Caution Regarding Forward-Looking Statements

This Management's Discussion and Analysis of Financial Condition and Results of Operations and other parts of this Annual Report on Form 10-K contain forward-looking statements that involve risks and uncertainties. All forward-looking statements included in this Annual Report on Form 10-K are based on information available to us on the date hereof, and except as required by law, we assume no obligation to update any such forward-looking statements. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of a number of factors, including those set forth under the caption "Risk Factors" contained in this report and elsewhere herein. The following should be read in conjunction with our annual financial statements contained elsewhere in this report.

Overview

We are primarily engaged in the business of acquiring, managing, servicing and recovering on portfolios of consumer receivables, and, through Pegasus Funding, LLC, and BP Case Management, LLC, funding of personal injury and matrimonial litigation claims, respectively.

Consumer Receivables

The consumer receivable portfolios generally consist of one or more of the following types of consumer receivables:

• charged-off receivables - accounts that have been written-off by the originators and may have been previously serviced by collection agencies;

• semi-performing receivables - accounts where the debtor is making partial or irregular monthly payments, but the accounts may have been written-off by the originators; and

• performing receivables - in limited circumstances accounts where the debtor is making regular monthly payments that may or may not have been delinquent in the past.

We acquire these consumer receivable portfolios at a significant discount to the amount actually owed by the borrowers. We acquire these portfolios after a qualitative and quantitative analysis of the underlying receivables and calculate the purchase price so that our estimated cash flow offers us an adequate return on our investment after servicing expenses. After purchasing a portfolio, we actively monitor its performance and review and adjust our collection and servicing strategies accordingly.

We purchase receivables from credit grantors and others through privately negotiated direct sales, brokered transactions and auctions in which sellers of receivables seek bids from several pre-qualified debt purchasers. We pursue new acquisitions of consumer receivable portfolios on an ongoing basis through:

• our relationships with industry participants, financial institutions, collection agencies, investors and our financing sources;

• brokers who specialize in the sale of consumer receivable portfolios; and

• other sources.

Litigation Funding

In December 2011, we entered into a joint venture with PLF, pursuant to which Pegasus purchases interests in personal injury claims from claimants who are a party to personal injury litigation, with the expectation of a settlement in the future. Through the joint venture, we advance to each personal injury claimant funds on a non-recourse basis, at an agreed upon interest rate, in anticipation of a future settlement. The interest purchased by us in each claim consists of the right to receive from such claimant part of the proceeds or recoveries which such claimant receives by reason of a settlement, judgment or award with respect to such claimant's claim.

In May 2012, we entered into a joint venture with Balance Point Management. The joint venture, through a newly-formed indirect subsidiary, Balance Point, provides non-recourse funding to claimants in matrimonial actions. Such funds can be used for legal fees, expert costs and necessary living expenses. The venture will receive an agreed percentage of the proceeds received by such claimant upon final resolution of the case. Balance Point's profits and losses will be distributed 60% to us and 40% to Balance Point Management, after the return of our investment, on a case by case basis, and after a 15% preferred return to us.

Critical Accounting Policies

We account for our investments in consumer receivable portfolios, using either:

• the interest method; or

• the cost recovery method.

As we believe our extensive liquidating experience in certain asset classes such as distressed credit card receivables, consumer loan receivables and mixed consumer receivables has matured, we use the interest method when we believe we can reasonably estimate the timing of the cash flows. In those situations where we diversify our acquisitions into other asset classes in which we do not possess the same expertise or history, or we cannot reasonably estimate the timing of the cash flows, we utilize the cost recovery method of accounting for those portfolios of receivables.

We account for our investment in finance receivables using the interest method under the guidance of ASC 310. Static pools of accounts are established. These pools are aggregated based on certain common risk criteria. Each static pool is recorded at cost and is accounted for as a single unit for the recognition of income, principal payments and loss provision. We currently consider for aggregation portfolios of accounts, purchased within the same fiscal quarter, that generally have the following characteristics:

• same issuer/originator;

• same underlying credit quality;

• similar geographic distribution of the accounts;

• similar age of the receivable; and

• same type of asset class (credit cards, telecommunications, etc.).

After determining that an investment will yield an adequate return on our acquisition cost after servicing fees, including court costs, which are expensed as incurred, we use a variety of qualitative and quantitative factors to determine the estimated cash flows. The following variables are analyzed and factored into our original estimates:

• the number of collection agencies previously attempting to collect the receivables in the portfolio;

• the average balance of the receivables;

• the age of the receivables (as older receivables might be more difficult to collect or might be less cost effective);

• past history of performance of similar assets - as we purchase portfolios of similar assets, we believe we have built significant history on how these receivables will liquidate and cash flow;

• number of months since charge-off;

• payments made since charge-off;

• the credit originator and their credit guidelines;

• the locations of the customers as there are better states to attempt to collect in and ultimately we have better predictability of the liquidations and the expected cash flows;

• jobs or property of the customers found within portfolios-with our business model. Customers with jobs or property are more likely to repay their obligation and conversely, customers without jobs or property are less likely to repay their obligation; and

• the ability to obtain customer statements from the original issuer.

We will obtain and utilize as appropriate input including, but not limited to, monthly collection projections and liquidation rates, from our third party collection agencies and attorneys, as further evidentiary matter, to assist us in developing collection strategies and in modeling the expected cash flows for a given portfolio.

We acquire accounts that have experienced deterioration of credit quality between origination and the date of our acquisition of the accounts. The amount paid for a portfolio of accounts reflects our determination that it is probable we will be unable to collect all amounts due according to the portfolio of accounts' contractual terms. We consider the expected payments and estimate the amount and timing of undiscounted expected principal, interest and other cash flows for each acquired portfolio coupled with expected cash flows from accounts available for sales. The excess of this amount over the cost of the portfolio, representing the excess of the account's cash flows expected to be collected over the amount paid, is accreted into income recognized on finance receivables over the expected remaining life of the portfolio.

We believe we have significant experience in acquiring certain distressed consumer receivable portfolios at a significant discount to the amount actually owed by underlying customers. We acquire these portfolios only after both qualitative and quantitative analyses of the underlying receivables are performed and a calculated purchase price is paid so that we believe our estimated cash flow offers us an adequate return on our acquisition costs including servicing expenses. Additionally, when considering larger portfolio purchases of accounts, or portfolios from issuers from whom we have little or limited experience, we have the added benefit of soliciting our third party collection agencies and attorneys for their input on liquidation rates and at times incorporate such input into the price we offer for a given portfolio and the estimates we use for our expected cash flows.

As a result of the recent and current challenging economic environment and the impact it has had on collections, for the non-medical account portfolio purchases acquired since the beginning of fiscal year 2009, we extended our time frame of the expectation of recovering 100% of our invested capital to a 24-39 month period from an 18-28 month period, and the expectation of recovering 130-140% over seven years from the previous five year expectation. The 2009 time frame of expectations has remained in force for fiscal year 2012. We routinely monitor these expectations against the actual cash flows and, in the event the cash flows are below our expectations and we believe there are no reasons relating to mere timing differences or explainable delays (such as can occur particularly when the court system is involved) for the reduced collections, an impairment is recorded on portfolios accounted for under the interest method. Conversely, in the event the cash flows are in excess of our expectations and the reason is due to timing, we would defer the "excess" collection as deferred revenue.

We use the cost recovery method when collections on a particular pool of accounts cannot be reasonably predicted. Under the cost recovery method, no finance income is recognized until the cost of the portfolio has been fully recovered. A pool can become fully amortized (zero carrying balance on the balance sheet) while still generating cash collections. In this case, all cash collections are recognized as finance income when received.

Results of Operations

The following discussion of our operations and financial condition should be read in conjunction with our financial statements and notes thereto included elsewhere in this report. In these discussions, most percentages and dollar amounts have been rounded to aid presentation. As a result, all such figures are approximations.

                                                             Years Ended September 30,
                                                         2012           2011           2010
Finance income                                             91.2 %         98.7 %         99.5 %
Other income                                                8.8 %          1.3 %          0.5 %

Total revenue                                             100.0 %        100.0 %        100.0 %

General and administrative expenses                        53.1 %         50.5 %         50.7 %
Interest expense                                            5.7 %          7.0 %          9.5 %
Impairments of consumer receivables acquired for
liquidation                                                 3.1 %          1.7 %         28.4 %

Income before income taxes                                 38.1 %         40.8 %         11.4 %
Provision for income taxes                                 15.5 %         16.5 %          4.6 %

Net income                                                 22.6 %         24.4 %          6.8 %
income attributable to non-controlling interest             0.1 %            - %            - %

Net income attributable to Asta Funding, Inc.              22.5 %         24.4 %          6.8 %

Year Ended September 30, 2012 Compared to the Year Ended September 30, 2011

Finance income. For the year ended September 30, 2012, finance income decreased $2.0 million, or 4.7%, to $40.6 million from $42.6 million for the year ended September 30, 2011. The decrease is primarily due to the lower level of portfolio purchases over the last two years and, as a result, an increased percentage of our portfolio balances are in the later stages of their yield curves. During the fiscal year ended September 30, 2012, we acquired $6.0 million in face value of new portfolios at a cost of $2.5 million as compared to $19.5 million of face value portfolios at a cost of approximately $7.5 million, during the fiscal year ended September 30, 2011. Finance income recognized from fully amortized portfolios (zero basis revenue) was $36.4 million for the year ended September 30, 2012 as compared to $34.3 million for the year ended September 30, 2011.

Net collections decreased $11.2 million, or 13.8%, to $70.0 million for the fiscal year ended September 30, 2012, from $81.2 million for the fiscal year ended September 30, 2011. During fiscal year 2012, gross collections decreased 16.3% to $108.5 million from $129.7 million for fiscal year 2011, reflecting the lower level of purchases, the age of our portfolios and the slowdown in the economy. Commissions and fees associated with gross collections from our third party collection agencies and attorneys decreased $10.0 million, or 20.7%, as compared to the same period in the prior year and averaged 35.5% of collections for the fiscal year ended September 30, 2012 as compared to 37.4% in the same prior year period. The lower rate was the result of a one-time $1.3 million charge in the fourth quarter of fiscal year 2011 that impacted commissions and fees.

Further, as we have curtailed our purchases of new portfolios of consumer receivables in the last three fiscal years, finance income was negatively impacted and we expect will continue to be negatively impacted going forward since we have not been replacing our receivables acquired for liquidation. Instead, we focused on reducing our debt and being highly disciplined in our portfolio purchases. We continue to review potential portfolio acquisitions regularly and will purchase such portfolios when we believe the purchase will yield our desired rate of return. There were no accretable yield adjustments recorded during the fiscal years ended September 30, 2012 and 2011.

Other income. The following table summarizes other income for the years ended September 30, 2012 and 2011

                                                2012            2011
              Interest and dividend income   $ 1,614,000     $  579,000
              Personal injury fee income       1,647,000              -
              Matrimonial fee income             165,000              -
              Realized gains                     339,000              -
              Service fee income                  92,000         86,000
              Other                               46,000       (108,000 )

                                             $ 3,903,000     $  557,000

General and administrative expenses. For the year ended September 30, 2012, general and administrative expenses increased $1.8 million, or 8.4%, to $23.6 million from $21.8 million for the year ended September 30, 2011. The increase is due primarily to increased professional fees related to acquisition activity and other corporate initiatives, offset by lower collection expenses which include lower salary and benefit costs. In addition, there were increased expenses related to the investment in the personal injury financing unit, Pegasus Funding, LLC.

Interest expense. For the year ended September 30, 2012, interest expense decreased $0.5 million or 15.8% to $2.5 million from $3.0 million during the year ended September 30, 2011. The decrease was due primarily to the reduction in the balance of our Receivables Financing Agreement ("Receivables Financing Agreement") with the Bank of Montreal ("BMO") during the year ended September 30, 2012, as compared to the year ended September 30, 2011. Additionally, the average interest rate during the year ended September 30, 2012 on the Receivable Financing Agreement was 3.76% as compared to 3.75% during the year ended September 30, 2011. Also, we repaid the outstanding borrowings on our subordinated debt during fiscal year 2011.

Impairments. We recorded impairments of $1,383,000 during the year ended September 30, 2012 as compared to $721,000 for the year ended September 30, 2011, as collections on various portfolios were short of expectations.

Income tax expense - Income tax expense for fiscal year 2012 of $6.9 million consists of a current tax expense of $3.5 million and a deferred tax expense of $3.4 million. The $3.4 million deferred tax expense consists of $1.8 million of federal tax expense and $1.6 million in state deferred expense. The true up adjustments for the fiscal years 2012 and 2011 federal tax returns were not material.

Net income. For the year ended September 30, 2012, net income decreased $0.5 million to $10.0 million from $10.5 million for the year ended September 30, 2011, primarily reflecting increased total revenue offset by increased general and administrative expenses and impairments further offset by lower interest expense and income taxes. Net income per diluted share for the year ended September 30, 2012 decreased slightly to $0.70 per diluted share down from $0.71 per diluted share for the year ended September 30, 2011.

Year Ended September 30, 2011 Compared to the Year Ended September 30, 2010

Finance income. For the year ended September 30, 2011, finance income decreased $3.0 million, or 6.6%, to $42.6 million from $45.6 million for the year ended September 30, 2010. The decrease is primarily due to the lower level of portfolio purchases over the last two years and, as a result, an increased percentage of our portfolio balances are in the later stages of their yield curves. In addition, during the fourth quarter of fiscal 2011 there was a one-time charge of approximately $1.3 million against finance income by a third party collection company that billed us for collection costs excluded from their periodic collection remittances. Finance income for the year ended September 30, 2011 excluding this one-time charge, would have been $44,439,000, down $1.4 million, or 3.1%. During the fiscal year ended September 30, 2011, we acquired $19.5 million in face value of new portfolios at a cost of $7.5 million as compared to $269.0 million of face value portfolios at a cost of approximately

$8.0 million, during the fiscal year ended September 30, 2010. Finance income recognized from fully amortized portfolios (zero basis revenue) was $34.3 million for the years ended September 30, 2011 and 2010, respectively.

Net collections decreased $20.7 million or 20.3% to $81.2 million for the fiscal year ended September 30, 2011, from $101.9 million for the fiscal year ended September 30, 2010. During fiscal year 2011, gross collections decreased 17.7% to $129.7 million from $157.6 million for fiscal year 2010, reflecting the lower level of purchases, the age of our portfolios and the slowdown in the economy. Commissions and fees associated with gross collections from our third party collection agencies and attorneys decreased $7.2 million or 12.9% as compared to the same period in the prior year and averaged 37.4% of collections for the fiscal year ended September 30, 2011 as compared to 35.3% in the same prior year period. The $1.3 million one-time charge against finance income impacted commissions and fees by one percentage point. Commissions and fees excluding this one-time charge would have been 36.4%.

Further, as we have curtailed our purchases of new portfolios of consumer receivables in the last three fiscal years, finance income was negatively impacted and we expect will continue to be negatively impacted going forward since we have not been replacing our receivables acquired for liquidation. Instead, we focused on reducing our debt and being highly disciplined in our portfolio purchases. We continue to review potential portfolio acquisitions regularly and will purchase such portfolios when we believe the purchase will yield our desired rate of return. There were no accretable yield adjustments recorded during the fiscal years ended September 30, 2011 and 2010.

Other income. Other income of $557,000 and $218,000 for the fiscal years ended September 30, 2011 and 2010, respectively, consisted primarily of service fee income and interest income from banks.

General and administrative expenses. For the year ended September 30, 2011, general and administrative expenses decreased $1.4 million, or 6.0%, to $21.8 million from $23.2 million for the year ended September 30, 2010. The decrease is due primarily to lower collection expenses, including lower attorney fees and settlements associated with debtor lawsuits, lower professional fees, and the lower non-cash item of amortization expense, offset by higher non-cash stock based compensation expense.

Interest expense. For the year ended September 30, 2011, interest expense decreased $1.4 million, or 31.0%, to $3.0 million from $4.4 million during the year ended September 30, 2010. The decrease was due to the repayment of the outstanding borrowings on our subordinated debt and the reduction of our Receivables Financing Agreement loan balance during the year ended September 30, 2011, as compared to the year ended September 30, 2010. Additionally, the average interest rate during the year ended September 30, 2010 on the Receivable Financing Agreement was 3.75% as compared to 3.77% during the year ended September 30, 2010. The rate on the subordinated debt - related party was increased from 6.25% to 10.0% during fiscal year 2010; however, the principal balance was paid off in December 2010, with little impact on the fiscal year 2011 expense.

Impairments. We recorded impairments of $721,000 during the year ended September 30, 2011 as compared to $13.0 million for the year ended September 30, 2010. The impairment recorded in fiscal year 2010 was related to the Portfolio Purchase. During fiscal year 2010, a significant servicer of accounts of the Portfolio Purchase declaring bankruptcy which caused a delay in collections as accounts were transferred to other servicers. Although we believe that value remains in the Portfolio Purchase, the delay has impacted projections of collections of the Portfolio Purchase.

Income tax expense (benefit) - Income tax expense for fiscal year 2011 of $7.1 million consists of a current tax expense of $2.5 million and a deferred tax expense of $4.6 million. The $4.6 million deferred tax expense consists of $3.0 million of federal tax expense and $1.6 million in state deferred expense. Included in the deferred tax expense in fiscal year 2010 is a $5.6 million true up of federal income taxes from fiscal year 2009. Upon the completion of our federal tax return for fiscal year 2009 and the application for the tax refund completed earlier in the second quarter, the federal tax refund estimate of $46 million was revised upward to approximately $52 million which caused the $5.6 million true up in the current year. This change was due to a combination of applying the federal tax net operating loss carryback and the recognition of the benefit of the state net operating loss carryforwards for federal tax purposes, and other timing differences applied to the current year

tax return. These adjustments did not affect the statement of operations and yielded a net adjustment between the federal income tax receivable and the deferred tax asset. The true up for the fiscal year 2010 federal tax return was not material.

Net income. For the year ended September 30, 2011, net income increased $7.4 million to $10.5 million from $3.1 million for the year ended September 30, 2010, primarily reflecting decreased impairments and other expenses, partially offset by higher income taxes. Net income per diluted share for the year ended September 30, 2011 increased $0.49 per diluted share to $0.71 per diluted share from $0.22 per diluted share for the year ended September 30, 2010.

Liquidity and Capital Resources

Our primary source of cash from operations is collections on the receivable portfolios we have acquired. Our primary uses of cash include repayments of debt, our purchases of consumer receivable portfolios, interest payments, costs involved in the collections of consumer receivables, taxes and dividends, if approved. In the past, we relied significantly upon our lenders to provide the funds necessary for the purchase of consumer receivables acquired for liquidation.

Receivables Financing Agreement

In March 2007, Palisades XVI borrowed approximately $227 million under the Receivables Financing Agreement, as amended, in order to finance the Portfolio Purchase. The Portfolio Purchase had a purchase price of $300 million (plus 20% of net payments after Palisades XVI recovers 150% of its purchase price plus cost of funds, which recovery has not yet occurred). Prior to the modification, discussed below, the debt was full recourse only to Palisades XVI and bore an interest rate of approximately 170 basis points over LIBOR. The original term of the agreement was three years. This term was extended by each of the Second, Third, Fourth and Fifth Amendments to the Receivables Financing Agreement as discussed below. The Portfolio Purchase is serviced by Palisades Collection LLC, our wholly owned subsidiary which has engaged unaffiliated subservicers for a majority of the Portfolio Purchase.

Since the inception of the Receivables Financing Agreement, amendments have been signed to revise various terms of the Receivables Financing Agreement. Currently we are operating under the Fifth Amendment.

On October 26, 2010, Palisades XVI entered into the Fifth Amendment to the Receivables Financing Agreement (the "Fifth Amendment"). The effective date of the Fifth Amendment is October 14, 2010. The Fifth Amendment (i) extends the expiration date of the Receivables Financing Agreement to April 30, 2014,
(ii) reduces the minimum monthly total payment to $750,000, (iii) accelerates our guarantee credit enhancement of $8,700,000, which was paid upon execution of the Fifth Amendment, (iv) eliminated our limited guarantee of repayment of the loans outstanding by Palisades XVI, and (v) revises the definition of "Borrowing Base Deficit", as defined in the Receivables Financing Agreement, to mean the excess, if any, of 105% of the loans outstanding over the borrowing base.

In connection with the Fifth Amendment, on October 26, 2010, we entered into the Omnibus Termination Agreement (the "Termination Agreement"). The limited recourse subordinated guaranty set forth in the Fourth Amendment, was eliminated upon signing the Termination Agreement.

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