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DLLR > SEC Filings for DLLR > Form 10-Q on 9-Nov-2012All Recent SEC Filings

Show all filings for DFC GLOBAL CORP.

Form 10-Q for DFC GLOBAL CORP.


9-Nov-2012

Quarterly Report


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

This Quarterly Report on Form 10-Q and the documents incorporated herein contain "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Those statements are therefore entitled to the protection of the safe harbor provisions of these laws. These forward-looking statements, which are usually accompanied by words such as "may," "might," "will," "should," "could," "intends," "estimates," "predicts," "potential," "continue," "believes," "anticipates," "plans," "expects" and similar expressions, involve risks and uncertainties, and relate to, without limitation, statements about our market opportunities, anticipated improvements in operations, our plans, earnings, cash flow and expense estimates, strategies and prospects, both business and financial. There are important factors that could cause our actual results, level of activity, performance or achievements to differ materially from those expressed or forecasted in, or implied by, such forward-looking statements, particularly those factors discussed in "Item 1A - Risk Factors" in our Annual Report on Form 10-K our fiscal year ended June 30, 2012, as amended by the risk factors included under "Part II - Item 1A. Risk Factors" in this Quarterly Report on Form 10-Q.

Although we believe that the expectations reflected in these forward-looking statements are based upon reasonable assumptions, no assurance can be given that such expectations will be attained or that any deviations will not be material. In light of these risks, uncertainties and assumptions, the forward-looking events and circumstances discussed in this Quarterly Report on Form 10-Q may not occur and our actual results could differ materially and adversely from those anticipated or implied in the forward-looking statements. These forward-looking statements speak only as of the date on which they are made, and, except as otherwise required by law, we disclaim any obligation or undertaking to disseminate any update or revision to any forward-looking statement contained herein to reflect any change in our expectations with regard thereto or any change in events, conditions or circumstances on which any such statement is based. If we do update or modify one or more forward-looking statements, you should not conclude that we will make additional updates or modifications with respect thereto or with respect to other forward-looking statements, except as required by law.

Unless the context otherwise requires, as used in this Quarterly Report on Form 10-Q, (i) the terms "fiscal year" and "fiscal" refer to the twelve-month period ended on June 30 of the specified year, (ii) references to "$," "dollars," "United States dollars" or "U.S. dollars" refer to the lawful currency of the United States of America, (iii) references to "CAD" refer to the Canadian dollar, the lawful currency of Canada, (iv) references to "GBP" refer to the British Pound Sterling, the lawful currency of the United Kingdom of Great Britain and Northern Ireland, (v) references to "SEK" refer to the Swedish Krona, the lawful currency of Sweden and (vi) references to "EUR" refer to the Euro, the lawful currency of the European Union.

Executive Summary

Overview

We are a leading international non-bank provider of alternative financial services, principally unsecured short-term consumer loans, secured pawn loans, check cashing, money transfers and reloadable prepaid debit cards, serving primarily unbanked and under-banked consumers through our over 1,400 current retail storefront locations and our multiple Internet platforms in nine countries across Europe and North America: the United Kingdom, Canada, the United States, Sweden, Finland, Poland, Spain, the Czech Republic and the Republic of Ireland. Our networks of retail locations in the United Kingdom and Canada are the largest of their kind by revenue in each of those countries. We believe we operate one of the largest online unsecured short-term consumer lending business by revenue in the United Kingdom. We also believe that, by virtue of our secured pawn lending operations in the United Kingdom, Scandinavia, Poland and Spain, we are the largest pawn lender in Europe measured by loan portfolio.

At September 30, 2012, our global retail operations consisted of 1,429 retail storefront locations, of which 1,385 are company-owned financial services stores, conducting business primarily under the names The Money Shop®, Money Mart®, InstaCheques®, Suttons and Robertsons®, The Check Cashing Store®, Sefina®, Helsingin PanttiSM, MoneyNow! ® and Super Efectivo®. We also offer Internet-based short-term consumer loans in the United Kingdom primarily under the brand names Payday UK ® and Payday Express®, in Canada under the Money Mart and paydayloan.caSM brand names, and in Finland, Sweden and Poland primarily under the Risicum ® and OK Money® brand names. We also commenced on Internet-based lending business in the Czech Republic in October 2012. We offer longer term unsecured loans in Poland through in-home servicing under the trade name Optima®. We also provide fee-based services to enlisted military personnel applying for loans to purchase new and used vehicles that are funded and serviced primarily under an agreement with a major third-party national bank through our branded Military Installment Loan and Education Services, or MILES ®, program.

Our products and services, principally our unsecured short-term consumer loans, secured pawn loans, and check cashing and gold buying services, provide customers with immediate access to cash for living expenses or other needs. In addition to those core offerings, we strive to offer our customers additional high-value ancillary services, including Western Union® money order and money transfer products, electronic tax filing, reloadable prepaid VISA® debit cards and foreign currency exchange. Most of these ancillary services are provided through third-party vendors.


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For our unsecured short-term consumer loans, we receive fees on the loans we provide. For our secured pawn loans, we receive interest and fees on the loans we provide. For our check cashing services, we charge our customers fees that are usually equal to a percentage of the amount of the check being cashed and are deducted from the cash provided to the customer.

Our expenses primarily relate to the operations of our retail store network and Internet lending operations, including the provision for loan losses, salaries and benefits for our employees, occupancy expense for our leased real estate, depreciation of our assets and corporate and other expenses, including costs related to opening and closing stores.

In each foreign country in which we operate, local currency is used for both revenues and expenses. Therefore, we record the impact of foreign currency exchange rate fluctuations related to our foreign net income.

We continue to seek opportunities to expand upon and diversify from our core financial services businesses. In the fiscal year ended June 30, 2011, we substantially increased our online presence in the United Kingdom by acquiring the largest online provider of unsecured short-term consumer loans by revenue in that country. We have continued to expand our Internet-based lending business, most recently acquiring Risicum Oyj in July 2011, which offers unsecured short-term consumer loans through the Internet and mobile phone technologies in Finland and Sweden. We leveraged the scalable technology and back-office support capabilities of Risicum to launch Internet lending businesses in Poland in February 2012, and in the Czech Republic in October 2012, and expect to further extend our Internet-based lending capabilities into other countries in Europe in the current fiscal year. We are also actively expanding our secured pawn lending businesses. We acquired Sefina Finance AB in December 2010, which we believe to be the largest pawn lender, measured by loan portfolio, in each of Sweden and Finland, and in March 2012 we acquired a chain of eight retail pawn and gold buying stores in Spain. We also offer secured pawn lending in a significant majority of our retail locations in the United Kingdom as well as through our high-end Suttons and Robertsons stores in Britain, and have begun implementing secured pawn lending in our Canadian retail stores beginning earlier this fiscal year. Internet-based and secured pawn lending generated $75.5 million and $19.7 million, respectively, of revenue for the three months ended September 30, 2012, representing 27.3% and 7.1% of our revenue, respectively, for the three months ended September 30, 2012.

We manage our business as three reportable segments - our financial services offerings in each of Europe, Canada and the United States. Our Dealers' Financial Services, LLC, or DFS, subsidiary, which we operate independently of our other businesses, is included in Other.

Trends and Competition in Internet-based Business

Within the past two years, we have significantly expanded our online presence and obtained scalable technological platforms in several markets, most notably in the United Kingdom and Finland. We expect to continue to expand our online lending business in the future, both through acquisitions as well as by organic growth, such as the Internet-based businesses that we started in Poland in February 2012 and the Czech Republic in October 2012. Although we have seen a general increase in the number of competitors within the online markets in which we now operate, we believe that competition in the online loan market continues to be largely fragmented with high barriers to entry, including the ability to raise sufficient capital to fund loans and growth in loan portfolios, the ability to implement effective underwriting, collections and fraud prevention processes, technology requirements, marketing costs, customer privacy issues and other regulatory and compliance requirements.

Recent Regulatory Developments

Set forth below is a brief discussion of recent legal and regulatory developments in markets in which we operate that potentially may have a material impact on us and our results of operations.

In the United Kingdom, consumer lending is governed by the Consumer Credit Act of 1974, and related rules and regulations. As required by the Consumer Credit Act of 1974, we have obtained licenses from the Office of Fair Trading, which we refer to as the OFT, which is responsible for regulating competition, policy, and for consumer protection. The Consumer Credit Act of 1974 also contains rules regarding the presentation, form and content of loan agreements, including statutory warnings and the layout of financial information. Beginning July 31, 2009, The Money Laundering Regulations 2007 were enhanced to include consumer credit lenders, and all consumer credit lenders not authorized by the Financial Services Authority or HM Revenue and Customs as a Money Service Business are now required to register with the Office of Fair Trading. We believe that we have complied with these regulations where we were not already registered by HM Revenue and Customs.


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The OFT has issued Irresponsible Lending Guidance, or the ILG, which outlines the overarching principles of consumer protection and fair business practice which apply to all regulated consumer credit lending. The OFT has also issued Debt Collection Guidance, which was updated in October 2011 but is under further review. The Debt Collection Guidance could restrict the number of times and the amounts that we are allowed to debit a customer's account to seek payments. In addition, in February 2012, the OFT announced that it had launched an extensive review of the short-term lending sector in the United Kingdom to assess the sector's compliance with the Consumer Credit Act of 1974, the ILG and other relevant guidance and legal obligations. As part of this review, we are among 50 companies offering unsecured short-term consumer loans for which the OFT has indicated that it will conduct on-site inspections that could be used to assess fitness to hold a consumer credit license and could result in formal enforcement action where appropriate. The OFT commenced its onsite review of our businesses in the United Kingdom in late fiscal 2012. Furthermore, we have provided the OFT with a response to a comprehensive survey request with respect to several of our businesses in the United Kingdom to assess compliance with applicable regulations and guidance. As we continue to evaluate the regulatory developments in the United Kingdom, including the OFT's guidance, we may consider making changes, or may be required to make changes, to our lending and collection practices.

In Finland, our consumer lending operations are regulated pursuant to the Finnish Consumer Protection Law, under the oversight of the Ministry of Justice. In 2011, following a parliamentary change and the submission to the Finnish Parliament of proposed legislation seeking to impose more stringent rules for the micro-lending market, including interest rate caps or other limitations on the availability of micro-loans online, the Ministry of Justice nominated a working group to review the existing regulatory framework in Finland. Our Finland-based Risicum subsidiary is a member of the Finnish Association for Micro Loans, which presented information to the Ministry of Justice working group. In its final report issued in April 2012, the working group suggested two alternatives for regulating loans in Finland with principal amounts under €1,000, each of which included caps on interest and fees that lenders would be permitted to charge in connection with a loan. The Ministry of Justice concluded a consultation period in May 2012, during which several potential modifications to the working group's proposals were submitted. On September 11, 2012, a bill was introduced in the Finnish Parliament to restrict the interest rate on loans less than €2,000 to an annual percentage rate of 49% plus the European Central Bank rate. If approved as drafted, this law would significantly restrict our present Internet-based short-term loan product in Finland.

In July 2010, the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 was enacted, which among other things, created the Consumer Financial Protection Bureau, which we refer to as the CFPB. The CFPB has regulatory, supervisory and enforcement powers over certain non-bank providers of consumer financial products and services, such as us. In January 2012, the CFPB published a field guide for its examiners to use to ensure that short-term lenders are following federal consumer financial laws in their U.S. operations, as part of the CFPB's short-term lending supervision program. Under this program, the CFPB plans to gather information from short-term lenders to evaluate their policies and procedures, assess whether lenders are in compliance with federal consumer financial laws, and identify risks to consumers throughout the lending process. The program's implementation will be based on the CFPB's assessment of consumer risk, including volume of business and state regulatory oversight. The CFPB commenced an on-site review of our U.S. operations in late fiscal 2012.

Other Events

On December 14, 2011, our Board of Directors approved a stock repurchase plan, authorizing the repurchase of up to five million shares in the aggregate of our outstanding common stock. On September 20, 2012, our Board of Directors reconfirmed the plan through September 30, 2013. As of November 8, 2012, we had repurchased 1,512,758 shares of our common stock under the plan for an average price of $16.17 per share. As of November 8, 2012, approximately 3.5 million shares may yet be purchased under the stock repurchase plan.

On April 16, 2012, we consummated the sale of $230.0 million aggregate principal amount of 3.25% senior convertible notes due 2017, which includes the exercise in full of the initial purchasers' overallotment option. The notes are unsecured, senior obligations of ours and pay interest semi-annually at an annual rate of 3.25%. Prior to October 15, 2016, the notes are convertible only upon the occurrence of certain events and during certain periods, and thereafter, at any time until the second scheduled trading day immediately preceding the maturity date. Upon conversion, holders will receive cash up to the principal amount and shares of our common stock in respect of any excess conversion amount. The initial conversion rate for the notes is 46.8962 shares of common stock per $1,000 principal amount of the notes, which is equal to a conversion price of approximately $21.32 per share. In connection with the offering, we entered into convertible note hedge transactions with respect to our common stock with affiliates of the initial purchasers of the notes, and separate warrant transactions with the option counter parties, which effectively increase the conversion price of the convertible notes to $26.45 per share. The notes mature on April 15, 2017. We recorded a debt discount of approximately $50.3 million, with an offsetting increase to additional paid in capital. Such amount will be accreted over the expected life of the debt. The net proceeds from the offering were approximately $222.0 million, after deducting the initial purchasers' discounts and the estimated offering expenses. Considering $8.0 million of convertible note transaction fees and $20.0 million of one-time net cash payments to enter into the call spread hedge agreements, we received approximately $202.0 million of net proceeds from the convertible note offering. We subsequently used $55.7 million of the net proceeds to retire the legacy cross-currency interest rate swap agreements


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discussed below, while a portion of the remaining $146.3 million of proceeds was used to pay down all outstanding borrowings on our global revolving credit facility, which was principally drawn to fund the MEM and Risicum acquisitions, with the residual amount being available for general corporate purposes.

On April 27, 2012, we retired all of our remaining legacy cross-currency interest rate swap agreements originally put in place to hedge currency and interest rate fluctuations of our previously retired term bank loans. The legacy swaps had become ineffective when the bank debt they were purchased to hedge was paid off early, in order to achieve enhanced operating flexibility for us, with a portion of the proceeds of the $600.0 million tranche of senior unsecured notes issued by our Canadian subsidiary in December 2009. The net one-time cash payment to retire the swaps was $55.7 million. Prior to the termination of these swap agreements, we had been incurring cash expense of approximately $1.5 million per month to the relevant counter parties to fix the variable interest rate and foreign exchange components of the retired term loans.

On April 27, 2012, we entered into new swap agreements to hedge the U.S. Dollar exposure associated with our $600.0 million tranche of senior unsecured notes. We anticipate that the new swap arrangements will eliminate the non-cash mark-to-market volatility that had historically impacted our results of operations as a result of the previous ineffective swap instruments, and will lock in the Canadian Dollar and U.S. Dollar exchange value of the notes at maturity. In addition, on April 20, 2012, we entered into swap agreements to hedge currency exchange risk related to intercompany transactions stemming from the convertible notes issued in April 2012. We expect to incur recurring cash charges of approximately $1.2 million per month in the aggregate related to the new swap agreements.

Discussion of Critical Accounting Policies

In the ordinary course of business, we have made a number of estimates and assumptions relating to the reporting of results of operations and financial condition in the preparation of our financial statements in conformity with U.S. generally accepted accounting principles. We evaluate these estimates on an ongoing basis, including those related to revenue recognition, loan loss reserves and goodwill and intangible assets. We base these estimates on the information currently available to us and on various other assumptions that we believe are reasonable under the circumstances. Actual results could vary from these estimates under different assumptions or conditions.

Other than the items noted below, management believes there have been no significant changes during the three months ended September 30, 2012, to the items that we disclose as our critical accounting policies in "Management's Discussion and Analysis of Financial Condition and Results of Operations" in our Annual Report on Form 10-K for the fiscal year ended June 30, 2012.

During the three months ended September 30, 2012, we performed an interim impairment review of our goodwill, indefinite-lived intangible asset and certain other intangible assets related to our DFS business. We determined there was an interim indicator of impairment as a result of the September 2012 notification of the pending termination, effective September 13, 2014, of our contract with the third-party national bank that principally funds the loans for our Military Installment Loan and Education Services, or MILES®, program. We recorded an intangible asset impairment charge of approximately $5.5 million, related to the fair value assigned to the contract, for the three months ended September 30, 2012, as a result of the interim impairment review. We are in discussions with potential additional lending partners that would more competitively underwrite these loans. These discussions are in advanced stages, and we believe that these new lending arrangements will be in place later this fiscal year.

Additionally, on September 11, 2012, a bill was introduced in the Finnish Parliament to restrict the interest rate on loans less than EUR 2,000 to an annual percentage rate of 49% plus the European Central Bank rate. If approved as drafted, this law would significantly restrict our present Internet-based short-term loan product in Finland.

If we are not successful in replacing the current lending bank for our MILES loan program, or if the proposed Finnish regulation is passed and we are not successful in adding other products in Finland, it is reasonably possible that future goodwill impairment charges could ensue.


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Results of Operations

The percentages presented in the following table are based on each respective
fiscal year's total consolidated revenues:



                                                         Three Months Ended September 30,
                                                        2011                         2012

Total revenues:
Consumer lending                                $ 157.0          60.0 %      $ 178.6          64.5 %
Check cashing                                      36.2          13.8 %         32.7          11.8 %
Pawn service fees and sales                        20.8           8.0 %         19.7           7.1 %
Money transfer fees                                 9.6           3.7 %          9.5           3.5 %
Gold sales                                         15.9           6.1 %         14.2           5.1 %
Other                                              22.1           8.4 %         22.0           8.0 %

Total consolidated revenues                       261.6         100.0 %        276.7         100.0 %

Operating expenses:
Salaries and benefits                              53.8          20.6 %         58.5          21.1 %
Provision for loan losses                          31.8          12.1 %         38.4          13.9 %
Occupancy                                          15.0           5.8 %         16.8           6.1 %
Purchased gold costs                               12.1           4.6 %         10.2           3.7 %
Depreciation (1)                                    5.2           2.0 %          6.6           2.4 %
Other                                              47.0          17.9 %         52.0          18.7 %

Total operating expenses                          164.9          63.0 %        182.5          65.9 %

Operating margin                                   96.7          37.0 %         94.2          34.1 %

Corporate expenses                                 31.1          11.9 %         31.0          11.2 %
Other depreciation and amortization                 6.4           2.5 %          6.6           2.4 %
Interest expense, net                              24.5           9.3 %         32.1          11.6 %
Intangible asset impairment charge                   -             -  %          5.5           2.0 %
Unrealized foreign exchange loss (gain)            42.4          16.2 %         (1.1 )        (0.4 )%
Gain on derivatives not designated as hedges      (20.8 )        (8.0 )%          -             -  %
Provision for litigation settlements                4.0           1.5 %          2.7           1.0 %
Loss on store closings                              0.1           0.1 %          0.4           0.1 %
Other expense (income), net                         0.1           0.1 %         (0.2 )          -  %

Income before income taxes                          8.9           3.4 %         17.2           6.2 %
Income tax provision (1)                           10.9           4.2 %          8.8           3.2 %

Net (loss) income (1)                              (2.0 )        (0.8 )%         8.4           3.0 %
Less: Net loss attributable to
non-controlling interests                          (0.2 )        (0.1 )%        (0.2 )        (0.1 )%

Net (loss) income attributable to DFC Global
Corp.                                           $  (1.8 )        (0.7 )%     $   8.6           3.1 %


Net (loss) income per share attributable to
DFC Global Corp.:
Basic (1)                                       $ (0.04 )                    $  0.20
Diluted (1)                                     $ (0.04 )                    $  0.19

(1) During the year-end financial close process of fiscal 2012, we identified a prior period error related to the deferred tax liability on intangible assets acquired through the purchase of our DFS subsidiary in fiscal 2010. We also identified a prior period error related to the depreciation of certain fixed assets of our Canadian subsidiary. The errors, which were immaterial to the prior periods, resulted in an understatement of depreciation expense, and an understatement of the income tax provision in the Consolidated Statement of Operations for prior periods.

The corrections of these prior period errors resulted in a $0.4 million increase in income before income taxes for the three months ended September 30, 2011, and a $0.3 million decrease in net loss for the three months ended September 30, 2011. The correction of these misstatements also resulted in a decrease of $0.01 in net loss per share basic and diluted for the three months ended September 30, 2011.


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Constant Currency Analysis

We maintain operations in Europe, Canada and the United States. Over 85% of our revenues are originated in currencies other than the U.S. Dollar, principally the British Pound Sterling and the Canadian Dollar. As a result, changes in our reported revenues and profits include the impacts of changes in foreign currency exchange rates. As additional information to the reader, we provide "constant currency" assessments in the following discussion and analysis to remove and/or quantify the impact of the fluctuation in foreign exchange rates and utilize . . .

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