Item
2.
|
Management’s Discussion and Analysis of Financial Condition and Results of Operations
|
Caution Regarding Forward Looking Statements
This Form 10-Q contains certain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended and Section 21 E of the Securities Exchange Act of 1934, as amended. All statements other than statements of historical facts included or incorporated by reference in this report, including without limitation, statements regarding our future financial position, business strategy, budgets, projected revenues, projected costs and plans and objective of management for future operations, are forward-looking statements. Forward-looking statements generally can be identified by the use of forward-looking terminology such as “may,” “will,” “expects,” “intends,” “plans,” “projects,” “estimates,” “anticipates,” or “believes” or the negative thereof or any variation there on or similar terminology or expressions.
We have based these forward-looking statements on our current expectations and projections about future events. These forward-looking statements are not guarantees and are subject to known and unknown risks, uncertainties and assumptions about us that may cause our actual results, levels of activity, performance or achievements to be materially different from any future results, levels of activity, performance or achievements expressed or implied by such forward-looking statements. Important factors which could materially affect our results and our future performance include, without limitation, the restatement of previously issued financial statements, the identified material weaknesses in our internal control over financial reporting and our ability remediate those material weaknesses, our ability to purchase defaulted consumer receivables at appropriate prices, changes in government regulations that affect our ability to collect sufficient amounts on our defaulted consumer receivables, our ability to employ and retain qualified employees, changes in the credit or capital markets, changes in interest rates, deterioration in economic conditions, negative press regarding the debt collection industry which may have a negative impact on a debtor’s willingness to pay the debt we acquire, and statements of assumption underlying any of the foregoing, as well as other factors set forth under “Item 1A. Risk Factors” in our Annual Report on Form 10-K for the fiscal year ended September 30, 2018.
All subsequent written and oral forward-looking statements attributable to us, or persons acting on our behalf, are expressly qualified in their entirety by the foregoing. Except as required by law, we assume no duty to update or revise any forward-looking statements.
Overview
Asta Funding, Inc. (“Asta”), a Delaware Corporation, together with our wholly owned significant operating subsidiaries Palisades Collection, LLC, Palisades Acquisition XVI, LLC (“Palisades XVI”), Palisades Acquisition XIX, LLC (“Palisades XIX”), Palisades Acquisition XXIII, LLC (“Palisades XXIII”), VATIV Recovery Solutions LLC (“VATIV”), ASFI Pegasus Holdings, LLC (“ASFI”), Fund Pegasus, LLC (“Fund Pegasus”), GAR Disability Advocates, LLC (“GAR Disability Advocates”), Five Star Veterans Disability, LLC (“Five Star”), EMIRIC, LLC (“EMIRIC”), Simia Capital, LLC (“Simia”), Sylvave, LLC (“Sylvave”) (formerly known as Pegasus Funding, LLC (“Pegasus”)), Practical Funding LLC (“Practical Funding”), and other subsidiaries, which are not all wholly owned (the “Company,” “we” or “us”), are engaged in several business segments in the financial services industry including funding of personal injury claims, through the our wholly owned subsidiaries Sylvave, Simia and Practical Funding, social security disability advocacy through our wholly owned subsidiaries GAR Disability Advocates and Five Star and the business of purchasing, managing for our own account and servicing distressed consumer receivables, including charged off receivables, and semi-performing receivables.
For the period October 1, 2017 to January 12, 2018, Pegasus was 80% owned, but not controlled, and accounted for under the equity method. On January 12, 2018 (“Date of Acquisition”), we acquired the remaining 20% minority interest and a controlling financial interest, in Pegasus and changed its name to Sylvave and now own 100% of Sylvave. Commencing on the Date of Acquisition, we consolidated the financial results of this entity.
We operate principally in the United States in three reportable business segments: consumer receivables, social security disability advocacy and personal injury claims. We previously operated a fourth segment when we engaged in the structured settlements business through our wholly owned subsidiary CBC Settlement Funding, LLC (“CBC”), which we sold on December 13, 2017.
As a result of the sale of CBC, all periods presented in our consolidated financial statements account for CBC as a discontinued operation. This determination resulted in the reclassification of the historical assets and liabilities comprising the structured settlement business to assets and liabilities related to discontinued operations in the condensed consolidated balance sheets, and a corresponding adjustment to our condensed consolidated statements of operations to reflect discontinued operations for all periods presented. See Note 7 - Discontinued Operations in our notes to condensed consolidated financial statements.
For a detailed description of our segments, please read Note 16 – Segment Reporting, in our notes to condensed consolidated financial statements.
Financial Information About Operating Segments
The consumer receivables segment and the social security benefit advocacy segment each accounted for 10% or more of consolidated net revenue for the three and six months ended March 31, 2019 and March 31, 2018. The personal injury claims segment accounted for its investment in Sylvave under the equity method of accounting through January 12, 2018, for subsequent periods we included the financial results of Sylvave in our consolidated statement of operations, while Simia is a consolidated entity. The following table summarizes total revenues by percentage from our three lines of business for the three months ended March 31, 2019 and 2018:
|
|
For the Three Months
Ended
March 31,
|
|
|
For the
Six
Months
Ended
March 31,
|
|
|
|
2019
|
|
|
2018
|
|
|
2019
|
|
|
2018
|
|
Finance income (consumer receivables)
|
|
|
66.5
|
%
|
|
|
71.7
|
%
|
|
|
65.2
|
%
|
|
|
75.6
|
%
|
Personal injury claims income
|
|
|
8.7
|
|
|
|
8.2
|
|
|
|
10.9
|
|
|
|
5.6
|
|
Disability fee income
|
|
|
24.8
|
|
|
|
20.1
|
|
|
|
23.9
|
|
|
|
18.8
|
|
Total revenues
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
Information about the results of each of our reportable segments for the three and six months ended March 31, 2019 and March 31, 2018, reconciled to the consolidated results, are set forth below. Separate segment MD&A is not provided, as segment revenue corresponds to the revenue presented in our condensed consolidated statement of operations, and material expense items are not allocable to any specific segment.
(Dollars in millions)
|
|
Consumer
Receivables
|
|
|
Social
Security
Disability
Advocacy
|
|
|
Personal Injury
Claims (2)
|
|
|
Corporate (3)
|
|
|
Total
|
|
Three Months Ended March 31,
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2019:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenues
|
|
$
|
3.5
|
|
|
$
|
1.3
|
|
|
$
|
0.4
|
|
|
$
|
—
|
|
|
$
|
5.2
|
|
Other income
|
|
|
0.4
|
|
|
|
—
|
|
|
|
—
|
|
|
|
0.2
|
|
|
|
0.6
|
|
Segment profit (loss)
|
|
|
3.6
|
|
|
|
0.4
|
|
|
|
0.4
|
|
|
|
(2.0
|
)
|
|
|
2.4
|
|
2018:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenues
|
|
|
4.1
|
|
|
|
1.1
|
|
|
|
0.5
|
|
|
|
—
|
|
|
|
5.7
|
|
Other income
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
0.1
|
|
|
|
0.1
|
|
Segment profit (loss)
|
|
|
4.1
|
|
|
|
0.2
|
|
|
|
0.9
|
|
|
|
(3.6
|
)
|
|
|
1.6
|
|
Six Months Ended March 31,
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2019:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenues
|
|
|
7.0
|
|
|
|
2.6
|
|
|
|
1.1
|
|
|
|
—
|
|
|
|
10.7
|
|
Other income
|
|
|
0.5
|
|
|
|
—
|
|
|
|
—
|
|
|
|
0.3
|
|
|
|
0.8
|
|
Segment profit (loss)
|
|
|
6.5
|
|
|
|
0.8
|
|
|
|
0.9
|
|
|
|
(4.1
|
)
|
|
|
4.1
|
|
Segment Assets (1)
|
|
|
10.0
|
|
|
|
0.9
|
|
|
|
7.1
|
|
|
|
71.1
|
|
|
|
89.1
|
|
2018:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenues
|
|
|
8.3
|
|
|
|
2.1
|
|
|
|
0.6
|
|
|
|
—
|
|
|
|
11.0
|
|
Other income
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
0.1
|
|
|
|
0.1
|
|
Segment profit (loss)
|
|
|
7.8
|
|
|
|
0.2
|
|
|
|
0.8
|
|
|
|
(5.8
|
)
|
|
|
3.0
|
|
Segment Assets (1)
|
|
|
27.0
|
|
|
|
1.9
|
|
|
|
19.3
|
|
|
|
32.0
|
|
|
|
80.2
|
|
We do not have any intersegment revenue transactions.
(1)
|
Includes other amounts in other line items on the consolidated balance sheet.
|
(2)
|
We recorded Pegasus as an equity investment in our consolidated financial statements through January 12, 2018. Commencing on January 13, 2018, Sylvave is consolidated in our financial statements. For segment reporting we have included our pro-rated share of the earnings and losses from its investment under the Personal Injury Claims segment.
|
(3)
|
Corporate is not part of our three reportable segments, as certain expenses and assets are not earmarked to any specific operating segment
|
Consumer Receivables
The consumer receivable portfolios generally consist of one or more of the following types of consumer receivables:
|
•
|
charged-off receivables —
accounts that have been written-off by the originators and may have been previously serviced by collection agencies; and
|
|
•
|
semi-performing receivables —
accounts where the debtor is making partial or irregular monthly payments, but the accounts may have been written-off by the originators.
|
We acquire these consumer receivable portfolios at a significant discount to the amount actually owed by the borrowers. We acquire these portfolios after a qualitative and quantitative analysis of the underlying receivables and calculate the purchase price so that our estimated cash flow offers us an adequate return on our investment after servicing expenses. After purchasing a portfolio, we actively monitor its performance and review and adjust our collection and servicing strategies accordingly.
We purchase receivables from credit grantors and others through privately negotiated direct sales, brokered transactions and auctions in which sellers of receivables seek bids from several pre-qualified debt purchasers. We pursue new acquisitions of consumer receivable portfolios on an ongoing basis through:
|
•
|
our relationships with industry participants, financial institutions, collection agencies, investors and our financing sources;
|
|
•
|
brokers who specialize in the sale of consumer receivable portfolios; and
|
Litigation Funding
On December 28, 2011, we entered into a joint venture, Pegasus Funding, LLC ("Pegasus"), with Pegasus Legal Funding, LLC (“PLF”). We had an 80% non-controlling interest in the joint venture from the date of formation through January 12, 2018. During this time period we had operational disagreements with PLF, resulting in the amendment of the Pegasus operating agreement, the execution of a liquidation agreement and finally our filing of an arbitration against PLF.
On January 12, 2018, we, ASFI and Fund Pegasus entered into a Settlement Agreement and Release (the “Settlement Agreement”) by and among the parties, ASFI, Fund Pegasus, Pegasus, the Seller, Max Alperovich, Alexander Khanas, Larry Stoddard, III, Louis Piccolo and A.L. Piccolo & Co., Inc., a New York corporation. The Settlement Agreement releases certain claims in exchange for, among other things, the parties' entry into the Purchase Agreement (defined below).
On January 12, 2018, ASFI entered into a Membership Interest Purchase Agreement (the “Purchase Agreement) with PLF. Under the Purchase Agreement, ASFI bought PLF’s ownership interests of Pegasus, which was 20% of the issued and outstanding limited liability company interests of Pegasus, for an aggregate purchase price of $1.8 million. As a result of the execution of the Purchase Agreement, ASFI became the owner of 100% of the limited liability company interests of Pegasus, and recognized a loss on acquisition of $1.4 million, which is recorded in our condensed consolidated financial statements. Immediately on acquisition, we changed the name from Pegasus to Sylvave.
As of January 12, 2018, we owned 100% of Pegasus, and commencing in the quarter ending March 31, 2018, the financial activity of Pegasus was consolidated into our financial statements. As of January 12, 2018, we were entitled to 100% of all distributions made from Pegasus.
On November 11, 2016, we formed Simia, a wholly owned subsidiary. Simia commenced funding personal injury settlement claims in January 2017. Simia was formed in response to our decision not to renew our joint venture with PLF. As of March 31, 2019, Sylvave’s net investment in personal injury claim advances were approximately $5.0 million, and Simia's personal injury claim advances were approximately $1.6 million.
The Company formed a new wholly owned subsidiary, Practical Funding, on March 16, 2018 to continue in the personal injury claims funding business. To date, Practical Funding has not funded any advances on personal injury claims. On April 8, 2019, Practical Funding changed its name to Arthur Funding, LLC.
Disability Advocacy Business
GAR Disability Advocates and Five Star are disability advocacy groups, which for a fee obtain and represent individuals in their claims for social security disability, supplemental security income benefits from the Social Security Administration and veterans benefits with the Veteran's Administration.
Critical Accounting Policies
Income Recognition - Consumer Receivables
We account for certain of our investments in consumer receivables using the guidance of Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”), Receivables - Loans and Debt Securities Acquired with Deteriorated Credit Quality (“ASC 310”). Under the guidance of ASC 310, static pools of accounts are established. These pools are aggregated based on certain common risk criteria. Each static pool is recorded at cost and is accounted for as a single unit for the recognition of income, principal payments and loss provision. Due to the substantial reduction of portfolios reported under the interest method, and the inability to reasonably estimate cash collections required to account for those portfolios under the interest method, we concluded the cost recovery method is the appropriate accounting method under the circumstances.
Under the guidance of ASC 310-30
,
we must analyze a portfolio upon acquisition to ensure which method is appropriate, and once a static pool is established for a quarter, individual receivable accounts are not added to the pool (unless replaced by the seller) or removed from the pool (unless sold or returned to the seller).
We use the cost recovery method when collections on a particular pool of accounts cannot be reasonably predicted. Under the cost recovery method, no income is recognized until the cost of the portfolio has been fully recovered. A pool can become fully amortized (zero carrying balance on the balance sheet) while still generating cash collections. In this case, all cash collections are recognized as revenue when received.
Impairments - Consumer Receivables
We account for our impairments in accordance with ASC 310, which provides guidance on how to account for differences between contractual and expected cash flows from an investor’s initial investment in loans or debt securities acquired in a transfer if those differences are attributable, at least in part, to credit quality. The recognition of income under ASC 310 is dependent on us having the ability to develop reasonable expectations of both the timing and amount of cash flows to be collected. In the event we cannot develop a reasonable expectation as to both the timing and amount of cash flows expected to be collected. ASC 310 permits the change to the cost recovery method. We will recognize income only after we have recovered our carrying value.
If collection projections indicate the carrying value will not be recovered, an impairment is required. The impairment will be equal to the difference between the carrying value at the time of the forecast and the corresponding estimated remaining future collections. We believe we have significant experience in acquiring certain distressed consumer receivable portfolios at a significant discount to the amount actually owed by underlying customers. We invest in these portfolios only after both qualitative and quantitative analyses of the underlying receivables are performed and a calculated purchase price is paid so that it believes its estimated cash flow offers an adequate return on acquisition costs after servicing expenses. Additionally, when considering larger portfolio purchases of accounts, or portfolios from issuers with whom we have limited experience, it has the added benefit of soliciting its third-party collection agencies and attorneys for their input on liquidation rates and, at times, incorporates such input into the estimates it uses for its expected cash flows, and our ability to recover our cost basis. For the three and six months ended March 31, 2019 and 2018, we did not record any impairments on our domestic or international portfolios.
Personal Injury Claim Advances and Impairments
We account for our investments in personal injury claims at an agreed upon interest rate, in anticipation of a future settlement. Our interest purchased in personal injury claim advances consists of the right to receive from a claimant part of the proceeds or recoveries which such claimant receives by reason of a settlement, judgment or reward with respect to such claimant’s claim. Open case revenue is estimated, recognized and accrued at a rate based on the expected realization and underwriting guidelines and facts and circumstances for each individual case. These personal injury claims are non-recourse. When a case is closed and the cash is received for the advance provided to a claimant, revenue is recognized based upon the contractually agreed upon interest rate, and, if applicable, adjusted for any changes due to a settled amount and fees charged to the claimant.
We assess the quality of the personal injury claims portfolio through an analysis of the underlying personal injury fundings on a case by case basis. Cases are reviewed through periodic updates with attorneys handling the cases, as well as with third party research tools which monitor public filings, such as motions or judgments rendered on specific cases. We specifically reserve for those fundings where the underlying cases are identified as uncollectible, due to anticipated non-favorable verdicts and/or settlements at levels where recovery of the advance outstanding is unlikely. For cases that have not exhibited any specific negative collection indicators, we establish reserves based on the historical collection rates of our fundings. Fee income on advances is reserved for on all cases where a specific reserve is established on the initially funded amount. In addition, we also monitor our historical collection rates on fee income and establish reserves on fee income consistent with the historically experienced collection rates. We regularly analyze and update the historical collection rates of our initially funded cases as well as our fee income.
Income Recognition - Social Security Disability Advocacy
Effective October 1, 2018, we adopted ASC 606 - “Revenue from Contracts with Customer,” which is effective for annual periods beginning on or after December 15, 2017. ASC 606 introduced a five‑step approach to revenue recognition. Details of the new requirements as well as the impact on our unaudited condensed consolidated financial statements are described below.
We applied ASC 606 in accordance with the modified retrospective transitional approach recognizing the cumulative effect of initially applying the revenue standard as an adjustment to the opening balance of retained earnings during this period (October 1, 2018). Comparative prior year periods were not adjusted. In applying the modified retrospective approach, we elected practical expedients for (a) completed contracts as described in ASC 606-10-65-1-c(2), and (b) contract modifications as described in ASC 606-10-65-1-f(4), allowing (a) the application of the revenue standard only to contracts that were not completed as of the date of initial application, and (b) to reflect the aggregate effect of all modifications that occur before the adoption date in accordance with the new standard when: (i) identifying the satisfied and unsatisfied performance obligations, (ii) determining the transaction price, and (iii) allocating the transaction price to the satisfied and unsatisfied performance obligations. We believe that the impact on the opening balance of retained earnings during the period (October 1, 2018) would not have been significantly different had we not elected to use the practical expedients.
We recognize disability fee income for GAR Disability Advocates and Five Star when disability claimant’s cases close, when cash is received, or when we receive a notice of award from the Social Security Administration (“SSA”) that stipulates the amount of fee approved by the SSA to be paid to us. We establish a reserve for the differentials in amounts awarded by the SSA and Veterans Administration compared to the actual amounts received by us. Fees paid to us are withheld by the SSA and Veterans Administration against the claimant's disability claim award, and are remitted directly to us from the SSA and Veterans Administration.
In the following discussions, most percentages and dollar amounts have been rounded to aid in the presentation. As a result, all figures are approximations.
Results of Operations
Six Months Ended March 31, 201
9
, Compared to the Six Months Ended March 31, 201
8
Finance income.
For the six months ended March 31, 2019, finance income decreased $1.3 million, or 15.8%, to $7.0 million from $8.3 million for the six months ended March 31, 2018. During the six months ended March 31, 2019 and 2018 the Company did not purchase any consumer portfolios. Net collections for the six months ended March 31, 2019 decreased 18.4% to $7.9 million from $9.7 million for the same prior year period. During the first six months of fiscal year 2019, gross collections decreased 11.4% or $2.0 million to $15.6 million from $17.6 million for the six months ended March 31, 2018. Commissions and fees associated with gross collections from our third-party collection agencies and attorneys decreased $0.2 million, or 2.7%, to $7.7 million for the six months ended March 31, 2019 from $7.9 million for the six months ended March 31, 2018. Commissions and fees amounted to 49.2% of gross collections for the six months ended March 31, 2019, compared to 44.8% in the same period of the prior year, due to a higher percentage of commissionable collections in the current year period.
Disability fee income.
For the six months ended March 31, 2019, disability fee income increased $0.5 million, or 24.2%, to $2.6 million as compared to $2.1 million for the six months ended March 31, 2018, due to the increase in the number of disability claimant cases closed with the Social Security Administration during the current period.
Earnings (loss) from equity method investee.
Earnings from equity method investment decreased by $0.9 million to a loss of $86,000 for the six months ended March 31, 2019 from income of $0.8 million during the six months ended March 31, 2018 due to the acquisition of the remaining 20% interest in Pegasus and Sylvave now being consolidated in our financial statements.
Gain on Settlement.
For the six months ended March 31, 2019, the Company recognized $0.3 million in settlement income associated with prior overcharges billed to the Company by a third-party servicer in excess of contractually permitted amounts.
Other income (loss), net.
The following table summarizes other income (loss) for the six months ended March 31, 2019 and 2018:
|
|
For the Six Months Ended
March 31,
|
|
|
|
201
9
|
|
|
201
8
|
|
Interest and dividend income
|
|
$
|
454,000
|
|
|
$
|
124,000
|
|
Realized gain
|
|
|
25,000
|
|
|
|
—
|
|
Unrealized gain
|
|
|
21,000
|
|
|
|
—
|
|
Other
|
|
|
40,000
|
|
|
|
(21,000
|
)
|
|
|
$
|
540,000
|
|
|
$
|
103,000
|
|
During the six months ended March 31, 2019, interest income was primarily earned on the Company's note receivable from its sale of CBC, settlement interest and interest income from available for sale investments.
General and administrative expenses.
For the six months ended March 31, 2019, general and administrative expense decreased $0.2 million, or 2.6%, to $7.3 million from $7.5 million for the six months ended March 31, 2018, primarily due to a decrease in bad debt expense of $0.6 million, offset by unfavorable foreign exchange variance of $0.4 million.
Interest expense.
For the six months ended March 31, 2019, there was no interest expense as compared to interest expense of $2,000 for the six months ended March 31, 2018.
Segment profit – Consumer Receivables.
For the six months ended March 31, 2019, segment profit decreased $1.3 million to $6.5 million from $7.8 million for the six months ended March 31, 2018, primarily due the decrease in revenue of $1.3 million, and an unfavorable foreign exchange of $0.4 million offset by an increase in other income of $0.4 million.
Segment
profit
– Personal Injury Claims.
For the six months ended March 31, 2019, segment profit was $0.9 million as compared to segment profit of $0.8 million for the six months ended March 31, 2018. The increase is attributable to the Company's continued earning of interest and fees on portfolio advances combined with reduced bad debt write downs on personal injury claimant advances.
Segment
profit
– Social Security Benefit Advocacy.
For the six months ended March 31, 2019, segment profit was $0.8 million as compared to $0.2 million for the same period in the prior year. The increase in profit of $0.6 million in the current period is primarily the result of increased revenues of $0.5 million and a reduction in overhead expenses of $0.1 million.
Income tax (benefit) expense.
Income tax expense, consisting of federal and state components, for six months ended March 31, 2019, was $1.1 million, as compared to an income tax expense for continuing and discontinued operations, consisting of federal and state income taxes, of $4.5 million for the six months ended March 31, 2018. In response to the Tax Cuts and Jobs Act signed in December 2017, we remeasured our U.S. federal and state deferred tax assets and liabilities, which resulted in a decrease in our net deferred tax assets by approximately $3.5 million. This adjustment was recorded as a one-time charge to income taxes for the three months ended December 31, 2017. For the six months ended March 31, 2019 and 2018, we recorded $1.1 million and $1.0 million, respectively, of income tax expense after removing the December 31, 2017 one-time charge of $3.5 million.
Income (loss)
from continuing operations.
As a result of the above, the Company had a net income from continuing operations for the six months ended March 31, 2019 of $3.0 million compared to $1.6 million net loss from continuing operations for the six months ended March 31, 2018.
Loss from discontinued operations.
As a result of the sale of CBC on December 13, 2017, the Company had no income or loss from discontinued operations for the six months ended March 31, 2019, compared to $0.1 million of net loss from discontinued operations for the six months ended March 31, 2018.
Structured settlement income of $2.2 million includes $0.2 million of unrealized losses and $2.0 million of interest income for the six months ended March 31, 2018. Unrealized gains on structured settlements is comprised of both unrealized gains resulting from fair market valuation at the date of acquisition of the structured settlements. Of the $0.2 million of unrealized gains recognized for the six months ended March 31, 2018, approximately $0.2 million is due to day one gains on new structured settlements financed during the period.
Net
income (
loss
)
.
As a result of the above, the Company had a net income for the six months ended March 31, 2019 of $3.0 million compared to $1.6 million net loss for the six months ended March 31, 2018.
Three Months Ended
March
31, 201
9
, Compared to the Three Months Ended
March
31, 201
8
Finance income
. For the three months ended March 31, 2019, finance income decreased $0.6 million, or 15.1%, to $3.5 million from $4.1 million for the three months ended March 31, 2018. The decrease in finance income is due to reduction in the collections on portfolios during the three months ended March 31, 2019 compared to the three months ended March 31, 2018 and the overall age of the portfolios. During the three months ended March 31, 2019 and 2018, the Company did not purchase any consumer portfolios. Net collections for the three months ended March 31, 2019 decreased 18.1% to $3.9 million from $4.8 million for the three months ended March 31, 2018. For the three months ended March 31, 2019 gross collections decreased 14.3%, or $1.2 million, to $7.4 million from $8.6 million for the three months ended March 31, 2018. For the three months ended March 31, 2019 commissions and fees associated with gross collections from our third-party collection agencies and attorneys decreased 9.5% or $0.4 million to $3.5 million from $3.8 million for the three months ended March 31, 2018. Commissions and fees amounted to 47.2% of gross collections for the three months ended March 31, 2019, compared to 44.7% for the three months ended March 31, 2018 resulting from higher percentage of commissionable collections in the current year period.
Social security benefit advocacy fee income.
Disability fee income increased $0.2 million, or 12.9%, to $1.3 million for the three months ended March 31, 2019 from $1.1 million for the three months ended March 31, 2018, due to an increase in disability claimants cases closed with the Social Security and Veterans Administration during the current year.
Earnings (loss) from equity method investee
. Earnings from equity method investment decreased by $0.5 million to a loss of $56,000 for the three months ended March 31, 2019 from income of $0.5 million during the three months ended March 31, 2018 due to the acquisition of the remaining 20% interest in Pegasus and Sylvave now being consolidated in our financial statements.
Gain on Settlement.
For the three months ended March 31, 2019, the Company recognized $0.3 million in settlement income associated with prior overcharges billed to the Company by a third-party servicer in excess of contractually permitted amounts.
Other income, net.
The following table summarizes other income for the three months ended March 31, 2019 and 2018:
|
|
For the Three Months Ended
March
31,
|
|
|
|
201
9
|
|
|
201
8
|
|
Interest and dividend income
|
|
$
|
255,000
|
|
|
$
|
93,000
|
|
Realized gain
|
|
|
—
|
|
|
|
—
|
|
Unrealized gain
|
|
|
50,000
|
|
|
|
—
|
|
Other
|
|
|
1,000
|
|
|
|
(24,000
|
)
|
|
|
$
|
306,000
|
|
|
$
|
69,000
|
|
During the three months ended March 31, 2019, interest income was primarily earned on the Company's note receivable from its sale of CBC, settlement interest and interest income from available for sale investments.
General and administrative expenses.
For the three months ended March 31, 2019, general and administrative expenses increased $0.1 million, or 2.8%, to $3.4 million from $3.3 million for the three months ended March 31, 2018, primarily due to an increase in salaries $0.3 million, unfavorable foreign exchange variance of $0.2 million, offset by a decrease in professional fees of $0.4 million.
Segment profit – Consumer Receivables
. Segment profit decreased $0.5 million to $3.6 million for the three months ended March 31, 2019 from $4.1 million for the three months ended March 31, 2018. This decrease in profitability is a result of decreased revenue of $0.6 million and a foreign exchange loss of $0.2 million, offset by a gain on settlement of $0.3 million.
Segment
profit
– Personal Injury Claims
. Segment profit decreased $0.5 million to $0.4 million for the three months ended March 31, 2019, from $0.9 million for the three months ended March 31, 2018. This decrease in profitability is a result of decreased revenue of $0.2 million, decrease in other income of $0.1 million and an increase in bad debt expense of $0.2 million.
Segment
profit
– GAR Disability Advocates
. The Segment profit was $0.4 million for the three months ended March 31, 2019 as compared $0.2 million for the three months ended March 31, 2018. The increase in profitability of $0.2 million in the current fiscal year is primarily the result of increased revenue of $0.2 million.
Discontinued Operations
–
The Company had no income or loss from discontinued operations during the three months ended March 31, 2019 and 2018 as a result of the sale of CBC on December 13, 2017.
Income tax expense
. Income tax expense, consisting of federal and state components, for three months ended March 31, 2019, was $0.6 million, as compared to $0.5 million for the three months ended March 31, 2018.
Net income (loss).
As a result of the above, we generated net income for the three months ended March 31, 2019 of $1.8 million, compared to $1.0 million for the three months ended March 31, 2018.
Liquidity and Capital Resources
Our primary source of cash from operations is collections on the receivable portfolios we have acquired and the funds generated from the liquidation of our personal injury claim portfolios. Our primary uses of cash include costs involved in the collection of consumer receivables, the liquidation of our personal injury portfolio, and the costs to run our disability advocacy business.
Receivables Financing Agreement
In March 2007, Palisades XVI borrowed approximately $227 million under the Receivables Financing Agreement, as amended in July 2007, December 2007, May 2008, February 2009, October 2010 and August 2013 (the “RFA”) from BMO, in order to finance the Portfolio Purchase which had a purchase price of $300 million. The original term of the agreement was three years. This term was extended by each of the Second, Third, Fourth, Fifth Amendments and the most recent agreement signed in August 2013.
Financing Agreement
. August 7, 2013, Palisades XVI, a 100% owned bankruptcy remote subsidiary, entered into a Settlement Agreement (the “BMO Settlement Agreement”) with BMO as an amendment to the RFA. In consideration for a $15 million prepayment funded by the Company, BMO has agreed to significantly reduce minimum monthly collection requirements and the interest rate. If and when BMO were to receive the next $15 million of collections from the Portfolio Purchase, (the “Remaining Amount”) less certain credits for payments made prior to the consummation of the BMO Settlement Agreement, Palisades XVI would be entitled to recover from future net collections the $15 million prepayment that it funded. Thereafter, BMO would have the right to receive 30% of future net collections. Upon repayment of the Remaining Amount to BMO, Palisades XVI would be released from the remaining contractual obligation of the RFA.
On June 3, 2014, Palisades XVI finished paying the Remaining Amount. The final principal payment of $2.9 million included a voluntary prepayment of $1.9 million provided from funds of the Company. Accordingly, Palisades XVI was entitled to receive $16.9 million of future collections from the Portfolio Purchase before BMO is entitled to receive any payments with respect to its Income Interest. During the month of June 2016, we received the balance of the $16.9 million, and, as of March 31, 2019, we recorded a liability to BMO of approximately $0.1 million. The funds were subsequently remitted to BMO on April 11, 2019. The liability to BMO is recorded when actual collections are received.
Discontinued Operations – Structured Settlements
On December 13, 2017, we entered into a Securities Purchase Agreement (the “Securities Purchase Agreement) with CBC Holdings LLC, a Delaware limited liability company (the “Buyer”). Under the Securities Purchase Agreement, the Company sold all of the issued and outstanding equity capital of CBC, our wholly owned subsidiary engaging in structured settlements, for an aggregate purchase price of approximately $10.3 million. Of the aggregate purchase price, approximately $4.5 million was paid in cash, and $5.8 million was paid under a promissory note at an annual interest rate of 7% to be paid quarterly to us and secured by a first priority security interest in and lien on such Buyer’s affiliates’ rights to certain servicing fees. The remaining amount of the aggregate purchase price was paid as reimbursement of certain invoices of CBC. As of March 31, 2019, there is approximately $3.8 million outstanding on the promissory note.
Cash Flow
At March 31, 2019, our cash decreased $2.6 million to $3.7 million from $6.3 million at September 30, 2018. Our cash and cash equivalents, available for sale securities and investments in equity securities in the aggregate increased $5.7 million to $50.0 million at March 31, 2019, compared to $44.3 million at September 30, 2018.
Net cash used in operating activities was $0.9 million during the six months ended March 31, 2019, as compared to $0.3 million used in operating activities for the six months ended March 31, 2018, primarily resulting from the net income of $3.0 million in the current period compared to a net loss of $1.6 million in the prior year period and increase in prepaid and income taxes receivable of $3.1 million. Net cash used in investing activities was $1.8 million during the six months ended March 31, 2019, as compared to $43.4 million provided by investing activities during the six months ended March 31, 2018. The change in cash used in investing activities is primarily due to the net purchase of available for sale debt securities and investments in equity securities of $8.0 million in the current period compared to proceeds from the sale of CBC of $4.5 million received in the prior period, decrease in equity method investment of $53.1 million partially offset by acquisition of personal injury claims portfolios of $14.6 million and investing activities of the discontinued operations of $1.5 million in the prior period. There was no cash provided by financing activities during the six months ended March 31, 2019, as compared to $33.6 million used in financing activities in the same prior year period. The prior year use of cash was the result of the special dividend paid to stockholders of $35 million.
Our cash requirements have been and will continue to be significant to operate our various lines of business. Significant requirements include costs involved in the collections of consumer receivables, investment in consumer receivable portfolios and investment in personal injury claims. In addition, dividends could be declared and paid if and when approved by the Board of Directors. Acquisitions recently have been financed through cash flows from operating activities. We believe we will not be dependent on a credit facility in the short-term, as our cash balances will be sufficient to invest in personal injury claims, purchase portfolios and finance the disability advocacy business.
We believe our available cash resources and expected cash flows from operations will be sufficient to fund operations for at least the next twelve months. We do not expect to incur any material capital expenditures during the next twelve months.
We are cognizant of the current market fundamentals in the debt purchase and company acquisition markets which, because of significant supply and tight capital availability, could result in increased buying opportunities. The outcome of any future transaction(s) is subject to market conditions. In addition, due to these opportunities, we may seek opportunities with banking organizations and others on a possible financing loan facility.
Off Balance Sheet Arrangements
We do not have any off balance sheet arrangements.
Additional Supplementary Information:
We do not anticipate collecting the majority of the purchased principal amounts of our various portfolios. Accordingly, the difference between the carrying value of the portfolios and the gross receivables is not indicative of future revenues from these accounts acquired for liquidation. Since we purchased these accounts at significant discounts, we anticipate collecting only a portion of the face amounts.
For additional information regarding our methods of accounting for our investment in finance receivables, the qualitative and quantitative factors we use to determine estimated cash flows, and our performance expectations of our portfolios, see “Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations — Critical Accounting Policies ” above.
Recent Accounting Pronouncements
Adopted During The
Six
Months Ended
March
31, 201
9
On October 1, 2018, we adopted FASB update ASC 606, “Revenue from Contracts with Customers,” that requires use of a single principles-based model for recognition of revenue from contracts with customers. The core principle of the model is to recognize revenue upon transfer of promised goods or services to customers, in an amount that reflects the entitled consideration received in exchange for those goods or services. The guidance also requires additional disclosure about the nature, amount, timing, and uncertainty of revenue and cash flows arising from the customer contracts. We adopted the new guidance using the modified retrospective approach which did not require the restatement of prior periods, and recognized a cumulative effect adjustment resulting in an increase in total assets and retained earnings of $173,000, net of taxes of $80,000.
The most significant impact of ASC 606 relates to our accounting for revenue associated with disability claimant's contracts. Previously we recognized disability fee income when the disability claimants’ cases closed with the social security administration and the applicable fees were collected. Under the new guidance we determined that the various advocacy services, performed on behalf of a claimant, constitute one performance obligation as they represent an integrated set of services designed to provide a claimant with a successful award. It was also determined that the benefit of these services is conveyed to the claimant at the point in time that the award is determined to be successful. In addition, we have made estimates of variable consideration under the expected value method. Therefore, for these arrangements, we will recognize revenue when each case is closed, when cash is received or when we receive a notice of award, stipulating our fees earned on each case directly from the social security administration or Veterans Administration.
The primary impact of adopting the new standard results in acceleration of revenues for the aforementioned contractual arrangements, which relate to the social security disability advocacy segment. Disability fee income represents approximately 24.8% and 23.9% of total consolidated revenues for the three and six months ended March 31, 2019.
The following line items in our consolidated statement of operations and comprehensive income for the current reporting period and condensed consolidated balance sheet as of March 31, 2019 have been provided to reflect both the adoption of ASC 606 as well as a comparative presentation in accordance with ASC 605 previously in effect:
Condensed Consolidated Statement of Operations and Comprehensive Income (Loss)
for the three
months ended March 31, 2019:
|
|
As Reported
(in accordance
with ASC 606)
|
|
|
Balances Without
Adoption of ASC
606
|
|
|
Impact of
Adoption
Higher/(Lower)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Disability fee income
|
|
$
|
1,296,000
|
|
|
$
|
1,290,000
|
|
|
$
|
6,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income from continuing operations before income tax
|
|
$
|
2,411,000
|
|
|
$
|
2,405,000
|
|
|
$
|
6,000
|
|
Condensed Consolidated Statement of Operations and Comprehensive Income (Loss) for the six months ended March 31, 2019:
|
|
As Reported
(in accordance
with ASC 606)
|
|
|
Balances Without
Adoption of ASC
606
|
|
|
Impact of
Adoption
Higher/(Lower)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Disability fee income
|
|
$
|
2,557,000
|
|
|
$
|
2,428,000
|
|
|
$
|
129,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income from continuing operations before income tax
|
|
$
|
4,157,000
|
|
|
$
|
4,028,000
|
|
|
$
|
129,000
|
|
|
|
As of
March
31, 201
9
|
|
Condensed Consolidated Balance Sheet
|
|
As Reported
(in accordance
with ASC 606)
|
|
|
Balances Without
Adoption of ASC
606
|
|
|
Impact of
Adoption
Higher/(Lower)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Asset
|
|
|
|
|
|
|
|
|
|
|
|
|
Accounts receivable
|
|
$
|
382,000
|
|
|
$
|
-
|
|
|
$
|
382,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stockholders' equity
|
|
|
|
|
|
|
|
|
|
|
|
|
Retained earnings
|
|
$
|
85,652,000
|
|
|
$
|
85,399,000
|
|
|
$
|
253,000
|
(1)
|
(1) Does not include the tax impact of $80,000
On October 1, 2018, we adopted FASB Update No. 2016-01, Recognition and Measurement of Financial Assets and Financial Liabilities, to address certain aspects of recognition, measurement, presentation, and disclosure of financial instruments. The main provision of this guidance requires certain equity investments to be measured at fair value with changes in fair value recognized in net earnings; separate presentation in other comprehensive income for changes in fair value of financial liabilities measured under the fair value option that are due to instrument-specific credit risk; and changes in disclosures associated with the fair value of financial instruments. Upon adoption of this ASU, our investments in equity securities are no longer classified as available for sale, and changes in fair value are reflected in other income, net on our condensed consolidated statement of operations. In conjunction with this adoption we recorded a cumulative effect adjustment with a decrease to opening retained earnings of $10,000 and an increase to opening accumulated other comprehensive income of $10,000, net of tax benefit of $5,000.
In August 2016 the FASB issued ASU No. 2016-15, "Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments." This ASU made eight targeted changes to how cash receipts and cash payments are presented and classified in the statement of cash flows. The new standard was effective for fiscal years beginning after December 15, 2017. Early adoption was permitted. The new standard required adoption on a retrospective basis unless it was impracticable to apply, in which case the Company would have been required to apply the amendments prospectively as of the earliest date practicable. Our adoption of the ASU did not have a material effect on the Company’s consolidated statements of cash flows.
In January 2017, the FASB issued ASU No. 2017-01, “Business Combinations (Topic 805): Clarifying the Definition of a Business.” The new rules provide for the application of a screen test to consider whether substantially all the fair value of the assets acquired is concentrated in a single identifiable asset or group of similar identifiable assets. If the screen test determines this to be true, the set is not a business. The new standard was effective for the Company in the first quarter of 2019. The adoption of the new accounting rules did not have a material impact on the Company’s consolidated financial condition, results of operations or cash flows.
In March 2017, the FASB issued ASU No. 2017-09, Compensation - Stock Compensation (Topic 718) Improvements to Employee Share Based Payment Accounting, to simplify and improve areas of generally accepted accounting principles for which cost and complexity can be reduced while maintaining or improving the usefulness of the information provided to users of financial statements. The effective date for this update is for annual reporting periods beginning after December 15, 2017, including interim periods within that reporting period. The adoption of this update did not have a material impact on our consolidated financial statements.
Recent Accounting Pronouncements Not Yet Adopted
In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842) which requires lessees to recognize right-of-use assets and lease liabilities on the balance sheet for all leases with terms longer than 12 months. For a lease with a term of 12 months or less, a lessee is permitted to make an accounting policy election by class of underlying asset not to recognize a right-of-use asset and lease liability. Additionally, when measuring assets and liabilities arising from a lease, optional payments should be included only if the lessee is reasonably certain to exercise an option to extend the lease, exercise a purchase option or not exercise an option to terminate the lease. In January 2018, the FASB issued ASU No. 2018-01, Leases (Topic 842): Land Easement Practical Expedient for Transition to ASC 842. ASU No. 2018-01 was issued to address concerns about the cost and complexity of complying with the transition provisions of ASU No. 2018-01. Additionally, in July 2018, the FASB issued ASU No. 2018-11, “Leases (Topic 842): Targeted Improvements,” which provides an alternative transition method that permits an entity to use the effective date of ASU No. 2016-02 as the date of initial application through the recognition of a cumulative effect adjustment to the opening balance of retained earnings upon adoption. The standard becomes effective for fiscal years beginning after December 15, 2019 and interim periods within those years, and early adoption is permitted. We are is in the process of reviewing our existing leases, including service contracts for embedded leases to evaluate the impact of this standard on our consolidated financial statements and the impact on regulatory capital.
In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments-Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments. The ASU requires an organization to measure all expected credit losses for financial assets held at the reporting date based on historical experience, current conditions, and reasonable and supportable forecasts. Additionally, the ASU amends the accounting for credit losses on available-for-sale debt securities and purchased financial assets with credit deterioration. This update will be effective for interim periods and annual periods beginning after December 15, 2019. Upon adoption, we expect that we will accelerate the recording of our credit losses in our financial statements.
In January 2017, the FASB issued ASU No. 2017-04 Intangibles – Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment. The objective of this update is to simplify the subsequent measurement of goodwill, by eliminating step 2 from the goodwill impairment test. The amendments in this update are effective for annual periods beginning after December 15, 2019, and interim periods within those fiscal years. We do not believe this update will have a material impact on our condensed consolidated financial statements.
In February 2018, the FASB issued ASU No. 2018-02, Reclassification
of Certain Tax Effects from Accumulated Other Comprehensive Income, which allows a reclassification from accumulated other comprehensive income (loss) to retained earnings for stranded tax effects resulting from the Tax Cuts and Jobs Act enacted on December 22, 2017, and requires certain disclosures about stranded tax effects. ASU No. 2018-02 will be effective for the Company's fiscal year beginning October 1, 2019, with early adoption permitted, and should be applied either in the period of adoption or retrospectively to each period (or periods) in which the effect of the change in the U.S. federal corporate income tax rate in the Act is recognized. The adoption of this ASU is not expected to have a material impact on our condensed consolidated financial statements.
In August 2018, the FASB issued ASU No. 2018-13, Fair Value Measurement (Topic 820): Disclosure Framework – Changes to the Disclosure Requirements for Fair Value Measurement. This ASU modifies the disclosure requirements on fair value measurements. The ASU removes the requirement to disclose: the amount of and reasons for transfers between Level 1 and Level 2 of the fair value hierarchy; the policy for timing of transfers between levels; and the valuation processes for Level 3 fair value measurements. The ASU requires disclosure of changes in unrealized gains and losses for the period included in other comprehensive income (loss) for recurring Level 3 fair value measurements held at the end of the reporting period and the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements. This ASU is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019. We are currently evaluating the impact this guidance will have on our condensed consolidated financial statements.