CompuCredit F1Q08 (Qtr End 12/31/07) Earnings Call Transcript

| About: Atlanticus Holdings (ATLC)

CompuCredit Corporation (CCRT) F1Q08 Earnings Call February 13, 2008 5:00 PM ET

Executives

Jay Putnam – Investor Relations

David G. Hanna – Chairman of the Board, Chief Executive Officer

J. Paul Whitehead, III – Chief Financial Officer

Richard R. House, Jr. – Vice Chairman of the Board & Chair Operating Officer

Analysts

Sameer Gokhale – Keefe, Bruyette & Woods

Carl G. Drake – SunTrust Robinson Humphrey

Moshe Orenbuch – Credit Suisse First Boston

David Hochstim – Bear, Stearns & Co., Inc.

Richard B. Shane, Jr. – Jefferies & Company

John Hecht – JMP Securities

Operator

Good day ladies and gentlemen and welcome to the fourth quarter 2007 CompuCredit earnings conference call. My name is Audrey and I’ll be your coordinator for today. At this time all participants are in a listen only mode and we will be facilitating an answer and question session at the end towards the end of this conference. (Operator Instructions) I would now like to turn the presentation over to one of your host for today’s call, Mr. Jay Putnam director of investor relations. Please proceed sir.

Jay Putnam

Good afternoon and thank you for joining us for CompuCredit Corporation's fourth quarter 2007 earnings call. Before we get started I’d like to remind you some of our comments today will be forward-looking statements. These forward-looking statements include all statements that our plans, beliefs, or expectations for future results or developments including the performance of our credit card receivables, including new account growth, net interest margin, other income ratio and charge off levels, financial performance and gross expectations for all of our business segments, plans for our micro loans segments, acquisitions of portfolios assets or complimentary business, our expected levels of marketing and other expenses, liquidity expectations, capital raising plans, earnings expectations and general economic conditions.

For information regarding some of the more important factors that may cause actual results to differ materially from those reflected in the forward-looking statements that we make today you should read the forward-looking information section and the risk factors in our form 10Q of the quarter ended September 30, 2007. We also encourage you to review updates of these same sections of our 2007 from 10K when it’s filed within the next several weeks. Thanks again for your interest in CompuCredit. Please feel free to contact me if you ever have any questions you’d like to discuss. At this time I will now turn it over to Dave Hanna Chairman and CEO of CompuCredit for his remarks.

David G. Hanna

Thank you all for joining us. I’ll spend a few minutes reviewing our results from the quarter and provide an update on our business. I’ll then turn things over to J. Paul Whitehead our CFO to discuss our financial results in greater detail. After our prepared remarks we’ll be glad to respond to questions you may have. Also joining us today is Rich House; as most of you know Rich is Co-founder and President of CompuCredit. Today we are going to cover some of the metrics of our credit card assets with more granularity than normal so Rich is here to cover any questions about that area that you may have.

Let me start my remarks by commenting a little bit about our philosophy and the general state of specialty financed businesses over the last several months. First and foremost, our approach has always been to manage our business for the long term. That means that we will always attempt to make prudent financial decisions for the long term growth of the capital that has been entrusted to us by our shareholders. Sometimes this approach means sitting on the sidelines and protecting the asset based that has been built rather than trying to always grow the asset base. Several months ago when the liquidity markets first began to freeze up for all sub-prime assets the first thing that we did was to start to look at scenarios that we might take if the securitization market never came back. While we believe that is extremely unlikely I wanted to know what would happen to our portfolio if we could not access the same liquidity markets we had used in the past.

I should point out that this is not the first time we have looked at this type of scenario. You see we have been through a very similar liquidity crunch for our credit card segments back in 2001 and 2002. We think that we have seen the movie before and we think that we have a reasonable idea how it would turn out. That being said, I was able to get comfort around the fact that our portfolio, without adding very many new customers would generate a great deal of free cash flow and provide healthy returns on our initial investments in it. Unlike some mortgage originators or auto originators we eat our own cooking and we continue to like the looks of our portfolio. With the uncertainty in the funding markets we shifted our strategy during the fourth quarter to first and foremost protect the asset value that we had built within the business.

Our GAAP numbers reflect a book value of over $16.00 per share and we believe as we look at our portfolios that this is a conservative estimate of the net present values of our cash flows that we think that we could generate from our portfolios. In as much as the management team owns more than 60% of the stock in the company we look to first protect the value already created and then look to enhance that as opportunities present themselves.

We cannot control the liquidity environment and we cannot control the economy, but we can control our cost structure and we can get a very good look at what is happening with our credit card customers based on reviewing payment and delinquency trends over the long term. I can tell you that our customers are acting in what we believe to be a very rationale pattern. They have slowed spending so receivable growth has not been as robust as we had thought but most importantly the delinquency trends look promising. We have nine distinct portfolios that we monitor internally for performance. While we have heard some prime issuers speak about deterioration and delinquency trends we just haven’t seem that at the vintage level within our portfolio. We think some of this is due to the fact that our customer’s average open to buy or contingent liability is a fraction of what it would be with a prime issuer. Secondly, we have reviewed potential mortgage exposure of our customers. We have analyzed this and less than 25% of our current customers have mortgage loans. This means that mortgage related payment stress might negatively affect customers at a much higher rate with a prime portfolio than it will with our customer base.

This afternoon we reported fourth quarter 2007 results and on a GAAP basis we are $15.8 million or $0.33 per share compared to $9.7 million or $0.19 per share in the fourth quarter of 2006. When looking only at our continuing operations fourth quarter GAAP earnings were $25.8 million or $0.54 per share as compared to $16.7 million or $0.33 per share for the fourth quarter of 2006. On a managed basis we reported a net loss of $28.1 million or $0.59 per share compared to earnings of $19.9 million or $0.40 per share in the fourth quarter of 2006. For continuing operations our fourth quarter 2007 managed loss was $18.2 million or $0.38 per share as compared to earnings of $26.6 million or $0.53 per share in the fourth quarter of 2006. In our press release we list some items that materially affected our GAAP and managed results in the fourth quarter, the largest of which was a $53.6 million pre-tax good will impairment charge within our retail microloan segment. While this charge lead us to a managed loss for the quarter we posted GAAP earnings due in large part of our fourth quarter securitization of our lower tier credit card receivables. J. Paul will review these items in more detail during his comments.

We took major steps in the fourth quarter to position our company to weather ongoing uncertainties in the global credit markets and with a view toward preserving our book value. As always, we take all of our actions with the focus of building long term value for all of us as shareholders. Many of my further comments will focus on specific actions we have taken in the fourth quarter towards our goals of preserving the value of our business while at the same time positioning us for growth as additional liquidity becomes available to us. We continue to pursue additional sources of capital because fundamentally we borrow money to lend money and though we rely on outside capital to grow our business the way we would like we have tailored our current growth plans to match our current liquidity position. Obviously, we continue to monitor events very closely whether it’s with the liquidity markets or the behavior of our card holders. We have shown in the past that we are a nimble and opportunistic company and we expect to use these traits to our advantage in the current environment.

An over arching theme underlying our actions in the fourth quarter is our intense focus on allocating and reallocating our available capital to only those parts of our business that on a proven basis produced the highest IRRs with the lowest level of operational or financial risk. Accordingly, we have shuttered several as of yet unproven business operations and R&D efforts within our other segment and have discontinued the operations of several marginally to non-profitable retail micro loan store fronts. There are clearly times in business when we think it makes sense to prudently explore new business opportunities but there are also times when prudence demands that you focus on the core business and wait for better economic times to try and explore new areas.

Our lower tier credit card receivables within our credit card segment have a several year history of producing attractive IRRs for us and represent an area to which we’re continuing to allocate capital. We closely monitor the returns for our various credit card receivables advantages and are comfortable with their performance as a whole. We’re also closely examining delinquency, payment, yield and charge off vintage level data for marketed lower tier credit card accounts. This data supports our desire to continue our allocation of capital to these credit card offerings and grow the receivables underlying these offerings. Similar advantage and return data underlying our traditional near prime credit card offerings support continued efforts to market and grow these accounts. While we added an average of $750,000 gross new credit card accounts in the second and third quarters of 2007, we are now marketing at a level where we expect to add very modest numbers of gross new accounts this year until new liquidity opens back up. While we would like to be marketing out higher levels we will not risk outpacing our existing funding facilities. As J. Paul will further discuss our decline in marketing levels affected our various managed receivables statistics and earnings in the fourth quarter and is expected to have an adverse effect on these statistics and earnings in the first and second quarters of 2008.

While our vintage data for our credit card receivables are meeting our expectations the mere volume and timing of account originations can be expected to add significant consequences on our managed receivable statistics and earning. Specifically fee income levels on our existing portfolio and newly marketed accounts are not sufficient enough to offset peak charge offs on an average of 750,000 accounts we marketed in the second and third quarters of last year. A significant majority of those 750,000 accounts that we averaged in those quarters were comprised of lower tier receivables that will hit peak charge off vintage levels approximately eight to nine months after origination. While this will have a negative short term effect on earnings I would like to point out that we are currently forecasting increasing cash positions for the company over most of this year.

We hope to utilize this increase in cash to take advantage of portfolio opportunities that might present themselves to us during the year. We have always been very happy with the return expectations for our originated pools of loans, but we have historically had greater returns on purchase portfolios than originated portfolios so we will still look to pursue these. We’ve always looked to purchase credit card portfolios as a bit of a hedge on our originated business and as a growth avenue during times in which other credit card issuers have pulled back there marketing and origination efforts. We have successfully acquired and serviced well over $6 million in credit card portfolios over the years and it’s a huge strength of our company to have the ability to successfully purchase, integrate and service these assets. We also have had success in the past in attracting funding and equity partners to purchase credit card portfolios along with us. Many of you will recall that in the last negative credit cycle we were able to purchase several portfolios at attractive returns.

Turning now to our other segments, our focus on IRRs is a basis for capital allocation resulted in our fourth quarter 2007 decision to discontinue the operations of several unproven businesses. First, we decided to discontinue the operations of 105 of our retail micro loan store fronts in six states. We have reclassified these operations as assets held-for-sale on our balance sheet and written them down to fair market value. Moreover, based principally on declining multiples we have seen among other publically retail micro-loan companies and the impact of this multiple contraction on the fair value of our remaining retail micro loan operations we have taken a $48.4 million goodwill impairment charge with respect to the remaining operations in our retail micro loan segment. Looking forward we plan to continue our retail micro loan segments operations in the remaining states where we either have had a history of success or projecting future success and we expect this segment to return to profitability in 2008.

Within this segment we have focused on underwriting and collection improvements to reduce charge off levels in 2008. Furthermore, segment management has introduced a campaign to improve operating efficiency at the branch and head quarter levels to reduce expenses and improve the bottom line. Based on their lack of proven IRR potential we also discontinued several businesses within our other segment during the fourth quarter. Specifically we discontinued our store valued card operations, our US Internet based installment loan operations and operations under which we have purchased and serviced loans secured by motorcycles, all terrain vehicles, personal watercrafts and the likes. Also we have transferred those intangible assets of our merchant credit subsidiaries that have ongoing utility to our credit card segments enabling us to shut down the bulk of its separate operations. We learned a tremendous amount from these various discontinued operations and the experiences we gained through these operations have yielded and are expected to continue to yield sizable marketing successes within our credit card segment.

Nevertheless based on the current liquidity environment we felt it prudent to reallocate our capital from these discontinued operations to more proven and higher yielding endeavors. Based on these various actions the only remaining operation within our other segment is MEM, our UK based internet micro loan originator. While we believe that the returns associated with these operations are very attractive we are proceeding with a little more caution here as we test and learn more about this business. We’re implementing our various credit risk disciplines into the business and we like what we’re seeing as we analyze actual vintage performance from a return perspective. Our MEM operations are expected to be profitable for us in 2008 even with a relatively low allocation of capital to this operations. One of the key advantages of this business is that its yields and cash on cash returns are high which serve to allow for reasonable growth with relatively modest capital requirements.

Now let’s turn to our debt purchasing and collection subsidiary, Jefferson Capital. The great thing about this particular business in the current environment, is that it has been able to grow at a good pace with good earnings while at the same time generating positive cash flows that could be dividended to us for use in other parts of our business. Jefferson Capital posted solid fourth quarter results with $10.3 million in pre-tax income and its full year 2007 pre-tax income is up by approximately 40% over 2006. Jefferson Capital is well positioned to continue the growth of its balance transfer and Chapter 13 bankruptcy niche business. Furthermore, as pricing for defaulted paper has fallen rather significantly of late more opportunities are likely to arise.

The last of our business lines to discuss is our auto finance segment which reported an $18.1 million pre-tax GAAP loss in the fourth quarter. Car Financial our first acquisition within the auto segment experienced a $1.6 million write down related to intangible assets as its pre-acquisition network of buy here pay here dealers has attrited more rapidly and produced less profits than originally expected. We also recognized a $10.7 million impairment charge against GAAP earnings on the receivables of our Patelco acquisition which is serviced by our acquired ACC operations. Reflecting some of the same difficulties that other auto finance companies have seen the Patelco portfolio is experiencing greater delinquencies and charge offs than we originally had expected and forecasted in to our GAAP asset evaluations at the time of purchase. Lastly, Just Right Auto Sales, our own buy here pay here dealership operation expanded to ten locations as of yearend and is in the process of rolling out another three locations. We continue to be pleased with our early JRAS sales and asset performance results.

Notwithstanding, the losses we’ve experienced within the auto finance segment we believe our platform can provide a sound basis for attractive returns in the future. Much of the GAAP losses for this segment are attributable to factors I mentioned previously. Although one can expect continued losses in this segment based on its start up nature. In start-up operations like these, fixed costs are high relative to the early volumes of business produced and increases in bad debt allowance cause a disproportionate depression of GAAP earnings. Our desire in the current environment to moderate growth within, and our allocation of capital to this segment means it will take longer to get the scale necessary to produce the kind of profits we’d like to see. This does not trouble us however, provided we stay focused on the marginal returns of the next dollar of auto loans out the door. We’re closely scrutinizing every product offering and reworking or discontinuing those that do not produce very attractive marginal returns.

The silver lining for us based on the current liquidity environment is that there has been a major pull back by auto finance market participants. Accordingly, we’re able to raise the pricing of our offerings as a way of both controlling the growth rates and required capital deployment to our auto finance segment and insuring that the selective assets that we put on the books in this environment can produce good risk adjusted returns. If we can prove over the coming months that we consistently produce strong returns within the auto finance segments then you can expect us to allocate more of our available capital to the segments to facilitate more rapid growth.

Our fourth quarter actions while difficult evidenced our commitment to book value preservation in the short run and value creation over a longer term horizon. Not only have we taken decisive actions within each of our businesses but we have also taken advantage of the depressed trading prices of our stock and purchased 2 million shares of our stock since our last earnings call. 1 million for a private transaction and another million in the open market. Clearly, with our stock trading at a price well below book value we will continue to look at stock buyback opportunities when we consider where we can produce our highest returns from the deployment of our capital. With that I will turn it over to Jay Paul for his financial review.

J. Paul Whitehead, III

To recap our results for the fourth quarter we reported GAAP earnings of $15.8 million or $0.33 per share compared to $9.7 million or $0.19 per share in the fourth quarter 2006. Our fourth quarter 2007 GAAP earnings from continuing operations were $25.8 million or $0.54 per share as compared to $16.7 million or $0.33 per share for the fourth quarter of 2006. On a managed basis we reported a net loss of $28.1 million or $0.59 per share compared to earnings of $19.9 million or $0.40 per share in the fourth quarter of 2006. For continuing operations our fourth quarter 2007 managed loss was $18.2 million or $0.38 per share as compared with managed earnings of $26.6 million or $0.53 per share in the fourth quarter of 2006. Our GAAP earnings included $211.1 million of income we recognized through the sale of our lower tier credit card receivables and an off balance sheet securitization transaction. Our off balance sheet securitization of these receivables had the effect of writing our retained interest in these receivables up to their fair value. We should note however that the fair value of retained interest in these receivables is somewhat suppressed by the large vintages of lower tired credit card receivables from the second and third quarters of 2007 that will cycle through peak charge off levels during the first and second quarters of 2008. We expect the fair value of our retained interest to rise fairly significantly at the end of both the first and second quarters of 2008 as these charge offs are realized thereby leaving behind receivables of greater earnings power stability.

With our fourth quarter 2007 off balance sheet securitization of our lower tier credit card receivables we know have greater consistency in our accounting treatment of our credit card operations. Substantially all of our credit card receivables are now valued at fair value through off balance sheet treatment reported by recorded by FAS 140 and we have resolved the issue of our lower tier credit card receivables being undervalued with on balance sheet presentation through large bad debt allowances that ignore significant value of the [ION strip]inherent within this particular asset. Now reflecting the evaluation of our retained interest in our lower tiered receivables at fair value, our book value per share stands at $16.73 per share at year end, up $0.50 per share from the $16.23 book value per share reported in September 30th.

As far as our liquidity picture we had over $108 million of unrestricted cash on our balance sheet at year end. If you combine that with the available to draw amounts based on the collateral underlying our securitization and financing facilities we had over $220 million of available liquidity at our disposal at the end of the year. We expect our liquidity position to be enhanced in the coming weeks given that the first quarter traditionally is a very heavy payment season for us. We also note that while we’re not counting on them we believe that we could see an increase in payments based on the federal government’s stimulus package which will be sending checks out to a sizable percentage of our consumers. If this is similar to tax refund season which we expect it will be we would look at even more cash generation during the second quarter of the year than we are currently projecting. David already discussed in a fair degree of detail the business operations that we discontinued in the fourth quarter and they are also detailed in our earnings release.

As we turn now to review of our managed receivables statistics you should note that our earnings release presents these statistics for all periods on the basis of our continuing operations only. For your reference however, our earnings released reconciliation of GAAP and managed earnings also contains GAAP and managed details of our discontinued operations for current and prior periods. In so far as our managed statistics go, our net interest margin was 17.8% in the fourth quarter 2007 as compared to 18.6% during the third quarter of 2007 and 22.7% from the fourth quarter last year. Our other income ratio fell to 15.1% for the fourth quarter from 16.9% in the third quarter and 16.1% from the fourth quarter 2006. Our adjusted charge off rate was 13.4% for the fourth quarter 2007 as compared to 10.1% in the third quarter 2007 and 10.9% in the fourth quarter of 2006. Our 60 plus days delinquencies as of December 31, 2007 were 18.4% versus 14.6% as of September 30, 2007 and 14.1% as of December 31, 2006.

Each of these statistics is adversely affected by our significant reductions in marketing volumes in mid August of 2007. As David previously noted, we added a record number of accounts, over 1.5 million in the second and third quarters of last year with large vintages of our lower tier credit card offering. As these large vintages of accounts and underlying receivables cycle through delinquency categories, and on to peak vintage charge off levels within eight to nine months after account activation, we can expect to see greater delinquencies and charge offs of finance, fee and principal receivables thereby depressing our debt interest margins and our other income rations and increasing our adjusted charge off rate in the absence of comparable marketing and receivables origination levels. These affects are expected to be significantly more pronounced in the first and second quarters of 2008 with further significant adverse trending degradation in these various rations until the large vintages of credit card receivables work their way through the normal charge off vintage curves.

In addition to these vintage face influences on our managed performance ratios, we should also note that our second quarter 2007 monument UK portfolio acquisition had the effect of depressing net interest margins in the fourth quarter of 2007 relative to the fourth quarter of 2006 as if net interest margins were somewhat lower than those of our US portfolios. Additionally, our UK portfolio has contributed to growth in our adjusted charge off rate as an increasing proportion of charge offs within this portfolio now consists of receivables that we funded post acquisition as contrasted with receivables that we purchased at a discount to face. Our managed performance ratios also have been affected by changes in our credit card collection programs throughout 2007 and changes in our credit card billing practices in particular during the fourth quarter this year to address negative amortization changes requested by the regulators of our issuing bank partners.

During the fourth quarter of 2007 for example, we began to reverse fee assessments as part of a systematic program to prevent negative amortization within our credit card receivables portfolios. Notwithstanding these required changes to our account management practices, we see continued potential for attractive IRRs within both our near prime and our lower tier credit card offerings. As David mention, we track these IRRs on a vintage basis and stress the calculations for changes in our account management practices, changes in our underwriting criteria, changes in our funding costs, changes in the general economic environment and changes in the purchasing and payment behaviors of our customers. Based on all these factors, we are currently comfortable with the quality of our assets and with our potential for continued growth in these assets at whatever pace our liquidity situation will allow.

Because of the gap between the guidance we had previously given for the fourth quarter and our actual fourth quarter managed results, I’d like to spend some time assisting you in identifying some of the main differences. We took at $53.6 million pre-tax impairment charge for our retail micro loan segment and we took another $3.6 million pre-tax impairment charge associated with our classification of 105 retail micro loan store fronts in six states as held-for-sale. To calculate these charges we looked at current market conditions, the expected present value of future cash flows associated with the businesses and the price of comparable businesses. As David previously discussed, multiple contractions for the publically held peer group in this segment contributed predominately to these impairment charges. We also incurred $6.9 million of pre-tax losses on third party asset backed securities owned by one of our subsidiaries which were not contemplated in our previously communicated guidance. At the end of the fourth quarter we had approximately $5.5 million of remaining net equity exposure to these investments. We also wrote off $7.4 million pre-tax of internally developed software and other assets no longer in use and recorded a pre-tax $1.6 million charge for dealer intangible impairments within our auto finance segment.

When you remove all these charges, we missed our managed forecast for the fourth quarter by approximately $22 million. Principal operating components of this shortfall were lower receivables growth resulting in less interest and fee income accounting for about $9 million for the quarter. Lower fee income but with a lower cash impact from the change in minimum payments are it relates to negative amortization of about $6 million as well as $3 million in lower earnings from our auto finance and retail micro loans businesses and an increase in our fourth quarter legal accruals.

As we look forward to the future, we will be keenly focused, as David said on reallocating our capital to those parts of our business that can demonstrate the best proven IRRs at the lowest financial and operating risk. The actions we took in the fourth quarter and will continue to take into 2008 will bear out this imperative and we will continue to look for ways to drive greater efficiency and cost reductions within our various businesses. Our various fourth quarter actions have also sured up our balance sheet and positioned us to preserve our book value and growth that book value to the extent that growth capital is available to us. While there is far too much uncertainty within the economy and within the global liquidity markets for us to give any specific guidance about 2008, we do believe we are well positioned to earn attractive marginal IRRs from the capital we will deploy for our product offerings and to grow to the extent that liquidity is available to facilitate our growth.

Let me conclude now by thanking you all on behalf of both David and me for your interest in CompuCredit and your participation in the fourth quarter earnings call. We expect our 10K to be filed in the next several weeks and I encourage you to review that filing for many more details about our fourth quarter and our expected future trends.

With that, we’d be happy to open things up for questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of Sameer Gokhale with KBW. Please proceed.

Sameer Gokhale – Keefe, Bruyette & Woods

I just wanted some clarification on the closure of your micro lending stores, the ones that you identified. Which states were those closures in? And, specifically, in your view what was contributing to perhaps the underperformance of those particular stores?

J. Paul Whitehead, III

Sameer, it was six different states and basically, based on the number of stores, none of the states represented a big portion of that business. It was just various states where we were not showing very much opportunities for increased profits going forward, some of them were in a loss position and so we went ahead and made the decision in the fourth quarter to exit from there at that time.

Sameer Gokhale – Keefe, Bruyette & Woods

Can you identify for us specifically which those states were?

J. Paul Whitehead, III

Sameer, we are currently in the process of rolling out this data to the affected employee base and it would, for those reasons be premature for us to talk about them specifically right now.

Sameer Gokhale – Keefe, Bruyette & Woods

Okay. Then you mentioned that you securitized some lower tier receivables . I was just curious, was these securitizations part of an existing facility or did you find new funding for these somehow which given the challenges in the asset backed markets, it would seem somewhat surprising. So, can you just give us some more color on the context around that securitization of your lower tiered receivables?

J. Paul Whitehead, III

As you probably recall, we actually increased the capacity under one of our lines. In our last earnings call, we announced that in November. Part in parcel to that effort we began looking at the facilities and the trust arrangement and made some changes to the trust in December to take those assets off that balance sheet.

Sameer Gokhale – Keefe, Bruyette & Woods

Okay. So this is part of something that you had already arranged for before. Given the challenges in the ABS market, it’s not like you went out and got a new facility by any means. That’s helpful.

Operator

Your next question comes from the line Carl Drake with SunTrust Robinson Humphrey. Please proceed.

Carl G. Drake – SunTrust Robinson Humphrey

J. Paul, I was wondering, the $22 million missed was that on a pre-tax basis or an after tax basis.

J. Paul Whitehead, III

Carl, that’s on an after tax.

Carl G. Drake – SunTrust Robinson Humphrey

Okay. Does that imply that you’re roughly kind of recurring earnings are around the $0.40 range for the fourth quarter?

J. Paul Whitehead, III

Yeah, if you pull those out. The $22 million was basically the $0.40. So, it would have been $0.40 in addition to the –

Carl G. Drake – SunTrust Robinson Humphrey

The $0.40 reduction from the guidance of $0.80 to $0.90, right?

J. Paul Whitehead, III

Right.

Carl G. Drake – SunTrust Robinson Humphrey

Okay. Second question, in terms of the increase in delinquencies you mentioned that you’re not seeing any real degradation by vintage. Is the increase in the delinquencies that we’re seeing from the pressure from the UK and the lower tier mix shift? Or, maybe you could elaborate a little bit on the increase in the 60 day delinquencies.

J. Paul Whitehead, III

I’m going to have Rich House answer that question for you Carl.

Richard R. House, Jr.

Actually, what we’re seeing in our aggregate portfolio absent a lower tier segment, we’re basically seeing flat year-over-year delinquency performance. The UK actually has improved quite a bit as far as delinquency goes but, the rest of the portfolio has been roughly flat year-over-year and the delinquency increase that you’re seeing is simply a vintage affect as I think both David and J. Paul touched on. And, for those of you guys who have been with us a long time may remember me on conference calls back in 2001 and 2002 during a similar time period when we had a big marketing effort followed by really reducing our marketing associated with liquidity markets and what that results in is a vintage result at your portfolio level so what you’re seeing in the delinquencies is strictly associated with the lower tier portfolio being tremendously added to in the second and third quarters and now going through at the first half of the year their peak charge off rate.

We expect that the charge off rate will increase, as J. Paul on touched on, in the first half of the year and diminished significantly in the second half of the year. That’s supported by our observation that our early stage delinquencies in our lower tier products are roughly 30% lower today than they were in October. Once again, this is not something that suggests the economy is improving or deteriorating it’s simply the mathematics of we put on a large slug of accounts in the summer and the fall and those accounts are going to go through their peak charge off phase in the first half of 08 and therefore going through their peak delinquency phase currently.

Carl G. Drake – SunTrust Robinson Humphrey

Do you plan on originating a good mix of near prime cards going forward or is it going to predominantly be the lower tier cards going forward?

Richard R. House, Jr.

I think that moving forward we will continue to be in both the near prime and the lower tiers segments but that is all predicated on the appropriate liquidity. Right now what we’re doing is we slowed down our marketing in both segments in order to insure that we have enough liquidity to protect, as David said earlier, the book value of our enterprise.

Carl G. Drake – SunTrust Robinson Humphrey

Are you still marketing at a level to originate 150 to 200 or have you scaled back significantly from that?

David G. Hanna

We’ve scaled back some from that.

Carl G. Drake – SunTrust Robinson Humphrey

Could you give us some kind of range of quarterly market dollars to expect and kind of account additions?

David G. Hanna

Well, the difficult part Carl is that we are - and the reason I’m going to refrain from giving you that information is that we are as you all know, actively pursuing a lot of different alternatives to enable us to open up those marketing channels. I mean what we do know is that now is a good time to be marketing in the near prime space because we have a lot of our major competitors have pulled back so much. We know now is a good time to be marketing but first and foremost we’re going to make sure that we’re in a very strong cash position to enable us to: one, to ride out a liquidity crunch but two, to have cash to take advantage of portfolios that might come along.

Carl G. Drake – SunTrust Robinson Humphrey

And last question on that, Dave in terms of cash position you mentioned you expected it to improve in the near term that’s because of tax refunds and then the stimulus package?

David G. Hanna

We also think that the portfolios are cash positive under our current forecasted plan with that reduced marketing over last year. So even without the speculative impact of a economic stimulus plan, we expect our cash position to improve. We believe that stimulus plan will be helpful because we’ve always seen it empirically at tax season it’s always been helpful. We saw back in 2002 when there was stimulus plan that was helpful, but we’re not counting on that to increase our cash position. We believe the nature of running our business as we’re running it currently will provide us appropriate liquidity to move forward.

Operator

Your next question is actually a follow-up from the line of Sameer. Please proceed.

Sameer Gokhale – Keefe, Bruyette & Woods

Yes I had a question on the portfolio acquisition opportunities I mean it seems like in talking to some of the companies in the space it’s been a little surprising that even performing portfolios don’t seem to have come out in the market just yet. Now there are a couple of big ones that some of the sellers want to go ahead and market but you know given the increased consolidation in the market place compared to say the last economic cycle when you had some of these sub-prime guys selling portfolios I mean is there anything unusual you’re seeing in that part of the business? I mean do sellers not want to carve out and sell parts of their sub-prime portfolios? Is consolidation in the industry just going to, is it just reduced the opportunities in the business? Can you just talk about your thoughts on that part of the business and opportunities there?

J. Paul Whitehead, III

My expectation is that there are numerous potential sellers and we have also heard rumblings of several potential portfolios that might be coming to market. You are right Sameer the last time there were specifically some sub-prime issuers but there were also other issuers who just made the decision in an economic downturn that a book of business that had maybe not been created as a sub-prime asset class but had migrated down to a sub-prime portfolio, that’s the kind of things we think we might have an opportunity for this time. Where somebody put on a prime account, due to mortgage related issues or otherwise may have fallen down into sub-prime categories and if you’re a prime issuer you really don’t have the where with all too now how to handle that type of portfolio. So we still think that prime issuers who have pieces of portfolios that have turned into sub-prime portfolios are probably going to look to divest during the next six, 12, 18 months.

Furthermore, as you point out there have been a few large portfolios of performing assets and some in sub-prime not some in the prime area that have sort of hit the market and have kind of been pulled back so we actually think there’s probably a little less competition today in any type of portfolio purchasing, just now there’s that many people out there looking to engage in portfolio purchasing activity.

David G. Hanna

I would also add we are now confident in our ability to purchase portfolios in the UK. We’ve had great success with our portfolio we purchased earlier this year and are very comfortable with our service platform there. Notable the UK has not gone through a recession in a long, long time and as they begin to struggle on the consumer front and their credit card industry is larger than it ever has been, we believe that there’s opportunity to buy portfolios in the UK and that we are one of the few buyers there.

Sameer Gokhale – Keefe, Bruyette & Woods

Okay thank you for that color. In the Jefferson Capital part of your business I mean clearly it seems like prices seem to have fallen you know say maybe for fresh stuff 25 to 30% maybe more than that on the older classes of paper which is defiantly positive but it seems like collections may be weakening in that part of the business. So as you look at pricing on those portfolios vis-à-vis collections on those portfolios and do you still think that s an attractive market to jump back into with both feet? Or do you still want to hold off until you really ramp up in the business until later on perhaps in 2008?

David G. Hanna

We think it is attractive today if you’re buying the right portfolio. Sameer you make a good point in that what has happened with some of the collection rates is that a collection tool that is often times used by charge off buyers is to get somebody to get a second mortgage on their home. Obviously, that tool is crimped if not taken away completely in today’s environment. When you take out the recoveries based on second home mortgage payments and look just at the average payments coming in from borrowers you see that we haven’t seen really a down tick in performance on the collections on those types of accounts. So it is one where you have to be careful, so I wouldn’t necessarily say we’re going to jump in with both feet. But having been in the bad debt buying business on and off since 1990 we believe we actually have a pretty good knowledge base as to when the appropriate time is to go back in and like I say it won’t necessarily be jumping in with both feet but we do think it’s going to be an attractive area.

Operator

Your next question comes from the line of Moshe Orenbuch with Credit Suisse. Please proceed.

Moshe Orenbuch – Credit Suisse First Boston

You said that you have a certain amount of liquidity for purchasing the portfolios, could you expand on that? And, I think you referred to ability to raise outside money, could you kind of expand on that as well?

J. Paul Whitehead, III

I think that probably in September or October last year liquidity even to purchase portfolio was probably as tight as we have ever seen it. So to fund even a good transaction was very tight and would be difficult to get. We have had several discussion with some of our previous lenders who are somewhat enthused to get back into that market now, so we feel pretty good about being in the market to go after those. When we talked about the equity and the lending piece part of why we’re trying to add some to our cash position is such that we won’t have to use much of equity partners because obviously that’s where most the return is on these things, and we can get attractive rates on pretty much just a singular lending piece. But if we have a very large portfolio in which case we might need some additional equity we feel real comfortable about getting some folks to come in alongside of us on that type of thing too.

David G. Hanna

To add just a bit of color on that motion I think what you’re finding in this particular liquidity market at least the flavor we’re getting is that we have a track record, I think we’ve purchased 10 distressed portfolios, as I think we already talked about earlier, over $6 billion in face value. We’ve done more of that of anybody else in the US or anywhere else and so I believe that what you find is that the liquidity provider can get comfortable with our expertise A; and B you have a amortizing pool. In this particular liquidity environment obviously people are looking at where can they distribute the debt over time and as you have an amortizing pool you at least have a kind of an amortizing view such as its not growing. So we’re seeing a little more appetite if you will for someone to partner with us on a portfolio purchase then you would think is the case just given the general liquidity environment.

Operator

Your next question comes from the line of David Hochstim with Bear, Stearns. Please proceed.

David Hochstim – Bear, Stearns & Co., Inc.

Can you talk about what’s happening with the bank regulators and your bank partners, and you alluded to some changes in the fourth quarter and I’m wondering what’s happening there in terms of regulatory reviews or the potential restrictions?

J. Paul Whitehead, III

The changes in the fourth quarter were similar to changes that most credit card operators around the country have made as it pertains to negative amortization issues with fees and almost all credit card companies have instituted similar policies. So that didn’t really have a lot, it had to do with the regulatory agency but not necessarily in particular with us. We continue to have discussions and think that we are making some progress with the regulatory agencies towards a resolution that will solve any of their concerns and allow us to continue to run our business as we have in the past.

David Hochstim – Bear, Stearns & Co., Inc.

Can you just remind us what the changes you made in terms of accruing fees after 90 days earlier in the year? That was also intended to reduce negative am or eliminate neg am wasn’t it?

J. Paul Whitehead, III

Yes.

David Hochstim – Bear, Stearns & Co., Inc.

So then what was different in the fourth quarter?

J. Paul Whitehead, III

The fourth quarter there’s an issue of if somebody makes a payment and the payment does not add up to their fees and interest than you either have to put that person into a delinquency status or you have to waive some of those fees. We think it’s important to keep those people as paying customers so we keep them in the current status and we look to waive that relatively small level of fees that they may not have hit with their minimum payment.

David Hochstim – Bear, Stearns & Co., Inc.

Can you give us a sort of order of magnitude in term so what kind of available lines there is on those cards and how much they would have accrued that kind of pushed them over the edge? And how much open to buy they would have after you reversed that, if any?

J. Paul Whitehead, III

A lot of the lower tiered customers have limited open to buy. Typically what happens is somebody opens the card, they use up a lot of their open to buy pretty quickly in the first six to eight months and then what happens is as that customer performs and pays over time we graduate the customer to more and more credit line. Now we cap those out after a while because we think someone that comes in at a $400 or $500 credit line can still be a great customer up to $1,000 or $1,200 but never, well I should say never but, we rarely take that customer up to $1,500, $2,000 or $3,000 because we’ve seen other issuers in this space have problems with that in the past. So, we monitor that closely and we try to take customers who are good customers with us and continuously graduate them up. So it’s hard to give you an exact, this is what the profile of the person, the open to buy and the like is but that’s sort of the overall approach we take with that lower tier customer.

David Hochstim – Bear, Stearns & Co., Inc.

Can you just give us a sense of how much the number of accounts might decline over the next couple of quarters as you reduce marketing and you still have some attrition?

J. Paul Whitehead, III

We don’t have that drawn out here. We’re actually looking more at the receivables base which we think will moderate some but we don’t think it’s going to drop in a significant amount.

David Hochstim – Bear, Stearns & Co., Inc.

But should it drop and the balances should drop in the first quarter and then maybe start growing a little bit?

J. Paul Whitehead, III

I would say that it is likely they will drop a little bit in the first half of the year and grow in the second half of the year. I would expect that we will see sort of yearend receivables probably a little above where we ended the year.

Operator

Your next question comes from the line of Rich Shane with Jefferies & Company. Please proceed.

Richard B. Shane, Jr. – Jefferies & Company

A couple of questions; last quarter when you were asked the question about net portfolio growth in terms of number of accounts you expected modest portfolio growth, I think those were exactly your words, modest account growth. Instead, you saw about 3 or 4% decline in accounts and that accounted for a, by your estimations, a $22 million after tax variance. Does that really make sense? Is that the way we should be looking at this? That, that slight a tweak in terms of the account growth number would have that big of an impact?

David G. Hanna

It’s not just the account growth number. It’s also the purchase rate. One of the things, and we saw this really with all the big retailers as well as a lot of prime credit card issuers, what we saw in the fourth quarter was not negative performance by our customer base in terms of delinquency issues but, we did see them take what is arguably the rational actions of lowering their spend. So, we did see the overall consumers, at least of our several million customers, slow down their purchase activity some in the fourth quarter. So, it’s not just the number of accounts which was lower than what we forecasted, it is also a lower level of purchase activity on our customer base.

Richard B. Shane, Jr. – Jefferies & Company

And when in the quarter did you actually sort of start to identify that trend?

David G. Hanna

Well really in the fourth quarter especially, you really don’t know that until after you go through Thanksgiving and the first couple of weeks of December. As most people know, the lion’s share or big percentage of overall purchases for the year are in that kind of 30 to 40 day period of time. So, we had not seen through the end of October, we had not seen performance that gave us a concern that it was going to be weaker in the fourth quarter. But then once we started seeing the purchase activity come in from Thanksgiving and Christmas and the like, coming in a fair amount lower than what we would have originally thought.

J. Paul Whitehead, III

As David said, that’s consistent with our other credit card peers.

Richard B. Shane, Jr. – Jefferies & Company

And when did you guys make the decision to close the businesses? To close the 106 micro lending branches?

David G. Hanna

That would have been during the fourth quarter, during December.

Richard B. Shane, Jr. – Jefferies & Company

I guess the question is, given by January 1 you know all this and you had outstanding guidance, why not tell people that this was coming? I mean, we’re sitting here looking at these numbers, pretty surprised by them. All of that, you guys had to be aware of by Jan 1, why not tell people, “These are things that are coming through the numbers.”

J. Paul Whitehead, III

Our approach throughout our history has been one of we’re going to run the business for what we believe to be in the best long term interest of the shareholders, we’re going to have quarterly calls and discussions and report the results of all the activity that we took. We have not historically taken an approach of trying to mid quarter announce a lot of things. What we try to do is spend our time and effort running the business and making the right decisions and to have a chance to discuss those on a quarterly basis.

Richard B. Shane, Jr. – Jefferies & Company

Right. And again, on one hand I think there’s a lot that went on here that was good. Closing down businesses that aren’t hitting hurdle rates and being willing to take charge offs to do that, I think is a good way to create long term value, I don’t disagree with that. I think that there are many companies who are not willing to take that decisive action but, at the same time it’s clearly material, I think that’s a word you guys used to describe what was going on and it just seemed surprising that given the materiality of that, that you wouldn’t communicate that to shareholders in some sort of pre-announcement given that again, there are business things that vary within the quarter within normal variances that I think people expect. But, when you’re shutting down 106 branches, when there is a $22 million after tax variance on your core business that strikes me as the kind of stuff that you should tell people.

J. Paul Whitehead, III

Our conclusion with respect to the discontinued store front operations and if you really look at the details in the line and the numbers and you’ll see those when we file our 10K, that particular decision and the charges related to that decision were indeed in material. The more material charges were the charges associated with goodwill impairment on ongoing operations. So, that’s kind of how we had looked at that issue. They weren’t really charges in and of themselves associated with our desire to defray a lot of the R&D efforts that we were taking within our other segment. There were clearly assets that we looked at that can we continue to use these assets in our credit segment? Are some of these assets that we feel we no longer have any utility for? But, in terms of the actual discontinued operations and the direct charges, we didn’t find those and believe those to be material.

Richard B. Shane, Jr. – Jefferies & Company

Got it. I appreciate you guys taking the questions in the spirit in which they’re asked. Last thing, last quarter you basically say that given the current liquidity position you felt that you could continue to modestly grow the portfolio. Again, I think the number was 150 plus gross new accounts and modest net account growth. The liquidity position has not changed, you basically said even if things stayed status quo last quarter you would target that. I’m not sure why I understand the difference now given that you had no assumptions back then, from my understanding, that liquidity would improve.

David G. Hanna

I think that our impression was that we were going to by now have seen a light at the end of the tunnel which we have not yet seen in the liquidity environment. We didn’t necessarily think that by February 13th the liquidity markets were going to be back open but, my expectation when we last talked in November was that there was a reasonable chance that after the beginning of the year that we would have seen some improvement in the securitization markets and we would have seen some of the traditional securitizers back out in the market in a more robust nature than what we have seen. We monitor that pretty closely, we go to various meetings, we talk to a lot of investors and we’re not seeing anything right now that would indicate that the light at the end of the tunnel of the securitization market is going to be turned on any time quickly. So, that is why you’re hearing a little bit of a different sentiment from our today than you heard when we talked in November. Because, we had kind of been, really since mid August, in a very, very tight liquidity situation. So, that has gone on from basically three months and our expectation would have been that the entire tightness probably would have only been six months and here we are six months, seven months after the fact and we’re not seeing a lot of positive signs in the tradition securitization market. One of the areas that we have been focusing on is looking at liquidity that comes outside of the traditional securitization market. There is liquidity in the system, there’s not a liquidity in the traditional ABS world that we have operated in the past, no.

J. Paul Whitehead, III

Additionally, the very phenomena that David speaks of which is restricting us from growing at the rate we want to grow at is also restricting everyone else and our view of available portfolios to buy is more favorable than it was back when David last spoke to you in November. So, we are rashly looking at how we deploy our capital and as David has mentioned before we have a long term view. We believe the market is there, we know if we have liquidity we can grow at a very rapid and profitable pace. But, it makes sense to us at this point in time to grow at a more measured pace, preserve our liquidity and put ourselves in a situation potentially to take advantage of other people who might be in liquidity crisis as well.

Operator

Your next question comes from the line of John Hecht with JMP Securities. Please proceed.

John Hecht – JMP Securities

Just going line by line in your managed earnings and related to your charges, should we put down the goodwill write offs, the software right offs and the dealership intangible right offs in the operating expense line and then the $6.9 million of CDO write downs and the $3.6 million in the net charge off line in order to normalize those? Or, is there another way to allocate that?

J. Paul Whitehead, III

If you’re looking at the managed statistics, now you’re talking about the charges related to continuing operations?

John Hecht – JMP Securities

Yeah.

J. Paul Whitehead, III

I think the challenge John is that some of the impairment related charges relate to continuing operations and some of the impairment charges relate to discontinued operations in so far as the bucket of expense related items or charges. As to the charge off items that you mentioned, clearly yeah, those would go into the charge off buckets.

John Hecht – JMP Securities

So the $6.9 and $3.6 [inaudible] you would take out of the $139?

J. Paul Whitehead, III

The $6.9 million, that’s at the other income line item.

John Hecht – JMP Securities

Then there’s a larger portion in the operating expense of some amount devoted to below the operating line or the ongoing operating line?

J. Paul Whitehead, III

Right, that’s correct.

John Hecht – JMP Securities

Okay. Then, J. Paul you gave us some good ideas for the trends on a ratio perspective. Just looking I guess at the three primary ratios, trying to get a sense for what we should be expecting on a modeling perspective, on the adjusted charge off rate on one level we have positive seasonal trends with respect to credit, on the other you have the key charge off cycle, but given you add the most net new accounts on an organic basis in the third quarter, should expect the first quarter to show an increase over the fourth quarter? And then the second quarter to show an increase over the first quarter before starting to come down? Or, would it be the reverse of that?

J. Paul Whitehead, III

I think what we’re looking at is a relatively consistent level of adjusted charge offs in the first and second quarters of next year and they will be appreciatively higher than they are this quarter. This also gets to Carl’s question that he asked before on the delinquencies. Notable, given affect to Rich’s and all of our comments about the vintage affect, we are sitting at the absolute zenith of delinquency rates that we see in our 60 plus day delinquency category and that coming down significantly throughout 2008 as these vintages actually flow through and start to charge off, as I said at a roughly constant rate in the first and second quarters of next year.

John Hecht – JMP Securities

We understand the product mix shift, can you tell us, just to give me a sense of how to quantify the potential jump, what are key charge offs in just the low FICO credit card accounts? Can you give us a rate to expect just so that we can get a sense for the magnitude of expected jump?

J. Paul Whitehead, III

When we publish our 10K in a couple of weeks here we’re going to provide the usual table that we provide that shows what our gross charge offs are for the entire business and I think using historical data, looking at some of our acquired portfolios and originate portfolios you should be able to come up with some estimation of what that charge off rate should be.

John Hecht – JMP Securities

But, you can’t give us anything right now in terms of maybe the variances in those two products?

J. Paul Whitehead, III

[Inaudible].

John Hecht – JMP Securities

And the net interest margin, if I remember it, expect a decline as well for the first couple of quarters and then, is that expected to increase or just stabilize at some new steady state? I guess, the same question with the other income ratio.

J. Paul Whitehead, III

They would both increase in the latter half.

John Hecht – JMP Securities

Okay

J. Paul Whitehead, III

In the latter half of the year. And, as you point out John, you’re finance charge and late fee charge offs are netted against your net interest margin and your fee charge offs are netted against your other income ratio. We see those ratios being roughly comparable in the first and second quarters next year just like the principal charge off ratios. Again, significantly lower than they were in the fourth quarter this year.

John Hecht – JMP Securities

Is there a steady state other income ratio that we should – give that your mix shift looks stabilized, theoretically in the second part of the year given just given a little net portfolio of those expectations, is there a period of time where we can look back to and say, “This is sort of the stabilized other income ratio.”

David G. Hanna

With the various portfolios that we purchased over the years, it skews the overall ratios from quarter-to-quarter so it’s kind of hard to tell you, “Go back and look at this. This is a steady state.” If we are sitting where we are today six months from now and the liquidity markets are still essentially tied and we are continuing to run along at a very low growth rate, we’ll be able to give you some guidance at that point as to what to look forward to on a steady state basis. It’s just very difficult right now without knowing which direction we’re going to go, we don’t want to have you anticipating one thing and have the liquidity markets open up, portfolios, what not that makes those types of things difficult. That’s why we refrain from guiding to specific numbers in this call.

J. Paul Whitehead, III

But durationally as you probably know from pervious calls the lower tier product has very high income early in its life. So, as David was suggesting to the extent that we find additional securitization liquidity or additional liquidity outside of the securitization markets and begin to grow the second half of the year at a more robust pace then your fee income will increase at a fairly substantial level. To the extent that we are moving along at a conservative base then it would be lower. That’s why it’s difficult, as David says, to point back to a number at this point. I think that’s something we’ll have to address as we understand where the liquidity market is.

Operator

At this time ladies and gentlemen there are no further questions. With that said, thank you for your participation in today’s conference. This concludes this presentation. You may now disconnect. Have a great day.

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