cash Flows from Financing Activities.  Cash used in financing activities was $107.2 million in 2009, compared to cash provided by financing activities of $332.2 million in 2008. The change in financing activities resulted from the additional borrowings of $139.0 million under our Credit Facility and the issuance of $210.0 million of stock, both of which were used primarily to fund the OSI acquisition in 2008. Also contributing to the change was a total of $103.8 million of net repayments of borrowings under the Credit Facility in 2009, compared to total net borrowings of $23.8 million in 2008. During 2008, we paid $17.5 million to JPM in connection with the acquisition of SST, which was deemed to be a cash dividend for accounting purposes.

 

Cash provided by financing activities was $332.2 million in 2008, compared to cash used in financing activities of $2.9 million in 2007. The change in financing activities resulted from the additional borrowings of $139.0 million under

 

40



Table of Contents

 

our Credit Facility and the issuance of $210.0 million of stock, both of which were used primarily to fund the OSI acquisition. During 2008, we paid $17.5 million to JPM in connection with the acquisition of SST, which was deemed to be a cash dividend for accounting purposes.

 

Senior Credit Facility.  Our Credit Facility is with a syndicate of financial institutions and consists of a term loan ($549.3 million outstanding at December 31, 2009) and a $100.0 million revolving credit facility. The availability of the revolving credit facility is reduced by any unused letters of credit ($11.8 million at December 31, 2009). As of December 31, 2009, we had $71.2 million of remaining availability under the revolving credit facility.

 

Borrowings under the Credit Facility are collateralized by substantially all of our assets. The Credit Facility contains certain financial and other covenants such as maintaining a maximum leverage ratio and a minimum interest coverage ratio, and includes restrictions on, among other things, acquisitions, the incurrence of additional debt, investments, disposition of assets, liens and dividends and other distributions. If an event of default, such as failure to comply with covenants or a change of control, and the failure to negotiate and obtain any required relief from our lenders, were to occur under the Credit Facility, the lenders would be entitled to declare all amounts outstanding under it immediately due and payable and foreclose on the pledged assets. Under these circumstances, the acceleration of our debt could have a material adverse effect on our business. Notwithstanding the foregoing, we may from time to time seek to amend our existing Credit Facility or obtain other funding or additional financing, which may result in additional fees and higher interest rates. Amending our Credit Facility or obtaining other funding or additional financing prior to the expiration of the current agreement will be essential as the remaining outstanding balance under the term loan will be due upon the expiration of the Credit Facility in May 2013. At December 31, 2009, our leverage ratio was 4.59, compared to the maximum of 5.50, and our interest coverage ratio was 2.30, compared to the minimum of 1.85. We were in compliance with all required financial covenants and we were not aware of any events of default as of December 31, 2009.

 

Due to the expected impact of the economic environment on our clients’ business, and the resulting expected impact of that on our 2010 results, as well as financial covenant ratio adjustments required under the Credit Facility in 2010, we became uncertain of our ability to remain in compliance with the financial covenants through 2010. Therefore, on March 31, 2010, we amended the Credit Facility to, among other things, adjust the financial covenants, including increasing maximum leverage ratios and decreasing minimum interest coverage ratios, and adjust the required principal prepayments.

 

In 2010, our amended Credit Facility requires a maximum leverage ratio of 5.75 and a minimum interest coverage ratio of 1.80. We believe that over the next 12 months we will continue to maintain our compliance with these covenants. Our ability to maintain compliance with our covenants will be highly dependent on our results of operations and, to the extent necessary, our ability to implement remedial measures such as further reductions in operating costs. If we were to enter into an agreement with our lenders for future covenant compliance relief, such relief could result in additional fees and higher interest expense.

 

The amended Credit Facility requires quarterly principal repayments of $1.5 million on the term loan until its maturity in May 2013, at which time its remaining balance outstanding is due. The revolving credit facility requires no minimum principal payments until its maturity in November 2011. The amended Credit Facility also requires quarterly prepayments of 75 percent of the excess cash flow from our purchased accounts receivable, as well as annual prepayments of 75 percent or 50 percent of our excess annual cash flow, based on our leverage ratio, less the amounts paid during the year from the purchased accounts receivable excess cash flow prepayments.

 

Senior Notes and Senior Subordinated Notes. We have $165.0 million of floating rate senior notes due 2013 (“Senior Notes”) and $200.0 million of 11.875 percent senior subordinated notes due 2014 (“Senior Subordinated Notes”) (collectively, “the Notes”). The Notes are guaranteed, jointly and severally, on a senior basis with respect to the Senior Notes and on a senior subordinated basis with respect to the Senior Subordinated Notes, in each case by all of our existing and future domestic restricted subsidiaries (other than certain subsidiaries and joint ventures engaged in financing the purchase of delinquent accounts receivable portfolios and certain immaterial subsidiaries).

 

The Senior Notes are unsecured senior obligations and are senior in right of payment to all existing and future senior subordinated indebtedness, including the Senior Subordinated Notes, and all future subordinated indebtedness. The Senior Notes bear interest at an annual rate equal to the London Interbank Offered Rate, referred to as LIBOR, plus 4.875 percent, reset quarterly. We may redeem the Senior Notes, in whole or in part, at varying redemption prices depending on the redemption date, plus accrued and unpaid interest.

 

The Senior Subordinated Notes are unsecured senior subordinated obligations and are subordinated in right of payment to all existing and future senior indebtedness, including the Senior Notes and borrowings under the Credit Facility. We may redeem the Senior Subordinated Notes, in whole or in part, at any time on or after November 15, 2010 at varying redemption prices depending on the redemption date, plus accrued and unpaid interest. We also may redeem some or all of the Senior Subordinated Notes at any time prior to November 15, 2010, at a redemption price equal to 100 percent of the principal amount of the respective Notes to be redeemed, plus accrued and unpaid interest and an additional premium.

 

The indentures governing the Notes contain a number of covenants that limit our and our restricted subsidiaries’ ability, among other things, to: incur additional indebtedness and issue certain preferred stock, pay certain dividends, acquire shares of capital stock, make payments on subordinated debt or make investments, place limitations on distributions from restricted subsidiaries, issue or sell stock of restricted subsidiaries, guarantee indebtedness, sell or exchange assets, enter into transactions with affiliates, create certain liens, engage in unrelated businesses, and consolidate, merge or transfer all or substantially all of our assets and the assets of our subsidiaries on a consolidated basis. In addition, upon a change of control, we are required to offer to repurchase all of the Notes then outstanding, at a purchase price equal to 101 percent of their principal amount, plus any accrued interest to the date of repurchase.

 

41



Table of Contents

 

Upon certain events of default, the trustee or the holders of at least 25 percent in the aggregate principal amount of the notes, then outstanding, may, and the trustee at the request of the holders will, declare the principal of, premium, if any, and accrued interest on the notes to be immediately due and payable. In the event a court enters a decree or order for relief against us in an involuntary case under any applicable bankruptcy, insolvency or other similar law now or hereafter in effect, the court appoints a receiver, liquidator, assignee, custodian, trustee, sequestrator or similar official or for all or substantially all of our property and assets or the winding up or liquidation of our affairs and, in each case, such decree or order remains unstayed and in effect for a period of 60 consecutive days, the principal of, premium, if any, and accrued interest on the notes then outstanding will automatically become and be immediately due and payable. Additionally, if we or any subsidiary guarantor commence a voluntary case under any applicable bankruptcy, insolvency or other similar law now or hereafter in effect, or consent to the entry of an order for relief in an involuntary case under any such law, consent to the appointment of or taking possession by a receiver, liquidator, assignee, custodian, trustee, sequestrator or similar official or for all or substantially all of our property and assets or substantially all of the property and assets of a significant subsidiary (as defined in the indentures) or effect any general assignment for the benefit of creditors, the principal of, premium, if any, and accrued interest on the notes then outstanding will automatically become and be immediately due and payable.

 

Nonrecourse Credit Facility.  We had a relationship with a lender to provide nonrecourse financing for certain purchases of accounts receivable, at the discretion of the lender.  If the lender chose to participate in the financing of a portfolio of accounts receivable, the financing was structured, depending on the size and nature of the portfolio to be purchased, either as a borrowing arrangement or under various equity sharing arrangements. The lender financed non-equity borrowings with floating interest at an annual rate equal to LIBOR (0.23 percent 30-day LIBOR at December 31, 2009) plus 2.50 percent, or as negotiated. These borrowings are nonrecourse to us and are due two years from the date of each respective loan, unless otherwise negotiated. As additional return on the debt financed portfolios the lender receives residual cash flows, as negotiated, which is defined as all cash collections after servicing fees, floating rate interest, repayment of the borrowing, and the initial investment by us, including interest. Residual cash flow payments are accrued for as embedded derivatives. There were no non-equity borrowings under this relationship during 2009.

 

Borrowings under this relationship are nonrecourse to us, except for the assets within the entities established in connection with the financing agreement. The nonrecourse debt agreements contain a collections performance requirement, among other covenants, that, if not met, provides for cross-collateralization with any other portfolios financed by the nonrecourse lender, in addition to other remedies.

 

The total nonrecourse debt outstanding was $14.3 million and $37.2 million as of December 31, 2009 and 2008, respectively, which included $2.1 million and $3.7 million, respectively, of accrued residual interest. The effective interest rate on these loans, including the residual interest component, was approximately 12.8 percent and 10.0 percent for the years ended December 31, 2009 and 2008, respectively. The nonrecourse debt agreements contain certain covenants such as meeting minimum cumulative collection targets. As of December 31, 2009, we were in compliance with all required covenants.

 

42



Table of Contents

 

Contractual Obligations.  The following summarizes our contractual obligations as of December 31, 2009 (amounts in thousands). For a detailed discussion of these contractual obligations, see notes 12, 13 and 19 in our Notes to Consolidated Financial Statements.

 

 

 

Payments Due by Period(1)

 

 

 

Total

 

Less than
1 Year

 

1 to 3
Years

 

3 to 5
Years

 

More than
5 Years

 

 

 

 

 

 

 

 

 

 

 

 

 

Credit Facility

 

$

566,260

 

$

29,334

 

$

29,108

 

$

507,818

 

$

 

Notes

 

365,000

 

 

 

365,000

 

 

Nonrecourse credit facility

 

14,322

 

10,898

 

3,424

 

 

 

Capital leases

 

4,789

 

496

 

903

 

989

 

2,401

 

Other long-term debt

 

1,159

 

971

 

161

 

27

 

 

Estimated interest payments(2)

 

304,545

 

85,714

 

150,461

 

68,370

 

 

Operating leases(3)

 

181,607

 

49,557

 

73,243

 

41,260

 

17,547

 

Purchase commitments

 

50,609

 

29,562

 

21,047

 

 

 

Forward-flow agreements

 

10,352

 

10,352

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total contractual obligations

 

$

1,498,643

 

$

216,884

 

$

278,347

 

$

983,464

 

$

19,948

 

 


(1)  Does not include deferred income taxes since the timing of payment is not certain (see note 14 in our Notes to Consolidated Financial Statements). Payments of debt assume no prepayments.

(2)  Represents estimated future interest expense based on applicable rates, including minimum rates as defined in our amended senior credit facility.

(3)  Does not include the leases from our former Fort Washington locations (see note 19 in our Notes to Consolidated Financial Statements).

 

Because their future cash outflows are uncertain, noncurrent liabilities for income tax contingencies are excluded from the table above. As discussed in Note 2 in our Notes to Consolidated Financial Statements, we adopted the provisions of the authoritative guidance for accounting for uncertainty in income taxes on January 1, 2007. At December 31, 2009, we had approximately $4.9 million in reserves for uncertain tax positions and an accrual for related interest expense of $4.5 million. Currently, we do not estimate a cash settlement with the applicable taxing authority will occur within 12 months for the majority of these unrecognized tax benefits.

 

Off-Balance Sheet Arrangements

 

We do not have any off-balance sheet arrangements as defined by Regulation S-K 303(a)(4) of the Securities Exchange Act of 1934.

 

Market Risk

 

We are exposed to various types of market risk in the normal course of business, including the impact of interest rate changes, foreign currency exchange rate fluctuations, changes in corporate tax rates, and inflation. We employ risk management strategies that may include the use of derivatives, such as interest rate swap agreements, interest rate cap agreements, and foreign currency forwards and options to manage these exposures. We do not enter into derivatives for trading purposes.

 

Foreign Currency Risk.  Foreign currency exposures arise from transactions denominated in a currency other than the functional currency and from foreign denominated revenue and profit translated into U.S. dollars. The primary currencies to which we are exposed include the Canadian dollar, the Philippine peso, the British pound and the Australian dollar. Due to the size of the Philippine operations, we currently use forward exchange contracts to limit potential losses in earnings or cash flows from adverse foreign currency exchange rate movements. These contracts are entered into to protect against the risk that the eventual cash flows resulting from such contracts will be adversely affected by changes in exchange rates. Our objective is to maintain economically balanced currency risk management strategies that provide adequate downside protection.

 

Interest Rate Risk.  At December 31, 2009, we had $745.6 million in outstanding variable rate borrowings. A material change in interest rates could adversely affect our operating results and cash flows. A 25 basis-point increase in interest rates could increase our annual interest expense by $125,000 for each $50 million of variable debt outstanding for the entire year. Currently, we primarily use interest rate swap agreements to limit potential losses from adverse interest rate changes. Our interest rate swap agreements minimize the impact of LIBOR fluctuations on the interest payments on our floating rate debt. We are required to pay the counterparties quarterly interest payments at a weighted average fixed rate, and we receive from the counterparties variable quarterly interest

 

43



Table of Contents

 

payments based on LIBOR.

 

Impact of Recently Issued and Proposed Accounting Guidance

 

In June 2009, the FASB issued authoritative guidance for transfers of financial assets. This guidance removes the concept of qualifying special-purpose entities and eliminates the exception from applying guidance related to consolidating of variable interest entities to qualifying special-purpose entities. This guidance requires additional disclosures in order to provide greater transparency about transfers of financial assets and a transferor’s continuing involvement with transferred financial assets. This guidance is effective for us on January 1, 2010. We are currently reviewing the guidance to assess the impact of adoption.

 

In June 2009, the FASB issued amended guidance for consolidation of variable interest entities. This guidance amends previous guidance to require companies to perform an analysis to determine if their variable interest gives them a controlling financial interest in the variable interest entity, and requires ongoing reassessments of who is the primary beneficiary of a variable interest entity. This guidance also requires enhanced disclosures of information about involvement in a variable interest entity. This guidance is effective for us on January 1, 2010. We are currently reviewing the guidance to assess the impact of adoption.

 

In October 2009, the FASB issued amended guidance for revenue recognition related to multiple-deliverable revenue arrangements. This guidance, among other things, creates a hierarchy for determining the selling price of a deliverable, which will now incl