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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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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, 1999
OR
/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM ______________ TO ______________
COMMISSION FILE NUMBER 0-25751
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COMPUCREDIT CORPORATION
(Exact name of registrant as specified in its charter)
GEORGIA 58-2336689
(State or other jurisdiction of (IRS Employer
incorporation or organization Identification No.)
ONE RAVINIA DRIVE, SUITE 500 30346
ATLANTA, GEORGIA (Zip Code)
(Address of principal executive offices)
(770) 206-6200
(Registrant's telephone number, including area code)
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
None
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
Common Stock, no par value per share
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Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports) and (2) has been subject to such
filing requirements for the past 90 days. Yes /X/ No / /
Indicate by check mark 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. / /
The aggregate market value of the registrant's Common Stock (based upon the
closing sales price quoted on the Nasdaq National Market) held by nonaffiliates
as of March 14, 2000 was approximately $414,007,697.
As of March 14, 2000, 44,651,392 shares of the registrant's Common Stock, no
par value per share were outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the registrant's definitive Proxy Statement for the 2000 Annual
Meeting of Shareholders to be held on May 2, 2000 are incorporated by reference
into Part III.
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TABLE OF CONTENTS
PAGE
NUMBER
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PART I
Item 1. Business.......................................... 3
Risk Factors............................................ 14
Item 2. Properties........................................ 20
Item 3. Legal Proceedings................................. 20
Item 4. Submission of Matters to a Vote of Security
Holders.............................................. 20
PART II
Item 5. Market for Registrant's Common Stock and Related
Shareholder Matters..................................... 20
Item 6. Selected Financial Data........................... 20
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations..................... 23
Item 7A. Quantitative and Qualitative Disclosures About
Market Risk............................................. 35
Item 8. Financial Statements and Supplementary Data....... 35
Item 9. Changes in and Disagreements With Accountants on
Accounting and Financial Disclosure..................... 35
PART III
Item 10. Directors and Executive Officers of the
Registrant*............................................. 36
Item 11. Executive Compensation*.......................... 36
Item 12. Security Ownership of Certain Beneficial Owners
and Management*......................................... 36
Item 13. Certain Relationships and Related
Transactions*........................................... 36
PART IV
Item 14. Exhibits, Financial Statement Schedules and
Reports on Form 8-K..................................... 36
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* Incorporated by reference to the Registrant's Proxy Statement for the 2000
Annual Meeting of Shareholders.
CAUTIONARY NOTICE REGARDING FORWARD-LOOKING STATEMENTS
This Report includes "forward-looking statements" within the meaning of
Section 27A of the Securities Act of 1933, as amended (the "Securities Act") and
Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange
Act"), including, in particular, forward-looking statements under the headings
"Item 1. Business" and "Item 7. Management's Discussion and Analysis of
Financial Condition and Results of Operations." The words "expect,"
"anticipate," "intend," "plan," "believe," "seek," "estimate" and similar
expressions are intended to identify such forward-looking statements; however,
this Report also contains other forward-looking statements that may not be so
identified. Forward-looking statements are subject to a number of risks and
uncertainties, many of which are beyond CompuCredit's control. Actual results
may differ materially from those indicated in the forward-looking statements.
Accordingly, there can be no assurance that such indicated results will be
realized. Among the important factors that could cause actual results to differ
materially from those indicated by such forward-looking statements are the
factors set forth below in "Item 1. Business -- Risk Factors." By making these
forward-looking statements, CompuCredit does not undertake to update them in any
manner except as may be required by its disclosure obligations in filings it
makes with the Securities and Exchange Commission (the "Commission") under the
Federal securities laws.
In this Report, the words "Company," "CompuCredit," "we," "our," "ours," and
"us" refer to CompuCredit and its subsidiaries and predecessors. CompuCredit
owns the Aspire-Registered Trademark-, CompuCredit-Registered Trademark- and
Aspire Diamond-Registered Trademark- trademarks in the United States.
Trademarks, trade names or service marks of other companies appearing elsewhere
in this Report are the property of their respective owners.
PART I
ITEM 1. BUSINESS
GENERAL
CompuCredit is a credit card company that uses analytical techniques,
including sophisticated computer models, to target a consumer credit market that
we believe has been underserved by traditional grantors of credit. Individuals
in this market typically rely more heavily on finance companies and retail store
credit cards to meet their credit needs and are less likely to have general
purpose credit cards. Some of these consumers have had delinquencies, a default
or a bankruptcy in their credit histories, but have, in our view, demonstrated
recovery. Others in this target market are establishing or expanding their
credit. We have developed and enhanced our techniques by continually testing our
products and operating practices and by continually analyzing credit bureau data
and the results of our lending experience. We believe that our analytical
approach allows us to:
- Better assess credit and bankruptcy risk, enabling us to identify
consumers in the underserved market that are more creditworthy,
- Price our products to appropriately reflect the level of a consumer's
credit risk and demand for credit,
- Increase the likelihood that a consumer will accept our offer of credit,
which improves our response rates and reduces our marketing costs,
- Continually monitor customer performance and actively manage accounts in
order to refine our product offerings to reflect the changing risk of our
customers, and
- Effectively evaluate the collectibility of delinquent accounts, which
enables us to efficiently deploy our collection resources.
We market unsecured Aspire Visa credit cards through direct mail,
telemarketing and the Internet. We also market to Aspire Visa cardholders other
fee-based products including card registration, memberships in preferred buying
clubs, travel services and credit life, disability and unemployment insurance.
In July 1999, we launched our website WWW.ASPIRECARD.COM through our
subsidiary AspireCard.com, Inc. Applications received via the Internet are
electronically processed on a real time basis using the same credit and
marketing models that are applied to our direct mail and telemarketing
campaigns. We believe that our ability to respond to an Internet application
with a credit decision in less than one minute represents a competitive
advantage. We are currently testing or evaluating additional Internet marketing
initiatives including the following:
- referral arrangement and/or partnerships with prime credit card issuers
and online retailers,
- Internet applications in conjunction with regular mail solicitations, and
- pre-approved direct mailings by e-mail.
We have relied on the securitization of our credit card receivables to fund
our operations and increase the size of our business. Securitization of credit
card receivables is common in the credit card industry. A securitization
transaction involves grouping and packaging assets, such as credit card
receivables, into securities that are then sold to investors. We have used
securitization because it has offered a cost of funding lower than other debt or
equity financing sources.
We market the Aspire credit card under an agreement with Columbus Bank and
Trust Company, a state chartered banking subsidiary of Synovus Financial
Corporation. Under this agreement, Columbus Bank and Trust owns the credit card
accounts. We outsource to Columbus Bank and Trust and its affiliate,
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Total Systems Services, Inc., account processing and servicing functions such as
card embossing/mailing, fraud detection, cycle billing, payment processing and
transaction processing.
CompuCredit was formed on August 14, 1996 by David G. Hanna, President, and
Richard W. Gilbert, Chief Operating Officer, after completing almost two years
of research and development in the area of consumer finance. Both Mr. Hanna and
Mr. Gilbert have extensive experience in the consumer credit and collections
industries. Mr. Hanna and Mr. Gilbert both held executive positions with
Nationwide Credit, Inc., a national third party collection agency, during the
1980s until its sale in 1990 to First Financial Management Corporation,
currently known as First Data Corporation. Mr. Hanna also founded Account
Portfolios L.P. in 1989 with Frank J. Hanna, III, his brother, who is a
principal shareholder and director of CompuCredit. Account Portfolios was sold
in 1995 to Outsourcing Solutions, Inc. Before joining CompuCredit in 1996, Mr.
Gilbert served initially as Chief Operating Officer of Equifax Credit
Information Services, Inc.'s collection division and subsequently as General
Manager of Strategic Client Services for Equifax. Richard R. House, Jr., our
Chief Credit Officer, joined CompuCredit in April 1997 from Equifax. While at
Equifax, Mr. House served as Vice President for Equifax's Decision Solutions
division, which provided consulting and modeling services to many of the
nation's largest credit grantors. Collectively, our founders and executive
officers have over 50 years of experience in various aspects of consumer
finance.
CompuCredit is incorporated in Georgia. Its principal executive offices are
located at One Ravinia Drive, Suite 500, Atlanta, Georgia 30346, its telephone
number at that address is (770) 206-6200, and its internet address is
WWW.COMPUCREDIT.COM.
OUR DATABASE SYSTEM
We have developed a proprietary database management system which supports
all of the decision-making functions, including target marketing, solicitation,
application processing, account management and collections activities. The
database system is a comprehensive information warehouse that maintains critical
information regarding a client throughout the client's relationship with us. The
system's purpose is to gather, store and analyze the data necessary to
facilitate our target marketing and risk management decisions.
[The omitted graphical material includes five rectangular boxes arranged
vertically with a downward arrow from each. The boxes are labeled (in order):
Target Marketing, Solicitation (which has three bullet points entitled direct
mail, telemarketing and Internet beneath the heading), Application Processing,
Account Management, and Collections and Delinquency Management.]
Our database system captures combinations of client information gathered in
the target marketing and solicitation phases of the client relationship and
additional data gathered throughout the remainder of the relationship, including
client behavior patterns. By combining this information, we have established an
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analytical database linking static historical data with actual client
performance. The following is a partial listing of the data elements maintained
by our database system for each phase of the client relationship:
[The omitted graphical material includes four boxes, each one referring to a
particular phase of the client relationship. The boxes include a partial listing
of data elements. The first box is titled Target Marketing and lists Credit
Bureau Data, Demographic Data, Previous Solicitation History, Target Marketing
Scores and Risk Scores. The second box is titled Solicitation and Application
Processing and lists Credit Bureau Data, Demographic Data, Original Pricing
Credit Line Offer and Potential Pricing/Credit Line Offers. The third box is
titled Account Management and lists Payment History, Balance, Credit Line,
Revenue, Behavior Scores and Transaction Data. The last box is titled
Collections and Delinquency Management and lists Payment History, Previous
Collections Efforts, Balance, Credit Line and Credit Bureau Data.]
Our database system enables management to rapidly evaluate and respond to
changes in the risk profile of a client throughout the relationship. The
intranet interface--the internal computer network which allows management access
to the database--provides us with timely and easy access to the data.
[The omitted graphical representation illustrates the Company's use of its
database management system to process data gathered throughout the client
relationship and to provide CompuCredit management with critical information.
The figure consists of three rows of boxes. The first row includes five squares
labeled Target Marketing Data, Solicitation and Application Processing,
Fee-Based Product Marketing Data, Account Management Data and Collections Data,
with arrows from each box to and from the second row which contains one
rectangular box labeled Database Management System. The Database Management
System rectangular box has an arrow to and from the third row which has a
rectangular box labeled CompuCredit Management. An arrow pointing left to right
labeled Intranet Interface points to the arrow between the box titled Database
Management System and the box CompuCredit Management.]
The use of a single database system for all phases of the client
relationship enables us to continuously refine and optimize target marketing and
portfolio management decisions on the basis of continuous feedback. We believe
that this capability has been critical in identifying underserved segments which
we
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anticipate will be profitable and which have been overlooked by traditional
providers of credit-related products.
TARGET MARKETING SYSTEM
Since 1996, we have worked with national credit bureaus to develop
proprietary risk evaluation systems using credit bureau data. Initially, we
developed the systems using randomly selected historical data sets of payment
history on all types of consumer loans. Since March 1997, these proprietary risk
evaluation systems have included the specific behavior of our clients. Our
systems enable us to segment clients into narrower ranges within each FICO score
range. The FICO score, developed by Fair, Issac & Co., Inc., is the most
commonly used credit risk score in the consumer credit industry. The purpose of
the FICO score is to rank-order consumers relative to their probability of
non-payment on a consumer loan. We believe that sub-segmenting our market within
FICO score ranges enables us to better evaluate credit risk and to price our
products more effectively.
Within each FICO score range, we evaluate every potential client using
numerous credit and marketing segmentation methods derived from a variety of
data sources. We place potential clients into unique product offering segments
based upon combinations of factors reflecting our assessment of credit risk,
bankruptcy risk, supply of revolving credit, demand for revolving credit and
payment capacity. These product offering segments are chosen to meet the
following primary target marketing strategies:
- Marketing to those underserved client segments who have acceptable credit
and bankruptcy risk and who have the highest revenue potential within
those segments;
- Providing a variety of general purpose credit cards to satisfy the
different financial needs of various segments of the underserved market;
and
- Providing a variety of fee-based ancillary products and services to
leverage our relationship with the underserved client.
We focus our marketing programs on those client segments which have high
revenue potential when compared to other segments and demonstrate acceptable
credit and bankruptcy risk. We seek to accomplish this by establishing, for each
client segment, the appropriate risk-based pricing level that will maintain an
acceptable response rate to our direct mail and telemarketing campaigns. To
date, we have experienced a response rate that we believe is significantly
higher than the overall rate experienced by the credit card industry. The key to
our efforts is the use of our unique systems to evaluate credit risk more
effectively than the use of FICO scores alone.
Our client solicitation strategy is to test several differently priced
products against pools of potential clients with similar risk characteristics.
The results of direct mail, Internet and telemarketing campaigns are
continuously monitored and analyzed using our proprietary database system. We
also have recently entered into a marketing agreement with a leading prime
credit card issuer under which we may be given the opportunity to offer Aspire
Visa cards to selected applicants generated by the prime credit card issuer
through the Internet and through other channels. We plan to process any
applicants who may be referred to us through this arrangement using the same
credit and target marketing strategies that we use when originating accounts
through other methods.
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We offer our Classic, Gold, Platinum and Aspire Diamond cards in a variety
of product offerings varying by the amount of the credit line, the interest rate
and the annual fee:
AVERAGE
AS OF
CHARACTERISTIC RANGE OF INITIAL OFFERINGS DECEMBER 31, 1999
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Credit Line $500 to $10,000 $1,853
APR Prime rate + 7.40% to Prime rate + 21.75% 27.98%
Annual Fee $0 to $100 $ 15
Product offerings for a particular client are determined by examining a
number of factors in the client's credit file, including our assessment of
credit risk, bankruptcy risk, supply of revolving credit, demand for revolving
credit, payment criteria and revenue potential, among other factors.
TARGET MARKETING IN PORTFOLIO ACQUISITIONS
We anticipate increasing our receivables portfolio through the aggressive
use of our target marketing system to originate clients through direct mail,
telemarketing and Internet campaigns. We also add accounts by purchasing
portfolios of credit card receivables if we believe a substantial portion of the
cardholders meet our credit criteria. We may use either or both of these methods
of account growth to varying degrees, depending on our assessment of the
relative cost of each method. We use the same analytical systems employed in our
marketing campaigns to seek to purchase portfolios that are primarily comprised
of underserved clients. Our strategy for our purchased portfolios is to use our
numerous credit and marketing segmentation methods to select those accounts to
which an Aspire credit card will be issued and to use our proprietary account
management systems to enhance the performance of the portfolio and to market
fee-based ancillary products and services to the new clients. As with the
account origination process, each client is evaluated using numerous credit and
marketing segmentation methods derived from a variety of data sources. Clients
are placed into unique product offering segments based upon combinations of
factors reflecting their credit risk, bankruptcy risk, supply of revolving
credit, demand for revolving credit and payment capacity. We have completed two
portfolio acquisitions and expect that we will regularly evaluate other
potential portfolio acquisitions.
Our unique target marketing system is intended to provide the same
competitive advantage when evaluating portfolios as when originating clients
through our marketing campaigns. We believe that our ability to evaluate credit
risk within FICO score ranges enables us to more accurately determine the
portfolio's overall credit risk than many portfolio sellers and many other
companies that may bid on portfolio purchases. This risk evaluation expertise is
designed to enable us to avoid portfolio purchases in which the final purchase
premium or discount does not accurately reflect the credit risk of the
portfolio. Conversely, we may bid more aggressively for portfolios in which the
perceived credit risk, as reflected by the FICO scores, is significantly higher
than our forecast of credit risk.
Our target marketing system, which combines our proprietary risk evaluation
system with sophisticated techniques for estimating supply of revolving credit,
demand for revolving credit and bankruptcy risk, is designed to provide us with
a competitive advantage in evaluating the potential profitability of target
clients, whether originated by us or purchased. We continuously seek to refine
our target marketing system through the development of new analytical
segmentation tools and the evaluation of the system's effectiveness on previous
marketing campaigns and portfolio acquisitions.
DIRECT MAIL AND TELEMARKETING SOLICITATION
We use our target marketing strategies to identify potential clients and to
assess the type of product offering to be made to each potential client. In each
direct mail or telemarketing campaign conducted to date, we have experimented
with several combinations of rates, fees and credit limits directed at specific
client segments in order to evaluate response rates and further refine our
pricing strategies within each
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client segment and for all client segments as a group. To date, none of our
offers have included teaser-rate pricing. Third party print production
facilities produce our direct mail campaigns, and we contract with third party
telemarketing providers for our telemarketing campaigns. Responses to both
direct mail and telemarketing campaigns are then forwarded to us for application
processing. The response data received is also integrated into our database
system for future analysis and response modeling.
THE INTERNET
AspireCard.com, Inc., our wholly-owned subsidiary, promotes the Aspire Visa
credit card and various other value-added products and services on the Internet
using real-time approval of credit card applications online. Applications are
received by AspireCard.com on its own web site, WWW.ASPIRECARD.COM.
Additionally, we receive applications through the Internet under a marketing
agreement with The LendingTree, Inc. In either case, applications received via
the Internet are electronically processed on a real-time basis using the same
credit and target marketing strategies that are applied to our direct mail and
telemarketing campaigns. Once the application has been transmitted, consumers
are informed within seconds as to their approval status and the applicable terms
of the offer, including the interest rate, annual fee and credit limit. We
believe that this capability provides us with a competitive advantage. Although
our Internet operations are still in their early stages, we have experienced an
increasing Internet account origination volume and decreasing Internet account
origination costs. We are currently testing or evaluating several Internet
marketing initiatives including the following:
- referral arrangements and/or partnerships with prime credit card issuers
and online retailers,
- Internet applications in conjunction with regular mail solicitations, and
- pre-approved direct mailings by e-mail.
APPLICATION PROCESSING
We contract with third party providers for the data entry of credit card
applications resulting from our direct mail solicitations. Application coupons
mailed in by clients are keyed by the data entry provider into a
machine-readable format. We also use telemarketing vendors to input application
data for clients who respond to solicitations via the telephone. Entered
application data is electronically transmitted in batches to us for processing
by our application processing system.
We have developed flexible, proprietary methods of evaluating applications
using an application processing system that automates the evaluation of client
application data. The system utilizes pre-defined criteria to review
applicant-provided information and to compare the information to the applicant's
original solicitation data and to data from an online credit file that is
automatically requested for each applicant. The system performs a series of
comparisons of identification information, such as name, address and social
security number, from the three data sources to verify that client-supplied
information is complete and accurate. Potentially fraudulent applications are
declined or held for further review.
The applicant's online credit file that is obtained after the receipt of his
or her response is further evaluated by the system to ensure that the applicant
still meets the creditworthiness criteria applied during the original prescreen
process. The same credit criteria, proprietary custom models and credit bureau
data items used during the initial prescreen selection process are recalculated
for each applicant. Applicants still meeting our creditworthiness criteria are
designated as "approvals" and assigned a final credit offer.
Statistics related to response rates and final offers and terms are captured
daily for all processed applications and are transferred to our proprietary
database for ongoing tracking and analysis.
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FEE-BASED PRODUCTS AND SERVICES
We offer fee-based products and services to our clients, including card
registration, memberships in preferred buying clubs, travel services and credit
life, disability and unemployment insurance. These fee-based products and
services are offered at various times during the client relationship based on
tailored marketing lists derived from our database. We currently market all
non-credit products and services pursuant to joint marketing agreements with
third parties and are continually evaluating additional products we offer to our
clients either directly or through continued joint marketing efforts with third
party providers of such products and services. Profitability for fee-based
products and services is affected by the response rates to product
solicitations, the volume and frequency of the marketing programs, the
commission rates received from the product providers, the claim rates and claims
servicing costs for certain products and the operating expenses associated with
the programs. We significantly increased the marketing of these fee-based
products and services during 1999. The revenues associated with these products
and services are expected to increase in the future as we continue to increase
our credit card client base, expand the fee-based product penetration of our
client base, and introduce new products.
ACCOUNT AND PORTFOLIO MANAGEMENT
ONGOING ACCOUNT MANAGEMENT. Our management strategy is to aggressively
manage account activity using behavioral scoring, credit file data and our
proprietary risk evaluation systems. These strategies include the active
management of transaction authorizations, account renewals, over-limit accounts
and credit line modifications. We use an adaptive control system to translate
our strategies into the account management processes. The system enables us to
develop and test multiple strategies simultaneously, which allows us to
continually refine our account management activities. We have incorporated our
proprietary risk scores into the control system, in addition to standard
behavior scores used widely in the industry, in order to better segment,
evaluate and properly manage the accounts. We believe that by combining external
credit file data along with historical and current client activity, we are able
to better predict the true risk associated with current and delinquent accounts.
We monitor authorizations for all accounts. Client credit availability is
limited for transaction types which we believe are higher risks such as certain
foreign transactions and cash advances. We manage credit lines to reward
underserved clients who are performing well and to mitigate losses from
delinquent client segments. Accounts exhibiting favorable credit characteristics
are periodically reviewed for credit line increases, and strategies are in place
to aggressively reduce credit lines for clients demonstrating indicators of
increased credit or bankruptcy risk. Data relating to account performance is
captured and loaded into our proprietary database for ongoing analysis. We
proactively adjust account management strategies as necessary, based on the
results of such analyses. Additionally, we use industry-standard fraud detection
software to manage the portfolio. We route accounts to manual work queues, and
suspend charging privileges if the transaction-based fraud models indicate a
high probability of fraudulent card use.
CLIENT ADVISORY SERVICES. We have implemented an advisory program to assist
our clients in understanding the prudent use of general purpose credit cards. We
use our proprietary systems to identify clients who are not delinquent but are
exhibiting credit behavior likely to result in delinquency in the future. We
assign these accounts to our credit advisors who actively review all account
activity and, if necessary, contact the client via letter or telephone. Actions
taken by us may include client-friendly advice concerning the prudent use of
credit, temporary or permanent reduction in credit line availability, review of
the client's full credit report, debts and income, and establishing repayment
terms to assist the client in avoiding becoming over-extended.
Management believes that this client advisory strategy is not widely
practiced in the credit card industry. Our advisory program allows us to enhance
our relationship with our clients by providing valuable and meaningful
assistance while simultaneously contributing to prudent risk management
strategies to reduce bad debt losses.
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CLIENT SATISFACTION INITIATIVE. In the fourth quarter of 1999, we began a
formal Client Satisfaction program. Members of management, including all members
of executive management, surveyed hundreds of our clients about their level of
satisfaction with their AspireVisa credit card. We intend to continue this
program of surveying our clients, with quarterly participation by members of
management. The results will be used to continually improve service levels and
minimize attrition of profitable accounts.
OUTSOURCING. Certain account functions including card embossing/mailing,
fraud detection/investigation, cycle billing/payment processing and transaction
processing/authorization are performed by Columbus Bank and Trust and Total
Systems. In January 1997, we entered into an Affinity Card Agreement with
Columbus Bank and Trust, a subsidiary of Synovus Financial Corporation, that
provides for the issuance of Aspire credit cards and the performance of the
outsourced functions noted above. We have filed an application to organize a
state-chartered "credit card" bank under the laws of the State of Georgia which,
if organized, will become the issuer of the Aspire credit card. We expect that
the ability to issue our own credit cards will provide additional flexibility
and enable us to reduce our dependency on third-party service providers.
However, CompuCredit intends to continue to outsource certain functions to
Columbus Bank and Trust and its affiliate, Total Systems, and has recently
renewed its agreement with Columbus Bank and Trust which provides for the
servicing of the Aspire accounts in substantially the same manner in which these
services are currently being performed.
COLLECTIONS AND DELINQUENCY MANAGEMENT
Management considers its prior experience in successfully operating
professional collection agencies, coupled with its proprietary systems, to be a
significant competitive advantage in minimizing delinquencies, bad debt losses
and operating expenses associated with the collection process. We use our
systems to develop custom collection models that rank-order accounts based on
collectability and level of risk. We analyze the output from these models to
identify the collection activity most likely to result in curing the delinquency
cost-effectively rather than treating all accounts the same based on the mere
passage of time, as we believe most creditors do.
As in all aspects of our risk management strategies, we routinely test
alternative strategies and compare the results with existing collection
strategies. Results are measured based on delinquency rates, expected losses and
costs to collect. Existing strategies are then adjusted as suggested by these
results. Management believes that maintaining the ongoing discipline of testing,
measuring and adjusting collection strategies will result in minimized bad debt
losses and operating expenses. We believe this approach differs significantly
from the approach taken by the vast majority of credit grantors that implement
collection strategies based on commonly accepted peer group practices.
We have two collection facilities in metro Atlanta, Georgia totaling 27,000
square feet. We also have a full-time staff with an average experience of over
ten years in collections. Management has instituted collector incentive
compensation plans similar to those it successfully employed in its prior
experience operating professional collection agencies. In addition to our
full-time staff, we outsource some of our collection activities. We continuously
monitor the performance of our third party providers against that of our staff
to determine which is more effective.
SECURITIZATIONS
We finance the increase of our credit card receivables primarily through
securitizations. As we generate or acquire credit card receivables, we
securitize the receivables through our master trust or through special purpose
entities to third parties. Our current securitization structures typically
provide for the daily securitization of all new credit card receivables arising
under the securitized accounts. The receivables that are sold through
securitization are removed from our balance sheet for financial reporting
purposes. Following a sale, we receive cash flows which represent the finance
charges and past due fees in excess of the sum of the return paid to investors,
servicing fees, credit losses and required amortization
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payments. See "Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations--Credit Card Securitizations" and
"--Liquidity, Funding and Capital Resources."
CONSUMER AND DEBTOR PROTECTION LAWS AND REGULATIONS
Our business is regulated directly and indirectly under several federal and
state consumer protection and other laws, rules and regulations, including the
federal Truth-In-Lending Act, the federal Equal Credit Opportunity Act, the
federal Fair Credit Reporting Act, the federal Fair Debt Collection Practices
Act and the federal Telemarketing and Consumer Fraud and Abuse Prevention Act.
These statutes and their enabling regulations, among other things, impose
certain disclosure requirements when a consumer credit loan is advertised, when
the account is opened and when monthly billing statements are sent. In addition,
various statutes limit the liability of credit cardholders for unauthorized use,
prohibit discriminatory practices in extending credit and impose certain
limitations on the types of charges that may be assessed and restrict the use of
consumer credit reports and other account-related information.
Changes in any of these laws or regulations, or in their interpretation or
application, could significantly harm our business. Various proposals which
could affect our business have been introduced in Congress in recent years,
including, among others, proposals relating to imposing a statutory cap on
credit card interest rates, substantially revising the laws governing consumer
bankruptcy, and limiting the use of social security numbers. There have also
been proposals in state legislatures in recent years to restrict telemarketing
activities, impose statutory caps on consumer interest rates, limit the use of
social security numbers and expand consumer protection laws. It is impossible to
determine whether any of these proposals will become law and, if so, what impact
they will have on us.
On November 12, 1999, the Gramm-Leach-Bliley Act of 1999 became law. The
Gramm-Leach-Bliley Act creates a new type of bank holding company, a "financial
holding company," that may engage in a range of activities that are financial in
nature, including insurance and securities underwriting, insurance sales,
merchant banking and real estate development and investment. The
Gramm-Leach-Bliley Act also establishes new privacy requirements applicable to
all financial institutions. Financial institutions are required to establish a
privacy policy and to disclose the policy at the start of a customer
relationship and once a year thereafter. Additionally, financial institutions
must give a customer the opportunity to block the sharing of the customer's
nonpublic personal information with unaffiliated third parties, except in
certain limited circumstances. Further, financial institutions are barred from
sharing credit card numbers, account numbers or access numbers of customers with
third-party marketers. State laws that provide a greater degree of privacy
protection are not preempted by federal law.
Although we believe that we and Columbus Bank and Trust are currently in
compliance with applicable statutes and regulations, there can be no assurance
that we or Columbus Bank and Trust will be able to maintain such compliance. The
failure to comply with applicable statutes or regulations could significantly
harm our results of operations or financial condition. In addition, because of
the consumer-oriented nature of the credit card industry, there is a risk that
we or other industry participants may be named as defendants in litigation
involving alleged violations of federal and state laws and regulations,
including consumer protection laws, and consumer law torts, including fraud.
Although we currently are not involved in any material litigation, the
institution of any material litigation or a significant judgment against us or
Columbus Bank and Trust or within the industry in connection with any such
litigation could have a material adverse effect on our results of operations or
financial condition.
The National Bank Act of 1864 authorizes national banks to charge clients
interest at the rates allowed by the laws of the state in which the bank is
located, regardless of any inconsistent law of the state in which the bank's
clients are located. A similar right is granted to state institutions such as
Columbus Bank and Trust in the Depository Institutions Deregulation and Monetary
Control Act of 1980. In 1996, the United States Supreme Court held that late
payment fees are "interest" and therefore can be "exported" under the National
Bank Act, deferring to the Comptroller of the Currency's interpretation
11
that interest includes late payment fees, insufficient funds fees, over-limit
fees and certain other fees and charges associated with credit card accounts.
This decision does not directly apply to state institutions such as Columbus
Bank and Trust. Although several courts have upheld the ability of state
institutions to export certain types of fees, a number of lawsuits have been
filed alleging that the laws of certain states prohibit the imposition of late
fees. If the courts do not follow existing precedents, Columbus Bank and Trust's
ability to impose certain fees could be adversely affected, which could
significantly harm our results of operations or financial condition.
We do not currently own a bank. However, if we charter a bank, we expect
that bank to become the issuer of the Aspire credit card. Any bank we charter
would be subject to the various state and federal regulations generally
applicable to such institutions, including restrictions on the ability of the
bank to pay dividends to us.
COMPETITION
We face intense and increasing competition from other consumer lenders. In
particular, our credit card business competes with national, regional and local
bank card issuers, and with other general-purpose credit card issuers, including
American Express, Discover and issuers of Visa and MasterCard. We also compete
with retail credit card issuers, such as department stores and oil companies,
and other providers of unsecured credit. Large credit card issuers may compete
with us for clients by offering lower interest rates and fees. In addition, new
issuers have entered the market in recent years. Many of these competitors are
substantially larger than we are and have greater financial resources. Clients
choose credit card issuers largely on the basis of price, including interest
rates and fees, credit limit and other product features. For this reason, client
loyalty is often limited. We may lose entire accounts, or may lose account
balances, to competing credit card issuers.
Our competitors are continually introducing new tactics to attract clients
and increase their market share. The most heavily-used techniques are
advertising, target marketing, balance transfers, price competition, incentive
programs and using the name of a sports team or a professional association on
their credit cards, or "co-branding." In response to competition, some issuers
of credit cards have lowered interest rates and offered incentives to retain
existing clients and attract new ones. These competitive practices, as well as
competition that may develop in the future, could harm our ability to obtain
clients and maintain its profitability.
The Gramm-Leach-Bliley Act repeals the Glass-Steagall Act of 1933, which
separated commercial and investment banking, and eliminates the Bank Holding
Company Act's prohibition on insurance underwriting activities by bank holding
companies. As a result, the Gramm-Leach-Bliley Act permits the affiliation of
commercial banks, insurance companies and securities firms. This change may
increase the ability of insurance companies and securities firms to acquire, or
otherwise affiliate with, commercial banks and likely will increase the number
of competitors in the banking industry and the level of competition for banking
products, including credit cards.
EMPLOYEES
As of December 31, 1999, we had 211 employees, substantially all of whom are
located in Georgia. No collective bargaining agreement exists for any of our
employees. We consider our relations with our employees to be good.
TRADEMARKS
Aspire, CompuCredit, Aspire Diamond, Aspire Rapid Miles and For Everything
You Aspire To Be are registered trademarks of CompuCredit. Aspire Bank,
AspireCard, CompuCredit Bank, Get On Get Yours, Para Todo Lo Que Aspira A' Ser
and Transforming Information into Value are trademarks of CompuCredit, and
applications to register these trademarks are pending. We consider these
trademarks to
12
be readily identifiable with, and valuable to, our business. This Annual Report
on Form 10-K also contains trade names and trademarks of other companies that
are the property of their respective owners.
PROPRIETARY RIGHTS AND LICENSES
We regard our database management system and our customer selection and risk
evaluation criteria as confidential and proprietary. We initially developed our
pre-screen customer selection criteria under a contract with a national credit
bureau; however, we own all intellectual property rights in the resulting model.
Our database management system has been developed by a third party developer
under a contract pursuant to which we hold an exclusive, perpetual license to
use, copy, execute, display and reproduce the software constituting our database
management system. The third party developer owns this software, subject to our
license. The third party developer also has granted to CompuCredit a
nonexclusive license to use, copy or display for internal use a system that
automates the evaluation of client application data, which, among other things,
provides us with real-time access to credit information concerning our target
market and our customers. The third party developer continues to provide
substantially all of the computer software design and implementation services we
require in the continuing refinement and use of our computer software systems.
The third party developer has granted to us a right of first refusal during the
term of the agreement in the event the developer wishes to sell or otherwise
transfer any of its ownership rights in certain of the software it licenses to
us. In addition, we have the right to acquire the entity that owns the database
management system software for a purchase price of $2.4 million at any time
beginning September 23, 2000 and ending 12 months after the termination of the
agreement with the third party developer. The initial term of this agreement,
which is subject to extension or early termination under certain circumstances,
expires on September 23, 2000.
13
RISK FACTORS
IN ADDITION TO OTHER FACTORS AND MATTERS DISCUSSED ELSEWHERE IN THIS ANNUAL
REPORT ON FORM 10-K, SET FORTH BELOW ARE FACTORS THAT WE BELIEVE MAY AFFECT OUR
PERFORMANCE OR CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY FROM FORWARD-LOOKING
STATEMENTS THAT WE HAVE MADE OR MAY MAKE IN THE FUTURE. THE RISKS AND
UNCERTAINTIES DESCRIBED BELOW ARE NOT THE ONLY RISKS WE FACE. THESE RISKS ARE
THE ONES WE CONSIDER TO BE SIGNIFICANT AT THIS TIME. WE MIGHT BE WRONG. THERE
MAY BE RISKS THAT YOU IN PARTICULAR VIEW DIFFERENTLY THAN WE DO, AND THERE ARE
OTHER RISKS AND UNCERTAINTIES THAT ARE NOT PRESENTLY KNOWN TO US OR THAT WE
CURRENTLY CONSIDER IMMATERIAL, BUT THAT MAY IN FACT IMPAIR OUR BUSINESS
OPERATIONS. IF ANY OF THE FOLLOWING RISKS ACTUALLY OCCUR, OUR BUSINESS, RESULTS
OF OPERATIONS AND FINANCIAL CONDITION COULD BE SERIOUSLY HARMED AND THE TRADING
PRICE OF OUR COMMON STOCK COULD DECLINE.
OUR BUSINESS IS DIFFICULT TO EVALUATE BECAUSE OF OUR LIMITED OPERATING HISTORY.
THERE IS A LACK OF HISTORICAL INFORMATION AVAILABLE FOR OUR
INVESTORS. Because we were formed in August 1996, investors have limited
information on which to evaluate our future operating results and business
prospects.
WE HAVE LIMITED EXPERIENCE WITH OUR RECEIVABLES. We have limited
underwriting, servicing, delinquency and default experience with our credit card
receivables, which may limit the usefulness or reliability of our historical
information.
OUR PORTFOLIO PURCHASES MAY CAUSE FLUCTUATIONS IN REPORTED MANAGED LOAN DATA,
WHICH MAY REDUCE THE USEFULNESS OF HISTORICAL MANAGED LOAN DATA IN EVALUATING
OUR BUSINESS.
Our reported managed loan data may fluctuate substantially from quarter to
quarter as a result of recent and future portfolio acquisitions. Portfolio
acquisitions currently account for a significant portion of our credit card
receivables and may account for a significant portion of our credit card
receivables in the future. As of December 31, 1999, purchased receivables
represented 26.8% of our total portfolio.
Credit card receivables included in purchased portfolios may have been
originated using credit criteria different from our criteria. As a result, some
of these receivables have a different credit quality than receivables we
originated. Receivables included in any particular purchased portfolio may have
significantly different delinquency rates and charge-off rates than the
receivables previously originated and purchased by us. These receivables may
also earn different interest rates and fees than other similar receivables in
our receivables portfolio. To the extent these factors occur, our reported
managed loan data may fluctuate substantially in future periods.
WE MAY BE UNABLE TO MEET OUR FUTURE CAPITAL AND LIQUIDITY NEEDS OR MAY BE FORCED
TO RELY ON MORE EXPENSIVE FUNDING SOURCES TO SUSTAIN OUR GROWTH.
We will require additional capital in the future, and we may not be able to
sell debt or equity securities, securitize our receivables or borrow additional
funds on a timely basis or on terms that are acceptable to us. Our cash
requirements exceed the amount of cash we generate from operations. We have
financed substantially all of our originated and purchased receivables through
securitizations. If additional or future securitization transactions are not
available on terms we consider acceptable, we may have to rely on other more
expensive funding sources, may not be able to grow or may have to reduce our
managed loans outstanding. As recently as the fourth quarter of 1998,
disruptions in the credit markets adversely affected the ability of companies
like us to raise money from these sources. Furthermore, our ability to
securitize our assets depends on the continued availability of credit
enhancement on acceptable terms and the continued favorable legal, regulatory,
accounting and tax environment for these transactions.
14
THE TERMS WE NEGOTIATE ON OUR FUTURE SECURITIZATIONS MAY NOT BE AS FAVORABLE TO
US AS THE TERMS OF OUR EXISTING SECURITIZATIONS, WHICH COULD INCREASE OUR
FINANCING COSTS.
Because the terms of our securitizations are negotiated with each investor
in the securitizations, the terms of our future securitizations may not be as
favorable to us as the terms of our existing securitizations. We believe that we
have negotiated favorable terms for our current securitizations, including the
amounts the investors in the securitizations pay us when the receivables are
securitized. Because of our reliance on securitizations, any failure by us to
obtain terms in future securitizations that are as advantageous to us as the
terms of our current securitizations could increase our financing costs and
reduce our net income.
BECAUSE A SIGNIFICANT PORTION OF OUR REPORTED INCOME IS BASED ON OUR
MANAGEMENT'S ESTIMATES OF THE PERFORMANCE OF SECURITIZED RECEIVABLES,
DIFFERENCES BETWEEN ACTUAL AND EXPECTED PERFORMANCE OF THE RECEIVABLES MAY
CAUSE FLUCTUATIONS IN NET INCOME.
Securitization income from the sale of receivables in our securitization
transactions and income from retained interests in credit card receivables
securitized have constituted, and are likely to continue to constitute, a
significant portion of our income. Portions of this income are based primarily
on management's estimates of cash flows we expect to receive from the
securitized receivables. Differences between actual and expected performance of
the receivables may cause fluctuations in our net income. The expected cash
flows are based on management's estimates of interest rates, default rates,
payment rates, new purchases, costs of funds paid to investors in the
securitizations, servicing costs and required amortization payments. These
estimates are based on a variety of factors, many of which are not within our
control. As a result, these estimates will differ from actual performance.
THE TIMING AND SIZE OF SECURITIZATIONS MAY CAUSE FLUCTUATIONS IN QUARTERLY
INCOME.
Substantial fluctuations in the timing or the volume of receivables
securitized will cause fluctuations in our quarterly income. Factors that affect
the timing or volume of securitizations include the growth in our receivables,
market conditions and the approval by all parties of the terms of the
securitization.
INCREASES IN EXPECTED LOSSES AND DELINQUENCIES MAY CAUSE US TO INCUR LOSSES ON
OUR SECURITIZED RECEIVABLES AND PREVENT US FROM CONTINUING TO SECURITIZE
RECEIVABLES IN THE FUTURE ON SIMILAR TERMS.
If the actual amounts of delinquencies and losses that occur in our
securitized receivables are greater than our expectations, the value of our
retained interests in the securitization transactions may be impaired. In
addition, we may be required to repay investors in the securitizations earlier
than expected, reducing funds available to us for future growth. Greater than
expected delinquencies and losses could also impact our ability to complete
other securitization transactions on acceptable terms or at all, thereby
decreasing our liquidity and forcing us to rely on other funding sources to the
extent available.
UNLESS WE OBTAIN A BANK CHARTER, WE CANNOT ISSUE CREDIT CARDS OTHER THAN THROUGH
AN AGREEMENT WITH A BANK.
Because we do not have a bank charter, we currently cannot issue credit
cards other than through an agreement with a bank. We issue our Aspire credit
card under an agreement with Columbus Bank and Trust. Unless we obtain a bank
charter, we will continue to rely upon Columbus Bank and Trust to issue credit
cards to our clients. If our agreement with Columbus Bank and Trust were
terminated or otherwise disrupted, there is also a risk that we would not be
able to enter into an agreement with an alternate provider on terms that we
consider favorable or in a timely manner without disruption of our business.
15
BECAUSE WE OUTSOURCE OUR ACCOUNT PROCESSING FUNCTIONS, ANY DISRUPTION OR
TERMINATION OF THAT OUTSOURCING RELATIONSHIP COULD HARM OUR BUSINESS.
We outsource account processing functions for the Aspire accounts pursuant
to an agreement with Columbus Bank and Trust and its affiliate, Total Systems.
If this agreement were terminated or otherwise disrupted, there is a risk that
we would not be able to enter into a similar agreement with an alternate
provider on terms that we consider favorable or in a timely manner without
disruption of our business. For additional information on services provided to
us by third parties, see "Item 1. Business--Account and Portfolio Management."
WE MAY BE UNABLE TO SUSTAIN AND MANAGE OUR GROWTH.
If we cannot sustain or manage our growth, we may experience fluctuations in
net income or sustain net losses. We have rapidly and significantly expanded our
operations and our credit card receivables portfolio. We plan to continue to
increase our credit card receivables portfolio. We may not be able to manage the
following factors that affect our growth:
- growth in both existing and new account balances;
- the degree to which we lose accounts and account balances to competing
credit card issuers;
- levels of delinquencies and credit losses;
- the availability of funding, including securitizations, on favorable
terms;
- our ability to attract new clients through originations or portfolio
purchases;
- the level of costs of soliciting new clients;
- the level of response to our solicitations;
- our ability to employ and train new personnel;
- our ability to maintain adequate management systems, collection
procedures, internal controls and automated systems; and
- general economic and other factors beyond our control.
WE MAY NOT SUCCESSFULLY EVALUATE THE CREDITWORTHINESS OF OUR CLIENTS AND MAY NOT
PRICE OUR CREDIT PRODUCTS SO AS TO REMAIN PROFITABLE.
We may not successfully evaluate the creditworthiness of our clients and may
not price our credit products so as to remain profitable. Our target market
generally has a higher risk of nonpayment, higher frequencies of delinquencies
and higher credit losses than consumers who are served by more traditional
providers of consumer credit. Some of the consumers included in our target
market are consumers who are dependent upon finance companies, consumers with
only retail store credit cards and/or lacking general purpose credit cards,
consumers who may have had a delinquency, a default or, in some instances, a
bankruptcy in their credit histories, but have, in our view, demonstrated
recovery, and consumers who are establishing or expanding their credit.
LACK OF SEASONING OF OUR CREDIT CARD PORTFOLIO MAY RESULT IN INCREASED
DELINQUENCIES AND DEFAULTS.
A portfolio of older accounts generally behaves more predictably than a
newly originated portfolio. As of December 31, 1999, 73.2% of our total
portfolio was originated receivables and most of these originated receivables
were less than two years old. In general, as the average age of an originated
credit card receivables portfolio increases, delinquency and charge-off rates
can be expected to increase and then stabilize. As a result, we expect the
overall delinquency and charge-off rates on our originated portfolio to
fluctuate as we add new accounts and to increase as the average age of our
originated accounts increases.
16
Any increases in delinquencies and charge-offs beyond our expectations will
impair the value of our retained interests in the securitization transactions,
may reduce the funds available for our future growth and may hinder our ability
to complete other securitizations in the future.
WE MAY BE REQUIRED TO PAY TO INVESTORS IN OUR SECURITIZATIONS AN AMOUNT EQUAL TO
THE AMOUNT OF SECURITIZED RECEIVABLES IF REPRESENTATIONS AND WARRANTIES MADE
TO US BY SELLERS OF THE RECEIVABLES ARE INACCURATE.
The representations and warranties made to us by sellers of receivables we
purchased may be inaccurate. We rely on these representations and warranties
when we make our own representations and warranties to investors in the
securitizations of these receivables. If we rely on an inaccurate representation
or warranty made by a seller, we may be required to pay to the investors an
amount equal to the amount of the securitized receivables. Although we have
rights to indemnification by the sellers of the receivables for some of the
payments we must make to investors in our securitizations and may obtain similar
indemnification rights from sellers of portfolios purchased in the future, we
may not be able to enforce our indemnification rights. Additionally, these
indemnification rights, if enforceable, may not be sufficient in each case to
reimburse us fully for any of these payments.
SEASONAL CONSUMER SPENDING MAY RESULT IN FLUCTUATIONS IN OUR NET INCOME.
Our quarterly income may substantially fluctuate as a result of seasonal
consumer spending. In particular, our clients may charge more and carry higher
balances during the year-end holiday season and before the beginning of the
school year, resulting in corresponding increases in managed loans and
receivables securitized during those periods.
DEPARTURE OF KEY PERSONNEL COULD HARM OUR OPERATIONS.
We depend upon the skills and experience of our executive officers. We have
entered into employment agreements with our executive officers, which contain
confidentiality and non-compete provisions, but we cannot assure you that these
persons will not leave us to pursue other opportunities. The loss of the
services of David G. Hanna, our President, Richard W. Gilbert, our Chief
Operating Officer, Brett M. Samsky, our Chief Financial Officer, or Richard R.
House, Jr., our Chief Credit Officer, could harm our operations. We do not
maintain key-man life insurance on any executive officer.
INCREASES IN INTEREST RATES MAY INCREASE OUR COST OF FUNDS AND MAY REDUCE THE
PAYMENT PERFORMANCE OF OUR CLIENTS.
Increases in interest rates may increase our cost of funds, which could
significantly affect our results of operations and financial condition. Our
credit card accounts have variable interest rates. Significant increases in
these variable interest rates may reduce the payment performance of our clients.
UNPREDICTABLE ECONOMIC AND OTHER FACTORS COULD REDUCE CREDIT CARD USAGE AND
INCREASE CREDIT LOSSES.
Because our business is directly related to consumer spending, any sustained
period of economic slowdown or recession could harm our results of operations or
financial condition. During periods of economic slowdown or recession, we expect
to experience a decreased demand for our products and services and an increase
in rates of delinquencies and the frequency and severity of credit losses. Our
actual rates of delinquencies and frequency and severity of credit losses may be
higher in the future under adverse economic conditions than those experienced in
the consumer finance industry generally because of our focus on the underserved
market. Moreover, because we have not experienced adverse general economic
conditions since we began originating accounts, we may not accurately anticipate
the effect of adverse economic conditions on the delinquency and credit loss
rates on our accounts. There is also a risk that, regardless of general economic
conditions, increasing numbers of credit cardholders may default on
17
the payment of their outstanding balances or seek protection under bankruptcy
laws, and that fraud by cardholders and third parties will increase.
CONSUMER PROTECTION LAWS MAY MAKE COLLECTION OF CREDIT CARD ACCOUNT BALANCES
MORE DIFFICULT OR MAY EXPOSE US TO THE RISK OF LITIGATION.
Any failure to comply with legal requirements by Columbus Bank and Trust, as
the issuer of the Aspire credit card, or by us or Columbus Bank and Trust, as
the servicer of the Aspire credit card accounts, could significantly impair our
ability or the ability of Columbus Bank and Trust to collect the full amount of
the credit card account balances and may expose us or Columbus Bank and Trust to
the risk of litigation under state and federal consumer protection statutes,
rules and regulations. Our operations and the operations of Columbus Bank and
Trust are regulated by federal, state and local government authorities and are
subject to various laws, rules and regulations, as well as judicial and
administrative decisions imposing requirements and restrictions on our business.
Due to the consumer-oriented nature of the credit industry, there is a risk that
we or other industry participants may be named as defendants in litigation
involving alleged violations of federal and state laws and regulations,
including consumer protection laws. The institution of any litigation of this
nature or any judgment against us or any other industry participant in any
litigation of this nature could adversely affect our business and financial
condition in a variety of ways. For more information regarding consumer and
debtor protection laws applicable to us and Columbus Bank and Trust, see
"Item 1. Business--Consumer and Debtor Protection Laws and Regulations."
CHANGES IN LAW MAY INCREASE OUR CREDIT LOSSES AND ADMINISTRATIVE EXPENSES,
RESTRICT THE AMOUNT OF INTEREST AND OTHER CHARGES IMPOSED ON THE CREDIT CARD
ACCOUNTS OR LIMIT OUR ABILITY TO MAKE CHANGES TO EXISTING ACCOUNTS.
Numerous legislative and regulatory proposals are advanced each year which,
if adopted, could harm our profitability or limit the manner in which we conduct
our activities. Changes in federal and state bankruptcy and debtor relief laws
may increase our credit losses and administrative expenses. More restrictive
laws, rules and regulations may be adopted in the future which could make
compliance more difficult or expensive, further restrict the amount of interest
and other charges imposed on credit card accounts we originated or marketed,
limit our ability to make changes to the terms on existing accounts or otherwise
significantly harm our business.
IF WE OBTAIN A BANK CHARTER, ANY CHANGES IN APPLICABLE STATE OR FEDERAL LAWS
COULD ADVERSELY AFFECT OUR BUSINESS.
If we obtain a bank charter, we will be subject to the various state and
federal regulations generally applicable to similar institutions, including
restrictions on the ability of the banking subsidiary to pay dividends to us. We
are unable to predict the effect of any future changes of applicable state and
federal laws or regulations, but such changes could adversely affect the bank's
business and operations.
INTENSE COMPETITION FOR CREDIT CARD CUSTOMERS MAY CAUSE US TO LOSE ACCOUNTS OR
ACCOUNT BALANCES TO COMPETITORS.
We may lose entire accounts, or may lose account balances, to competing card
issuers that offer lower interest rates and fees or other more attractive terms
or features. We believe that clients choose credit card issuers largely on the
basis of interest rates, fees, credit limits and other product features. For
this reason, client loyalty is often limited. Our future growth depends largely
upon the success of our marketing programs and strategies. Our credit card
business competes with national, regional and local bank card issuers and with
other general purpose credit card issuers, including American Express*,
Discover* and issuers of Visa* and MasterCard* credit cards. Some of these
competitors may already use or may begin using many of the programs and
strategies that we have used to attract new accounts. In addition, many of our
competitors are substantially larger than we are and have greater financial
resources. The recently
18
enacted Gramm-Leach-Bliley Act of 1999, which permits the affiliation of
commercial banks, insurance companies and securities firms, may increase the
level of competition in the financial services market, including the credit card
business. See "Item 1. Business--Competition."
ADVERSE PUBLICITY MAY IMPAIR ACCEPTANCE OF OUR PRODUCTS.
Critics of the credit card industry have in the past focused on marketing
practices that they claim encourage consumers to borrow more money than they
should, as well as on pricing practices that they claim are either confusing or
result in prices that are too high. Increased criticism of the industry or
criticism of us in the future could hurt client acceptance of our products or
lead to changes in the law or regulatory environment, either of which would
significantly harm our business.
OUR SOFTWARE SYSTEMS AND THE SOFTWARE SYSTEMS OF OUR OUTSIDE VENDORS MAY BE
HAMPERED BY DEFICIENCIES RELATING TO THE YEAR 2000 PROBLEM.
Our software systems and the software systems of our outside vendors may be
hampered by deficiencies relating generally to formatting and date calculations
stemming from the year 2000, commonly known as the year 2000 problem. Any
failure of our software systems or the software systems of our outside vendors
may significantly impair our business. As of March 1, 2000, we have not
experienced any significant year 2000 problems, and we are not aware of any year
2000 problems experienced by our outside vendors that have significantly
affected us; however, the existence, nature and scope of any year 2000 problems
that we or our outside vendors may experience cannot be accurately predicted at
this time. To the extent that any year 2000 problems associated with our
software systems and the systems of our vendors are more extensive than
management currently anticipates, correction of these problems could
significantly harm our results of operations or financial condition.
For more detailed information on year 2000 problems, see "Item 7.
Management's Discussion and Analysis of Financial Condition and Results of
Operations--Year 2000."
DUE TO THE LACK OF HISTORICAL EXPERIENCE WITH INTERNET CLIENTS, WE MAY NOT BE
ABLE TO SUCCESSFULLY TARGET THESE CLIENTS OR EVALUATE THEIR CREDITWORTHINESS.
There is less historical experience with respect to the credit risk and
performance of credit card clients acquired over the Internet. As part of our
growth strategy, we may expand our origination of credit card accounts over the
Internet. We may not be able to successfully target and evaluate the
creditworthiness of these potential clients. Therefore, we may encounter
difficulties managing the expected delinquencies and losses and appropriately
pricing our products. To the extent that we rely on the Internet for new account
growth, we could experience any or all of the following:
- a greater number of cardholder payment defaults or other unfavorable
payment behavior;
- an increase in fraud by our cardholders and third parties; and
- changes in the traditional patterns of cardholder loyalty and usage.
Moreover, general economic factors, such as the rate of inflation,
unemployment levels and interest rates may affect these clients more severely
than other market segments, which could increase our delinquencies and losses.
INTERNET SECURITY BREACHES COULD DAMAGE OUR REPUTATION AND BUSINESS.
Internet security breaches could damage our reputation and business. As part
of our growth strategy, we may expand our origination of credit card accounts
over the Internet. The secure transmission of confidential information over the
Internet is essential to maintaining consumer confidence in our products and
services offered over the Internet. Advances in computer capabilities, new
discoveries or other
19
developments could result in a compromise or breach of the technology used by us
to protect customer application and transaction data transmitted over the
Internet. Security breaches could damage our reputation and expose us to a risk
of loss or litigation. Our insurance policies may not be adequate to reimburse
us for losses caused by security breaches. Moreover, consumers generally are
concerned with security and privacy on the Internet, and any publicized security
problems could inhibit the growth of the Internet as a means of conducting
commercial transactions. Our ability to solicit new account holders over the
Internet would be severely impeded if consumers become unwilling to transmit
confidential information online.
ITEM 2. PROPERTIES
Our principal executive offices, comprising approximately 23,000 square
feet, and our operations centers and collection facilities, comprising
approximately 36,000 square feet, are located in leased premises in Atlanta,
Georgia. We believe that our facilities are suitable to our businesses and that
we will be able to lease or purchase additional facilities as our needs require.
ITEM 3. LEGAL PROCEEDINGS
We are not a party to any legal proceeding that management believes is
reasonably likely to have a material adverse effect on CompuCredit's financial
position or results of operations. We could become involved in litigation from
time to time relating to claims arising out of the ordinary course of business.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of security holders during the quarter
ended December 31, 1999.
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED SHAREHOLDER MATTERS
Our common stock has traded on the Nasdaq National Market under the symbol
"CCRT" since our initial public offering in April 1999. The following table sets
forth, for the periods indicated, the high and low sales prices per share of our
common stock as reported on the Nasdaq National Market. As of January 4, 2000,
there were approximately 37 holders of our common stock, not including persons
whose stock is held in nominee or "street name" accounts through brokers.
1999 HIGH LOW
- ---- ----------- -----------
2nd Quarter (April 23, 1999 through June 30, 1999).......... 21 1/8 12 1/8
3rd Quarter................................................. 25 5/8 16 1/4
4th Quarter................................................. 39 1/16 18 3/8
The closing price of our common stock on the Nasdaq National Market on
March 15, 2000 was 35 7/8. We have never declared or paid cash dividends on our
common stock and do not anticipate paying a cash dividend on our common stock in
the foreseeable future. We currently are prohibited from paying cash dividends
on our common stock by our revolving credit agreement. See "Item 7. Management's
Discussion and Analysis of Financial Condition and Results of Operations --
Liquidity, Funding and Capital Resources."
20
ITEM 6. SELECTED FINANCIAL DATA
The following table sets forth, for the periods indicated, certain selected
consolidated financial and other data for CompuCredit. You should read the
selected consolidated financial and other data below in conjunction with our
consolidated financial statements and the related notes and with "Item 7.
Management's Discussion and Analysis of Financial Condition and Results of
Operations" included elsewhere in this Form 10-K. We have derived the following
selected financial data, except for the selected credit card data, for the years
ended December 31, 1999, 1998 and 1997 and the period from our inception on
August 14, 1996 to December 31, 1996 from our audited consolidated financial
statements, which have been audited by Ernst & Young LLP, independent auditors.
In August 1997, we began securitizing our credit card receivables. In each
securitization, we receive cash, retain interests in the receivables that are
sold, and have limited rights to receive cash in the future as the sold
receivables are collected. We remove the sold receivables from our balance sheet
and record a gain on the sale. The gain represents the estimated net present
value of the cash flows we expect to receive in the future. Our balance sheet
includes the retained interests and the estimated net present value of the
expected cash flows. These amounts are classified on the balance sheet as
"Retained Interests in Credit Card Receivables Securitized." The securitization
transactions do not affect the relationship that we have with our clients, and
we continue to service the credit card receivables. We analyze our financial
performance on a "managed loan" portfolio basis, as if the receivables
securitized were still on our balance sheet because the performance of those
receivables will affect the future cash flows we actually receive on the
receivables. The information in the following table under "Selected Credit Card
Data" is presented on this managed loan basis.
During 1998, we purchased two portfolios of credit card receivables at
substantial discounts from the face amount of the credit card receivables
outstanding. The discounts totaled $284.5 million at the time of purchase. A
portion of the discount relates to receivables we identified as being at or near
charge-off at the time of purchase. There were approximately 52,000 of these
accounts, representing 25.9% of the accounts purchased, with $137.2 million of
outstanding receivables at the time of purchase. We have excluded these
receivables from all managed loan data presented in this Annual Report on
Form 10-K We have divided the remaining portion of the $284.5 million discount
into two components. The first component of approximately $87.5 million relates
to the credit quality of the remaining receivables in the portfolios and
reflects the difference between the purchased face amount of the receivables and
the future cash collections that our management expects to receive from the
receivables. For purposes of reporting pro forma charge-off ratios on managed
loans, we have used this discount related to credit quality to offset a portion
of actual net charge-offs. The second component of the remaining discount, which
was approximately $59.8 million, is unrelated to the credit quality of the
receivables, and this component is being added into interest income for purposes
of managed loan reporting.
The net interest margins presented below under "Selected Credit Card Data"
include our net interest and late fee income on a managed loan basis less actual
cost of funds on an annualized basis. These net interest margins also take into
account all costs associated with asset securitizations, including the interest
paid to the investors and the amortization of the portion of the discount on our
purchased portfolio that is in excess of discounts related to credit quality.
The net charge-off ratios presented below reflect actual principal amounts
charged off, less recoveries, as a percentage of average managed loans on an
annualized basis. The delinquency ratios presented below represent credit card
receivables that were at least 60 days past due at the end of the period.
21
PERIOD FROM YEAR ENDED DECEMBER 31,
AUGUST 14, 1996 TO ------------------------------
DECEMBER 31, 1996 1997 1998 1999
------------------ -------- -------- --------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
STATEMENT OF OPERATIONS DATA:
Interest income............................... $ -- $ 2,658 $ 256 $ 2,094
Interest expense.............................. -- 361 536 --
----- ------- -------- --------
Net interest income (expense)............... -- 2,297 (280) 2,094
Provision for loan losses..................... -- 1,422 -- --
Securitization income......................... -- 628 13,596 12,470
Income from retained interests in credit card
receivables securitized..................... -- -- 25,483 88,800
Other operating income........................ -- 1,383 19,237 45,413
Other operating expense....................... 148 3,611 17,127 55,499
----- ------- -------- --------
Income (loss) before income taxes........... (148) (725) 40,909 93,278
Income taxes.................................. -- -- (15,479) (34,267)
----- ------- -------- --------
Net income (loss)............................. $(148) $ (725) $ 25,430 $ 59,011
===== ======= ======== ========
Net income (loss) attributable to common
shareholders................................ n/a $(1,341) $ 23,630 $ 58,429
======= ======== ========
Net income (loss) per share................... n/a $ (0.04) $ 0.74 $ 1.55
======= ======== ========
AT DECEMBER 31,
-----------------------------------------
1996 1997 1998 1999
-------- -------- -------- --------
(IN THOUSANDS)
BALANCE SHEET DATA:
Retained interests in credit card receivables
securitized............................................. $ -- $15,037 $65,184 $165,572
Total assets.............................................. 253 20,215 87,583 223,858
Shareholders' equity...................................... 152 19,127 54,510 176,363
AT OR FOR THE
PERIOD FROM YEAR ENDED DECEMBER 31,
AUGUST 14, 1996 TO ------------------------------
DECEMBER 31, 1996 1997 1998 1999
------------------ -------- -------- --------
(IN THOUSANDS, EXCEPT PERCENTAGES)
SELECTED CREDIT CARD DATA:
Total average managed loans.................. $ -- $11,151 $306,706 $589,820
Period-end total managed loans............... $ -- $27,899 $503,985 $898,691
Period-end total managed accounts............ -- 45 343 1,181
Net interest margin.......................... --% 19.4% 19.9% 22.1%
Net charge-off ratio......................... -- 3.6 13.2 13.3
Pro forma charge-off ratio................... -- 3.6 3.4 4.6
Delinquency ratio............................ -- 5.3 8.6 6.4
22
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
THE FOLLOWING DISCUSSION SHOULD BE READ IN CONJUNCTION WITH
"ITEM 6--SELECTED FINANCIAL DATA" AND OUR CONSOLIDATED FINANCIAL STATEMENTS AND
THE RELATED NOTES INCLUDED HEREIN.
GENERAL
CompuCredit is a credit card company that originates and purchases credit
card receivables and markets products and services to its clients for which it
earns fees. In June 1999, we established a marketing presence on the Internet by
entering into a marketing agreement with The LendingTree, Inc., an online loan
marketplace. Additionally, in July 1999, we launched our website
WWW.ASPIRECARD.COM through our wholly-owned subsidiary AspireCard.com, Inc.
Applications received via the Internet are electronically processed on a
real-time basis using the same credit and target marketing strategies that are
applied to our direct mail and telemarketing campaigns.
Consumer credit product revenues consist of (1) interest income on
outstanding revolving credit card receivables, (2) credit card fees, including
annual membership, cash advance, over-limit, past-due and other credit card
fees, and (3) interchange fees, which are the portion of the merchant fee
assessed by Visa and passed on to us on the purchase volume on our credit card
receivables. Non-interest income includes securitization income, income from
retained interests in credit card receivables securitized, servicing income and
fee-based product revenues. The expenses relating to consumer credit products
are typically the costs of funding our receivables, credit losses and operating
expenses, including employee compensation, account solicitation and marketing
expenses, data processing and servicing expenses.
This Management's Discussion and Analysis of Financial Condition and Results
of Operations includes forward-looking statements. We have based these
forward-looking statements on our current plans, expectations and beliefs about
future events. In light of the risks, uncertainties and assumptions discussed
under the caption "Risk Factors" in "Item 1. Business" of this Annual Report on
Form 10-K and other factors discussed in this section, there is a risk that our
actual experience will differ from the expectations and beliefs reflected in the
forward-looking statements in this section. See "Cautionary Notice Regarding
Forward-Looking Statements."
CREDIT CARD SECURITIZATIONS
We have securitized a substantial portion of our credit card receivables.
Our securitization transactions involve the sale of our credit card receivables
to a separate entity. The entity is either a corporation or a trust that has
been created by us exclusively to purchase receivables. The entity purchases the
receivables from us using cash generated from selling interests in the
receivables to investors. The investors in our securitization transactions are
commercial paper conduits administered by major banking institutions. A
commercial paper conduit is a company that issues short-term debt securities
backed by financial assets such as credit card receivables.
We have entered into agreements with investors which specify the conditions
and price of each sale including the total amount of receivables the investor is
committing to purchase from us. The agreements include terms and conditions that
are similar to those included in bank loan agreements and define our duties to
service the securitized receivables. We are required by the agreements to remit
collections on the receivables to the investors in the securitizations. The
agreements also include representations and warranties regarding the receivables
and financial performance measures that must be met in order for us to continue
to securitize receivables and in order for us to receive any additional cash
from the collections of the receivables.
After an initial purchase by the investors, there is usually a period during
which collections from the receivables are used to purchase new receivables.
This is referred to as a revolving period. At the end of
23
the revolving period, the investment of collections in new receivables ends and
collections are instead used to repay the investors. The period during which
investors are being repaid is referred to as an amortization period. The
amortization period may begin at a specific point in time determined under the
agreements or it may be caused by specified events including deterioration in
the quality of the receivables purchased or a material adverse change in our
financial condition. A breach of a representation or warranty made by us could
also cause an amortization period to begin.
The investors in the securitizations require us to provide credit support
for the receivables to reduce the risk of loss to the investors resulting from
cardholders not repaying their credit card balances when due. We negotiate with
each investor the amount of the credit support, which is based on historical and
expected delinquency and loss experience on the receivables. The credit support
is usually in the form of overcollateralization, which means that we sell the
receivables for less than, or at a discount from, their outstanding balances. As
a result, the receivables available to repay the investors exceed the total
amount of the investors' interests in the receivables. This excess is the
retained interest that we own. The investors in the securitized receivables have
no recourse against us for our cardholders' failure to pay their credit card
loans; however, most of our retained interests are subordinated to the
investors' interests until the investors have been fully repaid. This means that
our retained interests will first absorb any losses due to cardholders' failure
to repay their balances before investors in the securitizations have to absorb
these losses.
We will receive additional cash from the securitized receivables if
collections from the receivables exceed required interest and principal payments
to the investors. The collections from the receivables depend on the performance
of the receivables, which includes the timing and amount of payments on the
receivables, the interest rates, fees and other charges paid on the receivables,
and their delinquency and loss rates.
In each securitization, we receive cash, retain an interest in the
receivables that are securitized, and have rights to receive cash in the future
as the securitized receivables are collected. The future cash flows are commonly
referred to as interest-only strips. Although we continue to service the
underlying credit card receivables and maintain the client relationships, these
transactions are treated as sales under generally accepted accounting principles
and the securitized receivables are not reflected on our consolidated balance
sheet. The retained interests and the interest-only strips are included in
Retained Interests in Credit Card Receivables Securitized. Amounts Due from
Securitization on our balance sheet include payments recently received on the
securitized receivables that are still held by the securitization structure but
are payable to us in the next 30 days.
We have adopted Statement of Financial Accounting Standards No. 125,
"Accounting for Transfers and Servicing of Financial Assets and Extinguishments
of Liabilities" for all of our securitization transactions. Under Statement
No. 125, gains are recognized at the time of each sale. These gains are based on
the estimated fair value of the retained interests, which are based on the
estimated present value of the cash flows we expect to receive over the
estimated outstanding life of the receivables. The expected cash flows are based
on estimates of finance charges and late fees, servicing fees, costs of funds
paid to investors, payment rates, credit losses, and required amortization
payments to investors.
Retained Interests in Credit Card Receivables Securitized on our balance
sheet are calculated in accordance with the provisions of Statement No. 125.
These retained interests are subsequently accounted for as trading securities
and reported at estimated fair market value with changes in fair value included
in income in accordance with Statement of Financial Accounting Standards No.
115, "Accounting for Certain Investments in Debt and Equity Securities."
Estimates used in the determination of the gains and the related fair values of
interest-only strips and retained ownership interests are influenced by factors
outside our control, and, as a result, these estimates could materially change.
The securitization transactions do not affect the relationship we have with
our clients, and we continue to service the credit card receivables. As of
December 31, 1999, we received servicing fees equal
24
to either the cost of servicing the portfolio plus 0.1% per year of the
securitized principal receivables or 5% of cash collected, depending on the
securitization. We either provide the servicing or contract with third party
service providers.
The table below summarizes our securitization activity.
YEAR ENDED DECEMBER 31,
------------------------------
1997 1998 1999
-------- -------- --------
(IN THOUSANDS)
Proceeds from securitizations............................... $12,650 $402,272 $448,230
Excess cash flows received on retained interests............ 995 36,667 92,804
Pretax securitization income................................ 628 13,596 12,470
Finance charges and past due fees collected in excess of servicing fees and
periodic interest payments are available to absorb the investors' share of
credit losses. Investors bear the risk of credit losses on the underlying
receivables to the extent that credit losses, servicing fees and periodic
interest payments required by the investors exceed finance charges and past due
fees earned on the receivables and our retained interests in the receivables
pool. Investors in our securitization programs are generally entitled to receive
principal payments either through monthly payments during an amortization period
or in one lump sum from the proceeds of issuances of additional certificates or
participation interests in the receivables pool.
As additional credit support on our securitization structures associated
with our purchased receivables, we pay a portion of the excess cash collected to
the investors as an accelerated amortization payment. We did not have purchased
receivables for the year ended December 31, 1997. This excess cash totaled $29.5
million for the year ended December 31, 1998 and $42.1 million for the year
ended December 31, 1999. The increase in 1999 is due to the timing of our
purchases of receivables. We purchased our first portfolio of receivables during
the three months ended June 30, 1998, and thus did not receive or pay to the
investors any excess cash until that period. Once the investors are repaid, any
remaining receivables and funds held in the buying entity are payable to us. In
each securitization transaction, we retain the risk of compliance with federal
and state laws and regulations regarding the securitized accounts and any
fraudulent activity with regard to such accounts.
MANAGED LOAN PORTFOLIO
We analyze our financial performance on a "managed loan" portfolio basis, as
if the receivables securitized were still on our balance sheet, because the
performance of our securitized receivables will affect the future cash flows we
actually receive on the receivables.
The table set forth below indicates our net interest margin and our
operating ratio on a managed loan basis. The table also indicates the ending and
average managed loans and the number of managed accounts. Interest income for us
on a managed loan basis includes all net interest and late fee income on all
outstanding loans less all costs associated with securitizations, including the
interest expense paid to the investors. Our operating ratio includes all
expenses associated with our business on a managed basis, other than marketing
expenses and ancillary product expenses, and is expressed as a percentage of
average managed loans.
During 1998, we purchased two portfolios of credit card receivables with
outstanding receivables balances at the time of purchase of $579.7 million. The
presented managed loan data excludes certain of these receivables and the
related accounts which at the time of purchase were closed accounts in a certain
delinquency status. Management believes that these accounts were either in the
process of being charged off by the seller due to delinquency or were likely to
be charged off in the near term. As a result, management believes that it would
have had very little opportunity to influence the delinquency or default rates
of these accounts prior to charge-off. We therefore excluded these accounts, the
receivables and any
25
activity in the accounts since the date of purchase from any managed loan data
presented. At the time of the purchases, there were approximately 52,000 such
accounts, representing 25.9% of the accounts purchased and $137.2 million of the
$579.7 million outstanding receivables purchased.
The portfolios acquired during 1998 were purchased at substantial discounts.
A portion of the discount at the time of purchase related to the credit quality
of the remaining loans in the portfolio and reflects the difference between the
purchased face amount of the receivables and the future cash collections
management expects to receive with respect to the purchased face amount. The
substantial discount we received on the purchased portfolio exceeds the discount
we ascribed to the credit quality of the purchased receivables. We are reporting
this excess discount as additional interest income over the life of the
portfolio for managed loan reporting and are amortizing it into interest income
using the interest method.
AT OR FOR THE THREE MONTHS ENDED
-----------------------------------------------------------------------
SEPT. 30, DEC. 31, MARCH 31, JUNE 30, SEPT. 30, DEC. 31,
1998 1998 1999 1999 1999 1999
--------- -------- --------- -------- --------- --------
(IN THOUSANDS, EXCEPT PERCENTAGES)
Period-end total managed
loans..................... $406,297 $503,985 $487,747 $526,217 $667,063 $898,691
Period-end total managed
accounts.................. 249 343 382 633 927 1,181
Total average managed loan
portfolio................. $402,751 $449,028 $500,419 $496,859 $592,379 $769,624
Net interest margin on
managed loans,
annualized................ 19.3% 18.9% 19.8% 21.0% 23.1% 23.6%
Operating ratio............. 3.9 7.0 6.6 7.6 9.1 8.7
Our net interest margins are influenced by a number of factors, including
the timing and size of portfolio purchases and the level of our charge-offs.
Purchased portfolios typically have lower interest rates and late fees until we
convert the accounts to Aspire Visa accounts. When we convert accounts to Aspire
Visa accounts, we reprice the accounts to interest rates and fees that are
similar to those on accounts we have originated through our solicitation
process. We typically convert the accounts within six months of purchase.
Fluctuations in our charge-off ratios also affect our net interest margins. At
charge-off, the interest and late fees on an account are deducted from interest
income in the current period.
Our operating ratio includes all costs of operating our business on a
managed loan basis, other than marketing expenses and ancillary product
expenses. Our operating ratio has increased because as our portfolio has grown,
we have spent more on our infrastructure, our collections operations, our
Internet technology and our database management system. These expenses along
with the direct costs of servicing our accounts have increased our operating
ratios during 1998 and 1999.
RESULTS OF OPERATIONS
YEAR ENDED DECEMBER 31, 1999, COMPARED TO YEAR ENDED DECEMBER 31, 1998
Net income for the year ended December 31, 1999 was $59.0 million, or $1.55
per share, an increase of $33.6 million over net income of $25.4 million for the
year ended December 31, 1998. The increase was partially a result of a $63.3
million increase in income from retained interests in credit card receivables
securitized. On February 10, 1999 and October 14, 1999, third party investors
purchased the outstanding undivided interest in some of our securitization
structures for cash. In each case, the price paid by the purchasers exceeded the
amounts required to be paid to the selling investors, which was limited to the
selling investors' outstanding investment, accrued interest and unpaid fees. In
the February 1999 transaction, the excess totaled $30.1 million, of which $5.0
million was deposited into a reserve account to serve as a credit enhancement
that was required by the new investors. The remaining $25.1 million was remitted
to
26
our wholly owned subsidiary created in connection with the securitization. In
October 1999, excess cash totaling $53.7 million was remitted to our wholly
owned subsidiaries. This amount exceeded the change in our retained interests in
credit card receivables securitized by $18.1 million, and the excess was
recorded as income from retained interests in credit card receivables
securitized.
The changes in operating results were also largely attributable to the
growth in managed loans from $504.0 million at December 31, 1998 to $898.7
million at December 31, 1999. The increase in managed loans was the result of
direct mail and telemarketing campaigns.
Other operating income, excluding securitization income and income from
retained interests in credit card receivables securitized, increased $26.2
million from $19.2 million for the year ended December 31, 1998 to $45.4 million
for the year ended December 31, 1999. The increase is primarily due to the
increase in customer purchases of our fee-based products and the increase in
managed loans, which resulted in increases in interchange fees and other credit
card fees, which include annual membership, over-limit and cash advance fees.
Other operating expenses increased to $55.5 million for the year ended
December 31, 1999, from $17.1 million for the year ended December 31, 1998.
These increases primarily reflect the increase in the cost of operations
associated with the growth in our business, including additional marketing and
solicitation expenses and additional credit card servicing costs.
YEAR ENDED DECEMBER 31, 1998, COMPARED TO YEAR ENDED DECEMBER 31, 1997
Net income for the year ended December 31, 1998 was $25.4 million, an
increase of $26.1 million over a net loss of $725,000 for 1997. The increase in
net income was the result of increases in securitization income of $13.0
million, income from retained interests in credit card receivables securitized
of $25.5 million and other operating income of $17.8 million. These increases
were largely attributable to the growth in managed loans from $27.9 million at
December 31, 1997 to $504.0 million at December 31, 1998. The increase in
managed loans was the result of portfolio purchases completed in 1998, as well
as direct mail and telemarketing campaigns. The increases in income were
partially offset by increases in other operating expenses of $13.5 million and
income tax expense of $15.5 million.
Other operating income increased $17.8 million from $1.4 million for 1997 to
$19.2 million for 1998, primarily due to a $12.5 million increase in servicing
income and a $3.3 million increase in other credit card fees.
Other operating expenses increased to $17.1 million for 1998, from $3.6
million for 1997. This increase primarily reflects the increase in the cost of
operations associated with the growth in our business, including $5.8 million of
additional marketing and solicitation expenses and $3.9 million of additional
credit card servicing costs incurred during 1998.
INTEREST INCOME AND INTEREST EXPENSE
Net interest income consists of interest income earned on cash and cash
equivalents, interest and late fees earned on our owned credit card receivables
prior to securitizations, less interest expense on borrowings to fund those
receivables. Prior to August 1997, we earned interest income on all outstanding
credit card receivables. Interest income totaled $2.7 million for the year ended
December 31, 1997. In August 1997, we began securitizing substantially all of
our credit card receivables. The securitization results in the removal of the
receivables from our balance sheet for financial reporting purposes. Interest
income totaled $2.1 million for the year ended December 31, 1999 and $256,000
for the year ended December 31, 1998. The increase in interest income is
attributable to the investing of the cash proceeds we received from our initial
public offering and cash generated through operations during 1999.
We did not incur interest expense during 1999. Interest expense for the year
ended December 31, 1998 increased to $536,000 from $361,000 for 1997. In April
1998, we entered into a promissory note with a
27
related party in the face amount of $13.0 million. In July 1998, the note and
all accrued interest were paid in full. Interest expense for the year ended
December 31, 1997 totaled $361,000 related to short-term borrowings that were
paid in full in August 1997.
NET SECURITIZATION INCOME
Net securitization income includes gains representing the estimated present
value at the time of initial securitization of cash flows we expect to receive
over the estimated life of the receivables securitized. The present value of the
cash flows is estimated in the same manner as described below in "--Income from
Retained Interests in Credit Card Receivables Securitized." Securitization
income is recognized at the time of the initial securitization. Net
securitization income for the year ended December 31, 1999 was $12.5 million
compared to $13.6 million for the year ended December 31, 1998. The purchase and
securitization of two portfolios of credit card receivables during 1998
contributed to the higher income in 1998. Net securitization income was $628,000
for the year ended December 31, 1997. The change in our net securitization
income from year to year is due to the change in the volume of credit card
receivables securitized.
INCOME FROM RETAINED INTERESTS IN CREDIT CARD RECEIVABLES SECURITIZED
Retained Interests in Credit Card Receivables Securitized are calculated in
accordance with the provisions of Statement No. 125. These retained interests
are subsequently accounted for as trading securities and reported at estimated
fair market value in accordance with Statement of Financial Accounting Standards
No. 115, "Accounting for Certain Investments in Debt and Equity Securities." We
receive cash flows relating to these retained interests equal to the finance
charges and past due fees in excess of the sum of the return paid to investors,
estimated contractual servicing fees, credit losses and required amortization
payments to investors. This cash flow received on our retained interests and
changes in the fair value of the retained interests is recorded as Income from
Retained Interests in Credit Card Receivables Securitized in accordance with
Statement No. 115. Since quoted market prices are generally not available, the
fair value is based on the estimated present value of future cash flows using
management's best estimates of finance charges and late fees, servicing fees,
costs of funds paid to investors, payment rates, credit losses, and required
amortization payments to investors. The weighted average key assumptions used to
estimate the fair value of our retained interests as of the end of each period
are presented below. Changes in any of these assumptions could impact the
estimates of the fair value of the retained interests as well as the realization
of expected future cash flows:
AT DECEMBER 31,
------------------------------
1997 1998 1999
-------- -------- --------
Payment rate (monthly).................................... 8.1% 5.5% 7.9%
Expected credit loss rate (annualized).................... 5.8 15.1 11.0
Residual cash flows discount rate......................... 12.0 25.3 18.7
The changes in the weighted average assumptions from December 31, 1997 to
December 31, 1998 are primarily due to the two portfolio purchases that occurred
subsequent to December 31, 1997. Management believes these two portfolios will
have lower payment rates and higher credit losses as compared to the receivables
that were securitized as of December 31, 1997. Management also uses higher
discount rates for the expected cash flows associated with the purchased
portfolios. The changes in the weighted average assumptions from December 31,
1998 to December 31, 1999 are primarily due to the change in the mix of our
originated and purchased receivables. Since the receivables we originated have
historically performed better than the purchased portfolio, the significant
growth experienced in the originated portfolio has caused the weighted average
assumptions to improve as of December 31, 1999. The discount rates are based on
management's estimates of returns that would be required by investors in an
investment with similar terms and credit quality. Interest rates received on the
credit card receivables are estimated based
28
on the stated annual percentage rates in the credit card agreements. Estimated
default and payment rates are based on historical results, adjusted for expected
changes based on our credit risk models. The returns to the investors in the
securitizations are based on management's estimates of forward yield curves.
OTHER OPERATING INCOME
Other operating income, excluding securitization income and income from
retained interests in credit card receivables securitized, consists of the
following for the periods indicated:
YEAR ENDED DECEMBER 31,
------------------------------
1997 1998 1999
-------- -------- --------
(IN THOUSANDS)
Servicing income.................................. $ -- $12,541 $ 8,893
Other credit card fees............................ 911 4,193 19,506
Interchange fees.................................. 279 1,865 9,202
Ancillary products................................ 37 638 7,812
Other............................................. 156 -- --
------ ------- -------
Total other operating income.................. $1,383 $19,237 $45,413
====== ======= =======
The increase in other operating income to $45.4 million for the year ended
December 31, 1999 relates to the growth in our managed loan portfolio since
December 31, 1998. Our managed loans grew from $504.0 million at December 31,
1998 to $898.7 million at December 31, 1999. We had operating income of only
$1.4 million for the year ended December 31, 1997. The significant increase in
other operating income to $19.2 million for 1998 relates to the growth in our
managed loan portfolio during 1998. Our managed loans grew from $27.9 million at
December 31, 1997 to $504.0 million at December 31, 1998. We service the credit
card receivables that have been securitized and recognize servicing income. A
substantial portion of the servicing income relates to our purchased portfolios.
As the size of these purchased portfolios decreases, there is a corresponding
decrease in servicing income. Other credit card fees include credit card fees
such as annual membership, over-limit and cash advance fees. Interchange fees
are the portion of the merchant fee assessed by Visa and passed on to us on the
purchase volume on our credit card receivables. Ancillary product revenues are
associated with the products and services that we market to our clients, and
have increased in 1999 as customer purchases of our fee-based products have
increased.
OTHER OPERATING EXPENSE
Other operating expense consists of the following for the periods indicated:
YEAR ENDED DECEMBER 31,
------------------------------
1997 1998 1999
-------- -------- --------
(IN THOUSANDS)
Salaries and benefits....................................... $ 429 $ 1,172 $ 3,094
Credit card servicing....................................... 1,008 4,948 9,009
Marketing and solicitation.................................. 1,081 6,865 33,234
Professional fees........................................... 252 713 1,660
Data processing............................................. 156 1,437 2,745
Net occupancy............................................... 35 195 737
Ancillary product expense................................... -- 443 2,009
Other....................................................... 650 1,354 3,011
------ ------- -------
Total other operating expense........................... $3,611 $17,127 $55,499
====== ======= =======
Other operating expense for the year ended December 31, 1999 increased to
$55.5 million from $17.1 million for the year ended December 31, 1998 due
primarily to increases in marketing and solicitation and
29
credit card servicing expenses. The increases in operating expenses are due to
the increase in the costs of operations associated with the growth in our
business. Other operating expense for the year ended December 31, 1998 increased
by $13.5 million from $3.6 million for the year ended December 31, 1997 due
primarily to increases in marketing and solicitation, credit card servicing and
data processing expenses. In each case, the increases in operating expenses were
associated with the growth in our credit card receivables. Ancillary product
expenses relate to the products and services that we market to our clients,
including our insurance products, and include expenses associated with claim
reserves and program administrative expenses. Other expenses include
depreciation and other general and administrative costs.
INCOME TAXES
As further described in Note 3 to our consolidated financial statements
included elsewhere in this Annual Report on Form 10-K, CompuCredit was a limited
partnership until CompuCredit merged into a corporation on August 29, 1997. As a
limited partnership, it did not record an income tax provision. Because we did
not have income for the year ended December 31, 1997, we did not record an
income tax provision for that year. We recognized a deferred tax asset for the
year ended December 31, 1997 due to certain tax loss carryforwards, but recorded
a valuation allowance related to the deferred asset, resulting in a net deferred
tax asset of $0.
Income tax expense was $34.3 million for the year ended December 31, 1999
and $15.5 million for the year ended December 31, 1998. Our effective tax rate
was 36.7% for 1999 and 37.8% for 1998.
ASSET QUALITY
Our delinquency and net loan charge-off rates at any point in time reflect
the credit risk of receivables, the average age of our credit card accounts, the
timing of portfolio purchases, the success of our collection and recovery
efforts and general economic conditions. The average age of our credit card
account portfolio affects the stability of delinquency and loss rates of the
portfolio.
Our strategy for managing delinquency and loan losses consists of active
account management throughout the client relationship. This strategy includes
credit line management and pricing based on the risk of the credit card
accounts.
DELINQUENCIES. Delinquencies have the potential to impact net income in the
form of net credit losses which impact the value of our retained interests in
securitizations. Delinquencies are also costly in terms of the personnel and
resources dedicated to resolving them. A credit card account is contractually
delinquent if the minimum payment is not received by the specified date on the
client's statement. It is our policy to continue to accrue interest and fee
income on all credit card accounts, except in limited circumstances, until the
account and all related loans, interest and other fees are charged off. See
"--Net Charge-Offs."
30
The following table presents the delinquency trends of our credit card
receivables portfolio on a managed loan portfolio basis:
SEPTEMBER 30, DECEMBER 31, MARCH 31, JUNE 30,
1998 1998 1999 1999
------------------- ------------------- ------------------- -------------------
% OF % OF % OF % OF
AMOUNT TOTAL AMOUNT TOTAL AMOUNT TOTAL AMOUNT TOTAL
-------- -------- -------- -------- -------- -------- -------- --------
(DOLLARS IN THOUSANDS)
Loans Delinquent:
30 to 59 days.............. $27,186 6.7% $27,819 5.5% $19,624 4.0% $20,506 3.9%
60 to 89 days.............. 17,119 4.2 14,249 2.8 13,227 2.7 12,684 2.4
90 or more................. 25,596 6.3 28,964 5.8 26,725 5.5 21,248 4.0
------- ---- ------- ---- ------- ---- ------- ----
Total 30 or more........... $69,901 17.2% $71,032 14.1% $59,576 12.2% $54,438 10.3%
======= ==== ======= ==== ======= ==== ======= ====
Total 60 or more........... $42,715 10.5% $43,213 8.6% $39,952 8.2% $33,932 6.4%
======= ==== ======= ==== ======= ==== ======= ====
SEPTEMBER 30, DECEMBER 31,
1999 1999
------------------- -------------------
% OF % OF
AMOUNT TOTAL AMOUNT TOTAL
-------- -------- -------- --------
(DOLLARS IN THOUSANDS)
Loans Delinquent:
30 to 59 days.............. $24,127 3.6% $29,700 3.3%
60 to 89 days.............. 16,155 2.4 20,573 2.3
90 or more................. 27,775 4.2 37,061 4.1
------- ---- ------- ---
Total 30 or more........... $68,057 10.2% $87,334 9.7%
======= ==== ======= ===
Total 60 or more........... $43,930 6.6% $57,634 6.4%
======= ==== ======= ===
The following table separately reports our loan delinquency trends for our
originated portfolio and for our purchased portfolio:
SEPTEMBER 30, DECEMBER 31, MARCH 31, JUNE 30, SEPTEMBER 30, DECEMBER 31,
1998 1998 1999 1999 1999 1999
------------- ------------ --------- -------- ------------- ------------
% OF TOTAL
ORIGINATED PORTFOLIO
Loans Delinquent:
30 to 59 days.................. 3.1% 2.5% 2.4% 2.3% 2.4% 2.6%
60 to 89 days.................. 2.2 1.6 1.7 1.5 1.6 1.8
90 or more..................... 4.2 3.9 3.8 3.0 2.6 3.0
---- ---- ---- ---- ---- ----
Total 30 or more................. 9.5% 8.0% 7.9% 6.8% 6.6% 7.4%
==== ==== ==== ==== ==== ====
Total 60 or more................. 6.4% 5.5% 5.5% 4.5% 4.2% 4.8%
==== ==== ==== ==== ==== ====
PURCHASED PORTFOLIO
Loans Delinquent:
30 to 59 days.................. 7.8% 6.6% 4.8% 5.2% 5.4% 5.4%
60 to 89 days.................. 4.8 3.3 3.2 3.2 3.7 3.7
90 or more..................... 7.0 6.5 6.3 4.9 6.5 7.1
---- ---- ---- ---- ---- ----
Total 30 or more................. 19.6% 16.4% 14.3% 13.3% 15.6% 16.2%
==== ==== ==== ==== ==== ====
Total 60 or more................. 11.8% 9.8% 9.5% 8.1% 10.2% 10.8%
==== ==== ==== ==== ==== ====
We purchased a portfolio during the quarter ended June 30, 1998. We
converted the acquired portfolio to Aspire Visa accounts during the third
quarter of 1998 and began using our account management strategies on the
portfolio at that time. Delinquency rates on the purchased portfolio
subsequently improved during the fourth quarter of 1998 and during the first two
quarters of 1999. During the quarters ended September 30, 1999 and December 31,
1999, the purchased portfolio delinquency rates increased as compared to the
previous quarters due to seasonality. We continue to aggressively manage account
activity using behavioral scoring, credit file data and our proprietary risk
evaluation models.
We began originating accounts in February 1997. In general, as the average
age of an originated credit card receivables portfolio increases, delinquency
rates can be expected first to increase and then to stabilize. Due primarily to
the significant growth in new receivables during the three months ended June 30,
1999, and the three months ended September 30, 1999, delinquency rates on our
originated portfolio declined for those periods. During the three months ended
December 31, 1999, delinquency rates on our originated portfolio as compared to
the prior period increased due to seasonality. We are using our
31
account management strategies on our originated portfolio, which are intended to
reduce the expected increase in delinquency rates as our originated portfolio
matures.
NET CHARGE-OFFS. Net charge-offs include the principal amount of losses
from clients unwilling or unable to pay their loan balance, as well as bankrupt
and deceased clients, less current period recoveries. Net charge-offs exclude
accrued finance charges and fees, which are charged against the related income
at the time of charge-off. Losses from fraudulent activity in accounts are also
excluded from net charge-offs and are included separately in other operating
expenses. We generally charge off loans during the period in which the loan
becomes contractually 180 days past due. However, bankrupt accounts and the
accounts of deceased clients without a surviving, contractually liable
individual or an estate large enough to pay the debt in full are charged off
within 30 days of notification of the client's bankruptcy or death.
Approximately $87.5 million of the discount on our portfolio purchases
during 1998 related to the credit quality of the remaining loans in the
portfolio and reflects the difference between the purchased face amount and the
future cash collections management expects to receive with respect to the
purchased face amount. For purposes of reporting pro forma charge-off ratios on
managed loans above, this discount related to credit quality has been utilized
to offset a portion of actual net charge-offs. The following table presents our
net charge-offs for the periods indicated on a managed loan portfolio basis:
FOR THE THREE MONTHS ENDED
----------------------------------------------------------------------------------
SEPTEMBER 30, DECEMBER 31, MARCH 31, JUNE 30, SEPTEMBER 30, DECEMBER 31,
1998 1998 1999 1999 1999 1999
------------- ------------ --------- -------- ------------- ------------
(DOLLARS IN THOUSANDS)
TOTAL MANAGED LOAN PORTFOLIO:
Average managed loan
portfolio.................... $402,751 $449,028 $500,419 $496,859 $592,379 $769,624
Net charge-offs................ 11,833 24,075 20,457 22,723 17,412 17,985
Pro forma net charge-offs...... 3,584 4,883 4,067 5,094 7,353 10,828
Net charge-off ratio
(annualized)................. 11.8% 21.5% 16.4% 18.3% 11.8% 9.3%
Pro forma charge-off ratio
(annualized)................. 3.6 4.3 3.3 4.1 5.0 5.6
As our portfolio continues to mature, we expect charge-off rates to also
increase and then stabilize. Our pro forma charge-off ratio increased to 5.6%
for the fourth quarter of 1999 from 5.0% for the third quarter of 1999 primarily
due to seasoning of our portfolio. We plan to continue to focus our resources on
refining our credit underwriting standards for new accounts and to increase our
focus on collection and post charge-off recovery efforts to minimize losses.
CREDIT LOSSES. For securitized receivables, anticipated credit losses are
reflected in the calculations of net securitization income and income from
retained interests in credit card receivables securitized. In evaluating credit
losses, we take into consideration several factors, including (1) historical
charge-off and recovery activity by receivables portfolio, (2) recent and
expected delinquency and collection trends by receivables portfolio, (3) the
impact of current economic conditions and recent economic trends on the clients'
ability to repay and (4) the risk characteristics of the portfolios.
Substantially all of our credit card receivables have been securitized. As we
have securitized our receivables we have removed them from our balance sheet and
have also relieved any allowance for loan losses on our balance sheet.
INTEREST RATE SENSITIVITY AND MARKET RISK
Interest rate sensitivity is comprised of basis risk, gap risk and market
risk. Basis risk is caused by the difference in the interest rate indices used
to price assets and liabilities. Gap risk is caused by the difference in
repricing intervals between assets and liabilities. Market risk is the risk of
loss from adverse changes in market prices and rates. Our principal market risk
is related to changes in interest rates. This affects us directly in our lending
and borrowing activities, as well as indirectly as interest rates may impact the
payment performance of our clients.
32
We incur basis risk because we fund managed assets at a spread over the
commercial paper rate while the rates on the underlying assets are indexed to
the prime rate. This basis risk results from the potential variability in the
spread between the prime rate and the commercial paper rate over time. We have
not hedged our basis risk due to the cost of hedging this risk versus the
benefits from elimination of this risk.
We attempt to minimize the impact of market interest rate fluctuations on
net interest income and net income by regularly evaluating the risk inherent in
our asset and liability structure, especially our off-balance sheet assets and
liabilities such as securitized receivables. The impact of market interest rate
fluctuations on our securitized receivables is reflected in the valuation of our
retained interests in credit card receivables securitized. This risk arises from
continuous changes in our asset and liability mix, changes in market interest
rates, including changes affected by fluctuations in prevailing interest rates,
payment trends on our interest-earning assets and payment requirements on our
interest-bearing liabilities, and the general timing of all other cash flows. To
manage our direct risk to market interest rates, management actively monitors
market interest rates and the interest sensitive components of our
securitization structures. Management seeks to minimize the impact of changes in
interest rates on the fair value of assets, net income and cash flow primarily
by matching asset and liability repricings. There can be no assurance that
management will be successful in its attempt to manage such risks.
At December 31, 1999, all of our credit card receivables and other
interest-earning assets had variable rate pricing, with receivables carrying
annual percentage rates at a spread over the prime rate, subject to certain
interest rate floors. At December 31, 1999, CompuCredit's securitizations had
$723.8 million in variable rate, interest-bearing liabilities, payable to its
investors. Since both our managed interest-earning assets and our managed
interest-bearing liabilities reprice every 30 days, we believe that the impact
of a change in interest rates would not be material to our financial
performance.
We believe we are not exposed to any material foreign currency exchange rate
risk or commodity price risk.
LIQUIDITY, FUNDING AND CAPITAL RESOURCES
Our goal is to maintain an adequate level of liquidity through active
management of assets and liabilities. Because the characteristics of our assets
and liabilities change, liquidity management is a dynamic process affected by
the pricing and maturity of our assets and liabilities.
A significant source of liquidity for us has been the securitization of
credit card receivables. We received proceeds of $448.2 million during 1999 and
$402.3 million during 1998 from sales of our credit card receivables through
securitizations. We used cash generated from these transactions to fund further
credit card receivables growth.
The maturity terms of our securitizations vary. Once repayment begins,
payments from clients on credit card receivables are accumulated for the special
purpose entities' investors and are no longer reinvested in new credit card
receivables. At that time, our funding requirements for new credit card
receivables will increase accordingly. The occurrence of certain events may also
cause the securitization transactions to amortize earlier than scheduled. In the
case of our master trust, a decline in the portfolio's annual yield or a decline
in the payment rate, in each case, below certain rates, or an increase in
delinquencies above certain rates, will cause early amortization. The
portfolio's annual yield typically includes finance charges and past due fees
earned on the receivables less servicing fees and credit losses. In the case of
our other securitization programs, such events include an increase in the
charge-off rates above a certain rate or a decline in the payment rates below a
certain rate. These events would accelerate the need to utilize alternative
funding sources. Under each of our securitization structures, there has not been
an early amortization period. We believe that securitizations will continue to
be an important source of funding but can give no assurance that securitizations
will provide sufficient funding. As of December 31, 1999, we had total
securitization facilities of $883.8 million and had used approximately $723.8
million of
33
these facilities. Subsequent to December 31, 1999, we increased our available
securitization facilities by $201.0 million.
In April 1998, we entered into a promissory note with a related party in the
face amount of $13.0 million. In July 1998, the note and all accrued interest
were paid in full. In August 1998, we issued shares of common stock to an
unrelated investor for cash proceeds of $10.0 million.
On February 10, 1999 and October 14, 1999, third party investors purchased
for cash the outstanding undivided interest in some of our securitization
structures. In each case, the price paid by the purchasers exceeded the amounts
required to be paid to the selling investors, which was limited to the selling
investors' outstanding investment, accrued interest and unpaid fees. In the
February 1999 transaction, the excess totaled $30.1 million, of which $5.0
million was deposited into a reserve account to serve as a credit enhancement
that was required by the new investors. The remaining $25.1 million was remitted
to our wholly owned subsidiary created in connection with the securitization. In
October 1999, excess cash totaling $53.7 million was remitted to our wholly
owned subsidiaries.
In April 1999, we completed our initial public offering and received net
proceeds of $62.8 million. We used these net proceeds for marketing and
solicitation costs, receivables growth and working capital purposes.
In January 2000, we entered into an agreement providing for a one year,
$25.0 million revolving credit facility under which we may request advances from
time to time which will bear interest at floating rates based on LIBOR. Advances
under the facility will be secured by our assets other than credit card
receivables and other assets relating to our securitization transactions. As of
March 1, 2000, no advances were outstanding under this facility.
In February 2000, we completed a follow-on public offering and received net
proceeds of $146.4 million, before deducting offering expenses. If we charter a
bank, we intend to capitalize this bank subsidiary with up to $20.0 million in
capital contributions and make a deposit of up to an additional $5.0 million. We
may use a portion of the net proceeds from this offering to fund all or part of
these cash requirements. We plan to use the remaining net proceeds to finance
our growth through the origination and purchase of credit card receivables, for
marketing costs, working capital and other corporate purposes.
YEAR 2000
The year 2000 problem is a result of computer programs using two digit years
instead of four digits. As a result, these computer programs do not properly
recognize dates in any year that begins with "20" instead of "19" and may
malfunction when presented with such dates. The year 2000 problem may affect not
only our software systems, but also critical software used by suppliers of goods
and services and financial institutions with which we do business.
Although most of our existing information systems are less than two years
old and were originally designed for year 2000 compliance, we created a year
2000 project team to identify, address and monitor internal systems and vendor
issues related to the year 2000 problem. We tested all internally developed
information and operational systems, including hardware, software,
non-information technology systems and systems interfaces, for year 2000
compliance. Where necessary, we upgraded these systems to a format that we
believe will assure system and data integrity in the year 2000 and thereafter.
During 1998 and 1999, we spent approximately $100,000 to upgrade or replace
non-compliant software.
In addition, we contacted outside third party providers of services, systems
and networks regarding steps taken to resolve their year 2000 systems issues and
our most critical outside vendors have provided their year 2000 project plans.
These vendors warranted the accuracy and reliability of systems, reports, and
data related to the performance of the services provided by them and their
affiliates in relation to the year 2000 issue. We believe our most critical
outside vendor is Total Systems, which provides services to us including card
embossing, transaction processing and cycle billing. We participated in year
2000 testing of
34
Total Systems during the first quarter of 1999. Although we have taken these and
other precautionary measures to assure that we are not vulnerable to the failure
by our third party vendors to make necessary system modifications, we cannot
assure you that our third party vendors will successfully address all of their
year 2000 issues. We have contingency plans that include, in the event of vendor
or software non-compliance, identification and replacement of critical products
or services as appropriate.
Our most likely worst case scenario is that our outside vendors are not year
2000 compliant due to unforeseen or unexpected problems with their systems that
their year 2000 testing did not discover and that there are errors or delays in
processing or billing the credit card accounts. In this scenario, we will have
to assess the length of time it may take for our vendors to correct their year
2000 problems. In the event of a significant delay, we would begin replacing our
vendors. As of March 1, 2000, we have not experienced any significant year 2000
problems, and we are not aware of any year 2000 problems experienced by our
vendors that have affected us; however unforeseen problems could arise in the
year 2000 which could cause delays and malfunctions which would have a material
adverse effect on our results of operations and financial condition.
RECENT ACCOUNTING PRONOUNCEMENTS
In June 1998, the FASB issued Statement No. 133, "Accounting for Derivative
Instruments and Hedging Activities." In July 1999, the FASB issued statement No.
137, "Accounting for Derivative Instruments and Hedging Activities--Deferral of
the Effective Date of FASB Statement No. 133," which deferred the effective date
of Statement No. 133 to fiscal years beginning after June 15, 2000. Adoption of
Statement No. 133 is not expected to have a material impact on our results of
operations or financial position.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The information required under this item is provided under the caption
"Interest Rate Sensitivity and Market Risk" under "Item 7. Management's
Discussion and Analysis of Financial Condition and Results of Operations."
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The following Consolidated Financial Statements of CompuCredit Corporation
and its Subsidaries and supplementary data are included as pages F-1 through
F-17 at the end of this Annual Report on Form 10-K:
PAGE
INDEX NUMBER
----- --------
Report of Independent Auditors.............................. F-2
Consolidated Balance Sheets................................. F-3
Consolidated Statements of Operations....................... F-4
Consolidated Statements of Shareholders' Equity............. F-5
Consolidated Statements of Cash Flows....................... F-6
Notes to Consolidated Financial Statements.................. F-7
ITEM 9. CHANGES IN AND DIASGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURES
None.
35
PART III
The information required to be included in Part III of this Annual Report on
Form 10-K is incorporated by reference to CompuCredit's Proxy Statement for the
2000 Annual Meeting of Shareholders.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENTS SCHEDULES AND REPORTS ON FORM 8-K
The following documents are filed as a part of this Report.
(a) 1. FINANCIAL STATEMENTS
The list of financial statements required by this item is set forth in
Item 8.
2. FINANCIAL STATEMENT SCHEDULES
None.
3. EXHIBITS
EXHIBIT NO. DESCRIPTION
- ----------- ------------------------------------------------------------
3.1 Amended and Restated Articles of Incorporation of
CompuCredit Corporation (incorporated by reference to
Exhibit 3.1 to CompuCredit's Registration Statement on Form
S-1 (File No. 333-62327)).
3.2 Amended and Restated Bylaws of CompuCredit Corporation
(incorporated by reference to Exhibit 3.2 to CompuCredit's
Registration Statement on Form S-1 (File No. 333-62327)).
4.1 Form of certificate representing shares of the Registrant's
common stock (incorporated by reference to Exhibit 4.1 to
CompuCredit's Registration Statement on Form S-1 (File No.
333-69879)).
10.1 Stockholders Agreement, dated as of April 28, 1999, by and
among CompuCredit, Frank J. Hanna, III, individually and as
Trustee of Bravo Trust One, David G. Hanna, individually and
as Trustee of Bravo Trust Two, Richard W. Gilbert and
Richard R. House, Jr. (incorporated by reference to Exhibit
10.1 to CompuCredit's Registration Statement on Form S-1
(333-94855)).
10.2.1 Amended and Restated 1998 Stock Option Plan (incorporated by
reference to Exhibit 10.2 to CompuCredit's Registration
Statement on Form S-1 (File No. 333-69879)).
10.2.2 CompuCredit Employee Stock Purchase Plan (incorporated by
reference to Exhibit 4.3 to CompuCredit's Registration
Statement on Form S-1 (File No. 333-92899)).
10.3.1 Form of Employment Agreement with Schedule of Terms
(incorporated by reference to Exhibit 10.3 to CompuCredit's
Registration Statement on Form S-1 (File No. 333-69879)).
10.3.2 Form of Amendment to Employment Agreement with Schedule of
Parties. (Incorporated by reference to Exhibit 10.3.2 to
CompuCredit's Registration Statement on Form S-1
(333-94855)).
10.4 Agreement, dated as of September 23, 1997, by and among
CompuCredit Corporation, Visionary Systems, Inc. and VSX
Corporation (incorporated by reference to Exhibit 10.6 to
CompuCredit's Registration Statement on Form S-1 (File No.
333-62327)).
36
EXHIBIT NO. DESCRIPTION
- ----------- ------------------------------------------------------------
10.5.1** Affinity Card Agreement, dated as of January 6, 1997,
between Columbus Bank and Trust Company and CompuCredit,
L.P. (incorporated by reference to Exhibit 10.7.1 to
CompuCredit's Registration Statement on Form S-1 (File No.
333-62327)).
10.5.2 Amendment to Affinity Card Agreement, dated as of March 26,
1998, between Columbus Bank and Trust Company and
CompuCredit Corporation, as successor to CompuCredit, L.P.
(incorporated by reference to Exhibit 10.7.2 to
CompuCredit's Registration Statement on Form S-1 (File No.
333-62327)).
10.5.3 Amendment to Affinity Card Agreement, dated as of August 1,
1998, by and among Columbus Bank and Trust Company and
CompuCredit Corporation, as successor to CompuCredit, L.P.,
and CompuCredit Acquisition Corp. (incorporated by reference
to Exhibit 10.7.3 to CompuCredit's Registration Statement on
Form S-1 (File No. 333-69879)). 10.5.4** Facilities
Management Services Agreement, dated as of August 1, 1998,
between Columbus Bank and Trust Company and CompuCredit
Corporation, as successor to CompuCredit, L.P. (incorporated
by reference to Exhibit 10.7.4 to CompuCredit's Registration
Statement on Form S-1 (File No. 333-69879)).
10.5.5 Amendment to Affinity Card Agreement and Facilities
Management Agreement, dated as of November 11, 1998, by and
among Columbus Bank and Trust Company, CompuCredit
Corporation, as successor to CompuCredit, L.P., and
CompuCredit Acquisition Corp. (incorporated by reference to
Exhibit 10.7.5 to CompuCredit's Registration Statement on
Form S-1 (File No. 333-69879)).
21.1 Subsidiaries of the Registrant (incorporated by reference to
Exhibit 21.1 to CompuCredit's Registration Statement on
Form S-1 (File No. 333-69879)).
23.1 Consent of Ernst & Young LLP.
- ------------------------
** Confidential treatment has been granted with respect to portions of this
exhibit.
(b) REPORTS ON FORM 8-K.
None.
37
COMPUCREDIT CORPORATION
INDEX TO FINANCIAL STATEMENTS
PAGE
--------
Report of Independent Auditors.............................. F-2
Consolidated Balance Sheets as of December 31, 1999 and
1998...................................................... F-3
Consolidated Statements of Operations for the Years ended
December 31, 1999, 1998 and 1997.......................... F-4
Consolidated Statements of Shareholders' Equity for the
Years ended December 31, 1999, 1998 and 1997.............. F-5
Consolidated Statements of Cash Flows for the Years ended
December 31, 1999, 1998 and 1997.......................... F-6
Notes to Consolidated Financial Statements for the Years
ended December 31, 1999 and 1998.......................... F-7
F-1
REPORT OF INDEPENDENT AUDITORS
The Board of Directors
CompuCredit Corporation
We have audited the accompanying consolidated balance sheets of CompuCredit
Corporation and Subsidiaries as of December 31, 1999 and 1998 and the related
consolidated statements of operations, shareholders' equity and cash flows for
each of the three years in the period ended December 31, 1999. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States. Those standards require that we plan and perform
the audits to obtain reasonable assurance about whether the financial statements
are free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements. An
audit also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the consolidated financial position of CompuCredit
Corporation and Subsidiaries at December 31, 1999 and 1998 and the consolidated
results of their operations and their cash flows for each of the three years in
the period ended December 31, 1999, in conformity with accounting principles
generally accepted in the United States.
/s/ Ernst & Young LLP
Atlanta, Georgia
January 28, 2000
F-2
COMPUCREDIT CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
DECEMBER 31
-----------------------
1999 1998
---------- ----------
(DOLLARS IN THOUSANDS)
ASSETS
Cash and cash equivalents................................... $ 11,808 $12,256
Restricted cash............................................. 10,000 --
Retained interests in credit card receivables securitized... 165,572 65,184
Accrued interest and fees................................... 9,828 1,979
-------- -------
Net credit card receivables................................. 175,400 67,163
Amounts due from securitization............................. 12,010 3,243
Deferred costs, net......................................... 2,235 1,375
Software, furniture, fixtures and equipment, net............ 6,134 1,736
Prepaid expenses............................................ 1,640 195
Other assets................................................ 4,631 1,615
-------- -------
Total assets................................................ $223,858 $87,583
======== =======
LIABILITIES
Amounts due to securitization............................... $ -- $10,774
Accrued expenses............................................ 9,664 4,745
Deferred revenue............................................ 5,680 2,075
Income tax liability........................................ 32,151 15,479
-------- -------
Total liabilities........................................... 47,495 33,073
SHAREHOLDERS' EQUITY
Preferred stock, no par value, 10,000,000 shares authorized,
no shares issued and outstanding at December 31, 1999;
$100 par value, cumulative and nonparticipating; 500,000
shares authorized, 200,000 shares issued and outstanding
at December 31, 1998...................................... -- 20,000
Common stock, no par value:
60,000,000 shares authorized, 40,051,392 issued and
outstanding at December 31, 1999; 45,600,000 shares
authorized, 32,384,860 issued and outstanding at December
31, 1998(1)............................................... -- --
Additional paid-in capital.................................. 92,795 9,953
Retained earnings........................................... 83,568 24,557
-------- -------
Total shareholders' equity.................................. 176,363 54,510
-------- -------
Total liabilities and shareholders' equity.................. $223,858 $87,583
======== =======
- ------------------------
(1) After giving retroactive effect to the 15.2-for-1 stock split effective
April 28, 1999.
See accompanying notes.
F-3
COMPUCREDIT CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE YEAR ENDED DECEMBER 31
---------------------------------
1999 1998 1997
--------- --------- ---------
(DOLLARS IN THOUSANDS, EXCEPT PER
SHARE DATA)
Interest income:
Interest.................................................. $ 2,094 $ 256 $ 33
Finance charges, including fees........................... -- -- 2,625
------- ------- -------
Total interest income....................................... 2,094 256 2,658
Interest expense:
Short-term borrowings..................................... -- 536 361
------- ------- -------
Net interest income (expense)............................... 2,094 (280) 2,297
Provision for loan losses................................... -- -- 1,422
------- ------- -------
Net interest income (expense) after provision for loan
losses.................................................... 2,094 (280) 875
Other operating income:
Securitization income, net................................ 12,470 13,596 628
Income from retained interests in credit card receivables
securitized............................................. 88,800 25,483 --
Servicing income.......................................... 8,893 12,541 --
Other credit card fees.................................... 19,506 4,193 911
Interchange fees.......................................... 9,202 1,865 279
Ancillary products........................................ 7,812 638 37
Other..................................................... -- -- 156
------- ------- -------
Total other operating income................................ 146,683 58,316 2,011
Other operating expense:
Salaries and benefits..................................... 3,094 1,172 429
Credit card servicing..................................... 9,009 4,948 1,008
Marketing and solicitation................................ 33,234 6,865 1,081
Professional fees......................................... 1,660 713 252
Data processing........................................... 2,745 1,437 156
Net occupancy............................................. 737 195 35
Ancillary product expense................................. 2,009 443 --
Other..................................................... 3,011 1,354 650
------- ------- -------
Total other operating expense............................... 55,499 17,127 3,611
Income (loss) before income taxes........................... 93,278 40,909 (725)
Income tax expense.......................................... (34,267) (15,479) --
------- ------- -------
Net income (loss)........................................... $59,011 $25,430 $ (725)
======= ======= =======
Net income (loss) attributable to common shareholders....... $58,429 $23,630 $(1,341)
======= ======= =======
Net income (loss) per common share(1)....................... $ 1.55 $ 0.74 $ (0.04)
======= ======= =======
- ------------------------
(1) After giving retroactive effect to the 15.2-for-1 stock split effective
April 28, 1999.
See accompanying notes.
F-4
COMPUCREDIT CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
COMMON STOCK ADDITIONAL RETAINED TOTAL
--------------------- PAID-IN PREFERRED EARNINGS SHAREHOLDERS'
SHARES(1) AMOUNT CAPITAL STOCK (DEFICIT) EQUITY
---------- -------- ---------- --------- --------- -------------
(DOLLARS IN THOUSANDS)
Balance, December 31, 1996............. -- $ -- $ 300 $ -- $ (148) $ 152
Contributed capital.................. -- -- 19,700 -- -- 19,700
Issuance of preferred stock.......... -- -- (20,000) 20,000 -- --
Issuance of common stock............. 31,340,195 -- -- -- -- --
Net loss............................. -- -- -- -- (725) (725)
---------- ---- -------- -------- ------- --------
Balance at December 31, 1997........... 31,340,195 -- -- 20,000 (873) 19,127
Issuance of common stock............. 1,044,665 -- 9,953 -- -- 9,953
Net income........................... -- -- -- -- 25,430 25,430
---------- ---- -------- -------- ------- --------
Balance at December 31, 1998........... 32,384,860 -- 9,953 20,000 24,557 54,510
Conversion of preferred stock........ 1,916,532 -- 20,000 (20,000) -- --
Issuance of common stock............. 5,750,000 -- 62,842 -- -- 62,842
Net income........................... -- -- -- -- 59,011 59,011
---------- ---- -------- -------- ------- --------
Balance at December 31, 1999........... 40,051,392 $ -- $ 92,795 $ -- $83,568 $176,363
========== ==== ======== ======== ======= ========
- ------------------------
(1) After giving retroactive effect to the 15.2-for-1 stock split effective
April 28, 1999.
See accompanying notes.
F-5
COMPUCREDIT CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEAR ENDED DECEMBER 31
------------------------------
1999 1998 1997
-------- -------- --------
(DOLLARS IN THOUSANDS)
OPERATING ACTIVITIES
Net income (loss)........................................... $ 59,011 $ 25,430 $ (725)
Adjustments to reconcile net income (loss) to net cash
provided by (used in) operating activities:
Depreciation expense...................................... 1,475 444 79
Amortization expense...................................... 1,704 828 215
Loan loss provision....................................... -- -- 1,422
Securitization income..................................... (12,470) (13,596) (628)
Retained interests income adjustment, net................. 25,911 (17,094) (212)
Changes in assets and liabilities:
Increase in restricted cash............................. (10,000) -- --
Increase in accrued interest and fees................... (7,849) (1,518) (461)
Increase in amounts due from securitization............. (8,767) (2,726) (517)
Increase in deferred costs.............................. (3,156) (869) (1,475)
(Increase) decrease in prepaid expenses................. (1,445) 228 (443)
(Decrease) increase in amounts due to securitization.... (10,774) 10,650 124
Increase in accrued expenses............................ 4,919 3,904 740
Increase in deferred revenue............................ 3,605 1,952 123
Increase in income tax liability........................ 16,672 15,479 --
Other................................................... (3,016) (1,528) 58
-------- -------- -------
Net cash provided by (used in) operating activities......... 55,820 21,584 (1,700)
INVESTING ACTIVITIES
Net loans originated or purchased........................... (561,887) (421,813) (28,269)
Recoveries of loans previously charged off.................. 420 85 --
Net proceeds from securitization of loans................... 406,175 372,797 12,650
Proceeds from retained interests in credit card receivables
securitized............................................... 42,055 29,475 --
Purchases of and development of software, furniture,
fixtures and equipment.................................... (5,873) (1,503) (756)
-------- -------- -------
Net cash used in investing activities....................... (119,110) (20,959) (16,375)
FINANCING ACTIVITIES
Proceeds from issuance of common stock and capital
contributions............................................. 62,842 9,953 19,700
Proceeds from short-term borrowings......................... -- 13,000 19,700
Payment of short-term borrowings............................ -- (13,000) (19,700)
-------- -------- -------
Net cash provided by financing activities................... 62,842 9,953 19,700
NET (DECREASE) INCREASE IN CASH............................. $ (448) $ 10,578 $ 1,625
Cash and equivalents at beginning of period................. 12,256 1,678 53
-------- -------- -------
Cash and equivalents at end of period....................... $ 11,808 $ 12,256 $ 1,678
======== ======== =======
SUPPLEMENTAL CASH FLOW INFORMATION
Cash paid for interest...................................... $ -- $ 536 $ 361
======== ======== =======
Cash paid for income taxes.................................. $ 17,595 $ -- $ --
======== ======== =======
See accompanying notes.
F-6
COMPUCREDIT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999 AND 1998
1. ORGANIZATION AND BASIS OF PRESENTATION
The consolidated financial statements include the accounts of CompuCredit
Corporation and its subsidiaries (collectively, "the Company"). The Company was
formed for the purpose of offering unsecured credit and fee based products and
services to a specialized segment of the consumer credit market. The principal
subsidiaries are AspireCard.com, Inc. formed to promote the credit card
receivables and various other value added products and services on the Internet
and CompuCredit Funding Corp. and CompuCredit Acquisition Corporation which were
formed for the purpose of effecting the securitization of credit card
receivables. All significant intercompany balances and transactions have been
eliminated for financial reporting purposes. The Company has a contractual
arrangement with a third party financial institution pursuant to which the
financial institution issues general purpose Visa credit cards under the
Company's "Aspire" trademark, and the Company purchases the receivables relating
to such accounts. The Company has contracted with third party financial
institutions to issue credit cards and to perform certain services for the
securitized receivables.
The accompanying consolidated financial statements have been prepared in
accordance with generally accepted accounting principles in the United States
that require management to make estimates and assumptions that affect the
reported amounts of assets and liabilities and disclosure of contingent assets
and liabilities at the date of the consolidated financial statements as well as
the reported amount of revenues and expenses during the reporting period. Actual
results could differ from these estimates. Certain estimates such as credit
losses, payment and discount rates have a significant impact on the gains
recorded on securitizations and the value of retained interests in credit card
receivables securitized.
Certain amounts in prior period financial statements have been reclassified
to conform to the current period presentation.
2. SIGNIFICANT ACCOUNTING POLICIES
The following is a summary of significant accounting policies followed in
the preparation of the consolidated financial statements.
CASH AND CASH EQUIVALENTS
Cash and cash equivalents consist of cash, money market investments, and
overnight deposits. The Company considers all other highly liquid cash
investments with low interest rate risk and maturities of three months or less
to be cash equivalents. Cash equivalents are valued at cost, which approximates
market.
ASSET SECURITIZATION
The Company has securitized a substantial portion of its credit card
receivables. When the Company sells receivables in securitizations, it retains
certain undivided ownership interests, interest-only strips and servicing
rights. Although the Company continues to service the underlying credit card
accounts and maintains the client relationships, these transactions are treated
as sales and the securitized receivables are not reflected on the consolidated
balance sheet. The retained ownership interests are included in Retained
Interests in Credit Card Receivables Securitized. Amounts Due from
Securitization include payments recently received on the securitized receivables
that are still held by the securitization structure but are payable to the
Company within the next 30 days.
F-7
COMPUCREDIT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999 AND 1998
2. SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Under Statement of Financial Accounting Standards No. 125, "Accounting for
Transfers and Servicing of Financial Assets and Extinguishments of Liabilities"
("Statement No. 125"), gains are recognized at the time of each sale. These
gains are based on the estimated fair value of the retained interests which are
based on the estimated present value of the cash flows the Company expects to
receive over the estimated outstanding life of the receivables. These cash flows
represent estimates of finance charges and late fees, servicing fees, costs of
funds paid to investors, payment rates, credit losses, and required amortization
payments to investors.
The retained interests are subsequently accounted for as trading securities
and reported at estimated fair market value with changes in fair value included
in income in accordance with Statement of Financial Accounting Standards No.
115, "Accounting for Certain Investments in Debt and Equity Securities"
("Statement No. 115"). Certain estimates used in the determination of the gains
and the related fair values of interest-only strips and retained ownership
interests are influenced by factors outside the Company's control, and, as a
result, such estimates could materially change in the near term.
DEFERRED COSTS
The Company capitalizes certain costs paid to third parties related to its
credit card receivables securitizations. Such costs include legal fees and fees
incurred for services provided for establishing securitization facilities that
have ongoing benefit to the Company, such as the master trust used for future
securitizations, which result in ongoing securitization income to the Company.
These capitalized securitization costs are amortized over periods of two to
three years. The accumulated amortization of these costs was $1,207,000 and
$615,000 at December 31, 1999 and 1998, respectively.
SOFTWARE DEVELOPMENT, FURNITURE, FIXTURES, AND EQUIPMENT
The Company capitalizes certain costs related to internal development and
implementation of software used in operating activities of the Company in
accordance with AICPA Statement of Position 98-1, "Accounting for the Costs of
Computer Software Developed or Obtained for Internal Use." Software development,
furniture, fixtures and equipment are stated at cost less accumulated
depreciation. Depreciation and amortization expenses are computed using the
straight-line method over the estimated useful lives of the assets.
AMOUNTS DUE TO SECURITIZATION
As of December 31, 1998, amounts were collected by the Company in payment of
principal, interest, and fees on receivables securitized and were remitted to
the special purpose entities on a monthly basis. Amounts collected for a month
were not remitted until the following month, resulting in a payable from the
Company to the special purpose entities. Due to a change in the securitization
structure during 1999, there are no payables from the Company to the special
purpose entities at December 31, 1999.
CREDIT CARD FEES
Credit card fees include annual, overlimit, returned check, and cash advance
transaction fees. These fees are assessed according to agreements with clients.
Annual fees and direct loan origination costs are deferred and amortized on a
straight-line basis over the one-year period to which the fees or costs pertain.
F-8
COMPUCREDIT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999 AND 1998
2. SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
The Company, under its securitization agreements, continues to earn servicing
income, interchange fees, ancillary products income, and other credit card fees.
SOLICITATION EXPENSES
Credit card account and other product solicitation costs, including
printing, credit bureaus, list processing costs, telemarketing and postage, are
expensed as the solicitation occurs.
INCOME TAXES
The Company accounts for income taxes based on the liability method required
by Statement of Financial Accounting Standards No. 109, "Accounting for Income
Taxes" ("Statement No. 109").
Under the liability method, deferred income taxes reflect the net tax
effects of temporary differences between the carrying amounts of assets and
liabilities for financial reporting purposes and the amounts used for income tax
purposes.
RECENT ACCOUNTING PRONOUNCEMENTS
In June 1998, the FASB issued Statement No. 133, "Accounting for Derivative
Instruments and Hedging Activities" ("Statement No. 133"). In July 1999, the
FASB issued statement No. 137, "Accounting for Derivative Instruments and
Hedging Activities-Deferral of the Effective Date of FASB Statement No. 133,"
which deferred the effective date of Statement No. 133 to fiscal years beginning
after June 15, 2000. Adoption of Statement No. 133 is not expected to have a
material impact on the Company's results of operations or financial position.
3. CORPORATE REORGANIZATION AND SHAREHOLDERS' EQUITY
CompuCredit, L.P. (the "Partnership") was formed on August 14, 1996 as a
limited partnership under the Georgia Revised Uniform Limited Partnership Act of
the laws of the State of Georgia. The partners were classified as Series A
holders, Series B holders, and the Series C holder. Series A holders were
limited partners, holding 87% of the Partnership units, and contributing 99% of
the contributed capital. Series B holders were limited partners, holding 12% of
the Partnership units, making no capital contributions, and having interest
solely in the net profits of the Partnership. The Series C holder was the
General Partner, holding 1% of the Partnership units, and contributing 1% of the
contributed capital.
On August 29, 1997, the Partnership was merged into CompuCredit Corporation
under the laws of the State of Georgia. The $20,000,000 of contributed capital
of the Partnership was converted into 200,000 shares of $100 par value nonvoting
nonparticipating preferred stock of the Corporation. Cumulative dividends
accumulated on the outstanding preferred stock at an annual rate of 9%. There
was $2,416,000 of unpaid dividends in arrears related to the preferred stock at
December 31, 1998. The Corporation also issued 31,340,195 shares of common
stock, no par value (45,600,000 shares authorized). CompuCredit Corporation
continued the operations of CompuCredit, L.P.
On August 21, 1998, the Company issued 1,044,665 shares of common stock to
an unrelated investor for net cash proceeds of $9,953,000.
F-9
COMPUCREDIT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999 AND 1998
3. CORPORATE REORGANIZATION AND SHAREHOLDERS' EQUITY (CONTINUED)
On April 28, 1999, the Company completed its initial public offering of
5,000,000 shares of common stock at $12.00 per share. On May 5, 1999, the
Company issued an additional 750,000 shares of common stock at $12.00 per share
following the exercise by the underwriters of their over-allotment option
granted in connection with the Company's initial public offering. Total net
proceeds from the offering totaled $62,842,000. In connection with the offering,
all of the outstanding preferred stock, including accrued dividends, was
exchanged for 1,916,532 shares of common stock.
4. SECURITIZATIONS
The Company securitizes a substantial portion of its Company issued credit
card receivables through the CompuCredit Credit Card Master Trust (the "Master
Trust"). Credit card receivables are transferred to the Master Trust, which
issues certificates representing undivided ownership interests in the assets of
the Master Trust. The Company also securitized two purchased portfolios of
credit card receivables through securitization structures with third party
commercial paper conduits. The Company's transfers are treated as sales as they
satisfy the requirements of Statement No. 125 and the receivables are removed
from the consolidated balance sheet. The securitization transactions do not
affect the relationship the Company has with its clients and the Company
continues to service the credit card receivables. As of December 31, 1999 the
Company receives servicing fees equal to either the cost of servicing the
portfolio plus 0.1% per year of the securitized principal receivables or 5% of
cash collected, depending on the securitization. The Company either provides the
servicing or contracts with third party service providers.
The table below summarizes all of the Company's securitization activity:
YEAR ENDED DECEMBER 31
-----------------------
1999 1998
---------- ----------
(IN THOUSANDS)
Proceeds from securitizations........................... $448,230 $402,272
Excess cash flows received on retained interests........ 92,804 36,667
Pretax securitization income............................ 12,470 13,596
The investors in the Company's securitization transactions have no recourse
against the Company for its clients' failure to pay their credit card loans.
However, most of the Company's retained interests are subordinated to the
investors' interests until the investors have been fully paid.
As an additional credit enhancement on CompuCredit's securitization
structures associated with its purchased receivables, CompuCredit pays a portion
of the excess cash collected on the receivables to the investors as an
accelerated amortization payment. This excess cash that the Company paid to the
investors totaled $42.1 million and $29.5 million for the years ended December
31, 1999 and 1998, respectively. The Company's valuation of its retained
interests incorporates this credit enhancement, and the Company estimates that
it takes approximately three to five years from the inception of each
securitization structure to completely repay the investors using excess cash
collected on the receivables. Once the investors are repaid, any remaining
receivables and funds held in the securitization structure will be payable to
the Company.
The pretax securitization income recorded by the Company and the measurement
of the Company's retained interests are dependent upon management's estimates of
future cash flows using the cash-out
F-10
COMPUCREDIT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999 AND 1998
4. SECURITIZATIONS (CONTINUED)
method. Under the cash-out method, the future cash flows (including the release
of any cash related to credit enhancements) are recorded at a discounted value.
The cash flows are discounted based on the timing of when the Company expects to
receive the cash flows. The discount rates are based on management's estimates
of returns that would be required by investors in an investment with similar
terms and credit quality. Interests rates received on the credit card
receivables are estimated based on the stated annual percentage rates in the
credit card agreements. Estimated default and payment rates are based on
historical results, adjusted for expected changes based on the Company's credit
risk models. Credit card receivables are typically charged off in the next
billing cycle after becoming 180 days past due, although earlier charge-offs may
occur specifically related to accounts of bankrupt or deceased clients. Bankrupt
and deceased clients' accounts are typically charged off within 30 days of
verification.
Subsequent to each sale, the Company's retained interests are carried at
estimated fair market value with changes in fair value included in income as
they are classified as trading securities. Since quoted market prices are
generally not available, the Company estimates fair value based on the estimated
present value of future cash flows using management's best estimates of key
assumptions. Changes in any of these assumptions could impact the fair value
estimates and the realization of future cash flows. The weighted average key
assumptions used to estimate the fair value of the Company's retained interests
as of the end of each year are presented below:
DECEMBER 31
-------------------
1999 1998
-------- --------
Payment rate (monthly)...................................... 7.9% 5.5%
Expected credit loss rate (annualized)...................... 11.0 15.1
Residual cashflows discount rate............................ 18.7 25.3
The return to the investors in the securitizations is based on management's
estimates of forward yield curves. The changes in the weighted average
assumptions from December 31, 1998 to December 31, 1999 are primarily due to the
change in the mix of CompuCredit's originated and purchased receivables. Since
the receivables originated by CompuCredit have historically performed better
than the purchased portfolio, the significant growth experienced in the
originated portfolio has caused the weighted average assumptions to improve as
of December 31, 1999.
F-11
COMPUCREDIT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999 AND 1998
5. SOFTWARE, FURNITURE, FIXTURES, AND EQUIPMENT
Software, furniture, fixtures and equipment consist of the following:
DECEMBER 31
-------------------
1999 1998
-------- --------
(IN THOUSANDS)
Software................................................... $ 4,493 $1,586
Furniture and fixtures..................................... 315 90
Data processing and telephone equipment.................... 2,946 583
Leasehold improvements..................................... 378 --
------- ------
Total cost................................................. 8,132 2,259
Less accumulated depreciation.............................. (1,998) (523)
------- ------
Software, furniture, fixtures, and equipment, net.......... $ 6,134 $1,736
======= ======
6. LEASES
The Company leases premises and equipment under cancelable and noncancelable
leases, some of which contain renewal options under various terms. Total rental
expense was $713,000 and $186,000 for the years ended December 31, 1999 and
1998, respectively. As of December 31, 1999, the future minimum rental
commitments for all noncancelable leases with initial or remaining terms of more
than one year are as follows (in thousands):
2000........................................................ $ 916
2001........................................................ 947
2002........................................................ 979
2003........................................................ 1,012
2004........................................................ 822
Thereafter.................................................. 456
------
$5,132
======
7. BORROWINGS
On January 8, 1997, the Company entered into an irrevocable standby letter
of credit agreement for $10,000,000 with a bank. The letter of credit agreement
expires on January 8, 2001 and contains an option to renew each year. The
agreement contains provisions allowing the subservicer of the receivables to
draw under the letter of credit as needed. As of December 31, 1998 and 1999, the
letter of credit agreement was unused. In connection with this letter of credit,
the Company is required to maintain a cash balance of $10,000,000 with the
lender. Such cash has been disclosed as "Restricted cash" on the face of the
balance sheet.
8. COMMITMENTS AND CONTINGENCIES
The Company enters into financial instruments with off balance sheet risk in
the normal course of business through the origination of unsecured credit card
receivables. These financial instruments consist
F-12
COMPUCREDIT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999 AND 1998
8. COMMITMENTS AND CONTINGENCIES (CONTINUED)
of commitments to extend credit. These instruments involve, to varying degrees,
elements of credit risk in excess of the amount recognized in the balance
sheets. The principal amount of these instruments reflects the maximum exposure
the Company has in the instruments. The Company has not experienced and does not
anticipate that all of its clients will exercise their entire available line of
credit at any given point in time. The Company has the right to reduce or cancel
these available lines of credit at any time.
9. INCOME TAXES
As described in Note 3, CompuCredit, L.P. converted from a partnership to a
corporation on August 29, 1997. For the period August 14, 1996 (inception)
through August 28, 1997, the entity was a limited partnership, and as such, no
income tax provision was recorded. No income tax expense was recorded related to
the activities of the corporation for the period August 29, 1997 through
December 31, 1997, as the Company had no taxable income.
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities, which represent the
difference between the amounts reported for financial reporting purposes and
amounts used for income tax purposes. Statement No. 109 requires that the
deferred tax effects of a change in tax status be included in income from
continuing operations at the date the change in tax status occurs. On August 29,
1997, when CompuCredit, L.P. converted to a C-corporation status for legal and
tax purposes and became subject to income taxes, deferred tax assets and
liabilities were recognized for existing temporary differences. At that date, a
tax benefit of $82,000 was recorded related to the recognition of existing
deferred tax assets. Such benefit was fully offset by a $82,000 valuation
allowance. The Company has state net operating loss carryforwards for which it
has recorded no benefit.
The current and deferred portions of federal and state income tax expense
are as follows:
FOR THE YEAR ENDED
DECEMBER 31
------------------------------
1999 1998 1997
-------- -------- --------
(IN THOUSANDS)
Federal income tax expense:
Current tax expense.............................. $12,698 $ 8,436 $ --
Deferred tax expense............................. 21,569 5,419 --
------- ------- ----
Total federal income tax expense................... 34,267 13,855 --
State income tax expense:
Current tax expense.............................. -- 965 --
Deferred tax expense............................. -- 659 --
------- ------- ----
Total state income tax expense..................... -- 1,624 --
------- ------- ----
Total income tax expense........................... $34,267 $15,479 $ --
======= ======= ====
F-13
COMPUCREDIT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999 AND 1998
9. INCOME TAXES (CONTINUED)
Income tax expense differed from amounts computed by applying the statutory
U.S. Federal income tax rate to pretax income from operations as a result of the
following:
FOR THE YEAR ENDED
DECEMBER 31
------------------------------
1999 1998 1997
-------- -------- --------
(IN THOUSANDS)
Taxes at statutory rate............................ $32,647 $14,318 $ --
Increase in income taxes resulting from:
State income tax expense, net of federal income
tax benefit.................................... -- 1,042 --
Change in valuation allowance.................... -- 82 --
Other, net....................................... 1,620 37 --
------- ------- ----
Total income tax expense........................... $34,267 $15,479 $ --
======= ======= ====
The tax effects of temporary differences that give rise to significant
portions of deferred tax assets and deferred tax liabilities at December 31,
1999 and 1998 are presented below:
DECEMBER 31
-------------------
1999 1998
-------- --------
(IN THOUSANDS)
Deferred tax assets:
Depreciation and amortization.......................... $ 441 $ 79
Other, net............................................. -- 146
-------- -------
Total deferred tax asset................................. 441 225
Deferred tax liabilities:
Prepaid expenses....................................... (539) --
Loan loss provision.................................... -- (2,447)
Cash advance fees...................................... (2,279) (486)
Software development costs............................. (1,573) (550)
Deferred costs......................................... (782) (415)
Gain on securitization................................. (20,774) (2,405)
Other.................................................. (2,141) --
-------- -------
Total deferred tax liability............................. (28,088) (6,303)
Valuation allowance...................................... -- --
======== =======
Net deferred tax (liability) asset....................... $(27,647) $(6,078)
======== =======
F-14
COMPUCREDIT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999 AND 1998
10. EARNINGS PER SHARE
The following table sets forth the computation of basic earnings per share:
FOR THE YEAR ENDED
DECEMBER 31
---------------------
1999 1998
--------- ---------
(IN THOUSANDS, EXCEPT
PER SHARE DATA)
Numerator:
Net income.............................................. $59,011 $25,430
Preferred stock dividends............................... (582) (1,800)
------- -------
Income attributable to common shareholders................ 58,429 23,630
Denominator:
Denominator for basic earnings per
share--weighted-average shares outstanding............ 37,580 31,721
Effect of dilutive stock options........................ 76 --
------- -------
Denominator for diluted earnings per share--adjusted
weighted-average shares............................... 37,656 31,721
------- -------
Basic earnings per share.................................. $ 1.55 $ 0.74
======= =======
Diluted earnings per share................................ $ 1.55 $ 0.74
======= =======
11. STOCK OPTIONS
The Company has a 1998 Stock Option Plan ("1998 Plan") under which the
Company may grant an aggregate of 1,200,000 shares of the Company's common stock
to members of the Board of Directors, employees, consultants and advisors of the
Company. The exercise price per share of the options may be less than, equal to
or greater than the market price on the date the option is granted. The option
period is not to exceed 10 years from the date of grant. Information related to
options outstanding under the 1998 Plan is as follows:
FOR THE YEAR ENDED DECEMBER 31
-------------------------------------------------------
1999 1998
-------------------------- --------------------------
WEIGHTED- WEIGHTED-
NUMBER AVERAGE NUMBER AVERAGE
OF SHARES EXERCISE PRICE OF SHARES EXERCISE PRICE
--------- -------------- --------- --------------
Outstanding at beginning of year................. 60,724 $12.35 -- $ --
Granted.......................................... 304,066 16.10 60,724 12.35
Exercised........................................ -- -- -- --
Canceled/forfeited............................... -- -- -- --
------- ------ ------ ------
Outstanding at end of year....................... 364,790 $15.48 60,724 $12.35
======= ====== ====== ======
F-15
COMPUCREDIT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999 AND 1998
11. STOCK OPTIONS (CONTINUED)
The following table summarizes information about stock options outstanding
as of December 31, 1999:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
------------------------------------- -----------------------
WEIGHTED-
REMAINING WEIGHTED- WEIGHTED-
AVERAGE AVERAGE AVERAGE
NUMBER CONTRACTUAL EXERCISE NUMBER EXERCISE
EXERCISE PRICE OUTSTANDING LIFE PRICE EXERCISABLE PRICE
- -------------- ----------- ----------- --------- ----------- ---------
$12.00--$25.00 356,890 5.17 $15.09 50,362 $12.21
$25.01--$38.00 7,900 4.97 32.82 -- --
------- ------ ------ ------ ------
364,790 5.16 $15.48 50,362 $12.21
======= ====== ====== ====== ======
As permitted by FASB Statement No. 123, "Accounting for Stock-Based
Compensation" ("Statement 123"), the Company recognizes compensation cost for
stock-based employee compensation awards in accordance with Accounting
Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees." The
Company did not recognize any compensation expense for stock-based employee
compensation awards for the years ended December 31, 1999, 1998 and 1997.
If the Company had recognized compensation expense in accordance with
Statement 123, net income and net income per share would have been $58,636,000
and $1.54, respectively, for the year ended December 31, 1999 and $25,427,000
and $0.74, respectively, for the year ended December 31, 1998. Since pro forma
compensation costs relate to all periods over which the grants vest, the initial
impact on the Company's pro forma net income may not be representative of
compensation costs in subsequent years, when the effect of the amortization of
multiple awards would be reflected. The per share weighted average fair value of
stock options granted during 1999 was $8.28, using the Black-Scholes option
pricing model. The fair value of the options granted during the year was based
upon the discounted value of future cash flows of the options using the
following assumptions for 1999: Risk free interest rate-6.5%, expected life of
the options-5.0 years, expected volatility-50% and expected dividends (as a
percent of the fair value of the stock)- 0%.
12. RELATED PARTY TRANSACTIONS
During 1998, the Company entered into a note with a related party in the
face amount of $13,000,000. Under the terms of the promissory note, interest
accrued at a rate of 2.0% per month and was payable monthly in arrears. In July
1998, the promissory note and all accrued interest was paid in full.
13. SUBSEQUENT EVENTS
Effective January 1, 2000, the Company adopted a 401(k) plan and an Employee
Stock Purchase Plan. All full-time employees on that date and persons who become
full-time employees after that date who have completed one year of employment
and at least 1,000 hours of service are eligible to participate in the 401(k)
plan. All employees, excluding executive officers, are eligible to participate
in the Employee Stock Purchase Plan. The Company intends to make matching
contributions for employee contributions made in 2000 to the 401(k) plan that
will equal 25% of the contributions made by each participating employee up to a
maximum of 6% of the employee's compensation. Under the Employee Stock Purchase
Plan, amounts
F-16
COMPUCREDIT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999 AND 1998
13. SUBSEQUENT EVENTS (CONTINUED)
deducted and accumulated by each participant will be used to purchase shares of
common stock at the end of each one-month offering period. The price of stock
purchased under the purchase plan will be 85% of the fair market value per share
of the Company's common stock on the last day of the offering period.
On January 18, 2000, the Company filed a Registration Statement on Form S-1
to register 4,000,000 shares of common stock.
F-17
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Act of
1934, as amended, the Registrant has duly caused this Report to be signed on its
behalf by the undersigned, thereunto duly authorized, in the City of Atlanta,
State of Georgia, on March 15, 2000.
COMPUCREDIT CORPORATION
BY: /S/ DAVID G. HANNA
-----------------------------------------
David G. Hanna
PRESIDENT
Pursuant to the requirements of the Securities Act of 1934, as amended, this
Report has been signed below by the following persons in the capacities and on
the dates indicated.
SIGNATURE TITLE DATE
--------- ----- ----
/s/ DAVID G. HANNA President and Chairman of the
------------------------------------------- Board (Principal Executive March 15, 2000
David G. Hanna Officer)
/s/ BRETT M. SAMSKY Chief Financial Officer
------------------------------------------- (Principal Financial March 15, 2000
Brett M. Samsky Officer)
/s/ ASHLEY L. JOHNSON Treasurer and Controller
------------------------------------------- (Principal Accounting March 15, 2000
Ashley L. Johnson Officer)
/s/ RICHARD W. GILBERT Director
------------------------------------------- March 15, 2000
Richard W. Gilbert
/s/ FRANK J. HANNA, III Director
------------------------------------------- March 15, 2000
Frank J. Hanna, III
/s/ RICHARD E. HUDDLESTON Director
------------------------------------------- March 15, 2000
Richard E. Huddleston
/s/ GAIL COUTCHER HUGHES Director
------------------------------------------- March 15, 2000
Gail Coutcher Hughes
/s/ MACK F. MATTINGLY Director
------------------------------------------- March 15, 2000
Mack F. Mattingly
/s/ THOMAS G. ROSENCRANTS Director
------------------------------------------- March 15, 2000
Thomas G. Rosencrants