Table of Contents

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

Form 10-Q

x                Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

for the quarterly period ended March 31, 2012

OR

o                   Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

for the transition period from              to              

Commission file number: 001-34915

NETSPEND HOLDINGS, INC.

(Exact name of registrant as specified in its charter)

(512) 532-8200

(Registrant’s telephone number, including area code)

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

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

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

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

The Registrant had 76,458,200 shares of common stock, par value $0.001 per share, outstanding as of May 2, 2012.

Table of Contents

TABLE OF CONTENTS

Table of Contents

PART I. FINANCIAL INFORMATION

Item 1. Unaudited Financial Statements

NetSpend Holdings, Inc.

Condensed Consolidated Balance Sheets

As of March 31, 2012 and December 31, 2011

 See accompanying notes to the unaudited condensed consolidated financial statements.

1

Table of Contents

NetSpend Holdings, Inc.

Condensed Consolidated Statements of Operations

For the Three Months Ended March 31, 2012 and 2011

(Unaudited)

See accompanying notes to the unaudited condensed consolidated financial statements.

2

Table of Contents

NetSpend Holdings, Inc.

Condensed Consolidated Statements of Comprehensive Income

For the Three Months Ended March 31, 2012 and 2011

(Unaudited)

See accompanying notes to the unaudited condensed consolidated financial statements.

3

Table of Contents

NetSpend Holdings, Inc.

Condensed Consolidated Statement of Changes in Stockholders’ Equity

For the Three Months Ended March 31, 2012

(Unaudited)

See accompanying notes to the unaudited condensed consolidated financial statements.

4

Table of Contents

NetSpend Holdings, Inc.

Condensed Consolidated Statements of Cash Flows

For the Three Months Ended March 31, 2012 and 2011

(Unaudited)

See accompanying notes to the unaudited condensed consolidated financial statements.

5

Table of Contents

NetSpend Holdings, Inc.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

Note 1: Organization and Business

Nature of Operations — NetSpend Holdings, Inc. (the ‘‘Company’’) was formed as a Delaware corporation on February 18, 2004 in connection with the recapitalization of one of the Company’s current subsidiaries, NetSpend Corporation, which was founded in 1999. The Company operates in one reportable business segment, providing general purpose reloadable (‘‘GPR’’) prepaid debit and payroll cards and alternative financial service solutions to underbanked and other consumers in the United States. The products marketed and managed by the Company provide underbanked consumers with access to FDIC-insured depository accounts with a menu of pricing and features specifically tailored to their needs. The Company has an extensive distribution and reload network comprised of financial service centers and other retail locations throughout the United States.

The Company’s common stock trades on the NASDAQ stock market under the symbol “NTSP.”

The Company is a program manager for the FDIC-insured depository institutions that issue the card products that the Company develops, promotes and distributes. The Company has agreements with, among others, Meta Payment Systems (“MetaBank”), a division of Meta Financial Group (“MFG”), Inter National Bank (“INB”), U.S. Bank (“USB”), SunTrust Bank (“SunTrust”), Regions Bank (“Regions”), a large bank headquartered in New England and The Bancorp Bank (“Bancorp” and, collectively with MetaBank, INB, USB, SunTrust, Regions and the other bank, the ‘‘Issuing Banks’’) whereby the Issuing Banks issue MasterCard International (‘‘MasterCard’’) or Visa USA, Inc. (‘‘Visa’’) branded cards to customers. The Company’s products may be used to purchase goods and services wherever MasterCard and Visa are accepted or to withdraw cash via automatic teller machines (‘‘ATMs’’).

Basis of Presentation — The accompanying unaudited condensed consolidated financial statements of NetSpend and its subsidiaries 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 of America (‘‘U.S. GAAP’’). The Company’s significant accounting policies are disclosed in the notes to the audited consolidated financial statements included in the Company’s Annual Report (the “Annual Report”) on Form 10-K for the year ended December 31, 2011. The condensed consolidated financial statements contained in this Quarterly Report on Form 10-Q should be read in conjunction with the consolidated financial statements and notes thereto contained in the Company’s Audited Consolidated Financial Statements for the year ended December 31, 2011 included in the Annual Report. Interim results are not necessarily indicative of results for a full year.

In the opinion of management, the accompanying condensed consolidated financial statements reflect all adjustments of a normal, recurring nature considered necessary to be fairly stated.

Use of Estimates —  The preparation of the Company’s financial statements requires management to make various estimates and it is reasonably possible that the circumstances underlying these estimates could change in the relatively near term. Such a change could result in a material revision to management’s estimates, which could result in a material change to the Company’s financial statements. These condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto for the year ended December 31, 2011 included in the Annual Report. The Annual Report provides additional disclosures regarding the nature of the estimates made by management in preparing the Company’s financial statements.

6

Table of Contents

NetSpend Holdings, Inc.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

Significant Concentrations — Financial instruments that potentially expose the Company to concentrations of credit risk consist primarily of cash and cash equivalents and accounts receivable. A significant portion of the Company’s cash is deposited in cash and money market funds at large depository institutions and is not eligible for FDIC insurance. The Company has not experienced any losses on its deposits to date. None of the Company’s cash and cash equivalents are held in offshore accounts and the Company does not have any direct exposure to risks associated with European sovereign debt. Accounts receivable as of March 31, 2012 and December 31, 2011 are primarily receivables due from cardholders for service fees and for interchange revenues due from the card associations and network organizations (collectively, the “Networks”) related to merchant point of sale transactions.

Cardholder funds and deposits related to the Company’s products are held at FDIC insured Issuing Banks for the benefit of the cardholders. Although the Company currently has agreements with seven Issuing Banks, MetaBank holds a large majority of cardholder funds. In September 2010, the Company amended its agreement with INB and agreed to transition the cards issued by INB to another bank on or prior to July 2011, at which time INB would cease serving as one of the Company’s Issuing Banks. In May 2011, the Company further amended its agreement with INB to extend this agreement through September 30, 2011. The Company is in the process of transitioning the distributors of cards issued by INB to another Issuing Bank and is operating under the wind-down provisions of its agreement with INB.

Interchange revenue, which is recorded net of sponsorship, licensing and processing fees charged by the Networks for the services they provide in processing purchase transactions routed through them, represented approximately 24.7% and 24.4% of the Company’s revenues during the three months ended March 31, 2012 and 2011, respectively.  The amounts of these fees were previously fixed by the Networks in their sole discretion.  The enactment of the Dodd Frank Wall Street Reform and Consumer Protection Act in May 2010 and the issuance of final regulations under this Act in June 2011 has imposed limits on the interchange fees that can be paid in connection with certain prepaid programs, effective October 2011.  The Company’s programs are largely exempt from these restrictions.

During each of the three months ended March 31, 2012 and 2011, the Company derived more than one-third of its revenues from cardholders acquired through one of its third-party distributors, ACE Cash Express, Inc. (‘‘ACE’’). The Company’s current distribution agreement with ACE is effective through March 2016.

Note 2: Other Financial Data

Compensating Balances and Restricted Cash — The Company has established compensating balances at certain of its Issuing Banks as security for its obligation to reimburse the Issuing Banks for overdrawn cardholder accounts that are not repaid by the cardholder. Some of these compensating balance accounts are included in the Company’s Condensed Consolidated Balance Sheets as cash and cash equivalents because there are no legal or contractual restrictions over the deposits in these accounts.  As of March 31, 2012 and December 31, 2011, these compensating balances totaled $0.3 million and $0.2 million, respectively.

Restricted cash is cash with statutory or contractual restrictions that prevent it from being used in the Company’s operations. Restricted cash is classified in other non-current assets on the Company’s Condensed Consolidated Balance Sheets. The Company had restricted cash of $0.5 million as of March 31, 2012 and December 31, 2011, respectively.

7

Table of Contents

NetSpend Holdings, Inc.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

Cardholders’ Reserve — The Company is exposed to losses due to cardholder fraud, payment defaults and other forms of cardholder activity as well as losses due to non-performance of third parties who receive cardholder funds for transmittal to the Issuing Banks. The Company establishes a reserve for the losses it estimates will arise from processing customer transactions, debit card overdrafts, chargebacks for unauthorized card use and merchant-related chargebacks due to non-delivery of goods or services. These reserves are established based upon historical loss and recovery rates and cardholder activity for which specific losses can be identified. The cardholders’ reserve was approximately $4.3 million and $3.9 million as of March 31, 2012 and December 31, 2011, respectively. The provision for cardholder losses is included in direct operating costs in the Condensed Consolidated Statements of Operations. The Company regularly updates its reserve estimate as new facts become known and events occur that may impact the settlement or recovery of losses.

Establishing the reserve for cardholder losses is an inherently uncertain process and the actual losses experienced by the Company may vary from the current estimate.

Note 3: Recent Accounting Pronouncements

New accounting pronouncements or changes in existing accounting pronouncements may have a significant effect on the results of operations, financial condition or net worth of the Company’s business operations.

In June 2011, the Financial Accounting Standards Board (“FASB”) issued amendments to the guidelines on presenting comprehensive income. The amendments require that all nonowner changes in stockholders’ equity be presented either in a single continuous statement of comprehensive income or in two separate but consecutive statements.  The amendments are effective for the first reporting period beginning after December 15, 2011 and are to be applied retrospectively.  The Company adopted these amendments during the quarter ended March 31, 2012. The adoption of these amendments did not have a material effect on the Company’s condensed consolidated financial statements.

Note 4:  Investments

The Company has one investment that consists of 150,000 shares of the common stock of MFG, the holding company of MetaBank. The investment in MFG is an available-for-sale security and is included in the Condensed Consolidated Balance Sheets as a long-term investment.

As of March 31, 2012, the fair value of the Company’s investment in MFG was $3.2 million, which approximated its initial purchase price.

8

Table of Contents

NetSpend Holdings, Inc.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

Note 5: Property, Equipment and Software

Property, equipment and software consisted of the following as of March 31, 2012 and December 31, 2011:

Property, equipment and software are assessed for impairment whenever events or circumstances indicate the carrying value of an asset group may not be fully recoverable. This assessment involves a comparison between the carrying value of the asset group to the total future undiscounted cash flows associated with it. Impairment is recorded for long-lived assets in an amount equal to the excess of the carrying amount of the asset group over its estimated fair value. During the three months ended March 31, 2012, there were no events or circumstances indicating that the Company’s long-lived assets were impaired.

Depreciation expense for the three months ended March 31, 2012 and 2011 was approximately $2.9 million and $2.8 million, respectively.

Note 6: Intangible Assets

Intangible assets consisted of the following as of March 31, 2012 and December 31, 2011:

Amortization expense for each of the three months ended March 31, 2012 and 2011 was $0.9 million.

9

Table of Contents

NetSpend Holdings, Inc.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

Note 7: Accrued Expenses

Accrued expenses as of March 31, 2012 and December 31, 2011 consisted of the following:

Note 8: Debt

As of March 31, 2012, the Company’s outstanding debt included $58.5 million of long-term borrowings under the Company’s revolving credit facility, under which SunTrust acts as administrative agent.

Outstanding balances under the Company’s current revolving credit facility are scheduled to mature in September 2015. During the three months ended March 31, 2012, the outstanding borrowings under this facility bore interest at a weighted average rate of 3.1%.

Under the Company’s credit facility, letters of credit may be issued for a period of up to one year (subject to any automatic renewal provisions), although all such letters of credit must expire at least ten business days prior to the current credit facility’s maturity date.  As of March 31, 2012, the Company had $1.2 million in letters of credit outstanding and had $13.8 million in letters of credit available for issuance.

Note 9: Fair Value of Assets and Liabilities

Fair value is defined in U.S. GAAP as the price that would be received from selling an asset or paid to transfer a liability in an orderly transaction between arms-length market participants at the measurement date. When determining the fair value of its assets and liabilities, the Company considers the principal or most advantageous market in which it would transact and considers assumptions market participants would use, such as inherent risk, transfer restrictions and the risk of nonperformance.

The Company’s financial instruments include cash, cash equivalents, accounts receivable, long-term investments, accounts payable and borrowings under its revolving credit facility. As of March 31, 2012 and December 31, 2011, the fair values of the Company’s cash, cash equivalents, accounts receivable and accounts payable approximated the carrying values of these instruments presented in the Company’s Condensed Consolidated Balance Sheets because of their short-term nature.

10

Table of Contents

NetSpend Holdings, Inc.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

The following table is a summary of the Company’s assets measured at fair value on a recurring basis:

Fair value is estimated by applying a hierarchy that prioritizes the inputs used to measure fair value into three levels and bases the categorization within the hierarchy upon the lowest level of input that is available and significant to the fair value measurement:

Level 1 — Quoted prices in active markets for identical assets or liabilities;

Level 2 — Observable inputs other than quoted prices in active markets for identical assets and liabilities, quoted prices for identical or similar assets or liabilities in inactive markets or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities; and

Level 3 — Inputs that are generally unobservable and typically reflect management’s estimate of assumptions that market participants would use in pricing the asset or liability.

The Company had no transfers between Level 1, Level 2 or Level 3 assets during the three months ended March 31, 2012.

As of March 31, 2012 and December 31, 2011, the Company’s long-term investment in MFG (see “Note 4”) was recorded at its fair value based on a quoted price in an active market.

As of March 31, 2012 and December 31, 2011, the fair value of the Company’s borrowings under its revolving credit agreement were categorized as a Level 2 liability within the hierarchy and approximated their carrying value based on prevailing market rates for borrowings with similar ratings and maturities.

11

Table of Contents

NetSpend Holdings, Inc.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

The following table presents the amortized cost, gross unrealized gains and losses and fair value for the Company’s investment security:

Note 10: Stockholders’ Equity

Treasury stock is accounted for under the cost method and is included as a component of stockholders’ equity.  In November 2011, the Company’s board of directors approved a $25 million share repurchase program that was completed in February 2012.  During the three months ended March 31, 2012, the Company repurchased 2,050,959 shares of common stock for $17.4 million pursuant to this program.

Certain of the stock options issued to the Company’s Chief Executive Officer (the “CEO”) prior to the Company’s initial public offering (“IPO”) in October 2010 contain rights to dividend equivalents.  The dividend equivalents relate to dividends paid by the Company in 2008 and are paid when the underlying options vest.  The Company paid $0.4 million in dividend equivalents during the three months ended March 31, 2011. The Company did not pay any dividend equivalents during the three months ended March 31, 2012.

Note 11: Share Based Payment

During the three months ended March 31, 2012, the Company granted 1.3 million options with a fair value of $6.2 million and issued 0.6 million shares of restricted stock with a fair value of $5.5 million to officers and employees under the Amended and Restated NetSpend Holdings, Inc. 2004 Equity Incentive Plan (the “2004 Plan”). In addition, the Company issued less than 0.1 million shares of restricted stock with a fair value of $0.5 million to members of its board of directors under the 2004 Plan, some of which were issued in lieu of cash retainer fees.  The options and shares of restricted stock issued to employees generally vest in four equal installments on the four succeeding anniversaries of the grant date. The restricted stock issued to members of the board of directors vests one year from the grant date. Compensation expense associated with these equity awards is recognized on a straight-line basis over the requisite service period, net of estimated forfeitures.

The following table summarizes the assumptions used to value options issued during the three months ended March 31, 2012:

12

Table of Contents

NetSpend Holdings, Inc.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

Note 12: Earnings Per Share

Basic earnings (loss) per common share is calculated by dividing net income (loss)  available to common stockholders by the number of weighted average common shares issued and outstanding for the period.  The Company calculates basic and diluted earnings (loss) per share using the treasury stock method, the if-converted method and the two-class method, as applicable.

Certain of the CEO’s stock options contain rights to dividend equivalents.  These options and the outstanding shares of the Company’s series A convertible preferred stock are considered participating securities.  In calculating basic earnings per share using the two-class method, earnings available to participating securities are excluded from net income available to common shareholders.

Diluted earnings (loss) per common share is calculated by dividing net income (loss) available to common stockholders by the weighted average number of common shares issued and outstanding for the period, plus amounts representing the dilutive effect of stock options, restricted stock and the conversion of convertible preferred stock, as applicable. The Company calculates dilutive potential common shares using the treasury stock method. This method assumes that the Company will use the proceeds from the exercise of stock options to repurchase shares of common stock to hold in its treasury stock reserves.

The computation of diluted net loss per share for the three months ended March 31, 2012 excludes the impact of 12.3 million options outstanding to purchase shares of common stock,  0.9 million shares of restricted stock, and 0.7 million shares of series A convertible preferred stock because of the Company’s net loss available to common stockholders.

During the three months ended March 31, 2011, the potential dilutive effect of 1.3 million stock options were excluded from the computation of diluted weighted average shares outstanding because they were anti-dilutive.  These excluded options could potentially dilute earnings per share in the future.

13

Table of Contents

NetSpend Holdings, Inc.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

The following is a reconciliation of the numerator (net income (loss)) and the denominator (weighted average number of common shares) used in the calculation of basic and diluted earnings (loss) per share for the three months ended March 31, 2012 and 2011:

Note 13: Commitments and Contingencies

Operating Leases

The Company has commitments under operating lease agreements, principally for office space, that extend through May 31, 2017. During the three months ended March 31, 2012, there were no material changes to the Company’s future minimum commitments under its operating leases. Rent expense was $0.4 million for each of the three months ended March 31, 2012 and 2011.

Service Agreements

The Company has agreements with various third-party vendors and the members of the Company’s distribution network to provide card issuance services, network transaction services, internet data center services, advertising and other consulting services. The Company generally makes payments under these agreements on a monthly basis.  The remaining term of these agreements ranges from one to four years. During the three months ended March 31, 2012, there were no material changes to the Company’s future minimum commitments under its service agreements.

14

Table of Contents

NetSpend Holdings, Inc.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

Guarantees

A significant portion of the Company’s business is conducted through retail distributors that provide load and reload services to cardholders at their locations. Members of the Company’s distribution and reload network collect cardholder funds and remit them by electronic transfer to the Issuing Banks for deposit in the cardholder accounts. The Company’s Issuing Banks typically receive cardholders’ funds no earlier than three business days after they are collected by the retailer. If any retailer fails to remit cardholders’ funds to the Company’s Issuing Banks, the Company typically reimburses the Issuing Banks for the shortfall created thereby. The Company manages the risk associated with this process through a formalized set of credit standards, volume limits and deposit requirements for certain retailers and by typically maintaining the right to offset any settlement shortfall against the commissions payable to the relevant retailer. To date, the Company has not experienced any significant losses associated with settlement failures and the Company had not recorded a settlement guarantee liability as of March 31, 2012 or December 31, 2011. As of March 31, 2012 and December 31, 2011, the Company’s estimated gross settlement exposure was $17.7 million and $17.1 million, respectively.

Cardholders can incur charges in excess of the funds available in their accounts and are liable for the resulting overdrawn account balance. Although the Company generally declines authorization attempts for amounts that exceed the available balance in a cardholder’s account, the application of the rules and regulations of the Networks, the timing of the settlement of transactions and the assessment of subscription, maintenance or other fees can, among other things, result in overdrawn card accounts. The Company also provides, as a courtesy and in its discretion, certain cardholders with a “cushion” that allows them to overdraw their card accounts by up to $10. In addition, eligible cardholders may enroll in the Issuing Banks’ overdraft protection programs and fund transactions that exceed the available balance in their accounts. The Company generally provides the funds used as part of this overdraft program (MetaBank will advance the first $1.0 million on behalf of its cardholders) and is responsible to the Issuing Banks for any losses associated with any overdrawn account balances. As of March 31, 2012 and December 31, 2011, cardholders’ overdrawn account balances totaled $9.1 million and $9.0 million, respectively. As of March 31, 2012 and December 31, 2011, the Company’s reserves for the losses it estimates will arise from processing customer transactions, debit card overdrafts, chargebacks for unauthorized card use and merchant-related chargebacks due to non-delivery of goods or services were $4.3 million and $3.9 million, respectively.

15

Table of Contents

NetSpend Holdings, Inc.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

Alexsam Litigation

On October 24, 2007, Alexsam, Inc. filed suit against the Company’s subsidiary NetSpend Corporation (“NetSpend”) in the District Court of Travis County, Texas, 419th Judicial District, asserting breach of a license agreement entered into between NetSpend and Alexsam in 2004 and seeking monetary damages, attorneys’ fees, costs and interest.  The license agreement was entered into by the parties following Alexsam’s assertion and subsequent dismissal without prejudice of a claim of patent infringement filed by Alexsam against NetSpend in 2003. The Company asserted counterclaims against Alexsam for breach of contract. In April 2010, the Company filed a motion for summary judgment, and following a hearing, the court denied the motion without substantive comment. In October 2010, Alexsam filed an amended petition, which added a claim by Alexsam that NetSpend fraudulently induced Alexsam to give up its prior patent infringement claims against NetSpend and enter into the license agreement.  In November 2010, the Company removed the case to the United States District Court for the Western District of Texas.  In January 2011, the federal court remanded the case back to the Travis County District Court for the 419th Judicial District for further proceedings.  In February 2011, the Company filed a motion for partial summary judgment on Alexsam’s fraudulent inducement claim.  Following a hearing, the court denied the motion.

On April 26, 2012, the Court granted Alexsam’s motion for a directed verdict on the question of whether the contract terminated by its own terms in March 2005. Such a termination would have resulted in royalties ceasing to accrue after the termination date. The trial concluded on April 27, 2012 and the jury found that NetSpend had breached its license agreement with Alexsam and awarded Alexsam $18 million in royalties for the period from March 2004 through December 31, 2011. This amount does not include prejudgment interest or attorneys’ fees, which the Company estimates could approximate an aggregate of $6 million. It is at least reasonably possible that a change in these estimates could occur in the near term. The jury found against Alexsam on its claim of fraudulent inducement. NetSpend plans to argue to the trial court that the amount of the jury’s verdict should be reduced through the application of a most favored nation pricing provision contained in the license and to appeal the jury’s verdict, and the judge’s ruling on Alexsam’s motion for a directed verdict regarding the contract termination question, after the judgment of the trial court is entered. The appellate process is expected to take eighteen to twenty-four months.  As a result, the Company has recorded this litigation contingency as a non-current liability within its Condensed Consolidated Balance Sheet as of March 31, 2012.

Integrated Technological Systems, Inc.

Integrated Technological Systems, Inc. (“ITS”) filed a patent infringement case against NetSpend in the U.S. District Court for the District of Nevada in October 2011 and filed its first amended complaint in March 2012.  ITS asserts in its complaint that NetSpend has been infringing two patents issued to ITS as a result of providing services that utilize the system described in the patent to transfer funds from NetSpend Reload Packs to NetSpend GPR cards and to transfer funds between NetSpend GPR cards.  ITS is seeking: a declaration that NetSpend has infringed its patents; an injunction prohibiting NetSpend from continuing the alleged infringement; damages for NetSpend’s prior alleged infringing activity; and attorneys’ fees and costs. Netspend filed an answer denying all of the substantive allegations of the original complaint in November 2011 and filed its answer denying all of the substantive allegations in the amended complaint in April 2012. The Company plans to vigorously contest ITS’s claims and to vigorously pursue its own claims. This case is currently in discovery. The Company has not established reserves or ranges of possible loss related to these proceedings as, at this time, it has not been determined that a loss is probable and the amount of any possible loss is not reasonably estimable.

16

Table of Contents

NetSpend Holdings, Inc.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

Baker

Frederick J. Baker (“Baker”) filed a purported consumer class action case against NetSpend, as well as one of its Issuing Banks and card associations (collectively, the “Defendants”), in the U.S District Court (the “Court”) for the District of New Jersey in November 2008 seeking damages and unspecified equitable relief.  In May 2009 Baker filed an amended complaint alleging that the Defendants violated the New Jersey Consumer Fraud Act (CFA), the New Jersey Truth-in-Consumer Contract, Warranty, and Notice Act (TCCWNA) and claiming unjust enrichment in connection with the Defendants’ alleged marketing, advertising, sale and post-sale handling of NetSpend’s gift card product in the State of New Jersey. In March 2011, the court heard oral arguments on Defendants’ motion to dismiss Baker’s amended complaint. In January 2012, the court granted Defendants’ motion in part and dismissed all claims except for the cause of action based on the alleged violation of the CFA. The Company filed its answer and affirmative defenses in February 2012.  NetSpend has reached an agreement in principle with the attorneys representing the purported plaintiffs in this case to contribute approximately $0.1 million to a fund that would be used to reimburse the consumers who may have been inadvertently overcharged. This agreement is subject to approval by the Court. No agreement has been reached regarding the fees payable to the attorneys representing the plaintiffs.

TQP Development, LLC

TQP Development, LLC (“TQP”) filed a patent infringement case against NetSpend in the U.S. District Court for the Eastern District of Texas in February 2012. TQP asserts in its complaint that NetSpend has been infringing a patent issued in May of 1995 to Telequip Corporation based on the operation of encrypted portions of NetSpend’s website. TQP is seeking: a judgment that NetSpend has infringed its patent; an injunction prohibiting NetSpend from continuing to infringe its patent; damages for NetSpend’s alleged prior infringing activity; and attorneys’ fees and costs. The Company is reviewing the invention claimed in the patent in an effort to form a view regarding its applicability to the operation of NetSpend’s website and the validity of the claimed invention in light of the relevant prior art. NetSpend’s answer to TQP’s complaint is due May 25, 2012. The Company has not established reserves or ranges of possible loss related to these proceedings as, at this time, it has not been determined that a loss is probable and the amount of any possible loss is not reasonably estimable.

Other

In the normal course of business, the Company is at times subject to pending and threatened legal actions and proceedings. Management believes that the outcomes of such actions or proceedings will not have a material effect on the Company’s financial position, results of operations, cash flows or liquidity.

17

Table of Contents

NetSpend Holdings, Inc.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

Note 14: Employee Benefit Plans

The Company has established a defined contribution retirement plan under section 401(k) of the Internal Revenue Code (the “401(k) Plan”). This plan covers substantially all employees who meet minimum age and service requirements and allows participants to defer a portion of their annual compensation, not to exceed a federally specified maximum ($17,000 for 2012, plus $5,500 for employees age 50 or older), on a pre-tax basis. The Company contributes to the program by matching funds based on a percentage of the employee’s contribution.  The Company matches 100% of the first 3% of wages contributed by an employee and 50% of the next 2% of wages contributed by that employee.  The Company is also permitted to make a profit-sharing contribution to the 401(k) Plan, as determined annually at the discretion of the board of directors. For each of the three months ended March 31, 2012 and 2011, the Company’s match under the 401(k) Plan was approximately $0.3 million. No profit-sharing contributions were made during the three months ended March 31, 2012 or March 31, 2011.

The Company has a deferred compensation plan (the “Deferral Plan”) for the benefit of certain of its eligible employees. Participating employees may defer a certain percentage of their base salary and annual bonus.  These percentages are determined on an annual basis by the Company’s compensation committee.  For the current Deferral Plan year, participating employees may defer up to 80% of their salary and 100% of their annual bonus. Amounts deferred by a participant are credited with earnings and investment gains and losses by assuming that the deferral was invested in one or more investment options selected by the participants from a family of mutual funds chosen by the Company. In addition, the Company may, but is not required to, make contributions into the Deferral Plan on behalf of the participating employees. The amount of any Company contributions is discretionary and subject to change. The Company did not make any contributions to the Deferral Plan during the three months ended March 31, 2012 and 2011. Each employee’s deferrals, together with any earnings thereon, are accrued as part of the unsecured, other non-current liabilities of the Company. The deferred compensation liability was $1.9 million and $1.4 million as of March 31, 2012 and December 31, 2011, respectively.

To offset this liability, the Company has purchased life insurance policies on some of the plan participants. The Company is the owner and beneficiary of the policies and the cash values are intended to produce cash to help fund the Company’s obligations under the Deferral Plan. The Company intends to hold the life insurance policies until the death of the plan participants. The net cash surrender value of these life insurance policies was $1.9 million and $1.4 million as of March 31, 2012 and December 31, 2011, respectively. The values of the life insurance policies are included on the accompanying Condensed Consolidated Balance Sheets in other assets.

In 2011, the board of directors of the Company approved an employee stock purchase plan (the “Stock Purchase Plan”). Subject to certain limitations, the Stock Purchase Plan enables eligible employees to utilize after-tax payroll deductions to purchase shares of Company’s common stock at the lesser of 85% of its fair market value on the first or last business day of each quarterly purchase period (six months with respect to the first purchase period in 2012). A total of 2,000,000 of the Company’s treasury shares have been reserved for issuance under this plan. This plan was approved by the Company’s stockholders at their 2012 annual meeting and the first purchase period will conclude on June 30, 2012. For the three months ended March 31, 2012, the Company’s recognized expense of approximately $0.1 million associated with the Stock Purchase Plan.

18

Table of Contents

NetSpend Holdings, Inc.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

Note 15: Related Party Transactions

ACE

The JLL Funds own approximately 97% of ACE, the Company’s largest distributor. The JLL Funds beneficially owned more than five percent of the Company’s outstanding common stock as of March 31, 2012. The Company incurred expenses from transactions with ACE of $13.5 million and $11.4 million for the three months ended March 31, 2012 and 2011, respectively. Although revenues generated from cardholders acquired at ACE locations represented more than one-third of the Company’s revenues during each of the three months ended March 31, 2012 and 2011, the portion of those revenues earned from transactions directly with ACE were $1.7 million and $1.5 million for the three months ended March 31, 2012 and 2011, respectively. As of March 31, 2012 and December 31, 2011, $3.5 million and $3.2 million, respectively, was payable to ACE.

Sutherland

Oak Investment Partners X, LP and Oak X Affiliates Fund, LP (collectively “Oak”) own in excess of 10% of Sutherland Global Services, Inc. (“Sutherland”), one of the Company’s external customer service providers. Oak beneficially owned more than five percent of the Company’s outstanding common stock as of March 31, 2012. The Company incurred expenses from transactions with Sutherland of $1.8 million and $2.5 million during the three months ended March 31, 2012 and 2011, respectively. As of March 31, 2012 and December 31, 2011, $0.5 million and $0.6 million, respectively, was payable to Sutherland.

Vesta

Oak owns in excess of 10% of Vesta Corporation (“Vesta”), which provides reload services to the Company’s cardholders. The Company earned revenues from transactions with Vesta of $0.1 million and $0.2 million during the three months ended March 31, 2012 and 2011, respectively. Additionally, the Company incurred expenses from transactions with Vesta of $0.1 million and $0.2 million during the three months ended March 31, 2012 and 2011, respectively.

Birardi Investments, LLC; Henry CJ1, LLC

Pursuant to his employment agreement, the Company reimburses its CEO for up to $0.5 million of expenses per year related to the use of private aircraft while traveling on Company business. Birardi (“Birardi”) Investments, LLC and Henry CJ1, LLC (“Henry CJ1”), airplane leasing companies owned by the CEO, supply aircraft that is used for this travel. Birardi and Henry CJ1 were each paid less than $0.1 million during the three months ended March 31, 2012. Birardi and Henry CJ1 are airplane leasing companies that are owned by the CEO of the Company. Less than $0.1 million was paid to Birardi during the three months ended March 31, 2011. No amounts were paid to Henry CJ1 during the three months ended March 31, 2011. The total amount of aircraft-related expenses for which the CEO was reimbursed was $0.1 million during each of the three months ended March 31, 2012 and 2011.

19

Table of Contents

NetSpend Holdings, Inc.
Notes to Condensed Consolidated Financial Statements
(Unaudited)

Note 16: Subsequent Events

Annual Meeting of Stockholders

The company held its annual stockholder meeting on April 27, 2012. At the meeting, the stockholders elected three class II directors to serve for three year terms, approved the Company’s Stock Purchase Plan and ratified the audit committee’s selection of KPMG, LLP as the Company’s independent registered public accounting firm for 2012.

MiCash, Inc.

MiCash, Inc. (“MiCash”) filed a patent infringement case against NetSpend in the U.S. District Court for the Eastern District of Texas in April 2012. MiCash asserts in its complaint that NetSpend has been infringing a patent (United States Patent No. 7,258,274) issued in August of 2007 to MiCash because NetSpend has, among other things, allegedly used, sold or offered to sell prepaid card services which permit and authorize transfers of funds between prepaid debit cards. MiCash is seeking: a judgment that NetSpend has infringed its patent; an injunction prohibiting NetSpend from continuing to infringe its patent; damages for NetSpend’s alleged prior infringing activity; attorneys’ fees and costs; and if NetSpend’s infringement of the patent at issue is determined to be willful, enhanced damages. The Company is reviewing the invention claimed in the patent in an effort to form a view regarding its applicability to its products and the validity of the claimed invention in light of the relevant prior art. NetSpend’s answer to MiCash’s complaint is due May 18, 2012. The Company has not established reserves or ranges of possible loss related to these proceedings as, at this time, it has not been determined that a loss is probable and the amount of any possible loss is not reasonably estimable.

20

Table of Contents

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

This Quarterly Report on Form 10-Q and the documents incorporated into this Quarterly Report on Form 10-Q by reference contain forward-looking statements that are based on our current expectations, assumptions, estimates and projections about our company and our industry. The forward-looking statements are subject to various risks and uncertainties. Generally, these forward-looking statements can be identified by the use of forward-looking terminology such as “anticipate,” “believe,” “estimate,” “expect,” “intend,” “will,” “project,” “seek,” “should,” “may,” “could,” “would,” “plans,” “predicts,” “potential” and similar expressions, as well as other words or expressions referencing future events, conditions or circumstances. Those statements include, among other things, the discussions of our business strategy and expectations concerning our market position, future operations, financial position, revenue, costs, prospects, margins, profitability, liquidity and capital resources, as well as management’s plans and objectives. We caution you that reliance on any forward-looking statement involves risks and uncertainties and that, although we believe that the assumptions on which our forward-looking statements are based are reasonable, any of those assumptions could prove to be inaccurate, and, as a result, the forward-looking statements based on those assumptions could be materially incorrect. These factors include but are not limited to:

·                  our dependence on a limited number of retail distributors of our products;

·                  increasing competition in the prepaid debit card industry;

·                  exposure to cardholder fraud and other losses;

·                  our reliance on our relationships with our issuing banks;

·                  regulatory, legislative and judicial developments;

·                  changes in card association or network organization rules;

·                  our ability to protect against unauthorized disclosure of cardholder data;

·                  our ability to promote our brand;

·                  our reliance on outsourced customer service providers; and

·                  our ability to protect our intellectual property rights and defend against claims of patent infringement.

These and other factors are more fully discussed in our Annual Report on Form 10-K for the year ended December 31, 2011. In light of these and other uncertainties, you should not conclude that we will necessarily achieve any plans, objectives or projected financial results referred to in any of the forward-looking statements. Except as required by law, we do not intend to update any of these forward-looking statements to reflect future events or circumstances.

21

Table of Contents

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our condensed consolidated financial statements and related notes included elsewhere in this Quarterly Report on Form 10-Q and our audited consolidated financial statements and related notes to audited consolidated financial statements  included in our Annual Report on Form 10-K for the year ended December 31, 2011. In this Quarterly Report, unless otherwise specified, “NetSpend,” “we,” “us,” and “our” refer to NetSpend Holdings, Inc. and its consolidated subsidiaries.

Overview

NetSpend is a leading program manager for FDIC-insured depository institutions that issue general-purpose reloadable prepaid debit cards, or GPR cards, and provide related alternative financial services to underbanked consumers in the United States. The programs managed by the Company empower underbanked consumers by providing them with innovative and affordable financial products and services tailored to meet their particular financial services needs and preferences in a manner that traditional banking institutions have historically not met. In addition, the products and services we manage provide our retail distributors an opportunity to enhance their customer relationships and generate incremental, ongoing revenue streams.

Our cardholders may use their GPR cards to make purchase transactions at any merchant that participates in the MasterCard, Visa or PULSE networks and to withdraw funds from participating ATMs. MetaBank holds the majority of our cardholder funds. In January 2010, we acquired approximately 4.9% of the outstanding equity interests in Meta Financial Group, Inc. (“MFG”), MetaBank’s holding company.

Our principal operating company, predecessor and current subsidiary, NetSpend Corporation (“NetSpend”), was incorporated in Texas in 1999. In May 2004, Oak Investment Partners acquired a controlling equity interest in NetSpend through a recapitalization transaction pursuant to which we, as a newly-formed holding company incorporated in Delaware acquired all of the capital stock of NetSpend. In 2008, we acquired Skylight Financial, Inc. (“Skylight”), a payroll card provider, in a stock-for-stock merger. Entities affiliated with one of our significant shareholders, the JLL Funds, were previously the majority owners of Skylight.

We have built an extensive and diverse distribution and reload network in the United States to support the marketing and ongoing use of the GPR cards we manage. We market cards through multiple channels, including retail distributors, direct mail and online marketing programs and to corporate employers as an alternative method of wage payment for their employees. Beginning in 2008, we decided to focus primarily on GPR cards and we ceased marketing gift cards entirely in August 2010.

We have developed and operate a proprietary technology platform. Our in-house platform is end-to-end in that it encompasses the critical functions required for us to acquire cardholders, process transactions, maintain account-level data, communicate with cardholders, manage risk, ensure regulatory compliance and connect to our Issuing Banks and distributors. These integrated capabilities allow us to customize our products and services for different markets, distribution channels and customer segments. Further, by processing transactions on our own platform, we gain unique and extensive insight into the attitudes, characteristics and purchasing behavior of our cardholders.

22

Table of Contents

We are pursuing a bank diversification strategy pursuant to which we intend to distribute our card issuing activities across at least three issuing banks, in addition to the banks that issue our payroll cards. We are focused on doing so in a manner that balances our diversification strategy with the protection of existing cardholder and direct deposit relationships and other operational considerations. In furtherance of this strategy we entered into an agreement with The Bancorp Bank (“Bancorp”) in January 2011 pursuant to which Bancorp serves as an Issuing Bank for some of our new and existing card programs, including the cards we distribute through traditional retailers. Bancorp began issuing our cards in a pilot program in April 2011 and began issuing cards as part of a commercial roll-out in October 2011. We are also continuing our discussions with other prospective issuing banks.

In May 2011, we amended our agreement with Inter National Bank (“INB”) to extend the date by which we agreed to transition the GPR cards issued by INB to another bank from July 2011 to September 2011. We are in the process of transitioning the distributors of cards issued by INB to another Issuing Bank and we are currently operating under the wind-down provisions of our agreement with INB.

U.S. Bank (“USB”) and SunTrust Bank (“SunTrust”) act as issuers of our payroll cards. We were actively seeking to transfer the USB portfolio to another Issuing Bank, although this institution has now indicated that it is currently unable to complete this transition. We are exploring whether another issuing bank can be retained to service this portfolio or whether it will remain with USB. Our current contract with SunTrust automatically renewed for one year at the end of 2011, although SunTrust maintains that it has a continuing right to terminate its contract with us. We are actively seeking to sign agreements with additional banks to act as issuers of payroll cards. As a result of these efforts, we signed agreements with Regions Bank and a large bank based in New England pursuant to which we will act as the program manager for the payroll cards to be issued by them.

Recent Developments

Share Repurchase Program

On November 23, 2011, we announced a $25 million share repurchase program. The share repurchases were being made through open market purchases pursuant to a 10b5-1 plan. The repurchase program commenced November 30, 2011 and was completed in February 2012. We intend to hold the repurchased shares in treasury for general corporate purposes. During the three months ended March 31, 2012, we repurchased 2,050,959 shares of common stock for $17.4 million pursuant to this program. We repurchased a total of 3,094,710 shares at an average price of $8.08 per share pursuant to this program. The average price paid per share is calculated on a trade date basis and excludes commissions.

Key Business Metrics

As a leading provider of GPR cards and related alternative financial services to underbanked consumers, we evaluate a number of business metrics to monitor our performance and manage our business. We believe the following metrics are the primary indicators of our performance.

 Number of Active Cards — represents the total number of GPR cards that have had a PIN or signature-based purchase transaction, a load transaction at a retailer location or an ATM withdrawal within three months of the date of determination. We had approximately 2,350,000 and 2,250,000 active cards as of March 31, 2012 and 2011, respectively.

23

Table of Contents

Number of Active Cards with Direct Deposit — represents the number of active cards that have had a direct deposit load within the three months of the date of determination.  We had 1,025,000 and 834,000 direct deposit active cards as of March 31, 2012 and 2011, respectively. Our strategy is to focus on increasing the number of cards that receive direct deposits because cardholders who use direct deposit generate more revenue for us than those who do not.  Additionally, consumers who receive direct deposits tend to remain in our programs longer than non-direct deposit cardholders.

Percentage of Active Cards with Direct Deposit — represents the percentage of active GPR cards that have had a direct deposit load within three months of the date of determination. The percentage of our active cards that were direct deposit active cards as of March 31, 2012 and 2011 was approximately 44% and 37%, respectively.

Gross Dollar Volume (“GDV”) — represents the total dollar volume of debit transactions and cash withdrawals made using the GPR cards we manage. Our gross dollar volume was $3.8 billion and $3.2 billion for the three months ended March 31, 2012 and 2011, respectively. Approximately 82.2% and 75.2% of the gross dollar volume for the three months ended March 31, 2012 and 2011, respectively, was made using active cards with direct deposit.

Operating Revenues

Our operating revenues primarily consist of a portion of the service fees and interchange revenues received by our Issuing Banks in connection with the programs we manage.

Cardholders are charged fees in connection with our products and services as follows:

·                  Transactions — Cardholders are typically charged a fee for each PIN and signature-based purchase transaction made using their GPR cards, unless the cardholder is on a monthly or annual service plan, in which case the cardholder is instead charged a monthly or annual subscription fee, as applicable. Cardholders are also charged fees for ATM withdrawals and other transactions conducted at ATMs.

·                  Customer Service and Maintenance — Cardholders are typically charged fees for balance inquiries made through our call centers. Cardholders are also charged a monthly maintenance fee after a specified period of inactivity.

·                  Additional Products and Services — Cardholders are charged fees associated with additional products and services offered in connection with certain of our GPR cards, including the use of overdraft features, a variety of bill payment options, custom card designs and card-to-card transfers of funds initiated through our call centers.

·                  Other — Cardholders are charged fees in connection with the acquisition and reloading of our GPR cards at retailers and we receive a portion of these amounts in some cases.

Revenue resulting from the service fees charged to our cardholders described above is recognized when the fees are charged because the earnings process is substantially complete, except for revenue resulting from the initial activation of our cards and annual subscription fees. Revenue resulting from the initial activation of our cards is recognized ratably, net of commissions paid to our distributors, over the average account life, which is approximately one year for our GPR cards. Revenue resulting from annual subscription fees is recognized ratably over the annual period to which the fees relate.

24

Table of Contents

Our revenues also include fees charged in connection with program management and processing services we provide for private-label programs, as well as fees charged to MetaBank based on interest earned on cardholder funds. Under our current arrangement with MetaBank, we would only be entitled to receive interest on cardholder funds if market interest rates rose significantly above current levels. Revenue resulting from these fees is recognized when we have fulfilled our obligations under the underlying service agreements.

We earn revenues from a portion of the interchange fees remitted by merchants when cardholders make purchases using their prepaid debit cards. Subject to applicable law, interchange fees are fixed by the card associations and network organizations (the “Networks”). Interchange revenues are recognized net of sponsorship, licensing and processing fees charged by the Networks for services they provide in processing transactions routed through them. Interchange revenue is recognized during the period that the purchase transactions occur. Also included in interchange revenue are fees earned from branding agreements with the Networks.

Our quarterly operating revenues fluctuate as a result of certain seasonal factors. The most significant increases in the number of our active cards and our GDV typically occur in the first three months of each year as a result of consumers acquiring new cards and loading them with their tax refunds.

Operating Expenses

We classify our operating expenses into the following categories:

Direct Operating Costs — Direct operating costs consist primarily of the commissions we pay to members of our distribution and reload network for their services, ATM processing fees, card supply costs, costs for fraud and other losses related to our card programs, customer verification costs, customer service costs and fees paid to our Issuing Banks. These costs are driven by transaction volumes and the number of active cards.

Salaries, Benefits and Other Personnel Costs — Salaries, benefits and other personnel costs consist of the compensation costs associated with our employees, including base salaries, benefits, bonus compensation and stock-based compensation. This excludes any personnel costs associated with customer service personnel. Costs associated with these employees are included in direct operating costs.

Advertising, Marketing and Promotion Costs — Advertising, marketing and promotion costs primarily consist of the costs of our marketing programs to potential cardholders including direct mailings, internet and television advertising, promotional events run in conjunction with our distributors, conferences, trade shows and the creation of marketing collateral and other materials.

Other General and Administrative Costs — Other general and administrative costs primarily consist of costs for legal, accounting, information technology, travel, facility and other corporate expenses.

Depreciation and Amortization — Depreciation and amortization consists of depreciation of our long-lived assets and amortization of finite-lived intangibles.

Other losses — Other losses consist of legal contingencies and other infrequent losses.

25

Table of Contents

Other Income (Expense)

Other income (expense) primarily consists of interest income and interest expense. Interest income represents interest we receive on our cash and cash equivalents. Interest expense is associated with our long-term debt and capital leases.

Income Tax Expense (Benefit)

Income tax expense (benefit) primarily consists of corporate income taxes on our profits (losses).

26

Table of Contents

Condensed Consolidated Statements of Operations Data (unaudited)