FORM 10-Q

(Mark One)

Commission file number: 000-50552

ASSET ACCEPTANCE CAPITAL CORP.

6985 Miller Road
Warren, Michigan 48092
(Address of principal executive offices)

Registrant’s telephone number, including area code: (586) 939-9600

Indicate by check mark whether the Registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes   x     No  o

Indicate by check mark whether the Registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).

Yes   o     No  x

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

     As of May 3, 2004, 37,225,275 shares of the Registrant’s common stock were outstanding.

TABLE OF CONTENTS

10-Q Report

This Form 10-Q and all other Company filings with the Securities and Exchange Commission are also accessible at no charge on the Company’s website at www.assetacceptance.com as soon as reasonably practicable after filing with the Commission.

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PART I — FINANCIAL INFORMATION

Item 1. Financial Statements

ASSET ACCEPTANCE CAPITAL CORP.
Consolidated Statements of Financial Position

See accompanying notes.

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ASSET ACCEPTANCE CAPITAL CORP.
Consolidated Statements of Income

See accompanying notes.

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ASSET ACCEPTANCE CAPITAL CORP.
Consolidated Statements of Cash Flows

See accompanying notes.

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ASSET ACCEPTANCE CAPITAL CORP.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1. Summary of Significant Accounting Policies

     Reporting Entity

     Asset Acceptance Capital Corp. (the “Company”) commenced an initial public offering (“IPO”) of common stock on February 5, 2004. On February 4, 2004, a reorganization was completed in which all of the shares of capital stock of AAC Investors, Inc. and RBR Holding Corp. were contributed to Asset Acceptance Capital Corp. in exchange for all of the outstanding shares of common stock of Asset Acceptance Capital Corp. AAC Investors, Inc. and RBR Holding Corp. held a 60% and 40% ownership interest in Asset Acceptance Holdings LLC, respectively. The resulting consolidated entity includes Asset Acceptance Capital Corp., AAC Investors, Inc., RBR Holding Corp. and Asset Acceptance Holdings LLC and subsidiaries. Prior to this reorganization, Asset Acceptance Capital Corp. did not conduct any business and did not have any assets or liabilities, except as related to the IPO. This reorganization was recorded at cost. All periods presented have been restated to reflect this reorganization.

     AAC Investors, Inc. was formed in September 2002 for the purpose of acquiring an interest in Asset Acceptance Holdings LLC and subsidiaries. Effective at the close of business on September 30, 2002, AAC Investors, Inc. completed the acquisition of 60% of Asset Acceptance Holdings LLC.

     We have presented pro forma income taxes and pro forma net income assuming the consolidated entity had been a C corporation for all periods presented. Tax rates used for pro forma income taxes are equal to the rates that would have been in effect had we been required to report tax expense in such years.

     The consolidated financial statements of the Company include Asset Acceptance Capital Corp., AAC Investors, Inc., RBR Holding Corp., and Asset Acceptance Holdings LLC and its wholly-owned subsidiaries, Asset Acceptance, LLC, Financial Credit, LLC, CFC Financial, LLC, Med-Fi Acceptance, LLC, and Consumer Credit, LLC. The accompanying unaudited financial statements of the Company have been prepared in accordance with Rule 10-01 of Regulation S-X promulgated by the Securities and Exchange Commission and, therefore, do not include all information and footnotes necessary for a fair presentation of financial position, results of operations and cash flows in conformity with accounting principles generally accepted in the United States. In the opinion of the Company, however, the accompanying unaudited consolidated financials statements contain all adjustments necessary for a fair statement of the Company’s financial position as of March 31, 2004 and its results of operations and its cash flows for the three month periods ended March 31, 2004 and 2003. The results of operations of the Company for the three month periods ended March 31, 2004 and 2003 may not be indicative of future results. These consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K filed for the year ended December 31, 2003.

     Nature of Operations

     The Company is a leading purchaser and collector of charged-off consumer receivables in the United States. These receivables are acquired from consumer credit originators, primarily credit card issuers, consumer finance companies, retail merchants and telecommunications and other utility providers as well as from resellers and other holders of consumer debt. As part of the collection process, the Company occasionally sells receivables from these portfolios to other unaffiliated companies.

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     The Company also finances the sales of consumer product retailers located primarily in Michigan and Florida.

     Purchased Receivables Portfolios and Revenue Recognition

     Purchased receivables are receivables which have been charged-off as uncollectible by the originating organization and typically have been subject to previous collection efforts. The Company acquires the rights to the unrecovered balances owed by individual debtors through such purchases. The receivables portfolios are purchased at a substantial discount (usually discounted 95% to 98%) from their face amounts and are initially recorded at the Company’s cost to acquire the portfolio. Financing for the purchases is primarily provided by the Company’s lines of credit and cash from operations.

     The Company accounts for its investment in purchased receivables using the guidance provided by the Accounting Standards Executive Committee Practice Bulletin 6, “Amortization of Discounts on Certain Acquired Loans.” The Company purchases pools of homogenous accounts receivable (static pool) and records each pool at its acquisition cost. Each static pool retains its own identity and does not change. Each pool is accounted for as a single unit for recognition of revenue, principal payments and impairment. Collections on each static pool are allocated to revenue and principal reduction based on the estimated internal rate of return (“IRR”). The IRR is the rate of return that each static pool requires to amortize the cost or carrying value of the pool to zero over its estimated life. Each pool’s IRR is determined by estimating future cash flows, which are based on historical collection data for pools with similar characteristics (paper type). Based on historical cash collections, each pool is given an expected life of 60 months. The actual life of each pool may vary, but each pool generally amortizes between 50 and 60 months. Monthly cash flows greater than revenue recognized will reduce the carrying value of each static pool and monthly cash flows lower than revenue recognized will increase the carrying value of the static pool. Each pool is reviewed monthly and compared to historical cash flows, by paper type, to determine whether each pool is performing as expected. If a pool is not performing as expected, the IRR is adjusted either up or down so that the carrying value of the pool amortizes close to its expected life.

     The cost recovery method prescribed by Practice Bulletin 6 is used when collections on a particular portfolio cannot be reasonably predicted. Under the cost recovery method, no revenue is recognized until we have fully collected the cost of the portfolio. As of March 31, 2004, we had 52 pools on the cost recovery method with an aggregate carrying value of $2.8 million or less than 1.6% of the total carrying value of all purchased receivables.

     In the event that cash collected would be inadequate to amortize the carrying value, an impairment charge would be taken with a corresponding write-off of the receivable balance. Accordingly, a reserve for impairment is not maintained for purchased receivables.

     The agreements to purchase receivables typically include general representations and warranties from the sellers covering account holder death, bankruptcy, age of account and settled or disputed accounts prior to sale. The representation and warranty period permits the return of certain accounts from the Company back to the seller. The general time frame to return accounts is within 60 to 365 days. Returns are applied against the carrying value of the static pool.

     Periodically the Company will sell, on a non-recourse basis, all or a portion of a pool to third parties. The Company does not have any significant continuing involvement with the sold pools subsequent to sale. Proceeds of these sales are generally compared to the carrying value of the accounts; a gain or loss is recognized on the difference between proceeds received and carrying value.

     Changes in purchased receivables portfolios for the three months ended March 31, 2004 and March 31, 2003 were as follows:

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     Finance Contract Receivables

     Finance contract revenues are recognized based on the accretion of the discount at which these contracts are financed over their respective terms. Unearned discounts on finance contract receivables were approximately $403,000 and $417,000 at March 31, 2004 and December 31, 2003, respectively. The fair value of finance contract receivables does not materially differ from their book value. Interest is recognized over the life of the contract. An allowance for doubtful accounts is established to reflect accounts for which collection has been delayed or is in doubt. The allowance for doubtful accounts, which is netted against finance contract receivables on the consolidated statements of financial position, was approximately $88,000 and $106,000 at March 31, 2004 and December 31, 2003, respectively.

     Collections from Third Parties

     The Company regularly utilizes unaffiliated third parties, primarily attorneys and other contingent collection agencies, to collect certain account balances on behalf of the Company in exchange for a percentage of balances collected by the third party. The Company records the gross proceeds received by the unaffiliated third parties as cash collections. The Company includes the reimbursement of certain legal and other costs as cash collections. The Company records the percentage of the gross collections paid to the third parties as a component of collection expense. The percent of gross collections from such third party relationships were 18.9% and 15.1% for the three months ended March 31, 2004 and 2003, respectively.

     Initial Public Offering

     The Company received net proceeds of $96.1 million from the initial public offering of 7,000,000 shares of common stock which were used to eliminate the related party debt of $40.0 million, reduce the line of credit by $37.7 million and pay withholding taxes on behalf of the SAR holders in the amount of $18.4 million.

     Share Appreciation Rights Compensation Charge

     As previously announced in the Company's S-1 Registration Statement and the Company's Annual Report on form 10-K, the Company recognized a compensation charge (including related payroll taxes) of $45.7 million ($28.7 million net of income taxes) during the first quarter of 2004 for its share appreciation rights plan. The share appreciation rights plan, adopted by Asset Acceptance Holdings LLC during 2002, granted participants the right to share in the appreciation of the value of Asset Acceptance Holdings LLC. The benefit earned was based on certain financial objectives and vested 100% upon completion of the IPO. There were 1,200,638 share appreciation rights outstanding at the time of the IPO.

     Deferred Tax Charge

     As previously announced in the Company's S-1 Registration Statement and the Company's Annual Report on form 10-K, the Company recognized a deferred tax charge of $19.3 million during the first quarter of 2004 related to deferred taxes of RBR Holding Corp. RBR Holding Corp. was previously taxed as an S corporation under the Internal Revenue Code. The shareholders of RBR Holding Corp. included their respective shares of taxable income or loss in their individual tax returns and therefore no income tax expense was recognized on the financial statements of the Company. As a result of the reorganization completed on February 4, 2004, RBR Holding Corp. became a wholly-owned subsidiary of the Company and could no longer be taxed as an S Corporation. The provision for deferred income taxes results from temporary differences between the financial statement carrying amounts and tax basis of assets and liabilities using enacted tax rates.

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2. Related-Party Transactions

     On October 1, 2002, the Company borrowed $35.0 million from its shareholders. Interest on the note of 10% per annum, compounded on June 30 and December 31 of each year, and matured September 30, 2007 or upon the sale of substantially all assets of the Company or the sale of additional equity of the Company. The Company recognized $433,536 and $889,682 of interest expense on these notes for the three months ended March 31, 2004 and 2003, respectively. The Company owed the related party $39,560,110 as of December 31, 2003. This note was paid in full during February 2004.

3. Line of Credit

     The Company has a $100.0 million line of credit with a syndication of commercial lenders which originated September 30, 2002 and was amended most recently February 11, 2004. The Line is collateralized by all assets of the Company and expires May 31, 2007. Interest is at prime, or depending on the Company’s liquidity, at 25 basis points over prime, or alternatively, at rates between 200 and 275 basis points over the 30, 60, or 90 day LIBOR rate. The outstanding balance was $15,400,000 and $72,950,000 at March 31, 2004 and December 31, 2003, respectively. The line of credit facility has certain covenants and restrictions with which the Company must comply, including:

	•		Funds borrowed can be used to purchase portfolios of charged-off receivables and for general corporate purposes.
	•		Leverage ratio (as defined in the line of credit agreement) cannot exceed 1.5 to 1.0.
	•		Debt to total capitalization ratio (as defined in the line of credit agreement) cannot exceed 1.25 to 1.0.

     The Company’s management believes it is in compliance with all terms of its line of credit agreement as of March 31, 2004.

4. Property and Equipment

     Property and equipment, having estimated useful lives ranging from three to ten years consisted of the following:

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5. Stock Based Compensation

     Effective January 1, 2004, the Company adopted the fair value recognition provisions of FAS 123, “Accounting for Stock-Based Compensation,” prospectively to all employee awards granted, modified, or settled after January 1, 2004.

     The Company adopted a stock incentive plan during February 2004 which authorizes the use of stock options, stock appreciation rights, restricted stock grants and units, performance share awards and annual incentive awards to key employees, primarily management. The Company has reserved 3,700,000 shares of common stock for issuance in conjunction with all options and other stock-based awards to be granted under the plan. The purpose of the plan is (1) to promote the best interests of the Company and its shareholders by encouraging employees to acquire an ownership interest in the Company, thus identifying their interests with those of shareholders and (2) to enhance the ability of the Company to attract and retain qualified employees, consultants and non-employee directors. No participant may be granted options during any one fiscal year to purchase more than 500,000 shares of Common Stock.

Stock Options

     As of March 31, 2004 the Company had issued 75,000 stock options under the plan. All options, granted under the Stock Incentive Plan, vest 50% after one year and 100% after two years. These options have been granted to non-employee directors of the Company. The related expense of $23,936 for the three months ended March 31, 2004 is included in administrative expenses. The following summarizes all stock option related transactions from January 1, 2004 through March 31, 2004.

     The following options information is as of March 31, 2004:

     The Company utilizes the Black-Scholes option-pricing model to calculate the value of the stock options when granted. This model was developed to estimate the fair value of traded options, which have different characteristics than employee stock options. In addition, changes to the subjective input assumptions can result in materially different fair market value estimates. The Black-Scholes model may not necessarily provide a reliable single measure of the fair value of employee stock options. The fair value of each option was based on the following assumptions:

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     Share Appreciation Rights

     In 2002, Asset Acceptance Holdings LLC adopted a share appreciation rights plan for certain key employees. The purpose of the plan was to further the long-term stability and financial success of the Company, as participants in the plan have the potential to share in the appreciation of the value of Asset Acceptance Holdings LLC. A benefit may be earned by participants if certain financial objectives are met upon partial or complete liquidation events, as defined in the plan.

     In connection with the consummation of the Company’s initial public offering in February 2004, the Company exercised its right to vest 100% of the share appreciation rights held by the participants in the plan which resulted in payment of $18.4 million dollars for the applicable withholding taxes due by the participants and the issuance of 1,776,826 unregistered shares of the Company’s common stock to the participants. As a result, the Company recognized a compensation charge including employer payroll taxes of $45.7 million ($28.7 million net of tax) during the first quarter of 2004 for its share appreciation rights plan.

6. Litigation Contingencies

     The Company is involved in certain legal matters that management considers incidental to its business. Management has evaluated pending and threatened litigation against the Company as of March 31, 2004 and does not believe exposure to be material.

7. Income taxes

     Income taxes for the three months ended March 31, 2004 included: (1) a deferred tax charge of $19.3 million resulting from RBR Holding Corp. losing its S Corporation tax status after becoming a wholly-owned subsidiary of Asset Acceptance Capital Corp. during the first quarter of 2004 and (2) a tax benefit of $17.0 million from the vesting of 1,200,638 share appreciation rights related to Asset Acceptance Holdings LLC’s 2002 share appreciation rights plan.

     Income taxes for the three months ended March 31, 2004 (excluding the deferred tax charge related to RBR Holding Corp. and the tax benefit related to the vesting of the share appreciation rights) reflected income tax expense on only 60% of pretax income for the period January 1, 2004 through February 4, 2004, as RBR Holding Corp. (then a 40% owner of Asset Acceptance Holdings LLC) was taxed as a S corporation under the Internal Revenue Code and therefore taxable income was included on the shareholders’ individual tax returns. Income taxes during the period of February 5, 2004 through March 31, 2004 reflected income tax expense on 100% of pretax income as RBR Holding Corp. became a wholly-owned subsidiary of Asset Acceptance Capital Corp. as part of the reorganization that occurred on February 4, 2004 related to the IPO. Income taxes for the three month period ended March 31, 2003 of $2.0 million reflected income tax expense on only 60% of pretax income as RBR Holding Corp. was taxed as an S corporation under the Internal Revenue Code and therefore taxable income was included on the shareholders’ individual tax returns.

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     Components of income tax expense are set forth below:

     Tax expense differs from the application of statutory rates to pretax income. The reconciliation of income tax expense and the statutory rates is set forth below:

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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Forward Looking Statements

     Certain statements made in this Report could be construed to be forward-looking statements within the meaning given in the Securities Exchange Act of 1934. These statements include, without limitation, statements about future events or our future financial performance. In some cases, forward-looking statements can be identified by terminology such as “may”, “will”, “should”, “expect”, “anticipate”, “intend”, “plan”, “believe”, “estimate”, “potential” or “continue”, the negative of these terms or other comparable terminology. In addition, we, or persons acting on our behalf, may from time to time publish or communicate other items that could also be construed to be forward looking statements. Statements of this sort are or will be based on our estimates, assumptions and projections, and are subject to risks and uncertainties, including those specifically listed below that could cause actual results to differ materially from those included in the forward looking statements.

     Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. Except as required by law, we undertake no obligation to update publicly any forward-looking statements for any reason after the date of this Report to conform these statements to actual results or to changes in our expectations. Factors that could affect our results and cause them to materially differ from those contained in the forward-looking statements include the following.

	•		our ability to purchase charged-off receivable portfolios on acceptable terms and in sufficient amounts;
	•		our ability to maintain existing, and secure additional, financing on acceptable terms;
	•		our ability to recover sufficient amounts on our charged-off receivable portfolios;
	•		our ability to make accurate estimates of the timing and amount of future cash receipts for purposes of recording purchased receivable revenues in accordance with Accounting Standards Executive Committee Practice Bulletin 6 (PB6);
	•		our ability to hire and retain qualified personnel;
	•		a decrease in collections if bankruptcy filings increase or if bankruptcy laws or other debt collection laws change;
	•		changes in, or failure to comply with, governmental regulations;
	•		the costs, uncertainties and other effects of legal and administrative proceedings;
	•		our ability to respond to changes in technology and increased competition; and
	•		other unanticipated events and conditions that may hinder our ability to compete.

Significant Events during the three months ended March 31, 2004

     Reorganization and Initial Public Offering

     We completed a reorganization on February 4, 2004 and commenced an initial public offering (“IPO”) of common stock on February 5, 2004. The reorganization was completed pursuant to which all of the shares of capital stock of AAC Investors, Inc. and RBR Holding Corp., which held 60% and 40% of the ownership interests in Asset Acceptance Holdings LLC, respectively, were contributed to Asset

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Acceptance Capital Corp. in exchange for all of the outstanding shares of common stock of Asset Acceptance Capital Corp. The resulting consolidated entity includes Asset Acceptance Capital Corp., AAC Investors, Inc., RBR Holding Corp. and Asset Acceptance Holdings LLC and its subsidiaries. Prior to this reorganization, Asset Acceptance Capital Corp. did not conduct any business and did not have any assets or liabilities, except as related to the IPO.

     We received net proceeds of $96.1 million from the initial public offering of 7,000,000 shares of common stock which were used to eliminate related party debt of $40.0 million, reduce the line of credit by $37.7 million and pay withholding taxes on behalf of SAR holders in the amount of $18.4 million.

Share Appreciation Rights Compensation Charge

     We recognized a compensation charge of $45.0 million and $0.7 million of related payroll taxes ($28.7 million net of income taxes) during the first quarter of 2004 for the vesting of share appreciation rights. The share appreciation rights plan, adopted by Asset Acceptance Holdings LLC during 2002, granted participants the right to share in the appreciation of the value of Asset Acceptance Holdings LLC. The benefit earned was based on certain financial objectives and vested 100% upon completion of the IPO. There were 1,200,638 share appreciation rights outstanding at the time of the IPO.

Deferred Tax Charge

     We recognized a deferred tax charge of $19.3 million during the first quarter of 2004 related to deferred taxes of RBR Holding Corp. Prior to the reorganization completed on February 4, 2004, RBR Holding Corp. was taxed as an S corporation under the Internal Revenue Code and the shareholders of RBR Holding Corp. included their respective shares of taxable income or loss in their individual tax returns. As a result of the reorganization, RBR Holding Corp. became a wholly-owned subsidiary of Asset Acceptance Capital Corp. and could no longer be taxed as an S Corporation. Deferred income taxes were recognized in the first quarter of 2004 for the cumulative effect of all prior periods that RBR Holding Corp. was an S corporation.

Results of Operations

     The following table sets forth selected statement of income data expressed as a percentage of total revenues for the periods indicated.

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     Three Months Ended March 31, 2004 Compared To Three Months Ended March 31, 2003

     Revenue

     Total revenues were $49.7 million for the three months ended March 31, 2004, an increase of $14.9 million or 43.1% over total revenues of $34.8 million for the three months ended March 31, 2003. Purchased receivable revenues were $49.6 million for the three months ended March 31, 2004, an increase of $15.0 million or 43.3% over the three months ended March 31, 2003 amount of $34.6 million. The increase was due primarily to an increase in cash collections on charged-off consumer receivables to $65.2 million from $44.0 million, an increase of 48.1%. The increase in collections was primarily due to the increased number of consumer receivable portfolios as well as a heightened focus on collector efficiency. During the three months ended March 31, 2004, we acquired charged-off consumer receivables portfolios with an aggregate face value amount, net of buybacks, of $514.1 million at a cost of $12.4 million. Included in the 2004 purchases were two forward flow purchases with an aggregate face value of $80.6 million at a cost of $2.4 million. During the three months ended March 31, 2003, we acquired charged-off consumer receivables portfolios with an aggregate face value, net of buybacks, of $897.9 million at a cost of $23.1 million.

     Operating Expenses

     Total operating expenses were $77.2 million for the three months ended March 31, 2004, an increase of $54.2 million or 235.6% compared to total operating expenses of $23.0 million for the three months ended March 31, 2003. Total operating expenses were 118.3% of cash collections for the three months ended March 31, 2004 compared with 52.2% for the same period in 2003. Operating expenses include a $45.0 million compensation charge and a $0.7 million payroll tax charge related to the vesting of the outstanding share appreciation rights. Excluding the share appreciation rights and related payroll tax charge, total operating expenses were $31.5 million for the three months ended March 31, 2004, an increase of $8.5 million or 36.9% over the prior year. Excluding the share appreciation rights charge and related payroll taxes, operating expenses decreased to 48.3% of cash collections for the three months ended March 31, 2004 from 52.2% of cash collections for the same three month period in 2003. The improvement in operating expenses as a percent of cash collections was primarily attributable to strong collections resulting from an increased focus on collector efficiency combined with lower purchases of receivable portfolios during the first quarter of 2004 compared with the first quarter of 2003 which resulted in lower expenses associated with initial collection efforts.

     Salaries and Benefits. Salary and benefit expenses were $61.4 million for the three months ended March 31, 2004, an increase of $50.0 million or 440.7% compared to salary and benefit expenses of $11.4 million for the three months ended March 31, 2003. Salary and benefit expenses increased primarily due to a $45.0 million charge related to the vesting of the outstanding share appreciation rights and $0.7 million in related payroll taxes.

     Excluding the share appreciation rights charge and related payroll taxes, salary and benefit expenses were $15.7 million for the three months ended March 31, 2004, an increase of $4.3 million or 38.6% compared to 2003. The increase over the prior year was due to an increase in total employees which grew to 1,562 at March 31, 2004 from 1,302 at March 31, 2003, primarily in response to the growth in the number of portfolios of charged-off consumer receivables owned by us. As a percentage of cash collections, salary and benefit expenses, excluding the $45.7 million one-time charge described above, decreased to 24.2% for the three months ended March 31, 2004 from 25.8% of cash collections for the same period in 2003. The decrease as a percent of cash collections was primarily attributable to increased collector efficiencies during the first quarter of 2004 compared to the same period last year, partially offset by an increase in related bonuses paid to collectors.

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     Collections Expense. Collections expense increased to $12.3 million for the three months ended March 31, 2004 reflecting an increase of $3.1 million or 34.4% over $9.2 million for the three months ended March 31, 2003. The increase was primarily attributable to the increased number of accounts on which we were collecting. Collections expense decreased to 18.9% of cash collections for the three months ended March 31, 2004 from 20.8% for the three months ended March 31, 2003. This decrease was primarily due to a decrease in the number of new accounts purchased in the quarter compared to the same period last year. The decrease in acquisitions led to lower letter volumes, credit reports and other collection expenses normally associated with initial collection efforts.

     Occupancy. Occupancy expense was $1.4 million for the three months ended March 31, 2004, an increase of $0.4 million or 46.7% over occupancy expense of $1.0 million for the three months ended March 31, 2003. The increase was primarily attributable to the move of our Florida location to Riverview, Florida in January 2004, the move of our Phoenix, Arizona location and the addition of our Chicago, Illinois location in September 2003.

     Administrative. Administrative expenses increased to $1.3 million for the three months ended March 31, 2004 from $0.9 million for the three months ended March 31, 2003, reflecting a $0.4 million or 45.1% increase. The increase in administrative expenses was principally a result of the increased number of accounts being processed.

     Depreciation. Depreciation expense was $0.7 million for the three months ended March 31, 2004, an increase of $0.1 million or 13.1% over depreciation expense of $0.6 million for the three months ended March 31, 2003. The increase was due to capital expenditures during 2004 and 2003 which were required to support the increased number of accounts serviced by us and the purchase of furniture and technology equipment in our new and expanded facilities.

     Net Interest Expense

     Net interest expense was $1.0 million for the three months ended March 31, 2004, a decrease of $0.8 million or 45.7% compared to net interest expense of $1.8 million for the three months ended March 31, 2003. During February 2004, the company paid in full a related party debt of $40.0 million which resulted in a reduction in interest expense of $0.5 million during the three month ended March 31, 2004 compared to the same period the prior year. Additionally, the decrease in interest expense was due to lower average borrowings on our line of credit, which decreased to $42.4 million for the three months ended March 31, 2004 from $67.9 million for the same period in 2003. The reduction in our average borrowings was due primarily to payment of $37.7 million of debt from the proceeds of the IPO.

     Income Taxes

     Income taxes of $7.8 million for the three months ended March 31, 2004 included: (1) a deferred tax charge of $19.3 million resulting from RBR Holding Corp. losing its S Corporation tax status after becoming a wholly-owned subsidiary of Asset Acceptance Capital Corp. during the first quarter of 2004 and (2) a tax benefit of $17.0 million from the vesting of 1,200,638 share appreciation rights related to Asset Acceptance Holdings LLC’s 2002 share appreciation rights plan.

     Income taxes for the three months ended March 31, 2004 (excluding the deferred tax charge related to RBR Holding Corp. and the tax benefit related to the vesting of the share appreciation rights) reflected income tax expense on only 60% of pretax income for the period January 1, 2004 through February 4, 2004, as RBR Holding Corp. (then a 40% owner of Asset Acceptance Holdings LLC) was taxed as a S corporation under the Internal Revenue Code and therefore taxable income was included on the shareholders’ individual tax returns. Income taxes during the period of February 5, 2004 through March 31, 2004 reflected income tax expense on 100% of pretax income as RBR Holding Corp. became a wholly-owned subsidiary of Asset Acceptance Capital Corp. as part of the reorganization that occurred on February 4, 2004 related to our IPO. Income taxes for the three month period ended March 31, 2003 of $2.0 million reflected income tax expense on only 60% of pretax income as RBR Holding Corp. was taxed as an S corporation under the Internal Revenue Code and therefore taxable income was included on the shareholders’ individual tax returns.

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Supplemental Performance Data

     Portfolio Performance

     The following table summarizes our historical portfolio purchase price and cash collections on an annual vintage basis since 1990 through March 31, 2004.

     Cash Collections

     The following tables provide further detailed vintage collection analysis on an annual and a cumulative basis.

Historical Collections (1)

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Cumulative Collections (1)

     Changes in Purchased Receivables

     The following table shows the changes in purchased receivables, including the amounts paid to acquire new portfolios, and the correlation between our cash collections on our purchased portfolios and revenue recognized on purchased receivables.

Seasonality

     Our business depends on our ability to collect on our purchased portfolios of charged-off consumer receivables. Collections within portfolios tend to be seasonally higher in the first and second quarters of the year due to consumers’ receipt of tax refunds and other factors. Conversely, collections within portfolios tend to be lower in the third and fourth quarters of the year due to consumers’ spending in connection with summer vacations, the holiday season and other factors. Our historical growth in purchased portfolios and in our resultant quarterly cash collections has helped to minimize the effect of seasonal cash collections.

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Operating expenses are seasonally higher during the first and second quarters of the year due to expenses necessary to process the increase in cash collections. However, revenue recognized is relatively level due to the application of the interest method for revenue recognition. In addition, our operating results may be affected to a lesser extent by the timing of purchases of portfolios of charged-off consumer receivables due to the initial costs associated with purchasing and integrating these receivables into our system. Consequently, income and margins may fluctuate quarter to quarter.

     Below is a chart that illustrates our quarterly collections for years 2000 through March 31, 2004.

     The following chart categorizes our purchased receivables portfolios, as of March 31, 2004, into the major asset types represented:

     The age of a charged-off consumer receivables portfolio, or the time since an account has been charged-off, is an important factor in determining the value at which we will offer to purchase a receivables portfolio. Generally, there is an inverse relationship between the age of a portfolio and the price at which

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we will purchase the portfolio. This relationship is due to the fact that older receivables typically are more difficult to collect. The accounts receivable management industry places receivables into the following categories depending on the number of collection agencies that have previously attempted to collect on the receivables:

	•		Fresh accounts are typically 120 to 270 days past due, have been charged-off by the credit originator and are either being sold prior to any post charge-off collection activity or are placed with a third party for the first time. These accounts typically sell for the highest purchase price.
	•		Primary accounts are typically 270 to 360 days past due, have been previously placed with one third party collector and typically receive a lower purchase price.
	•		Secondary and tertiary accounts are typically more than 360 days past due, have been placed with two or three third party collectors and receive even lower purchase prices.

     We specialize in the primary, secondary and tertiary markets but we will purchase accounts at any point in the delinquency cycle. We deploy our capital within these markets based upon the relative values of the available debt portfolios.

     The following chart categorizes our purchased receivables portfolios, as of March 31, 2004, into the major account types represented:

     We also review the geographic distribution of accounts within a portfolio because we have found that certain states have less favorable collection laws than others and, therefore, are less desirable from a collectibility perspective. The following chart illustrates, as of March 31, 2004, our purchased receivables portfolios based on geographic location of debtor:

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Liquidity and Capital Resources

     Historically, our primary sources of cash have been from operations and bank borrowings. However, during the first quarter of 2004 we completed our initial public offering and used $77.7 million of the proceeds to reduce our outstanding debt. We have traditionally used cash for acquisitions of purchased receivables, repayment of bank borrowings, purchasing property and equipment and working capital to support growth.

     Borrowings

     We maintain a $100.0 million line of credit secured by a first priority lien on all of our assets that expires in May 2007 and bears interest at prime or 25 basis points over prime depending upon our liquidity as defined in the credit agreement. Alternately, at our discretion, we may borrow by entering into 30, 60 or 90 day LIBOR contracts at rates between 200 to 275 basis points over the respective LIBOR rates, depending on our liquidity. As of March 31, 2004, the balance outstanding on our line of credit was $15.4 million and had a weighted average interest rate of 3.81%. The line of credit has certain covenants and restrictions which we believe we are in compliance with as of March 31, 2004. During February 2004, we used $37.7 million of the proceeds from the IPO to reduce the outstanding amount on our line of credit.

     At December 31, 2003, we had a note payable outstanding to a related party totaling $39.6 million including principal and accrued interest. During February 2004, we used $40.0 million of the proceeds from the IPO to pay our related party debt in full.

     Cash Flows

     The majority of our purchases have been funded with internal cash flow. From January 1, 2002 through March 31, 2004, we invested $173.5 million in purchased receivables while our balance under the line of credit, increased by $15.4 million (excluding the payment of $37.7 million on our line of credit from the proceeds of the IPO).

     Company funds generated by operations, investing and financing activities, as reported in the consolidated statements of cash flows are summarized below.

     Our operating activities provided cash of $0.1 million and $13.2 million for the three months ended March 31, 2004 and 2003, respectively. Cash provided by operating activities for the three months ended March 31, 2004 includes the use of cash of $19.0 million for payment of withholding taxes and employer taxes related to the share appreciation rights. Excluding this use of cash, cash provided by operating activities would have been $19.1 million. Cash provided by operating activities for the three months ended March 31, 2003 of $13.2 million was generated primarily from net income earned through cash collections.

     Investing activities provided cash of $4.5 million for the three months ended March 31, 2004 and used cash of $14.1 million for the same period in 2003. For the three months ended March 31, 2004, cash provided from investing activities was primarily due to an excess of cash collections applied to principal over acquisitions of purchased receivables. For the three months ended March 31, 2003, cash used for investing purposes was primarily due to acquisitions of purchased receivables, net of cash collections applied to principal.

     Financing activities used cash of $2.0 million for the three months ended March 31, 2004 and provided cash of $3.0 million for the same period in 2003. During 2004, the cash used for financing purposes was

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primarily due to the payment of notes to related parties and our line of credit. During 2003, borrowings under our line of credit, net of repayments, and borrowings from a related party were the primary sources of cash provided during 2004.

     Cash paid for interest was $1.0 million and $0.8 million for the three months ended March 31, 2004 and 2003, respectively. Cash paid for interest consisted of $0.6 million for the line of credit and $0.4 million paid for the related party debt for the three months ended March 31, 2004 and consisted of $0.8 million for the line of credit for the three months ended March 31, 2003.

     We believe that borrowing available under our line of credit, combined with cash generated from operations, should be sufficient to fund our operations for the next 12 months, although no assurance can be given in this regard. In the future, if we need additional capital for investment in purchased receivables, working capital or to grow our business or acquire other businesses, we may seek to sell equity or debt securities or secure additional availability under our line of credit.

Future Contractual Cash Obligations

     During February 2004, we reduced our outstanding debt by $77.7 million with a portion of the proceeds received from the IPO. We used $40.0 million of the proceeds to pay our related party debt in full and used $37.7 million to reduce our line of credit.

     The following table summarizes our future contractual cash obligations as of March 31, 2004: