Document
Table of Contents

 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
_________________________________________________________________________________ 
FORM 10-Q

(Mark One)
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2016
OR
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from                      to                     .
COMMISSION FILE NUMBER: 000-26489
ENCORE CAPITAL GROUP, INC.
(Exact name of registrant as specified in its charter)
Delaware
48-1090909
(State or other jurisdiction of
incorporation or organization)
(IRS Employer
Identification No.)
 
 
3111 Camino Del Rio North, Suite 103
San Diego, California
92108
(Address of principal executive offices)
(Zip code)
(877) 445 - 4581
(Registrant’s telephone number, including area code)

(Not Applicable)
(Former name, former address and former fiscal year, if changed since last report)
_______________________________________________________________
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 last 90 days.    Yes  x    No  ¨
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 during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer  x        Accelerated filer   ¨        Non-accelerated filer  ¨        Smaller reporting company  ¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).    Yes  ¨    No  x
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.
Class
 
Outstanding at November 3, 2016
Common Stock, $0.01 par value
 
25,532,227 shares

Table of Contents


ENCORE CAPITAL GROUP, INC.
INDEX TO FORM 10-Q
 
 
Page
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

Table of Contents

PART I – FINANCIAL INFORMATION
Item 1—Condensed Consolidated Financial Statements (Unaudited)
ENCORE CAPITAL GROUP, INC.
Condensed Consolidated Statements of Financial Condition
(In Thousands, Except Par Value Amounts)
(Unaudited)
 
September 30,
2016
 
December 31,
2015
Assets
 
 
 
Cash and cash equivalents
$
157,672

 
$
123,993

Investment in receivable portfolios, net
2,397,831

 
2,440,669

Property and equipment, net
66,703

 
72,546

Deferred court costs, net
57,089

 
75,239

Other assets
206,403

 
148,762

Goodwill
819,785

 
924,847

Assets associated with discontinued operations
—

 
388,763

Total assets
$
3,705,483

 
$
4,174,819

Liabilities and equity
 
 
 
Liabilities:
 
 
 
Accounts payable and accrued liabilities
$
217,242

 
$
290,608

Debt
2,848,443

 
2,944,063

Other liabilities
27,718

 
59,226

Liabilities associated with discontinued operations
—

 
232,434

Total liabilities
3,093,403

 
3,526,331

Commitments and contingencies


 


Redeemable noncontrolling interest
33,755

 
38,624

Redeemable equity component of convertible senior notes
3,798

 
6,126

Equity:
 
 
 
Convertible preferred stock, $.01 par value, 5,000 shares authorized, no shares issued and outstanding
—

 
—

Common stock, $.01 par value, 50,000 shares authorized, 25,532 shares and 25,288 shares issued and outstanding as of September 30, 2016 and December 31, 2015, respectively
255

 
253

Additional paid-in capital
83,521

 
110,533

Accumulated earnings
597,247

 
543,489

Accumulated other comprehensive loss
(103,320
)
 
(57,822
)
Total Encore Capital Group, Inc. stockholders’ equity
577,703

 
596,453

Noncontrolling interest
(3,176
)
 
7,285

Total equity
574,527

 
603,738

Total liabilities, redeemable equity and equity
$
3,705,483

 
$
4,174,819

The following table includes assets that can only be used to settle the liabilities of the Company’s consolidated variable interest entities (“VIEs”) and the creditors of the VIEs have no recourse to the Company. These assets and liabilities are included in the consolidated statements of financial condition above. See Note 11, “Variable Interest Entity” for additional information on the Company’s VIE.
 
September 30,
2016
 
December 31,
2015
Assets
 
 
 
Cash and cash equivalents
$
55,158

 
$
50,483

Investment in receivable portfolios, net
1,038,119

 
1,197,513

Property and equipment, net
16,859

 
19,767

Deferred court costs, net
20,836

 
33,296

Other assets
58,146

 
31,679

Goodwill
616,859

 
706,812

Assets associated with discontinued operations
—

 
92,985

Liabilities
 
 
 
Accounts payable and accrued liabilities
$
89,056

 
$
142,375

Debt
1,591,403

 
1,665,009

Other liabilities
770

 
839

Liabilities associated with discontinued operations
—

 
58,923

See accompanying notes to condensed consolidated financial statements

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ENCORE CAPITAL GROUP, INC.
Condensed Consolidated Statements of Operations
(In Thousands, Except Per Share Amounts)
(Unaudited)
 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
 
2016
 
2015
 
2016
 
2015
Revenues
 
 
 
 
 
 
 
Revenue from receivable portfolios, net
$
159,534

 
$
265,523

 
$
697,080

 
$
799,934

Other revenues
19,881

 
13,391

 
60,794

 
39,424

Total revenues
179,415

 
278,914

 
757,874

 
839,358

Operating expenses
 
 
 
 
 
 
 
Salaries and employee benefits
67,783

 
62,995

 
212,924

 
194,116

Cost of legal collections
56,932

 
58,760

 
158,047

 
170,834

Other operating expenses
24,131

 
22,217

 
75,420

 
68,278

Collection agency commissions
8,848

 
9,381

 
28,242

 
28,532

General and administrative expenses
34,871

 
86,789

 
103,044

 
155,624

Depreciation and amortization
8,032

 
8,043

 
26,128

 
24,058

Total operating expenses
200,597

 
248,185

 
603,805

 
641,442

(Loss) income from operations
(21,182
)
 
30,729

 
154,069

 
197,916

Other (expense) income
 
 
 
 
 
 
 
Interest expense
(48,632
)
 
(47,816
)
 
(149,920
)
 
(136,369
)
Other income (expense)
4,100

 
(924
)
 
14,358

 
1,588

Total other expense
(44,532
)
 
(48,740
)
 
(135,562
)
 
(134,781
)
(Loss) income before income taxes
(65,714
)
 
(18,011
)
 
18,507

 
63,135

Benefit (provision) for income taxes
13,768

 
6,361

 
(9,831
)
 
(23,174
)
(Loss) income from continuing operations
(51,946
)
 
(11,650
)
 
8,676

 
39,961

Income (loss) from discontinued operations, net of tax
—

 
2,286

 
(3,182
)
 
5,827

Net (loss) income
(51,946
)
 
(9,364
)
 
5,494

 
45,788

Net loss (income) attributable to noncontrolling interest
50,422

 
(1,595
)
 
48,264

 
335

Net (loss) income attributable to Encore Capital Group, Inc. stockholders
$
(1,524
)
 
$
(10,959
)
 
$
53,758

 
$
46,123

Amounts attributable to Encore Capital Group, Inc.:
 
 
 
 
 
 
 
(Loss) income from continuing operations
$
(1,524
)
 
$
(13,245
)
 
$
56,940

 
$
40,296

Income (loss) from discontinued operations, net of tax
—

 
2,286

 
(3,182
)
 
5,827

Net (loss) income
$
(1,524
)
 
$
(10,959
)
 
$
53,758

 
$
46,123

 
 
 
 
 
 
 
 
(Loss) earnings per share attributable to Encore Capital Group, Inc.:
 
 
 
 
 
 
 
Basic (loss) earnings per share from:
 
 
 
 
 
 
 
Continuing operations
$
(0.06
)
 
$
(0.52
)
 
$
2.22

 
$
1.56

Discontinued operations
$
—

 
$
0.09

 
$
(0.13
)
 
$
0.23

Net basic (loss) earnings per share
$
(0.06
)
 
$
(0.43
)
 
$
2.09

 
$
1.79

Diluted (loss) earnings per share from:
 
 
 
 
 
 
 
Continuing operations
$
(0.06
)
 
$
(0.52
)
 
$
2.20

 
$
1.50

Discontinued operations
$
—

 
$
0.09

 
$
(0.12
)
 
$
0.21

Net diluted (loss) earnings per share
$
(0.06
)
 
$
(0.43
)
 
$
2.08

 
$
1.71

 
 
 
 
 
 
 
 
Weighted average shares outstanding:
 
 
 
 
 
 
 
Basic
25,777

 
25,450

 
25,690

 
25,800

Diluted
25,777

 
25,450

 
25,885

 
26,912

See accompanying notes to condensed consolidated financial statements

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ENCORE CAPITAL GROUP, INC.
Condensed Consolidated Statements of Comprehensive Income
(Unaudited, In Thousands)
 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
 
2016
 
2015
 
2016
 
2015
Net (loss) income
$
(51,946
)
 
$
(9,364
)
 
$
5,494

 
$
45,788

Other comprehensive income (loss), net of tax:
 
 
 
 
 
 
 
Change in unrealized gains/losses on derivative instruments:
 
 
 
 
 
 
 
Unrealized gain (loss) on derivative instruments
983

 
(615
)
 
487

 
(26
)
Income tax effect
(384
)
 
242

 
(190
)
 
2

Unrealized gain (loss) on derivative instruments, net of tax
599

 
(373
)
 
297

 
(24
)
Change in foreign currency translation:
 
 
 
 
 
 
 
Unrealized loss on foreign currency translation
(11,456
)
 
(13,995
)
 
(47,221
)
 
(26,854
)
Income tax effect
73

 
(115
)
 
1,426

 
(1,479
)
Unrealized loss on foreign currency translation, net of tax
(11,383
)
 
(14,110
)
 
(45,795
)
 
(28,333
)
Other comprehensive loss, net of tax
(10,784
)
 
(14,483
)
 
(45,498
)
 
(28,357
)
Comprehensive (loss) income
(62,730
)
 
(23,847
)
 
(40,004
)
 
17,431

Comprehensive loss (income) attributable to noncontrolling interest:
 
 
 
 
 
 
 
Net loss (income)
50,422

 
(1,595
)
 
48,264

 
335

Unrealized loss (gain) on foreign currency translation
115

 
2,308

 
(807
)
 
2,960

Comprehensive loss attributable to noncontrolling interest
50,537

 
713

 
47,457

 
3,295

Comprehensive (loss) income attributable to Encore Capital Group, Inc. stockholders
$
(12,193
)
 
$
(23,134
)
 
$
7,453

 
$
20,726

See accompanying notes to condensed consolidated financial statements

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ENCORE CAPITAL GROUP, INC.
Condensed Consolidated Statements of Cash Flows
(Unaudited, In Thousands)
 
Nine Months Ended 
 September 30,
 
2016
 
2015
Operating activities:
 
 
 
Net income
$
5,494

 
$
45,788

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
Loss (income) from discontinued operations, net of income taxes
1,352

 
(5,827
)
Depreciation and amortization
26,128

 
24,058

Non-cash interest expense, net
28,557

 
25,529

Stock-based compensation expense
9,502

 
17,259

Gain on derivative instruments, net
(10,885
)
 
—

Deferred income taxes
(46,524
)
 
(257
)
Excess tax benefit from stock-based payment arrangements
—

 
(1,705
)
Loss on sale of discontinued operations, net of tax
1,830

 
—

Provision for (reversal of) allowances on receivable portfolios, net
86,777

 
(3,958
)
Changes in operating assets and liabilities
 
 
 
Deferred court costs and other assets
7,572

 
(31,347
)
Prepaid income tax and income taxes payable
(2,485
)
 
(49,431
)
Accounts payable, accrued liabilities and other liabilities
(24,146
)
 
38,364

Net cash provided by operating activities from continuing operations
83,172

 
58,473

Net cash provided by operating activities from discontinued operations
2,096

 
4,908

Net cash provided by operating activities
85,268

 
63,381

Investing activities:
 
 
 
Cash paid for acquisitions, net of cash acquired
(675
)
 
(236,214
)
Proceeds from divestiture of business, net of cash divested
106,041

 
—

Purchases of receivable portfolios, net of put-backs
(712,706
)
 
(549,957
)
Collections applied to investment in receivable portfolios, net
507,552

 
488,174

Purchases of property and equipment
(16,548
)
 
(15,754
)
Proceeds from derivative instruments, net
10,038

 
—

Net cash used in investing activities from continuing operations
(106,298
)
 
(313,751
)
Net cash provided by (used in) used in investing activities from discontinued operations
14,685

 
(41,154
)
Net cash used in investing activities
(91,613
)
 
(354,905
)
Financing activities:
 
 
 
Payment of loan costs
(3,750
)
 
(7,316
)
Proceeds from credit facilities
455,786

 
911,588

Repayment of credit facilities
(443,968
)
 
(471,610
)
Repayment of senior secured notes
(14,343
)
 
(11,250
)
Repayment of securitized notes
(935
)
 
(32,324
)
Repurchase of common stock
—

 
(33,185
)
Taxes paid related to net share settlement of equity awards
(4,113
)
 
(6,050
)
Excess tax benefit from stock-based payment arrangements
—

 
1,705

Proceeds from other debt
35,080

 
—

Other, net
(10,070
)
 
(5,703
)
Net cash provided by financing activities
13,687

 
345,855

Net increase in cash and cash equivalents
7,342

 
54,331

Effect of exchange rate changes on cash and cash equivalents
(3,263
)
 
(3,274
)
Cash and cash equivalents, beginning of period
153,593

 
124,163

Cash and cash equivalents, end of period
157,672

 
175,220

Cash and cash equivalents of discontinued operations, end of period
—

 
31,825

Cash and cash equivalents of continuing operations, end of period
$
157,672

 
$
143,395

See accompanying notes to condensed consolidated financial statements

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ENCORE CAPITAL GROUP, INC.
Notes to Condensed Consolidated Financial Statements (Unaudited)
Note 1: Ownership, Description of Business, and Summary of Significant Accounting Policies
Encore Capital Group, Inc. (“Encore”), through its subsidiaries (collectively with Encore, the “Company”), is an international specialty finance company providing debt recovery solutions for consumers across a broad range of financial assets. The Company purchases portfolios of defaulted consumer receivables at deep discounts to face value and manages them by working with individuals as they repay their obligations and work toward financial recovery. Defaulted receivables are consumers’ unpaid financial commitments to credit originators, including banks, credit unions, consumer finance companies, commercial retailers, and telecommunication companies. Defaulted receivables may also include receivables subject to bankruptcy proceedings.
Financial Statement Preparation and Presentation
The accompanying interim condensed consolidated financial statements have been prepared by the Company, without audit, in accordance with the instructions to the Quarterly Report on Form 10-Q, and Rule 10-01 of Regulation S-X promulgated by the United States Securities and Exchange Commission (the “SEC”) and, therefore, do not include all information and footnotes necessary for a fair presentation of its consolidated financial position, results of operations and cash flows in accordance with accounting principles generally accepted in the United States (“GAAP”).
In the opinion of management, the unaudited financial information for the interim periods presented reflects all adjustments, consisting of only normal and recurring adjustments, necessary for a fair presentation of the Company’s consolidated financial position, results of operations, and cash flows. These condensed consolidated financial statements should be read in conjunction with the consolidated financial statements included in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2015. Operating results for interim periods are not necessarily indicative of operating results for an entire fiscal year.
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts and the disclosure of contingent amounts in the Company’s financial statements and the accompanying notes. Actual results could materially differ from those estimates.
Basis of Consolidation
The condensed consolidated financial statements have been prepared in conformity with GAAP, and reflect the accounts and operations of the Company and those of its subsidiaries in which the Company has a controlling financial interest. The Company also consolidates VIEs, for which it is the primary beneficiary. The primary beneficiary has both (a) the power to direct the activities of the VIE that most significantly affect the entity’s economic performance, and (b) either the obligation to absorb losses or the right to receive benefits. Refer to Note 11, “Variable Interest Entity,” for further details. All intercompany transactions and balances have been eliminated in consolidation.
Translation of Foreign Currencies
The financial statements of certain of the Company’s foreign subsidiaries are measured using their local currency as the functional currency. Assets and liabilities of foreign operations are translated into U.S. dollars using period-end exchange rates, and revenues and expenses are translated into U.S. dollars using average exchange rates in effect during each period. The resulting translation adjustments are recorded as a component of other comprehensive income or loss. Equity accounts are translated at historical rates, except for the change in retained earnings during the year which is the result of the income statement translation process. Intercompany transaction gains or losses at each period end arising from subsequent measurement of balances for which settlement is not planned or anticipated in the foreseeable future are included as translation adjustments and recorded within other comprehensive income or loss. Transaction gains and losses are included in other income or expense.
Reclassifications
Certain immaterial reclassifications have been made to the condensed consolidated financial statements to conform to the current year’s presentation.
Recent Accounting Pronouncements
In August 2016, the Financial Accounting Standards Board (the “FASB”) issued Accounting Standards Update (“ASU”) 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments (“ASU 2016-15”). The FASB issued ASU 2016-15 to decrease the diversity in practice in how certain cash receipts and cash payments are presented and classified in the statement of cash flows. The amendments in this update provide guidance on eight specific cash

7
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flow issues. ASU 2016-15 is effective for reporting periods beginning after December 15, 2017, with early adoption permitted, provided that all of the amendments are adopted in the same period. The guidance requires application using a retrospective transition method. The Company is currently assessing the impact that adopting this guidance will have on its consolidated financial statements.
In June 2016, the FASB issued ASU No. 2016-13, “Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments” (“ASU 2016-13”). ASU 2016-13 applies a current expected credit loss model which is a new impairment model based on expected losses rather than incurred losses. Under this model, an entity would recognize an impairment allowance equal to its current estimate of all contractual cash flows that the entity does not expect to collect from financial assets measured at amortized cost. The estimate of expected credit losses should consider historical information, current information, as well as reasonable and supportable forecasts, including estimates of prepayments. The expected credit losses, and subsequent adjustments to such losses, will be recorded through an allowance account that is deducted from the amortized cost basis of the financial asset, with the net carrying value of the financial asset presented on the consolidated balance sheet at the amount expected to be collected. Most importantly, the standard eliminates the current accounting model for loans and debt securities acquired with deteriorated credit quality, which provides authoritative guidance for the accounting of the Company’s investment in receivable portfolios. Under this new standard, entities will gross up the initial amortized cost for the purchased financial assets with credit deterioration, the initial amortized cost will be the sum of (1) the purchase price and (2) the estimate of credit losses as of the date of acquisition. ASU 2016-13 is effective for reporting periods beginning after December 15, 2019 with early adoption permitted for reporting periods beginning after December 15, 2018. The Company is currently assessing the impact that adopting this guidance will have on its consolidated financial statements.
In March 2016, the FASB issued ASU No. 2016-09, “Compensation - Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting” (“ASU 2016-09”). ASU 2016-09 simplifies several aspects of the accounting for share-based payment transactions, including the income tax consequences, classification of awards as either equity or liabilities, and classification on the statement of cash flows. For public entities, ASU 2016-09 is effective for fiscal years beginning after December 15, 2016, and interim periods within those fiscal years. Early adoption is permitted. The Company is currently assessing the impact that adopting this guidance will have on its consolidated financial statements.
In March 2016, the FASB issued ASU 2016-05, Derivatives and Hedging (Topic 815): Effect of Derivative Contract Novations on Existing Hedge Accounting Relationships (“ASU 2016-05”) and ASU 2016-06, Derivatives and Hedging (Topic 815): Contingent Put and Call Options in Debt Instruments (“ASU 2016-06”). ASU 2016-05 clarifies that a change in the counterparty to a derivative instrument that has been designated as a hedging instrument does not, in and of itself, require dedesignation of that hedging relationship provided that all other hedge accounting criteria continue to be met. ASU 2016-06 clarifies the steps required to determine bifurcation of an embedded derivative. ASU 2016-05 and ASU 2016-06 are effective for fiscal years beginning after December 15, 2016, and interim periods within those years. Early adoption is permitted. The Company is currently assessing the impact that adopting this guidance will have on its consolidated financial statements.
In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842) (“ASU 2016-02”). ASU 2016-02 changes accounting for leases and requires lessees to recognize the assets and liabilities arising from all leases, including those classified as operating leases under previous accounting guidance, on the balance sheet and requires disclosure of key information about leasing arrangements to increase transparency and comparability among organizations. ASU 2016-02 is effective for the Company in its first quarter of fiscal 2019 on a modified retrospective basis and earlier adoption is permitted. The Company is currently assessing the impact that adopting this guidance will have on its consolidated financial statements.
Change in Accounting Principle
In April 2015, the FASB issued ASU No. 2015-03, Interest—Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Cost (“ASU 2015-03”). ASU 2015-03 requires that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability, consistent with debt discounts. ASU 2015-03 was effective beginning January 1, 2016, with early adoption permitted. The update requires retrospective application and represents a change in accounting principle. The Company adopted ASU 2015-03 in the first quarter of 2016 and the retrospective application of this change in accounting principle on the consolidated balance sheet as of December 31, 2015 reclassified debt issuance costs of $41.7 million, which were previously presented as other assets, as a reduction to the carrying value of the debt by the same amount. The adoption did not have an impact on the Company's condensed consolidated statements of operations or statements of cash flows in any period.
Note 2: Discontinued Operations
On March 31, 2016, the Company completed its previously announced divestiture of its membership interests in Propel Acquisition LLC (“Propel”) pursuant to the Securities Purchase Agreement (the “Purchase Agreement”), dated February 19,

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2016, among the Company and certain funds affiliated with Prophet Capital Asset Management LP. Pursuant to the Purchase Agreement, the application of the purchase price formula resulted in cash consideration paid to the Company at closing of $144.4 million (net proceeds were $106.0 million after divestiture of $38.4 million in cash), subject to customary post-closing adjustments.
During the three months ended March 31, 2016, the Company recognized a loss of $3.0 million related to the sale of Propel. Propel represented the Company’s entire tax lien business reportable segment. Propel’s operations are presented as discontinued operations in the Company’s condensed consolidated statements of operations. Certain immaterial costs that may be eliminated as a result of the sale remained in continuing operations.
The following table presents the results of the discontinued operations during the periods presented (in thousands):
 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
 
2016
 
2015
 
2016
 
2015
Revenue
$
—

 
$
8,882

 
$
4,950

 
$
24,457

Salaries and employee benefits
—

 
(1,981
)
 
(2,860
)
 
(6,153
)
Other operating expenses
—

 
(1,736
)
 
(1,473
)
 
(3,924
)
General and administrative expenses
—

 
(1,213
)
 
(1,551
)
 
(4,156
)
Depreciation and amortization
—

 
(192
)
 
(127
)
 
(611
)
Income (loss) from discontinued operations, before income taxes
—

 
3,760

 
(1,061
)
 
9,613

Loss on sale of discontinued operations, before income taxes
—

 
—

 
(3,000
)
 
—

Total income (loss) on discontinued operations, before income taxes
—

 
3,760

 
(4,061
)
 
9,613

Income tax (provision) benefit
—

 
(1,474
)
 
879

 
(3,786
)
Total income (loss) from discontinued operations, net of tax
$
—

 
$
2,286

 
$
(3,182
)
 
$
5,827

Note 3: Earnings (Loss) Per Share
Basic earnings or loss per share is calculated by dividing net earnings or loss attributable to Encore by the weighted average number of shares of common stock outstanding during the period. Diluted earnings per share is calculated on the basis of the weighted average number of shares of common stock plus the effect of dilutive potential common shares outstanding during the period using the treasury stock method. Dilutive potential common shares include outstanding stock options, restricted stock, and the dilutive effect of the convertible senior notes. In computing the diluted net loss per share for the three months ended September 30, 2016 and 2015, dilutive potential common shares are excluded from the diluted loss per share calculation because of their anti-dilutive effect.
A reconciliation of shares used in calculating earnings per basic and diluted shares follows (in thousands):
 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
 
2016
 
2015
 
2016
 
2015
Weighted average common shares outstanding—basic
25,777

 
25,450

 
25,690

 
25,800

Dilutive effect of stock-based awards
—

 
—

 
195

 
265

Dilutive effect of convertible senior notes
—

 
—

 
—

 
847

Weighted average common shares outstanding—diluted
25,777

 
25,450

 
25,885

 
26,912

Anti-dilutive employee stock options outstanding were zero or negligible during the periods presented above.
Note 4: Business Combinations
dlc Acquisition
On June 1, 2015, Encore’s U.K.-based subsidiary Cabot Credit Management Limited and its subsidiaries (collectively, “Cabot”) acquired Hillesden Securities Ltd and its subsidiaries (“dlc”), a U.K.-based acquirer and collector of non-performing unsecured consumer debt for approximately £180.6 million (approximately $274.7 million), (the “dlc Acquisition”).

9
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The dlc Acquisition was accounted for using the acquisition method of accounting and, accordingly, the tangible and intangible assets acquired and liabilities assumed were recorded at their estimated fair values as of the date of the acquisition. Fair value measurements have been applied based on assumptions that market participants would use in the pricing of the respective assets and liabilities.
The components of the purchase price allocation for the dlc Acquisition were as follows (in thousands):
Purchase price:
 
Cash paid at acquisition
$
268,391

Deferred consideration
6,306

Total purchase price
$
274,697

 
 
Allocation of purchase price:
 
Cash
$
30,518

Investment in receivable portfolios
215,988

Deferred court costs
760

Property and equipment
1,327

Other assets
2,384

Liabilities assumed
(46,435
)
Identifiable intangible assets
3,669

Goodwill
66,486

Total net assets acquired
$
274,697

The goodwill recognized is primarily attributable to synergies that are expected to be achieved by combining dlc and Cabot's existing contingent collections operations. The entire goodwill of $66.5 million related to the dlc Acquisition is not deductible for income tax purposes.
Other Acquisitions
In addition to the dlc Acquisition discussed above, the Company, through its subsidiaries, completed certain other acquisitions in 2016 and 2015. These acquisitions were immaterial to the Company’s financial statements individually and in the aggregate.
Refer to Note 2, “Business Combinations” as disclosed in the Company’s Annual Report on Form 10-K for the year ended December 31, 2015, for a complete description of the Company’s acquisition activities in 2015.
Note 5: Fair Value Measurements
The authoritative guidance for fair value measurements defines fair value as the price that would be received upon sale of an asset or the price paid to transfer a liability, in an orderly transaction between market participants at the measurement date (i.e., the “exit price”). The guidance utilizes a fair value hierarchy that prioritizes the inputs used in valuation techniques to measure fair value into three broad levels. The following is a brief description of each level:
•
Level 1: Observable inputs such as quoted prices (unadjusted) in active markets for identical assets or liabilities.
•
Level 2: Inputs other than quoted prices that are observable for the asset or liability, either directly or indirectly. These include quoted prices for similar assets or liabilities in active markets and quoted prices for identical or similar assets or liabilities in markets that are not active.
•
Level 3: Unobservable inputs, including inputs that reflect the reporting entity’s own assumptions.

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Financial Instruments Required To Be Carried At Fair Value
Financial assets and liabilities measured at fair value on a recurring basis are summarized below (in thousands):
 
Fair Value Measurements as of
September 30, 2016
 
Level 1
 
Level 2
 
Level 3
 
Total
Assets
 
 
 
 
 
 
 
Foreign currency exchange contracts
$
—

 
$
1,466

 
$
—

 
$
1,466

Liabilities
 
 
 
 
 
 
 
Foreign currency exchange contracts
—

 
(72
)
 
—

 
(72
)
Interest rate swap agreements
—

 
(199
)
 
—

 
(199
)
Temporary Equity
 
 
 
 
 
 
 
Redeemable noncontrolling interests
—

 
—

 
(33,755
)
 
(33,755
)
 
Fair Value Measurements as of
December 31, 2015
 
Level 1
 
Level 2
 
Level 3
 
Total
Assets
 
 
 
 
 
 
 
Foreign currency exchange contracts
$
—

 
$
718

 
$
—

 
$
718

Liabilities
 
 
 
 
 
 
 
Foreign currency exchange contracts
—

 
(601
)
 
—

 
(601
)
Interest rate swap agreements
—

 
(352
)
 
—

 
(352
)
Temporary Equity
 
 
 
 
 
 
 
Redeemable noncontrolling interests
—

 
—

 
(38,624
)
 
(38,624
)
Derivative Contracts:
The Company uses derivative instruments to manage its exposure to fluctuations in interest rates and foreign currency exchange rates. Fair values of these derivative instruments are estimated using industry standard valuation models. These models project future cash flows and discount the future amounts to a present value using market-based observable inputs, including interest rate curves, foreign currency exchange rates, and forward and spot prices for currencies.
Redeemable Noncontrolling Interests:
Some minority shareholders in certain subsidiaries of the Company have the right, at certain times, to require the Company to acquire their ownership interest in those entities at fair value and, in some cases, to force a sale of the subsidiary if the Company chooses not to purchase their interests at fair value. The noncontrolling interests subject to these arrangements are included in temporary equity as redeemable noncontrolling interests, and are adjusted to their estimated redemption amounts each reporting period with a corresponding adjustment to additional paid-in capital. Future reductions in the carrying amounts are subject to a “floor” amount that is equal to the fair value of the redeemable noncontrolling interests at the time they were originally recorded. The recorded value of the redeemable noncontrolling interests cannot go below the floor level. These adjustments do not affect the calculation of earnings per share.

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The components of the change in the redeemable noncontrolling interests for the periods ended September 30, 2016 and December 31, 2015 are presented in the following table (in thousands):
 
Amount
Balance at December 31, 2014
$
28,885

Addition to redeemable noncontrolling interest
9,409

Net income attributable to redeemable noncontrolling interests
1,371

Adjustment of the redeemable noncontrolling interests to fair value
2,349

Effect of foreign currency translation attributable to redeemable noncontrolling interests
(3,390
)
Balance at December 31, 2015
38,624

Addition to redeemable noncontrolling interest
498

Net loss attributable to redeemable noncontrolling interests
(37,029
)
Adjustment of the redeemable noncontrolling interests to fair value
32,470

Effect of foreign currency translation attributable to redeemable noncontrolling interests
(808
)
Balance at September 30, 2016
$
33,755

Financial Instruments Not Required To Be Carried At Fair Value
Investment in Receivable Portfolios:
The Company records its investment in receivable portfolios at cost, which represents a significant discount from the contractual receivable balances due. The Company computes the fair value of its investment in receivable portfolios using Level 3 inputs by discounting the estimated future cash flows generated by its proprietary forecasting models. The key inputs include the estimated future gross cash flow, average cost to collect, and discount rate. In accordance with authoritative guidance related to fair value measurements, the Company estimates the average cost to collect and discount rates based on its estimate of what a market participant might use in valuing these portfolios. The determination of such inputs requires significant judgment, including assessing the assumed market participant’s cost structure, its determination of whether to include fixed costs in its valuation, its collection strategies, and determining the appropriate weighted average cost of capital. The Company evaluates the use of these key inputs on an ongoing basis and refines the data as it continues to obtain better information from market participants in the debt recovery and purchasing business.
In the Company’s current analysis, the estimated blended market participant cost to collect and discount rate is approximately 50.3% and 10.5%, respectively, for U.S. portfolios, approximately 29.9% and 11.9%, respectively, for Europe portfolios and approximately 32.9% and 11.0%, respectively for other geographies. Using this method, the fair value of investment in receivable portfolios was approximately $2,165.0 million and $2,473.8 million as of September 30, 2016 and December 31, 2015, respectively, as compared to the carrying value of $2,397.83 million and $2,440.67 million as of September 30, 2016 and December 31, 2015, respectively. A 100 basis point fluctuation in the cost to collect and discount rate used would result in an increase or decrease in the fair value of U.S. and European portfolios by approximately $44.3 million and $58.6 million, respectively, as of September 30, 2016. This fair value calculation does not represent, and should not be construed to represent, the underlying value of the Company or the amount that could be realized if its investment in receivable portfolios were sold.
Deferred Court Costs:
The Company capitalizes deferred court costs and provides a reserve for those costs that it believes will ultimately be uncollectible. The carrying value of net deferred court costs approximates fair value.
Debt:
The majority of Encore and its subsidiaries’ borrowings are carried at historical amounts, adjusted for additional borrowings less principal repayments, which approximate fair value. These borrowings include Encore’s senior secured notes and borrowings under its revolving credit and term loan facilities, Cabot’s senior secured notes and borrowings under its revolving credit facility, and other borrowing under revolving credit facilities at certain of the Company’s subsidiaries.
Encore’s convertible senior notes are carried at historical cost, adjusted for the debt discount. The carrying value of the convertible senior notes was $414.0 million and $406.6 million as of September 30, 2016 and December 31, 2015, respectively. The fair value estimate for these convertible senior notes, which incorporates quoted market prices using Level 2 inputs, was approximately $382.8 million and $372.2 million as of September 30, 2016 and December 31, 2015, respectively.

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Cabot’s senior secured notes are carried at historical cost, adjusted for debt discount and debt premium. The carrying value of Cabot’s senior secured notes was $1.3 billion and $1.4 billion, as of September 30, 2016 and December 31, 2015, respectively. The fair value estimate for these senior notes, which incorporates quoted market prices using Level 2 inputs, was $1.3 billion and $1.4 billion as of September 30, 2016 and December 31, 2015, respectively.
The Company’s preferred equity certificates are legal obligations to the noncontrolling shareholders of certain subsidiaries. They are carried at the face amount, plus any accrued interest. The Company determined that the carrying value of these preferred equity certificates approximated fair value as of September 30, 2016 and December 31, 2015.
Note 6: Derivatives and Hedging Instruments
The Company may periodically enter into derivative financial instruments to manage risks related to interest rates and foreign currency. Certain of the Company’s derivative financial instruments qualify for hedge accounting treatment under the authoritative guidance for derivatives and hedging.
The following table summarizes the fair value of derivative instruments as recorded in the Company’s condensed consolidated statements of financial condition (in thousands):
 
September 30, 2016
 
December 31, 2015
Balance Sheet
Location
 
Fair Value
 
Balance Sheet
Location
 
Fair Value
Derivatives designated as hedging instruments:
 
 
 
 
 
 
 
Foreign currency exchange contracts
Other assets
 
$
676

 
Other assets
 
$
718

Foreign currency exchange contracts
Other liabilities
 
(72
)
 
Other liabilities
 
(601
)
Derivatives not designated as hedging instruments:
 
 
 
 
 
 
 
Foreign currency exchange contracts
Other assets
 
790

 
Other assets
 
—

Interest rate swap agreements
Other liabilities
 
(199
)
 
Other liabilities
 
(352
)
The Company has operations in foreign countries, which expose the Company to foreign currency exchange rate fluctuations due to transactions denominated in foreign currencies. To mitigate a portion of this risk, the Company enters into derivative financial instruments, principally foreign currency forward contracts with financial counterparties. The Company adjusts the level and use of derivatives as soon as practicable after learning that an exposure has changed and reviews all exposures and derivative positions on an ongoing basis.
Derivatives Designated as Hedging Instruments
Certain of the foreign currency forward contracts are designated as cash flow hedging instruments and qualify for hedge accounting treatment. Gains and losses arising from the effective portion of such contracts are recorded as a component of accumulated other comprehensive income (“OCI”) as gains and losses on derivative instruments, net of income taxes. The hedging gains and losses in OCI are subsequently reclassified into earnings in the same period in which the underlying transactions affect the Company’s earnings. If all or a portion of the forecasted transaction is cancelled, this would render all or a portion of the cash flow hedge ineffective and the Company would reclassify the ineffective portion of the hedge into earnings. The Company generally does not experience ineffectiveness of the hedge relationship and the accompanying consolidated financial statements do not include any such gains or losses.
As of September 30, 2016, the total notional amount of the forward contracts that are designated as cash flow hedging instruments was $33.6 million. All of these outstanding contracts qualified for hedge accounting treatment. The Company estimates that approximately $0.2 million of net derivative gain included in OCI will be reclassified into earnings within the next 12 months. No gains or losses were reclassified from OCI into earnings as a result of forecasted transactions that failed to occur during the nine months ended September 30, 2016 and 2015.

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The following table summarizes the effects of derivatives in cash flow hedging relationships designated as hedging instruments on the Company’s condensed consolidated statements of operations for the three and nine months ended September 30, 2016 and 2015 (in thousands):
Derivatives Designated as Hedging Instruments
 
Gain or (Loss)
Recognized in OCI-
Effective Portion
 
Location of Gain
or (Loss)
Reclassified from
OCI into
Income - Effective
Portion
 
Gain or (Loss)
Reclassified
from OCI into
Income -  Effective
Portion
 
Location of
Gain or (Loss)
Recognized -
Ineffective
Portion and
Amount
Excluded from
Effectiveness
Testing
 
Amount of
Gain or (Loss)
Recognized -
Ineffective
Portion and
Amount
Excluded from
Effectiveness
Testing
 
Three Months Ended 
 September 30,
 
 
 
Three Months Ended 
 September 30,
 
 
 
Three Months Ended 
 September 30,
 
2016
 
2015
 
 
 
2016
 
2015
 
 
 
2016
 
2015
Foreign currency exchange contracts
 
$
989

 
$
(670
)
 
Salaries and
employee
benefits
 
$
151

 
$
(153
)
 
Other (expense)
income
 
$
—

 
$
—

Foreign currency exchange contracts
 
171

 
(126
)
 
General and
administrative
expenses
 
26

 
(28
)
 
Other (expense)
income
 
—

 
—

Derivatives Designated as Hedging Instruments
 
Gain or (Loss)
Recognized in OCI-
Effective Portion
 
Location of Gain
or (Loss)
Reclassified from
OCI into
Income - Effective
Portion
 
Gain or (Loss)
Reclassified
from OCI into
Income -  Effective
Portion
 
Location of
Gain or (Loss)
Recognized -
Ineffective
Portion and
Amount
Excluded from
Effectiveness
Testing
 
Amount of
Gain or (Loss)
Recognized -
Ineffective
Portion and
Amount
Excluded from
Effectiveness
Testing
 
Nine Months Ended 
 September 30,
 
 
 
Nine Months Ended 
 September 30,
 
 
 
Nine Months Ended 
 September 30,
 
2016
 
2015
 
 
 
2016
 
2015
 
 
 
2016
 
2015
Foreign currency exchange contracts
 
$
1,284

 
$
(593
)
 
Salaries and
employee
benefits
 
$
683

 
$
(468
)
 
Other (expense)
income
 
$
—

 
$
—

Foreign currency exchange contracts
 
(19
)
 
24

 
General and
administrative
expenses
 
95

 
(75
)
 
Other (expense)
income
 
—

 
—

Derivatives Not Designated as Hedging Instruments
In 2016, Encore and its Cabot subsidiary collectively began entering into currency exchange forward contracts to reduce the effects of currency exchange rate fluctuations between the British Pound and Euro. These derivative contracts generally mature within one to three months and are not designated as hedge instruments for accounting purposes. The Company continues to monitor the level of exposure of the foreign currency exchange risk and may enter into additional short-term forward contracts on an ongoing basis. The gains or losses on these derivative contracts are recognized in other income or expense based on the changes in fair value. Before the effect of income tax and noncontrolling interest, the net gain on these derivative contracts recognized in the Company’s condensed consolidated statements of operations was $3.3 million and $10.7 million during the three and nine months ended September 30, 2016, respectively.

14
Table of Contents

The following table summarizes the effects of derivatives in cash flow hedging relationships not designated as hedging instruments on the Company’s condensed consolidated statements of operations for the three and nine months ended September 30, 2016 and 2015 (in thousands):
Derivatives Not Designated as Hedging Instruments
 
Location of Gain or (Loss) Recognized in income on Derivative
 
Amount of Gain or (Loss) Recognized in Income on Derivative
 
 
 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
 
 
 
2016
 
2015
 
2016
 
2015
Foreign currency exchange contracts (1)
 
Other income (expense)
 
$
3,330

 
$
—

 
$
10,706

 
$
—

Interest rate swap agreements
 
Interest expense
 
39

 
—

 
83

 
—

________________________
(1)
After the effect of income tax and noncontrolling interest, the net impact of the derivative contracts to consolidated net income from continuing operations attributable to Encore was a gain of $0.5 million and $2.1 million during the three and nine months ended September 30, 2016, respectively.
Note 7: Investment in Receivable Portfolios, Net
In accordance with the authoritative guidance for loans and debt securities acquired with deteriorated credit quality, discrete receivable portfolio purchases during the same fiscal quarter are aggregated into pools based on common risk characteristics. Common risk characteristics include risk ratings (e.g. FICO or similar scores), financial asset type, collateral type, size, interest rate, date of origination, term, and geographic location. The Company’s static pools are typically grouped into credit card and telecom, purchased consumer bankruptcy, and mortgage portfolios. The Company further groups these static pools by geographic region or location. Portfolios acquired in business combinations are also grouped into these pools. During any fiscal quarter in which the Company has an acquisition of an entity that has portfolio, the entire historical portfolio of the acquired company is aggregated into the pool groups for that quarter, based on common characteristics, resulting in pools for that quarter that may consist of several different vintages of portfolio. Once a static pool is established, the portfolios are permanently assigned to the pool. The discount (i.e., the difference between the cost of each static pool and the related aggregate contractual receivable balance) is not recorded because the Company expects to collect a relatively small percentage of each static pool’s contractual receivable balance. As a result, receivable portfolios are recorded at cost at the time of acquisition. The purchase cost of the portfolios includes certain fees paid to third parties incurred in connection with the direct acquisition of the receivable portfolios.
In compliance with the authoritative guidance, the Company accounts for its investments in receivable portfolios using either the interest method or the cost recovery method. The interest method applies an internal rate of return (“IRR”) to the cost basis of the pool, which remains unchanged throughout the life of the pool, unless there is an increase in subsequent expected cash flows. Subsequent increases in expected cash flows are recognized prospectively through an upward adjustment of the pool’s IRR over its remaining life. Subsequent decreases in expected cash flows do not change the IRR, but are recognized as an allowance to the cost basis of the pool, and are reflected in the consolidated statements of operations as a reduction in revenue, with a corresponding valuation allowance, offsetting the investment in receivable portfolios in the consolidated statements of financial condition. With gross collections being discounted at monthly IRRs, when collections are lower in the near term, even if substantially higher collections are expected later in the collection curve, an allowance charge could result.
The Company utilizes its proprietary forecasting models to continuously evaluate the economic life of each pool. During the quarter ended September 30, 2016, the Company revised the forecasting methodology it uses to value and calculate IRRs on certain portfolios in Europe by extending the collection forecast from 120 months to 180 months. This change was made as a result of (1) the Company having observed that older portfolios in Europe have consistently experienced cash collections beyond 120 months, (2) an expectation that regulatory changes in the United Kingdom resulting in a reduction in the number of highly discounted near term one-time settlements, an increase in the number of payment plans, and an increase in the length of existing payment plans will cause a lengthening of the collections curve, (3) an expectation that, as a result of a higher percentage of semi-performing account purchases in the United Kingdom in recent years, newer vintages will have a larger percentage of collections after 120 months and (4) the Company’s increased confidence in its ability to forecast future cash collections to 180 months. The increase in the collection forecast from 120 months to 180 months was applied effective July 1, 2016 to certain portfolios in Europe for which the Company could accurately forecast through such term. In addition, during the three months ended September 30, 2016, the Company recorded allowance charges of approximately $94.0 million resulting from delays or shortfalls in near term collections against the forecasts for certain pools in Europe. These changes in forecasted future cash flows resulted in an increase in the aggregate total estimated remaining collections for the receivable portfolios of approximately $296.5 million as of September 30, 2016. The increase in the collection forecast from 120 months to 180 months had the effect of reducing the allowance charges by approximately $13.2 million. For portfolios in Europe that

15
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were not extended to 180 months, the Company will continue to include collection forecasts to 120 months in calculating accretion revenue and in its estimated remaining collection disclosures. In the United States, the Company will continue to include collection forecasts to 120 months in calculating accretion revenue. Expected collections beyond the 120 month collection forecast in the United States are included in its estimated remaining collection disclosures but are not included in the calculation of accretion revenue.
The Company accounts for each static pool as a unit for the economic life of the pool (similar to one loan) for recognition of revenue from receivable portfolios, for collections applied to the cost basis of receivable portfolios, and for provision for loss or allowance. Revenue from receivable portfolios is accrued based on each pool’s IRR applied to each pool’s adjusted cost basis. The cost basis of each pool is increased by revenue earned and portfolio allowance reversals and decreased by gross collections and portfolio allowances.
If the amount and timing of future cash collections on a pool of receivables are not reasonably estimable, the Company accounts for such portfolios on the cost recovery method as Cost Recovery Portfolios. The accounts in these portfolios have different risk characteristics than those included in other portfolios acquired during the same quarter, or the necessary information was not available to estimate future cash flows and, accordingly, they were not aggregated with other portfolios. Under the cost recovery method of accounting, no revenue is recognized until the purchase price of a Cost Recovery Portfolio has been fully recovered.
Accretable yield represents the amount of revenue the Company expects to generate over the remaining life of its existing investment in receivable portfolios based on estimated future cash flows. Total accretable yield is the difference between future estimated collections and the current carrying value of a portfolio. All estimated cash flows on portfolios where the cost basis has been fully recovered are classified as zero basis cash flows.
The following table summarizes the Company’s accretable yield and an estimate of zero basis future cash flows at the beginning and end of the period presented (in thousands):
 
Accretable
Yield
 
Estimate of
Zero Basis
Cash Flows
 
Total
December 31, 2015
$
3,047,640

 
$
223,031

 
$
3,270,671

Revenue recognized, net
(238,547
)
 
(31,547
)
 
(270,094
)
Net additions on existing portfolios
39,538

 
8,071

 
47,609

Additions for current purchases, net
193,654

 
—

 
193,654

Effect of foreign currency translation
(64,330
)
 
470

 
(63,860
)
Balance at March 31, 2016
2,977,955

 
200,025

 
3,177,980

Revenue recognized, net
(233,714
)
 
(33,738
)
 
(267,452
)
Net additions on existing portfolios
59,459

 
95,135

 
154,594

Additions for current purchases, net
183,217

 
—

 
183,217

Effect of foreign currency translation
(181,223
)
 
245

 
(180,978
)
Balance at June 30, 2016
2,805,694

 
261,667

 
3,067,361

Revenue recognized, net
(119,543
)
 
(39,991
)
 
(159,534
)
Net additions on existing portfolios
299,212

 
22,862

 
322,074

Additions for current purchases, net
180,079

 
—

 
180,079

Effect of foreign currency translation
(75,402
)
 
135

 
(75,267
)
Balance at September 30, 2016
$
3,090,040

 
$
244,673

 
$
3,334,713


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Table of Contents

 
Accretable
Yield
 
Estimate of
Zero Basis
Cash Flows
 
Total
Balance at December 31, 2014
$
2,993,321

 
$
66,392

 
$
3,059,713

Revenue recognized, net
(248,539
)
 
(15,571
)
 
(264,110
)
Net additions on existing portfolios
228,560

 
39,661

 
268,221

Additions for current purchases, net
85,907

 
—

 
85,907

Effect of foreign currency translation
(108,046
)
 
(54
)
 
(108,100
)
Balance at March 31, 2015
2,951,203

 
90,428

 
3,041,631

Revenue recognized, net
(243,425
)
 
(26,876
)
 
(270,301
)
Net additions on existing portfolios
(40,337
)
 
74,587

 
34,250

Additions for current purchases, net
395,009

 
—

 
395,009

Effect of foreign currency translation
131,654

 
(1
)
 
131,653

Balance at June 30, 2015
3,194,104

 
138,138

 
3,332,242

Revenue recognized, net
(233,680
)
 
(31,843
)
 
(265,523
)
Net additions on existing portfolios
117,399

 
119,127

 
236,526

Additions for current purchases, net
149,278

 
—

 
149,278

Effect of foreign currency translation
(120,970
)
 
(1,209
)
 
(122,179
)
Balance at September 30, 2015
$
3,106,131

 
$
224,213

 
$
3,330,344

During the three months ended September 30, 2016, the Company purchased receivable portfolios with a face value of $1.5 billion for $206.4 million, or a purchase cost of 14.0% of face value. The estimated future collections at acquisition for all portfolios purchased during the three months ended September 30, 2016 amounted to $386.5 million. During the three months ended September 30, 2015, the Company purchased receivable portfolios with a face value of $2.1 billion for $187.2 million, or a purchase cost of 9.0% of face value. The estimated future collections at acquisition for all portfolios purchased during the three months ended September 30, 2015 amounted to $336.4 million.
During the nine months ended September 30, 2016, the Company purchased receivable portfolios with a face value of $7.9 billion for $696.2 million, or a purchase cost of 8.9% of face value. The estimated future collections at acquisition for all portfolios purchased during the nine months ended September 30, 2016 amounted to $1.3 billion. During the nine months ended September 30, 2015, the Company purchased receivable portfolios with a face value of $8.7 billion for $731.1 million, or a purchase cost of 8.4% of face value. Purchases of charged-off credit card portfolios during the nine months ended September 30, 2015, include $216.0 million of portfolios acquired in connection with the dlc Acquisition. The estimated future collections at acquisition for all portfolios purchased during the nine months ended September 30, 2015 amounted to $1.3 billion.
All collections realized after the net book value of a portfolio has been fully recovered (“Zero Basis Portfolios”) are recorded as revenue (“Zero Basis Revenue”). During the three months ended September 30, 2016 and 2015, Zero Basis Revenue was approximately $40.0 million and $31.8 million, respectively. During the nine months ended September 30, 2016 and 2015, Zero Basis Revenue was approximately $105.3 million and $74.3 million, respectively.

17
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The following tables summarize the changes in the balance of the investment in receivable portfolios during the following periods (in thousands, except percentages):
 
Three Months Ended September 30, 2016
 
Accrual Basis
Portfolios
 
Cost Recovery
Portfolios
 
Zero Basis
Portfolios
 
Total
Balance, beginning of period
$
2,465,967

 
$
3,626

 
$
—

 
$
2,469,593

Purchases of receivable portfolios
206,359

 
—

 
—

 
206,359

Gross collections(1)
(366,321
)
 
(706
)
 
(39,934
)
 
(406,961
)
Put-backs and Recalls(2)
(3,103
)
 
—

 
(57
)
 
(3,160
)
Foreign currency adjustments
(27,361
)
 
(173
)
 
—

 
(27,534
)
Revenue recognized
212,664

 
—

 
38,317

 
250,981

Portfolio (allowance) reversals, net
(93,121
)
 
—

 
1,674

 
(91,447
)
Balance, end of period
$
2,395,084

 
$
2,747

 
$
—

 
$
2,397,831

Revenue as a percentage of collections(3)
58.1
%
 
0.0
%
 
96.0
%
 
61.7
%
 
 
 
 
 
 
 
 
 
Three Months Ended September 30, 2015
 
Accrual Basis
Portfolios
 
Cost Recovery
Portfolios
 
Zero Basis
Portfolios
 
Total
Balance, beginning of period
$
2,343,864

 
$
7,903

 
$
—

 
$
2,351,767

Purchases of receivable portfolios
187,180

 
—

 
—

 
187,180

Gross collections(1)
(388,822
)
 
(1,126
)
 
(31,805
)
 
(421,753
)
Put-backs and Recalls(2)
(5,677
)
 
(1
)
 
(37
)
 
(5,715
)
Foreign currency adjustments
(52,505
)
 
(1,273
)
 
—

 
(53,778
)
Revenue recognized
240,039

 
—

 
28,745

 
268,784

Portfolio (allowance) reversals, net
(6,358
)
 
—

 
3,097

 
(3,261
)
Balance, end of period
$
2,317,721

 
$
5,503

 
$
—

 
$
2,323,224

Revenue as a percentage of collections(3)
61.7
%
 
0.0
%
 
90.4
%
 
63.7
%
________________________
(1)
Does not include amounts collected on behalf of others.
(2)
Put-backs represent accounts that are returned to the seller in accordance with the respective purchase agreement (“Put-Backs”). Recalls represent accounts that are recalled by the seller in accordance with the respective purchase agreement (“Recalls”).
(3)
Revenue as a percentage of collections excludes the effects of net portfolio allowances or net portfolio allowance reversals.

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Nine Months Ended September 30, 2016
 
Accrual Basis
Portfolios
 
Cost Recovery
Portfolios
 
Zero Basis
Portfolios
 
Total
Balance, beginning of period
$
2,436,054

 
$
4,615

 
$
—

 
$
2,440,669

Purchases of receivable portfolios
696,228

 
—

 
—

 
696,228

Transfer of portfolios
(96
)
 
96

 
—

 
—

Gross collections(1)
(1,181,546
)
 
(2,063
)
 
(105,257
)
 
(1,288,866
)
Put-backs and Recalls(2)
(19,680
)
 
(11
)
 
(19
)
 
(19,710
)
Foreign currency adjustments
(127,680
)
 
110

 
—

 
(127,570
)
Revenue recognized
683,752

 
—

 
100,105

 
783,857

Portfolio (allowance) reversals, net
(91,948
)
 
—

 
5,171

 
(86,777
)
Balance, end of period
$
2,395,084

 
$
2,747

 
$
—

 
$
2,397,831

Revenue as a percentage of collections(3)
57.9
%
 
0.0
%
 
95.1
%
 
60.8
%
 
 
 
 
 
 
 
 
 
Nine Months Ended September 30, 2015
 
Accrual Basis
Portfolios
 
Cost Recovery
Portfolios
 
Zero Basis
Portfolios
 
Total
Balance, beginning of period
$
2,131,084

 
$
12,476

 
$
—

 
$
2,143,560

Purchases of receivable portfolios
731,114

 
—

 
—

 
731,114

Gross collections(1)
(1,205,717
)
 
(4,351
)
 
(74,080
)
 
(1,284,148
)
Put-backs and Recalls(2)
(9,652
)
 
(20
)
 
(229
)
 
(9,901
)
Foreign currency adjustments
(54,753
)
 
(2,602
)
 
20

 
(57,335
)
Revenue recognized
731,196

 
—

 
64,780

 
795,976

Portfolio (allowance) reversals, net
(5,551
)
 
—

 
9,509

 
3,958

Balance, end of period
$
2,317,721

 
$
5,503

 
$
—

 
$
2,323,224

Revenue as a percentage of collections(3)
60.6
%
 
0.0
%
 
87.4
%
 
62.0
%
________________________
(1)
Does not include amounts collected on behalf of others.
(2)
Put-backs represent accounts that are returned to the seller in accordance with the respective purchase agreement. Recalls represent accounts that are recalled by the seller in accordance with the respective purchase agreement.
(3)
Revenue as a percentage of collections excludes the effects of net portfolio allowances or net portfolio allowance reversals.
The following table summarizes the change in the valuation allowance for investment in receivable portfolios during the periods presented (in thousands):
 
Valuation Allowance
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2016
 
2015
 
2016
 
2015
Balance at beginning of period
$
55,918

 
$
68,454

 
$
60,588

 
$
75,673

Provision for portfolio allowances
94,011

 
8,322

 
94,011

 
8,322

Reversal of prior allowances
(2,564
)
 
(5,061
)
 
(7,234
)
 
(12,280
)
Balance at end of period
$
147,365

 
$
71,715

 
$
147,365

 
$
71,715

Note 8: Deferred Court Costs, Net
The Company pursues legal collections using a network of attorneys that specialize in collection matters and through its internal legal channel. The Company generally pursues collections through legal means only when it believes a consumer has sufficient assets to repay their indebtedness but has, to date, been unwilling to pay. In order to pursue legal collections the Company is required to pay certain upfront costs to the applicable courts that are recoverable from the consumer (“Deferred Court Costs”).

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The Company capitalizes Deferred Court Costs in its consolidated financial statements and provides a reserve for those costs that it believes will ultimately be uncollectible. The Company determines the reserve based on an estimated court cost recovery rate established based on its analysis of historical court costs recovery data. Based on recent trends of historical court costs recovery data, the Company noted a decrease in the estimated court cost recovery rate in the United Kingdom. Based on the revised estimated court cost recovery rate, the Company recorded an additional court costs reserve of approximately $11.3 million during the three months ended September 30, 2016. The Company estimates deferral periods for Deferred Court Costs based on jurisdiction and nature of litigation. The Company writes off any Deferred Court Costs not recovered within the respective deferral period. Collections received from debtors are first applied against related court costs with the balance applied to the debtors’ account balance.
Deferred Court Costs for the deferral period consist of the following as of the dates presented (in thousands):
 
September 30,
2016
 
December 31,
2015
Court costs advanced
$
646,399

 
$
636,922

Court costs recovered
(257,575
)
 
(242,899
)
Court costs reserve
(331,735
)
 
(318,784
)
Deferred court costs
$
57,089

 
$
75,239

A roll forward of the Company’s court cost reserve is as follows (in thousands):
 
Court Cost Reserve
 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
 
2016
 
2015
 
2016
 
2015
Balance at beginning of period
$
(319,651
)
 
$
(298,955
)
 
$
(318,784
)
 
$
(279,572
)
Provision for court costs
(25,599
)
 
(22,434
)
 
(55,976
)
 
(59,897
)
Net down of reserve after deferral period
12,955

 
11,924

 
40,028

 
30,284

Effect of foreign currency translation
560

 
545

 
2,997

 
265

Balance at end of period
$
(331,735
)
 
$
(308,920
)
 
$
(331,735
)
 
$
(308,920
)
Note 9: Other Assets
Other assets consist of the following (in thousands):
 
September 30,
2016
 
December 31,
2015
Deferred tax assets
$
44,087

 
$
12,695

Identifiable intangible assets, net
31,113

 
15,712

Prepaid income taxes
28,729

 
25,839

Other financial receivables
22,047

 
11,275

Prepaid expenses
15,766

 
21,872

Service fee receivables
11,045

 
13,708

Receivable from seller
5,388

 
8,605

Security deposits
2,967

 
2,368

Derivative instruments
1,466

 
718

Other
43,795

 
35,970

Total
$
206,403

 
$
148,762


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Note 10: Debt
The Company is in compliance with all covenants under its financing arrangements. The components of the Company’s consolidated debt and capital lease obligations were as follows (in thousands):
 
September 30,
2016
 
December 31,
2015
Encore revolving credit facility
$
567,000

 
$
627,000

Encore term loan facility
134,031

 
143,078

Encore senior secured notes
14,407

 
28,750

Encore convertible notes
448,500

 
448,500

Less: Debt discount
(34,502
)
 
(41,867
)
Cabot senior secured notes
1,242,359

 
1,360,000

Add: Debt premium
39,516

 
53,440

Less: Debt discount
(2,440
)
 
(3,184
)
Cabot senior revolving credit facility
114,321

 
54,089

Preferred equity certificates
211,620

 
221,516

Capital lease obligations
5,949

 
11,054

Other
140,630

 
83,342

 
2,881,391

 
2,985,718

Less: debt issuance costs, net of amortization
(32,948
)
 
(41,655
)
Total
$
2,848,443

 
$
2,944,063

Encore Revolving Credit Facility and Term Loan Facility
On March 24, 2016, the Company amended its revolving credit facility and term loan facility pursuant to Amendment No. 3 to the Second Amended and Restated Credit Agreement (as amended, the “Restated Credit Agreement”). The Restated Credit Agreement includes a revolving credit facility of $742.6 million (the “Revolving Credit Facility”), a term loan facility of $158.8 million (the “Term Loan Facility,” and together with the Revolving Credit Facility, the “Senior Secured Credit Facilities”), and an accordion feature that allows the Company to increase the Senior Secured Credit Facilities by an additional $250.0 million ($55.0 million of which was exercised in November 2015). Including the accordion feature, the maximum amount that can be borrowed under the Restated Credit Agreement is $1.1 billion. The Restated Credit Agreement expires in February 2019, except with respect to two subtranches of the Term Loan Facility of $60.0 million and $6.3 million, maturing in February 2017 and November 2017, respectively.
Provisions of the Restated Credit Agreement include, but are not limited to:
•
The Revolving Credit Facility of $742.6 million that expires in February 2019, with interest at a floating rate equal to, at the Company’s option, either: (1) reserve adjusted London Interbank Offered Rate (“LIBOR”), plus a spread that ranges from 250 to 300 basis points depending on the cash flow leverage ratio of Encore and its restricted subsidiaries; or (2) alternate base rate, plus a spread that ranges from 150 to 200 basis points depending on the cash flow leverage ratio of Encore and its restricted subsidiaries. “Alternate base rate,” as defined in the Restated Credit Agreement, means the highest of (i) the per annum rate which the administrative agent publicly announces from time to time as its prime lending rate, (ii) the federal funds effective rate from time to time, plus 0.5% per annum, (iii) reserved adjusted LIBOR determined on a daily basis for a one month interest period, plus 1.0% per annum or (iv) zero;
•
A $92.5 million term loan maturing on February 25, 2019, with interest at a floating rate equal to, at the Company’s option, either: (1) reserve adjusted LIBOR, plus a spread that ranges from 250 to 300 basis points, depending on the cash flow leverage ratio of Encore and its restricted subsidiaries; or (2) alternate base rate, plus a spread that ranges from 150 to 200 basis points, depending on the cash flow leverage ratio of Encore and its restricted subsidiaries. Principal amortizes $6.9 million in 2016, $9.3 million in 2017, and $9.3 million in 2018 with the remaining principal due at the end of the term;
•
A $60.0 million term loan maturing on February 25, 2017, with interest at a floating rate equal to, at the Company’s option, either: (1) reserve adjusted LIBOR, plus a spread that ranges from 200 to 250 basis points, depending on the cash flow leverage ratio of Encore and its restricted subsidiaries; or (2) alternate base rate, plus a spread that ranges

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from 100 to 150 basis points, depending on the cash flow leverage ratio of Encore and its restricted subsidiaries. Principal amortizes $4.5 million in 2016 with the remaining principal due at the end of the term;
•
A $6.3 million term loan maturing on November 3, 2017, with interest at a floating rate equal to, at the Company’s option, either: (1) reserve adjusted LIBOR, plus a spread that ranges from 250 to 300 basis points, depending on the cash flow leverage ratio of Encore and its restricted subsidiaries; or (2) alternate base rate, plus a spread that ranges from 150 to 200 basis points, depending on the cash flow leverage ratio of Encore and its restricted subsidiaries. Principal amortizes $0.6 million in 2016 and $0.5 million in 2017 with the remaining principal due at the end of the term;
•
A borrowing base under the Revolving Credit Facility equal to (1) the lesser of (i) 30%-35% (depending on the trailing 12-month cost per dollar collected of Encore and its restricted subsidiaries) of all eligible non-bankruptcy estimated remaining collections, currently 33%, plus 55% of eligible estimated remaining collections for consumer receivables subject to bankruptcy, and (ii) the product of the net book value of all receivable portfolios acquired on or after January 1, 2005 multiplied by 95%, minus (2) the sum of the aggregate principal amount outstanding of Encore’s Senior Secured Notes (as defined below) plus the aggregate principal amount outstanding under the term loans;
•
a maximum cash flow leverage ratio permitted of 2.50:1.00;
•
a maximum cash flow secured leverage ratio of 2.00:1.00;
•
The allowance of additional unsecured or subordinated indebtedness not to exceed $1.1 billion;
•
Restrictions and covenants, which limit the payment of dividends and the incurrence of additional indebtedness and liens, among other limitations;
•
Repurchases of up to $150.0 million of Encore’s common stock after July 9, 2015, subject to compliance with certain covenants and available borrowing capacity;
•
A change of control definition that excludes acquisitions of stock by Red Mountain Capital Partners LLC, JCF FPK I, LP and their respective affiliates of up to 50% of the outstanding shares of Encore’s voting stock;
•
Events of default which, upon occurrence, may permit the lenders to terminate the facility and declare all amounts outstanding to be immediately due and payable;
•
A pre-approved acquisition limit of $225.0 million per fiscal year;
•
A basket to allow for investments not to exceed the greater of (1) 200% of the consolidated net worth of Encore and its restricted subsidiaries and (2) an unlimited amount such that after giving effect to the making of any investment, the cash flow leverage ratio is less than 1.25:1:00;
•
Collateralization by all assets of the Company, other than the assets of certain foreign subsidiaries and all unrestricted subsidiaries as defined in the Restated Credit Agreement.
At September 30, 2016, the outstanding balance under the Restated Credit Agreement was $701.0 million, which bore a weighted average interest rate of 3.58% and 3.28% for the three months ended September 30, 2016 and 2015, respectively, and 3.52% and 3.12% for the nine months ended September 30, 2016 and 2015, respectively. Available capacity under the Restated Credit Agreement, subject to borrowing base and applicable debt covenants, was $175.6 million as of September 30, 2016, not including the $195.0 million additional capacity provided by the facility’s remaining accordion feature.
Encore Senior Secured Notes
In 2010 and 2011 Encore entered into an aggregate of $75.0 million in senior secured notes with certain affiliates of Prudential Capital Group (the “Senior Secured Notes”). $25.0 million of the Senior Secured Notes bear an annual interest rate of 7.375%, mature in 2018 and require quarterly principal payments of $1.25 million. Prior to May 2013, these notes required quarterly payments of interest only. The remaining $50.0 million of Senior Secured Notes bear an annual interest rate of 7.75%, mature in 2017 and require quarterly principal payments of $2.5 million. Prior to December 2012 these notes required quarterly interest only payments. As of September 30, 2016, $6.2 million of the 7.375% Senior Secured Notes and $8.2 million of the 7.75% Senior Secured Notes, for an aggregate of $14.4 million, remained outstanding.
The Senior Secured Notes are guaranteed in full by certain of Encore’s subsidiaries. The Senior Secured Notes are pari passu with, and are collateralized by the same collateral as, the Senior Secured Credit Facilities. The Senior Secured Notes may be accelerated and become automatically and immediately due and payable upon certain events of default, including certain events related to insolvency, bankruptcy, or liquidation. Additionally, the Senior Secured Notes may be accelerated at the election of the holder or holders of a majority in principal amount of the Senior Secured Notes upon certain events of default by

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Encore, including the breach of affirmative covenants regarding guarantors, collateral, most favored lender treatment, minimum revolving credit facility commitment or the breach of any negative covenant. If Encore prepays the Senior Secured Notes at any time for any reason, payment will be at the higher of par or the present value of the remaining scheduled payments of principal and interest on the portion being prepaid. The discount rate used to determine the present value is 50 basis points over the then current Treasury Rate corresponding to the remaining average life of the Senior Secured Notes. The covenants are substantially similar to those in the Restated Credit Agreement. Prudential Capital Group and the administrative agent for the lenders of the Restated Credit Agreement have an intercreditor agreement related to their pro rata rights to the collateral, actionable default, powers and duties and remedies, among other topics. The terms of the purchase agreement for the Senior Secured Notes have been amended in connection with amendments to the Restated Credit Agreement in order to align certain provisions between the two agreements.
Encore Convertible Notes
In November and December 2012, Encore sold $115.0 million aggregate principal amount of 3.0% 2017 Convertible Notes that mature on November 27, 2017 in private placement transactions. In June and July 2013, Encore sold $172.5 million aggregate principal amount of 3.0% 2020 Convertible Notes that mature on July 1, 2020 in private placement transactions. In March 2014, Encore sold $161.0 million aggregate principal amount of 2.875% 2021 Convertible Notes that mature on March 15, 2021 in private placement transactions. The interest on these unsecured convertible senior notes (collectively, the “Convertible Notes”), is payable semi-annually.
Prior to the close of business on the business day immediately preceding their respective conversion date (listed below), holders may convert their Convertible Notes under certain circumstances set forth in the applicable Convertible Notes indentures. On or after their respective conversion dates until the close of business on the scheduled trading day immediately preceding their respective maturity date, holders may convert their Convertible Notes at any time. Certain key terms related to the convertible features for each of the Convertible Notes as of September 30, 2016 are listed below.
 
2017 Convertible Notes
 
2020 Convertible Notes
 
2021 Convertible Notes
Initial conversion price
$
31.56

 
$
45.72

 
$
59.39

Closing stock price at date of issuance
$
25.66

 
$
33.35

 
$
47.51

Closing stock price date
November 27, 2012

 
June 24, 2013

 
March 5, 2014

Conversion rate (shares per $1,000 principal amount)
31.6832

 
21.8718

 
16.8386

Conversion date(1)
May 27, 2017

 
January 1, 2020

 
September 15, 2020

_______________________
(1)
The 2017 Convertible Notes became convertible on January 2, 2014, as certain early conversion events were satisfied. Refer to “Conversion and Earnings Per Share Impact” section below for further details.
In the event of conversion, the 2017 Convertible Notes are convertible into cash up to the aggregate principal amount of the notes. The excess conversion premium may be settled in cash or shares of the Company’s common stock at the discretion of the Company. In the event of conversion, holders of the Company’s 2020 and 2021 Convertible Notes will receive cash, shares of the Company’s common stock or a combination of cash and shares of the Company’s common stock, at the Company’s election. The Company’s current intent is to settle conversions through combination settlement (i.e., convertible into cash up to the aggregate principal amount, and shares of the Company’s common stock or a combination of cash and shares of the Company’s common stock, at the Company’s election, for the remainder). As a result, and in accordance with authoritative guidance related to derivatives and hedging and earnings per share, only the conversion spread is included in the diluted earnings per share calculation, if dilutive. Under such method, the settlement of the conversion spread has a dilutive effect when, during any quarter, the average share price of the Company’s common stock exceeds the initial conversion prices listed in the above table.
Authoritative guidance related to debt with conversion and other options requires that issuers of convertible debt instruments that, upon conversion, may be settled fully or partially in cash, must separately account for the liability and equity components in a manner that will reflect the entity’s nonconvertible debt borrowing rate when interest cost is recognized in subsequent periods. Additionally, debt issuance costs are required to be allocated in proportion to the allocation of the liability and equity components and accounted for as debt issuance costs and equity issuance costs, respectively.

23
Table of Contents

The debt and equity components, the issuance costs related to the equity component, the stated interest rate, and the effective interest rate for each of the Convertible Notes are listed below (in thousands, except percentages):
 
2017 Convertible Notes
 
2020 Convertible Notes
 
2021 Convertible Notes
Debt component
$
100,298

 
$
140,247

 
$
143,645

Equity component
$
14,702

 
$
32,253

 
$
17,355

Equity issuance cost
$
788

 
$
1,106

 
$
581

Stated interest rate
3.000
%
 
3.000
%
 
2.875
%
Effective interest rate
6.000
%
 
6.350
%
 
4.700
%
The balances of the liability and equity components of all of the Convertible Notes outstanding were as follows (in thousands):
 
September 30,
2016
 
December 31,
2015
Liability component—principal amount
$
448,500

 
$
448,500

Unamortized debt discount
(34,502
)
 
(41,867
)
Liability component—net carrying amount
$
413,998

 
$
406,633

Equity component
$
60,511

 
$
58,184

The debt discount is being amortized into interest expense over the remaining life of the convertible notes using the effective interest rates. Interest expense related to the convertible notes was as follows (in thousands):
 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
 
2016
 
2015
 
2016
 
2015
Interest expense—stated coupon rate
$
3,317

 
$
3,315

 
$
9,925

 
$
9,915

Interest expense—amortization of debt discount
2,501

 
2,359

 
7,366

 
6,947

Total interest expense—convertible notes
$
5,818

 
$
5,674

 
$
17,291

 
$
16,862

Convertible Notes Hedge Transactions
In order to reduce the risk related to the potential dilution and/or the potential cash payments the Company may be required to make in the event that the market price of the Company’s common stock becomes greater than the conversion prices of the Convertible Notes, the Company maintains a hedge program that increases the effective conversion price for each of the Convertible Notes. All of the hedge instruments related to the Convertible Notes have been determined to be indexed to the Company’s own stock and meet the criteria for equity classification. In accordance with authoritative guidance, the Company recorded the cost of the hedge instruments as a reduction in additional paid-in capital, and will not recognize subsequent changes in fair value of these financial instruments in its consolidated financial statements.
The details of the hedge program for each of the Convertible Notes are listed below (in thousands, except conversion price):
 
2017 Convertible Notes
 
2020 Convertible Notes
 
2021 Convertible Notes
Cost of the hedge transaction(s)
$
50,595

 
$
18,113

 
$
19,545

Initial conversion price
$
31.56

 
$
45.72

 
$
59.39

Effective conversion price
$
60.00

 
$
61.55

 
$
83.14

Conversion and Earnings Per Share Impact
During the quarter ending December 31, 2013, the closing price of the Company’s common stock exceeded 130% of the conversion price of the 2017 Convertible Notes for more than 20 trading days during a 30 consecutive trading day period, thereby satisfying one of the early conversion events. As a result, the 2017 Convertible Notes became convertible on demand effective January 2, 2014, and the holders were notified that they could elect to submit their 2017 Convertible Notes for

24
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conversion. The carrying value of the 2017 Convertible Notes continues to be reported as debt as the Company intends to draw on the Revolving Credit Facility or use cash on hand to settle the principal amount of any such conversions in cash. No gain or loss was recognized when the debt became convertible. The estimated fair value of the 2017 Convertible Notes was approximately $115.3 million as of September 30, 2016. In addition, upon becoming convertible, a portion of the equity component that was recorded at the time of the issuance of the 2017 Convertible Notes was considered redeemable and that portion of the equity was reclassified to temporary equity in the Company’s condensed consolidated statements of financial condition. Such amount was determined based on the cash consideration to be paid upon conversion and the carrying amount of the debt. Upon conversion, the holders of the 2017 Convertible Notes will be paid in cash for the principal amount. The excess conversion premium may be settled in cash or shares of the Company’s common stock at the discretion of the Company. As a result, the Company reclassified $3.8 million of the equity component to temporary equity as of September 30, 2016. If a conversion event takes place, this temporary equity balance will be recalculated based on the difference between the 2017 Convertible Notes principal and the debt carrying value. If the 2017 Convertible Notes are settled, an amount equal to the fair value of the liability component, immediately prior to the settlement, will be deducted from the fair value of the total settlement consideration transferred and allocated to the liability component. Any difference between the amount allocated to the liability and the net carrying amount of the 2017 Convertible Notes (including any unamortized debt issue costs and discount) will be recognized in earnings as a gain or loss on debt extinguishment. Any remaining consideration is allocated to the reacquisition of the equity component and will be recognized as a reduction in stockholders’ equity.
None of the 2017 Convertible Notes have been converted since they became convertible.
Cabot Senior Secured Notes
On September 20, 2012, Cabot Financial (Luxembourg) S.A. (“Cabot Financial”), an indirect subsidiary of Encore, issued £265.0 million (approximately $438.4 million) in aggregate principal amount of 10.375% Senior Secured Notes due 2019 (the “Cabot 2019 Notes”). Interest on the Cabot 2019 Notes is payable semi-annually, in arrears, on April 1 and October 1 of each year.
On August 2, 2013, Cabot Financial issued £100.0 million (approximately $151.7 million) in aggregate principal amount of 8.375% Senior Secured Notes due 2020 (the “Cabot 2020 Notes”). Interest on the Cabot 2020 Notes is payable semi-annually, in arrears, on February 1 and August 1 of each year.
On March 27, 2014, Cabot Financial issued £175.0 million (approximately $291.8 million) in aggregate principal amount of 6.500% Senior Secured Notes due 2021 (the “Cabot 2021 Notes”). Interest on the Cabot 2021 Notes is payable semi-annually, in arrears, on April 1 and October 1 of each year.
On October 6, 2016, Cabot Financial issued £350.0 million (approximately $442.6 million) in aggregate principal amount of 7.50% Senior Secured Notes due 2023 (the “Cabot 2023 Notes” and, together with the Cabot 2019 Notes, the Cabot 2020 Notes and the Cabot 2021 Notes, the “Cabot Notes”). Interest on the Cabot 2023 Notes is payable semi-annually, in arrears, on April 1 and October 1 of each year. The proceeds of the Cabot 2023 Notes were used to (1) redeem in full the Cabot 2019 Notes, (2) partially repay amounts outstanding under the Cabot Credit Facility (defined below), (3) pay accrued interest on the Cabot 2019 Notes, and (4) pay fees and expenses in relation to the offering of the Cabot 2023 Notes. Refer to Note 16, “Subsequent Events”, for further details of the Cabot 2023 Notes.
The Cabot Notes are fully and unconditionally guaranteed on a senior secured basis by the following indirect subsidiaries of the Company: Cabot Credit Management Limited (“CCM”), Cabot Financial Limited, and all material subsidiaries of Cabot Financial Limited (other than Cabot Financial and Marlin Intermediate Holdings plc). The Cabot Notes are secured by a first ranking security interest in all the outstanding shares of Cabot Financial and the guarantors (other than CCM and Marlin Midway Limited) and substantially all the assets of Cabot Financial and the guarantors (other than CCM). Subject to the Intercreditor Agreement described below under “-Cabot Senior Revolving Credit Facility”, the guarantees provided in respect of the Cabot Notes are pari passu with each such guarantee given in respect of the Cabot Floating Rate Notes, Marlin Bonds and the Cabot Credit Facility described below.
On November 11, 2015, Cabot Financial (Luxembourg) II S.A. (“Cabot Financial II”), an indirect subsidiary of Encore, issued €310.0 million (approximately $332.2 million) in aggregate principal amount of Senior Secured Floating Rate Notes due 2021 (the “Cabot Floating Rate Notes”). The Cabot Floating Rate Notes were issued at a 1%, or €3.1 million (approximately $3.4 million), original issue discount, which is being amortized over the life of the notes and included as interest expense in the Company’s consolidated statements of operations. The Cabot Floating Rate Notes bear interest at a rate equal to three-month EURIBOR plus 5.875% per annum, reset quarterly. Interest on the Cabot Floating Rate Notes is payable quarterly in arrears on February 15, May 15, August 15 and November 15 of each year, beginning on February 15, 2016. The Cabot Floating Rate Notes will mature on November 15, 2021.

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The Cabot Floating Rate Notes are fully and unconditionally guaranteed on a senior secured basis by the following indirect subsidiaries of the Company: CCM, Cabot Financial Limited and all material subsidiaries of Cabot Financial Limited (other than Cabot Financial II and Marlin Intermediate Holdings plc). The Cabot Floating Rate Notes are secured by a first-ranking security interest in all the outstanding shares of Cabot Financial II and the guarantors (other than CCM and Marlin Midway Limited) and substantially all the assets of Cabot Financial II and the guarantors (other than CCM).
On July 25, 2013, Marlin Intermediate Holdings plc (“Marlin”), an indirect subsidiary of Cabot, issued £150.0 million (approximately $246.5 million) in aggregate principal amount of 10.5% Senior Secured Notes due 2020 (the “Marlin Bonds”). Interest on the Marlin Bonds is payable semi-annually, in arrears, on February 1 and August 1 of each year. Cabot assumed the Marlin Bonds as a result of the acquisition of Marlin. The carrying value of the Marlin Bonds was adjusted to approximately $284.2 million to reflect the fair value of the Marlin Bonds at the time of acquisition.
The Marlin Bonds are fully and unconditionally guaranteed on a senior secured basis by Cabot Financial Limited and each of Cabot Financial Limited’s material subsidiaries other than Marlin Intermediate Holdings plc, each of which is an indirect subsidiary of the Company. Subject to the Intercreditor Agreement described below under “-Cabot Senior Revolving Credit Facility”, the guarantees provided in respect of the Marlin Bonds are pari passu with each such guarantee given in respect of the Cabot Notes, the Cabot Floating Rate Notes and the Cabot Credit Facility.
Interest expense related to the Cabot Notes, Cabot Floating Rate Notes and Marlin Bonds was as follows (in thousands):
 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
 
2016
 
2015
 
2016
 
2015
Interest expense—stated coupon rate
$
25,870

 
$
24,394

 
$
81,359

 
$
72,395

Interest income—accretion of debt premium
(2,542
)
 
(2,771
)
 
(7,854
)
 
(7,978
)
Interest expense—amortization of debt discount
119

 
—

 
503

 
—

Total interest expense—Cabot senior secured notes
$
23,447

 
$
21,623

 
$
74,008

 
$
64,417

At September 30, 2016, the outstanding balance on the Cabot Notes, Cabot Floating Rate Notes and Marlin Bonds was $1.2 billion.
Cabot Senior Revolving Credit Facility
On September 20, 2012, Cabot Financial (UK) Limited (“Cabot Financial UK”) entered into an agreement for a senior committed revolving credit facility of £50.0 million (approximately $82.7 million) (the “Cabot Credit Agreement”). Since such date there have been a number of amendments made, including, but not limited to, increases in the lenders’ total commitments thereunder. On October 6, 2016, Cabot Financial UK amended and restated its existing senior secured revolving credit facility agreement to, among other things, increase the total committed amount of the facility to £250.0 million (approximately $316.2 million), extend the termination date to September 24, 2019 and decrease the interest rate from LIBOR (or EURIBOR for any loan drawn in euro) plus 3.5% to LIBOR (or EURIBOR for any loan drawn in euro) plus 3.25% (as amended and restated, the “Cabot Credit Facility”). The Cabot Credit Facility also includes an uncommitted accordion provision which will allow the facility to be increased by an additional £50.0 million, subject to obtaining the requisite commitments and compliance with the terms of Cabot Financial UK’s other indebtedness, among other conditions precedent.
The Cabot Credit Facility expires in September 2019, and includes the following key provisions:
•
Interest at LIBOR (or EURIBOR for any loan drawn in euro) plus 3.5% until October 5, 2016 and LIBOR (or EURIBOR for any loan drawn in euro) plus 3.25% thereafter;
•
A restrictive covenant that limits the loan to value ratio to 0.75 in the event that the Cabot Credit Facility is more than 20% utilized;
•
A restrictive covenant that limits the super senior loan (i.e. the Cabot Credit Facility and any super priority hedging liabilities) to value ratio to 0.25 in the event that the Cabot Credit Facility is more than 20% utilized;
•
Additional restrictions and covenants which limit, among other things, the payment of dividends and the incurrence of additional indebtedness and liens; and
•
Events of default which, upon occurrence, may permit the lenders to terminate the Cabot Credit Facility and declare all amounts outstanding to be immediately due and payable.

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The Cabot Credit Facility is unconditionally guaranteed by the following indirect subsidiaries of the Company: CCM, Cabot Financial Limited, and all material subsidiaries of Cabot Financial Limited. The Cabot Credit Facility is secured by first ranking security interests in all the outstanding shares of Cabot Financial UK and the guarantors (other than CCM) and substantially all the assets of Cabot Financial UK and the guarantors (other than CCM). Pursuant to the terms of intercreditor agreements entered into with respect to the relative positions of the Cabot Notes, the Cabot Floating Rate Notes, the Marlin Bonds and the Cabot Credit Facility, any liabilities in respect of obligations under the Cabot Credit Facility that are secured by assets that also secure the Cabot Notes, the Cabot Floating Rate Notes and the Marlin Bonds will receive priority with respect to any proceeds received upon any enforcement action over any such assets.
At September 30, 2016, the outstanding borrowings under the Cabot Credit Facility were approximately $114.3 million. The weighted average interest rate was 3.89% and 3.88% for the three months ended September 30, 2016 and 2015, respectively, and 3.97% and 3.86% for the nine months ended September 30, 2016 and 2015, respectively.
Preferred Equity Certificates
On July 1, 2013, the Company, through its wholly owned subsidiary Encore Europe Holdings, S.a.r.l. (“Encore Europe”), completed the acquisition of Cabot (the “Cabot Acquisition”) by acquiring 50.1% of the equity interest in Janus Holdings S.a.r.l. (“Janus Holdings”). Encore Europe purchased from J.C. Flowers: (i) E Bridge preferred equity certificates issued by Janus Holdings, with a face value of £10,218,574 (approximately $15.5 million) (and any accrued interest thereof) (the “E Bridge PECs”), (ii) E preferred equity certificates issued by Janus Holdings with a face value of £96,729,661 (approximately $147.1 million) (and any accrued interest thereof) (the “E PECs”), (iii)