ENCORE CAPITAL GROUP INC (ECPG) FY 2022 MD&A

Item 7—Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following discussion and analysis is intended to help investors understand our business, financial condition, results of operations, liquidity and capital resources. You should read this discussion together with our consolidated financial statements and related notes thereto included elsewhere in this Annual Report on Form 10-K. This Annual Report on Form 10-K contains “forward-looking statements” relating to Encore Capital Group, Inc. (“Encore”) and its subsidiaries (which we may collectively refer to as the “Company,” “we,” “our” or “us”) within the meaning of the securities laws. The words “believe,” “expect,” “anticipate,” “estimate,” “project,” “intend,” “plan,” “will,” “may,” and similar expressions often characterize forward-looking statements. These statements may include, but are not limited to, projections of collections, revenues, income or loss, estimates of capital expenditures, plans for future operations, products or services, and financing needs or plans, as well as assumptions relating to these matters. Although we believe that the expectations reflected in these forward-looking statements are reasonable, we caution that these expectations or predictions may not prove to be correct or we may not achieve the financial results, savings or other benefits anticipated in the forward-looking statements. These forward-looking statements are necessarily estimates reflecting the best judgment of our senior management and involve a number of risks and uncertainties, some of which may be beyond our control or cannot be predicted or quantified, that could cause actual results to differ materially from those suggested by the forward-looking statements. Many factors including, but not limited to, those set forth in this Annual Report on Form 10-K under “Part I, Item 1A—Risk Factors,” could cause our actual results, performance, achievements, or industry results to be very different from the results, performance, achievements or industry results expressed or implied by these forward-looking statements. Our business, financial condition, or results of operations could also be materially and adversely affected by other factors besides those listed. Forward-looking statements speak only as of the date the statements were made. We do not undertake any obligation to update or revise any forward-looking statements to reflect new information or future events, or for any other reason, even if experience or future events make it clear that any expected results expressed or implied by these forward-looking statements will not be realized. In addition, it is generally our policy not to make any specific projections as to future earnings, and we do not endorse projections regarding future performance that may be made by third parties.

Our Business

We are an international specialty finance company providing debt recovery solutions and other related services for consumers across a broad range of financial assets. We purchase portfolios of defaulted consumer receivables at deep discounts to face value and manage them by working with individuals as they repay their obligations and work toward financial recovery. Defaulted receivables are consumers’ unpaid financial commitments to credit originators, including banks, credit unions, consumer finance companies and commercial retailers. Defaulted receivables may also include receivables subject to bankruptcy proceedings. We also provide debt servicing and other portfolio management services to credit originators for non-performing loans in Europe.

Encore Capital Group, Inc. (“Encore”) has three business units: MCM, which consists of Midland Credit Management, Inc. and its subsidiaries and domestic affiliates; Cabot, which consists of Cabot Credit Management Limited (“CCM”) and its subsidiaries and European affiliates, and LAAP, which is comprised of our investments and operations in Latin America and Asia-Pacific.

MCM (United States)

Through MCM, we are a market leader in portfolio purchasing and recovery in the United States.

Cabot (Europe)

Through Cabot, we are one of the largest credit management services providers in Europe and the United Kingdom. Cabot, in addition to its primary business of portfolio purchasing and recovery, also provides a range of debt servicing offerings such as early stage collections, business process outsourcing (“BPO”), and contingent collections, including through Wescot Credit Services Limited (“Wescot”), a leading UK contingency debt collection and BPO services company.

LAAP (Latin America and Asia-Pacific)

We have purchased non-performing loans in Mexico. Additionally, we have invested in Encore Asset Reconstruction Company (“EARC”) in India. We previously owned non-performing loans in Colombia and Peru (sold in August 2021) and Brazil (sold in April 2020).

To date, operating results from LAAP have not been significant to our total consolidated operating results. Our long-term growth strategy is focused on continuing to invest in our core portfolio purchasing and recovery business in the United States and United Kingdom and strengthening and developing our business in the rest of Europe.

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Macroeconomic Update

During 2021, excess consumer liquidity resulting from the COVID-19 pandemic led to consumer behavior (particularly in the U.S.) that contributed to record collections. Similarly, as reported by leading financial industry publications, excess consumer liquidity resulted in lower levels of delinquencies and charge offs for leading lenders. As a result, 2021 was a period of decreased supply and competitive pricing.

During 2022, consumer behavior in the U.S. that contributed to record collections in 2021 normalized, particularly in the second half of the year. Delinquencies, charge offs and market supply remained at lower levels primarily for the first half of the year, resulting in pressure on portfolio pricing. As the year progressed, we began to see signs of increased delinquencies and charge offs in the U.S., which we believe contributed to an increase in portfolio supply. Portfolio pricing in the U.S. in the fourth quarter began to soften, while pricing in the U.K. and Europe remained competitive. We believe that the current pricing environment does not yet reflect increased funding costs that have resulted from higher interest rates.

Throughout 2022 we have noted higher interest rates, elevated levels of inflation, agent staffing challenges as a result of the tight labor market and large foreign exchange rate fluctuations. Higher interest rates will impact funding costs for market participants. However, we believe increased supply will lead to improved portfolio pricing over time. Inflation has put pressure on wages and other costs. We are taking action to control our cost base, including a headcount reduction in support functions at Cabot that we expect will lead to an approximately $4 million pre-tax charge in the first quarter of 2023. We cannot predict the full extent these macroeconomic factors may have on our business, results of operations and financial condition due to numerous evolving factors. See “Part I - Item 1A- Risk Factors” in this Annual Report on Form 10-K.

Government Regulation

As discussed in more detail under “Part I - Item 1—Business - Government Regulation” contained in this Annual Report on Form 10-K, our operations in the United States are subject to federal, state and municipal statutes, rules, regulations and ordinances that establish specific guidelines and procedures that debt purchasers and collectors must follow when collecting consumer accounts, including among others, specific guidelines and procedures for communicating with consumers and prohibitions on unfair, deceptive or abusive debt collection practices. Additionally, our operations in Europe are affected by foreign statutes, rules and regulations regarding debt collection and debt purchase activities. These statutes, rules, regulations, ordinances, guidelines and procedures are modified from time to time by the relevant authorities charged with their administration, which could affect the way we conduct our business.

Portfolio Purchasing and Recovery

MCM (United States)

In the United States, the defaulted consumer receivable portfolios we purchase are primarily charged-off credit card debt portfolios. A small percentage of our capital deployment in the United States is comprised of receivable portfolios subject to Chapter 13 and Chapter 7 bankruptcy proceedings.

We purchase receivables based on robust, account-level valuation methods and employ proprietary statistical and behavioral models across our U.S. operations. These methods and models allow us to value portfolios accurately (limiting the risk of overpaying), avoid buying portfolios that are incompatible with our methods or strategies and align the accounts we purchase with our business channels to maximize future collections. As a result, we have been able to realize significant returns from the receivables we acquire. We maintain strong relationships with many of the largest financial service providers in the United States.

Cabot (Europe)

In Europe, our purchased under-performing debt portfolios primarily consist of paying and non-paying consumer loan accounts. We also purchase: (1) portfolios that are in insolvency status, in particular, individual voluntary arrangements; and (2) non-performing secured mortgage portfolios and real estate assets previously securing mortgage portfolios. When we take possession of the underlying real estate assets or purchase real estate assets, we refer to those as real estate-owned assets, or REO assets.

We purchase paying and non-paying receivable portfolios using a proprietary pricing model that utilizes account-level statistical and behavioral data. This model allows us to value portfolios accurately and quantify portfolio performance in order to maximize future collections. As a result, we have been able to realize significant returns from the assets we have acquired. We maintain strong relationships with many of the largest financial services providers in the United Kingdom.

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Purchases and Collections

Portfolio Pricing, Supply and Demand

MCM (United States)

Issuers have continued to sell predominantly fresh portfolios. Fresh portfolios are portfolios that are generally sold within six months of the consumer’s account being charged-off by the financial institution. Pricing in the fourth quarter began to soften as a result of increased supply. Issuers continue to sell their volume in mostly forward flow arrangements that are often committed early in the calendar year. We believe growth in lending and rising delinquency rates will drive continued growth in supply. Lending has now surpassed pre-pandemic levels in the U.S. and we have started to see an increase in portfolio supply.

We believe that smaller competitors continue to face difficulties in the portfolio purchasing market because of the high cost to operate due to regulatory pressure and increasing cost of capital. We believe this favors larger participants, like MCM, because the larger market participants are better able to adapt to these pressures and commit to larger forward flow agreements and fluctuating volumes.

Cabot (Europe)

The UK market for charged-off portfolios prior to the COVID-19 pandemic generally provided a relatively consistent pipeline of opportunities, despite a historically low level of charge-off rates, as creditors have embedded debt sales as an integral part of their business models and consumer indebtedness has continued to grow since the financial crisis. An increasing amount of volume is sold in multi-year forward flow arrangements.

The Spanish debt market continues to be one of the largest in Europe with significant debt sales activity and an expectation of a significant amount of debt to be sold and serviced in the future. Additionally, financial institutions continue to experience both market and regulatory pressure to dispose of non-performing loans, which should continue to provide debt purchasing opportunities in Spain.

Banks decreased portfolio sales at the beginning of the COVID-19 pandemic in order to focus on customers’ needs. While we have seen a resumption of sales activity across many of our European markets, underlying default rates are generally low by historic levels, and sales levels are expected to fluctuate from quarter to quarter. In general, supply remains below pre-pandemic levels while portfolio pricing remains competitive across our European footprint.

Purchases by Geographic Location

The following table summarizes purchases of receivable portfolios by geographic location during the periods presented (in thousands):

In the United States, capital deployment increased during the year ended December 31, 2022, as compared to 2021. The majority of our deployments in the U.S. come from forward flow agreements, and the timing, contract duration, and volumes for each contract can fluctuate leading to variation when comparing to prior periods. Portfolio purchases in the U.S. are returning to pre-pandemic levels as supply increases. Capital deployment decreased for the year ended December 31, 2021, as compared to 2020, primarily due to a decrease in supply and maintaining our pricing discipline.

In Europe, capital deployment decreased during the year ended December 31, 2022, as compared to 2021. The decrease was primarily due to the unfavorable impact from foreign currency translation driven by the strengthening of the U.S. dollar against the British Pound. Portfolio purchases in Europe remain below pre-pandemic average levels. In the UK, bank delinquencies remain at relatively low levels, and the level of outstanding unsecured consumer borrowings, while increasing, is still below pre-pandemic levels. European capital deployment increased for the year ended December 31, 2021, as compared to 2020. The increase was primarily the result of significantly lower capital deployment during 2020 driven by limited supply of portfolios and a continuation of our disciplined purchasing process.

During the years ended December 31, 2022, 2021, and 2020, we also invested $39.3 million, $17.1 million, and $1.5 million in REO assets, respectively.

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Collections from Purchased Receivables by Channel and Geographic Location

We utilize three channels for the collection of our purchased receivables: call center and digital collections; legal collections; and collection agencies. The call center and digital collections channel consists of collections that result from our call centers, direct mail program and online collections. The legal collections channel consists of collections that result from our internal legal channel or from our network of retained law firms. The collection agencies channel consists of collections from third-party collections agencies to whom we pay a fee or commission. We utilize this channel to supplement capacity in our internal call centers, to service accounts in regions where we do not have collections operations or for accounts purchased where we maintain the collection agency servicing relationship. The following table summarizes the total collections by collection channel and geographic area during the periods presented (in thousands):

Gross collections from purchased receivables decreased by $395.8 million, or 17.2%, to $1,911.5 million during the year ended December 31, 2022, from $2,307.4 million during the year ended December 31, 2021. The decrease of collections in the United States was primarily a result of an unusually high level of collections in 2021 resulting from changes in consumer behavior during the COVID-19 pandemic. The decrease was also a result of lower purchasing volumes in recent periods due to the COVID-19 pandemic. The changes in consumer behavior that resulted from the impacts of the COVID-19 pandemic, while more prevalent a year ago, continued through the first half of 2022. We believe the pandemic-related drivers of this changed behavior have normalized. The decrease in collections from purchased receivables in Europe was primarily due to the unfavorable impact from foreign currency translation, primarily by the strengthening of the U.S. dollar against the British Pound. In addition, continuing labor market tightness in the UK affected agent staffing levels and, consequently, mildly impacted collections for the year.

Gross collections from purchased receivables increased $195.5 million, or 9.3%, to $2,307.4 million during the year ended December 31, 2021, from $2,111.8 million during the year ended December 31, 2020. The increase of collections in the United States was primarily driven by changes in consumer behavior during the COVID-19 pandemic, an increase in legal channel collections and our continued effort in improving liquidation. We were frequently being called upon by our consumers to assist them with their financial recovery through inbound calls and online digital interaction. The large volume of consumer contact resulted in a significant increase in collections and improved our operating efficiency. The increase in collections from purchased receivables in Europe was primarily due to reduced collections in the prior year resulting from the impacts of the COVID-19 pandemic and the favorable impact from foreign currency translation, primarily by the weakening of the U.S. dollar against the British Pound.

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Results of Operations

Results of operations, in dollars and as a percentage of total revenues, adjusted by net allowances, were as follows for the periods presented (in thousands, except percentages):

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Comparison of Results of Operations

Our Annual Report on Form 10-K for the year ended December 31, 2021 includes discussion and analysis of our financial condition and results of operations for the year ended December 31, 2021 as compared to the year ended December 31, 2020 in Item 7 of Part II, “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”

Year Ended December 31, 2022 Compared to Year Ended December 31, 2021

Revenues

Our revenues primarily include debt purchasing revenue, which is revenue recognized from engaging in debt purchasing and recovery activities. We apply our charge-off policy and fully write-off the amortized costs (i.e., face value net of noncredit discount) of the individual receivables we acquire immediately after purchasing the portfolio. We then record a negative allowance that represents the present value of all expected future recoveries for pools of receivables that share similar risk characteristics using a discounted cash flow approach, which is presented as “Investment in receivable portfolios, net” in our consolidated statements of financial condition. The discount rate is an effective interest rate (or “purchase EIR”) established based on the purchase price of the portfolio and the expected future cash flows at the time of purchase.

Debt purchasing revenue includes two components:

(1)     Revenue from receivable portfolios, which is the accretion of the discount on the negative allowance due to the passage of time (generally the portfolio balance multiplied by the EIR), and

(2)     Changes in recoveries, which includes:

(a)     Recoveries above (below) forecast, which is the difference between (i) actual cash collected/recovered during the current period and (ii) expected cash recoveries for the current period, which generally represents over or under performance for the period; and

(b)     Changes in expected future recoveries, which is the present value change of expected future recoveries, where such change generally results from (i) collections “pulled forward from” or “pushed out to” future periods (i.e. amounts either collected early or expected to be collected later) and (ii) magnitude and timing changes to estimates of expected future collections (which can be increases or decreases).

Certain pools already fully recovered their cost basis and became zero basis portfolios (“ZBA”) prior to our adoption of the accounting standard for Financial Instruments - Credit Losses (“CECL”) in January 2020. We did not establish a negative allowance for these pools as we elected the Transition Resource Group for Credit Losses’ practical expedient to retain the integrity of these legacy pools. Similar to how we treated ZBA collections prior to the adoption of CECL, all subsequent collections to the ZBA pools are recognized as ZBA revenue, which is included in revenue from receivable portfolios in our consolidated statements of income.

Servicing revenue consists primarily of fee-based income earned on accounts collected on behalf of others, primarily credit originators. We earn fee-based income by providing debt servicing (such as early stage collections, BPO, contingent collections, trace services and litigation activities) to credit originators for non-performing loans in Europe.

Other revenues primarily include revenues recognized from the sale of real estate assets that are acquired as a result of our investments in non-performing secured residential mortgage portfolios and real estate assets in Europe and LAAP.

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The following table summarizes revenues for the periods presented (in thousands, except percentages):

Our operating results are impacted by foreign currency translation, which represents the effect of translating operating results where the functional currency is different than our U.S. dollar reporting currency. The strengthening of the U.S. dollar relative to other foreign currencies has an unfavorable impact on our international revenues, and the weakening of the U.S. dollar relative to other foreign currencies has a favorable impact on our international revenues. Our revenues were unfavorably impacted by approximately $42.3 million due to foreign currency translation, primarily as a result of the strengthening of the U.S. dollar, against the British Pound by approximately 11.6%, during the year ended December 31, 2022 as compared to the year ended December 31, 2021.

The decrease in revenue recognized from portfolio basis during the year ended December 31, 2022 as compared to the year ended December 31, 2021, other than resulting from the unfavorable impact from foreign currency translation discussed above, was primarily due to lower portfolio basis (i.e., a lower investment in receivable balance) driven by a lower volume of purchases in recent periods.

As discussed above, ZBA revenue represents collections from our legacy ZBA pools. We expect our ZBA revenue to continue to decline as we collect on these legacy pools. We do not expect to have new ZBA pools in the future.

Recoveries above or below forecast represent over and under-performance in the reporting period, respectively. Collections were above projected cash recoveries in the first half of 2022 but the over-performance was partially offset by the under-performance in the second half of 2022. In previous periods we had experienced an unusually high level of collections resulting from changes in consumer behavior in the United States during the COVID-19 pandemic in addition to improvements in collections capabilities, and therefore increased expected future cash recoveries for certain pool groups. The pandemic-related drivers of this changed behavior have normalized in recent quarters, and for the second half of 2022, collections under-performed the revised projected cash recoveries and therefore reduced the collections over-performance for the year ended December 31, 2022 to approximately $29.3 million.

When reassessing the forecasts of expected lifetime recoveries during the year ended December 31, 2022, management considered, among other factors, historical and current collection performance, changes in consumer behaviors, and macroeconomic environment. We update our expected future recovery each quarter, the re-evaluations resulted in a net positive change in expected future recoveries in the first half of 2022, however, due to collection under-performance we started to experience in the second half of the year, during the three months ended December 31, 2022, we reduced our future estimated collections by approximately 1.5%, which in turn, when discounted to present value, resulted in a negative change in expected future period recoveries of approximately $64.0 million for the quarter. This negative change in expected recoveries recognized in the fourth quarter reduced the positive change in expected recoveries previous recorded and resulted in a total net positive change of expected future recoveries of approximately $63.9 million during the year ended December 31, 2022.

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Recoveries above forecast were approximately $326.0 million during the year ended December 31, 2021, primarily due to changes in consumer behavior during the COVID-19 pandemic. Despite the collections over-performance, we recorded approximately $126.9 million in net negative change in expected future period recoveries during the year ended December 31, 2021, primarily based on our assumption that the majority of the over-performance was due to acceleration in the timing of collections rather than an increase to total expected future recoveries.

The following tables summarize collections from purchased receivables, revenue from receivable portfolios, end of period receivable balance and other related supplemental data, by year of purchase (in thousands, except percentages):

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(1)Portfolio balance includes non-accrual pool groups. The EIR presented is only for pool groups that accrete portfolio revenue.

(2)All portfolios are on non-accrual basis. Annual pool groups for other geographies have been aggregated for disclosure purposes.

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(1)Portfolio balance includes non-accrual pool groups. The EIR presented is only for pool groups that accrete portfolio revenue.

(2)All portfolios are on non-accrual basis subsequent to the sale of our investments in Colombia and Peru in August 2021. Annual pool groups for other geographies have been aggregated for disclosure purposes.

The decrease in servicing revenues during the year ended December 31, 2022, as compared to the year ended December 31, 2021, was primarily attributable to reduced service demand from BPO clients and the unfavorable impact of foreign currency translation, which was primarily the result of the strengthening of the U.S. dollar against the British Pound.

Other revenues increased during the year ended December 31, 2022, as compared to the year ended December 31, 2021, primarily driven by the increased sale of real estate assets. The increase was partially offset by the unfavorable impact of foreign currency translation, which was primarily the result of the strengthening of the U.S. dollar against the British Pound and the Euro.

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Operating Expenses

The following table summarizes operating expenses during the periods presented (in thousands, except percentages):

Our operating results are impacted by foreign currency translation, which represents the effect of translating operating results where the functional currency is different than our U.S. dollar reporting currency. The strengthening of the U.S. dollar relative to other foreign currencies has a favorable impact on our international operating expenses, and the weakening of the U.S. dollar relative to other foreign currencies has an unfavorable impact on our international operating expenses. Our operating expenses were favorably impacted by approximately $38.1 million due to foreign currency translation, primarily as a result of the strengthening of the U.S. dollar against the British Pound by approximately 11.6% for the year ended December 31, 2022, as compared to the year ended December 31, 2021.

Operating expenses are explained in more detail as follows:

Salaries and Employee Benefits

The decrease in salaries and employee benefits during the year ended December 31, 2022, compared to the year ended December 31, 2021, was primarily due to the following reasons:

•Decrease of average headcount;

•Favorable impact of foreign currency translation of $18.5 million, primarily by the strengthening of the U.S. dollar against the British Pound;

•Decrease in stock-based compensation expense of $2.9 million primarily attributed to expense reversals due to forfeiture of certain stock awards; and

•The decrease was partially offset by increased salaries due to market adjustments.

Cost of Legal Collections

Cost of legal collections primarily includes contingent fees paid to our external network of attorneys and the cost of litigation. We pursue legal collections using a network of attorneys that specialize in collection matters and through our internal legal channel. Under the agreements with our contracted attorneys, we advance certain out-of-pocket court costs. Cost of legal collections does not include internal legal channel employee costs, which are included in salaries and employee benefits in our consolidated statements of income.

The following table summarizes our cost of legal collections during the periods presented (in thousands, except percentages):

The decrease in cost of legal collections during the year ended December 31, 2022, compared to the year ended December 31, 2021, was primarily due to the following reasons:

•Decreased court costs due to fewer placements in the legal collection channel;

•Decreased legal collection fees driven by decreased legal channel collections; and

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•Favorable impact of foreign currency translation of approximately $3.9 million primarily driven by the strengthening of the U.S. dollar against the British Pound.

General and Administrative Expenses

The increase in general and administrative expenses during the year ended December 31, 2022, compared to the year ended December 31, 2021, was primarily due to the following reasons:

•Approximately $14.0 million of increased general and administrative expense including costs associated with our return to the office initiatives, business travel, consulting fees, and facilities expense; and

•The increase was partially offset by the favorable impact of foreign currency translation of approximately $5.9 million, primarily by the strengthening of the U.S. dollar against the British Pound.

Other Operating Expenses

The increase in other operating expenses during the year ended December 31, 2022, compared to the year ended December 31, 2021, was primarily due to increased various other operating expenses to support our collection activities. The increase was partially offset by the favorable impact of foreign currency translation of approximately $3.2 million, primarily by the strengthening of the U.S. dollar against the British Pound.

Collection Agency Commissions

Collection agency commissions are commissions paid to third-party collection agencies. Collections through the collections agencies channel are predominately in Europe and vary from period to period depending on, among other things, the number of accounts placed with an agency versus accounts collected internally. Commission rates vary depending on, among other things, the amount of time that has passed since the charge-off of the accounts placed with an agency, the asset class, and the geographic location of the receivables. Generally, freshly charged-off accounts have a lower commission rate than accounts that have been charged off for a longer period of time, and commission rates for purchased bankruptcy portfolios are lower than the commission rates for charged-off credit card accounts. Collection agency commissions decreased due to the decreased placement in this channel during the year ended December 31, 2022, compared to the year ended December 31, 2021.

Depreciation and Amortization

Depreciation and amortization expense remained relatively consistent during the year ended December 31, 2022, compared to the year ended December 31, 2021.

Interest Expense

The following table summarizes our interest expense (in thousands, except percentages):

The decrease in interest expense during the year ended December 31, 2022, compared to the year ended December 31, 2021, was primarily due to the following reasons:

•Decreased interest expense of approximately $11.9 million driven by lower average debt balances of approximately $157.2 million;

•The favorable impact of foreign currency translation of approximately $11.2 million, primarily by the strengthening of the U.S. dollar against the British Pound and the Euro; and

•The decrease was partially offset by the effect from rising interest rates in recent periods of approximately $12.5 million.

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Other Income (Expense)

Other income or expense consists primarily of foreign currency exchange gains or losses, interest income and gains or losses recognized on certain transactions outside of our normal course of business. Other income was $2.1 million and other expense was $17.8 million during the years ended December 31, 2022, and 2021, respectively. Other expense recognized during the year ended December 31, 2021 primarily included the loss on the sale of our investment in Colombia and Peru of $17.4 million.

Provision for Income Taxes

During the years ended December 31, 2022, and 2021, we recorded income tax provisions of $116.4 million and $85.3 million, respectively.

The effective tax rates for the respective periods are shown below:

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(1)Relates primarily to lower tax rates on income or loss attributable to international operations.

(2)Includes impact of U.K. tax rate increases.

(3)Includes valuation allowances recorded on U.K. deferred tax assets

(4)This represents a deductible loss recognized in a foreign subsidiary that maintains a full valuation allowance on its deferred tax assets. Accordingly, this deductible loss increased the valuation allowance and did not result in any tax benefit during the year ended December 31, 2022.

The effective tax rate for the year ended December 31, 2022 increased to 37.4% as compared to 19.5% for the year ended December 31, 2021. The increase in tax rate was primarily related to recording a full valuation allowance on U.K. deferred tax assets during the three months ended December 31, 2022. The U.K. deferred tax assets include revenue recognition differences between statutory reporting and US GAAP reporting. In evaluating all positive and negative evidence available to determine whether all or some portion of the deferred tax assets will be realized, significant judgement is required and the weight of all available evidence must be considered. A significant piece of objective negative evidence evaluated was the U.K. loss before income taxes for the three-year period ended December 31, 2022. Objective evidence limits the ability to consider subjective evidence, such as projections for future earnings growth. We will continue to evaluate the realizability of deferred tax assets each quarter based on all available positive and negative evidence, including current and cumulative earnings, forecasts of future profitability, statutory carryback and carryforward periods and tax planning strategies. In a period when positive evidence supports a conclusion that a valuation allowance is no longer needed, a tax benefit will be recorded.

Our effective tax rate could fluctuate significantly on a quarterly basis and could be adversely affected to the extent earnings are lower than anticipated in countries that have lower statutory tax rates and higher than anticipated in countries that have higher statutory tax rates.

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Non-GAAP Disclosure

In addition to the financial information prepared in conformity with Generally Accepted Accounting Principles (“GAAP”), we provide historical non-GAAP financial information. Management believes that the presentation of such non-GAAP financial information is meaningful and useful in understanding the activities and business metrics of our operations. Management believes that these non-GAAP financial measures reflect an additional way of viewing aspects of our business that, when viewed with our GAAP results, provide a more complete understanding of factors and trends affecting our business.

Management believes that the presentation of these measures provides investors with greater transparency and facilitates comparison of operating results across a broad spectrum of companies with varying capital structures, compensation strategies, derivative instruments, and amortization methods, which provide a more complete understanding of our financial performance, competitive position, and prospects for the future. Readers should consider the information in addition to, but not instead of, our financial statements prepared in accordance with GAAP. This non-GAAP financial information may be determined or calculated differently by other companies, limiting the usefulness of these measures for comparative purposes.

Adjusted EBITDA. Management utilizes adjusted EBITDA (defined as net income before interest income and expense, taxes, depreciation and amortization, stock-based compensation expenses, acquisition, integration and restructuring related expenses, and other charges or gains that are not indicative of ongoing operations), in the evaluation of our operating performance. Adjusted EBITDA for the periods presented is as follows (in thousands):

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(1)Amount represents a charge resulting from the Stipulated Judgment with the CFPB. We have adjusted for this amount because we believe it is not indicative of ongoing operations; therefore, adjusting for it enhances comparability to prior periods, anticipated future periods, and our competitors’ results.

(2)Amount represents acquisition, integration and restructuring related expenses. We adjust for this amount because we believe these expenses are not indicative of ongoing operations; therefore, adjusting for these expenses enhances comparability to prior periods, anticipated future periods, and our competitors’ results.

(3)Collections applied to principal balance is calculated in the table below:

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Supplemental Performance Data

The tables included in this supplemental performance data section include detail for purchases, collections and ERC by year of purchase.

Our collection expectations are based on account characteristics and economic variables. Additional adjustments are made to account for qualitative factors that may affect the payment behavior of our consumers and servicing related adjustments to ensure our collection expectations are aligned with our operations. We continue to refine our process of forecasting collections both domestically and internationally with a focus on operational enhancements. Our collection expectations vary between types of portfolio and geographic location. For example, in the UK, due to the higher concentration of payment plans, as compared to the U.S. and other locations in Europe, we expect to receive streams of collections over longer periods of time. As a result, past performance of pools in certain geographic locations or of certain types of portfolio are not necessarily a suitable indicator of future results in other locations or for other types of portfolio.

The supplemental performance data presented in this section is impacted by foreign currency translation, which represents the effect of translating financial results where the functional currency of our foreign subsidiary is different than our U.S. dollar reporting currency. For example, the strengthening of the U.S. dollar relative to other foreign currencies has an unfavorable reporting impact on our international purchases, collections, and ERC, and the weakening of the U.S. dollar relative to other foreign currencies has a favorable impact on our international purchases, collections, and ERC.

We utilize proprietary forecasting models to continuously evaluate the economic life of each pool.

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Cumulative Collections Money Multiple - Cumulative Collections from Purchased Receivables to Purchase Price Multiple

The following table summarizes our receivable purchases, related gross collections, and cumulative collections money multiples (in thousands, except multiples):

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(1)Adjusted for Put-Backs and Recalls. Put-Backs (“Put-Backs”) and recalls (“Recalls”) represent ineligible accounts that are returned by us or recalled by the seller pursuant to specific guidelines as set forth in the respective purchase agreement.

(2)Cumulative collections from inception through December 31, 2022, excluding collections on behalf of others.

(3)Cumulative Collections Money Multiple (“CCMM”) through December 31, 2022 refers to cumulative collections as a multiple of purchase price.

(4)Annual pool groups for other geographies have been aggregated for disclosure purposes.

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Purchase Price Multiple - Total Estimated Collections from Purchased Receivables to Purchase Price Multiple

The following table summarizes our purchases, resulting historical gross collections, estimated remaining gross collections from purchased receivables, and purchase price multiple (in thousands, except multiples):

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(1)Purchase price refers to the cash paid to a seller to acquire a portfolio less Put-backs, Recalls, and other adjustments. Put-Backs and Recalls represent ineligible accounts that are returned by us or recalled by the seller pursuant to specific guidelines as set forth in the respective purchase agreement.

(2)Cumulative collections from inception through December 31, 2022, excluding collections on behalf of others.

(3)Purchase Price Multiple represents total estimated gross collections divided by the purchase price.

(4)Includes portfolios acquired in connection with certain business combinations.

(5)Annual pool groups for other geographies have been aggregated for disclosure purposes.

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Estimated Remaining Gross Collections by Year of Purchase

The following table summarizes our estimated remaining gross collections from purchased receivable portfolios and estimated future cash flows from real estate-owned assets (in thousands):

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(1)As of December 31, 2022, ERC for Zero Basis Portfolios includes approximately $67.2 million for purchased consumer and bankruptcy receivables in the United States. ERC for Zero Basis Portfolios in Europe and other geographies was immaterial. ERC also include approximately $50.0 million from non-accrual portfolios, primarily in other geographies.

(2)Represents the expected remaining gross cash collections over a 180-month period. As of December 31, 2022, ERC for 84-month and 120-month periods were:

(3) Includes portfolios acquired in connection with certain business combinations.

(4) Annual pool groups for other geographies have been aggregated for disclosure purposes.

(5) Real estate-owned assets ERC includes approximately $116.7 million and $1.4 million of estimated future cash flows for Europe and Other Geographies, respectively.

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Estimated Future Collections Applied to Investment in Receivable Portfolios

As of December 31, 2022, we had $3.1 billion in investment in receivable portfolios. The estimated future collections applied to the investment in receivable portfolios net balance is as follows (in thousands):

Headcount by Function by Geographic Location

The following table summarizes our headcount by function and by geographic location:

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(1)Headcount for other geographies includes employees in India and Costa Rica that service accounts originated in the United States.

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Liquidity and Capital Resources

Liquidity

The following table summarizes our cash flow activities for the periods presented (in thousands):

Operating Cash Flows

Cash flows from operating activities represent the cash receipts and disbursements related to all of our activities other than investing and financing activities.

Net cash provided by operating activities was $210.7 million, $303.1 million, and $312.9 million during the years ended December 31, 2022, 2021, and 2020, respectively. Operating cash flows are derived by adjusting net income for non-cash operating items such as depreciation and amortization, changes in recoveries, stock-based compensation charges, and changes in operating assets and liabilities which reflect timing differences between the receipt and payment of cash associated with transactions and when they are recognized in results of operations. The changes in net cash provided by operating activities during the years ended December 31, 2022, 2021, and 2020, were primarily affected by net income, and changes in expected recoveries during the respective periods.

Investing Cash Flows

Net cash used in investing activities was $130.2 million during the year ended December 31, 2022. Net cash provided by investing activities was $339.9 million and $82.8 million during the years ended December 31, 2021 and 2020, respectively. Cash provided by or used in investing activities is primarily affected by receivable portfolio purchases offset by collection proceeds applied to the principal of our receivable portfolios. Receivable portfolio purchases were $790.6 million, $657.3 million, and $644.0 million during the years ended December 31, 2022, 2021, and 2020, respectively. Collection proceeds applied to the principal of our receivable portfolios were $709.2 million, $1,019.6 million, and $737.1 million during the years ended December 31, 2022, 2021, and 2020, respectively.

Financing Cash Flows

Net cash used in financing activities was $107.4 million, $655.7 million, and $403.2 million during the years ended December 31, 2022, 2021, and 2020, respectively. Financing cash flows are generally affected by borrowings under our credit facilities and proceeds from various debt offerings, offset by repayments of amounts outstanding under our credit facilities and repayments of various notes. Borrowings under our credit facilities were $779.5 million, $821.9 million and $1,820.6 million during the years ended December 31, 2022, 2021, and 2020, respectively. Repayments of amounts outstanding under our credit facilities were $515.7 million, $896.4 million and $2,290.8 million during the years ended December 31, 2022, 2021, and 2020, respectively. Proceeds from the issuance of senior secured notes were $353.7 million and $1,313.4 million during the years ended December 31 2021 and 2020, respectively. Repayments of senior secured notes were $39.1 million, $359.2 million and $1,033.8 million during the years ended December 31, 2022, 2021, and 2020, respectively. We repaid $221.2 million, $161.0 million, and $89.4 million of convertible senior notes using cash on hand during the years ended December 31, 2022, 2021, and 2020, respectively.

Capital Resources

Our primary sources of capital are cash collections from our investment in receivable portfolios, bank borrowings, debt offerings, and equity offerings. Depending on the capital markets, we consider additional financings to fund our operations and any potential acquisitions. From time to time, we may repurchase outstanding debt or equity and/or restructure or refinance debt obligations. Our primary cash requirements include funding the purchase of receivable portfolios, operating expenses, the payment of interest and principal on borrowings, the payment of income taxes, funding any entity acquisitions and share repurchases.

We are in material compliance with all covenants under our financing arrangements. See “Note 6: Borrowings” in the notes to our consolidated financial statements for a further discussion of our debt. Available capacity under our Global Senior Facility was $478.3 million as of December 31, 2022.

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Our Board of Directors has approved a $300.0 million share repurchase program. Repurchases under this program are expected to be made from cash on hand and/or a drawing from our Global Senior Facility and may be made from time to time, subject to market conditions and other factors, in the open market, through private transactions, block transactions, or other methods as determined by our management and Board of Directors, and in accordance with market conditions, other corporate considerations, and applicable regulatory requirements. The program does not obligate us to acquire any particular amount of common stock, and it may be modified or suspended at our discretion. During the year ended December 31, 2022, we repurchased 1,497,184 shares of our common stock for approximately $86.9 million under the share repurchase program. As of December 31, 2022, we had remaining authority to purchase $91.9 million of our common stock. Our practice is to retire the shares repurchased.

Our cash and cash equivalents as of December 31, 2022, consisted of $16.7 million held by U.S.-based entities and $127.2 million held by foreign entities. Most of our cash and cash equivalents held by foreign entities is indefinitely reinvested and may be subject to material tax effects if repatriated. However, we believe that our sources of cash and liquidity are sufficient to meet our business needs in the United States and do not expect that we will need to repatriate the funds.

Included in cash and cash equivalents is cash that was collected on behalf of, and remains payable to, third-party clients. The balance of cash held for clients was $17.8 million and $29.3 million as of December 31, 2022 and 2021, respectively.

Cash from operations could also be affected by various risks and uncertainties, including, but not limited to, timing of cash collections from our consumers, and other risks detailed in our Risk Factors. However, we believe that we have sufficient liquidity to fund our operations for at least the next twelve months, given our expectation of continued positive cash flows from operations, our cash and cash equivalents, our access to capital markets, and availability under our credit facilities. Our future cash needs will depend on our acquisitions of portfolios and businesses.

Future Contractual Cash Obligations

The following table summarizes our future contractual cash obligations as of December 31, 2022 (in thousands):

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(1)Estimated interest payments are calculated based on outstanding principal amounts, applicable fixed interest rates or currently effective interest rates as of December 31, 2022 for variable rate debt, timing of scheduled payments and the term of the debt obligations.

(2)We had approximately $4.9 million of liabilities and accrued interests related to uncertain tax positions as of December 31, 2022. We are unable to reasonably estimate the timing of the cash settlement with the tax authorities due to uncertainties related to these tax matters and, as a result, these obligations are not included in the table. See “Note 11: Income Taxes” to our consolidated financial statements for additional information on our uncertain tax positions.

Critical Accounting Estimates

We prepare our financial statements, in conformity with GAAP, which requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. “Note 1: Ownership, Description of Business, and Summary of Significant Accounting Policies” of the notes to the consolidated financial statements describes the significant accounting policies and methods used in the preparation of our consolidated financial statements.

We base our estimates on past experience and other assumptions that we believe are reasonable under the circumstances, and we evaluate these estimates on an ongoing basis. Actual results may differ from these estimates and such differences may be material. We refer to accounting estimates of this type as critical accounting policies and estimates, which we discuss further below. We have reviewed our critical accounting policies and estimates with the audit committee of our board of directors.

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Investment in Receivable Portfolios and Related Revenue. Effective January 1, 2020, our investment in receivable portfolios is accounted for under CECL.

Receivable portfolio purchases are aggregated into pools based on similar risk characteristics. Examples of risk characteristics include financial asset type, collateral type, size, interest rate, date of origination, term, and geographic location. Our static pools are typically grouped into credit card, purchased consumer bankruptcy, and mortgage portfolios. We further group these static pools by geographic location. Once a pool is established, the portfolios will remain in the designated pool unless the underlying risk characteristics change. The purchase EIR of a pool will not change over the life of the pool even if expected future cash flows change.

Revenue is recognized for each static pool over the economic life of the pool. We make significant assumptions in determining the economic life of a pool, including the reasonable and supportable economic forecast period based on asset type and geography, which considers the availability of forward-looking scenarios and their respective time horizons. In general, we forecast recoveries over one or two years prior to reverting to historical averages at an estimate-level over the remaining life using various methodologies depending on the asset type and geography. The speed at which forecasts revert varies based on the spread between the forecast period and historical data. In addition, estimated recoveries include a qualitative component, which generally reflects management’s assessment of macroeconomic environment and business initiatives. We continue to evaluate the reasonable economic life of a pool and reversion method on an ongoing basis. Revenue primarily includes two components: (1) accretion of the discount on the negative allowance due to the passage of time, and (2) changes in expected cash flows, which includes (a) Recoveries above or below forecast, which is the difference between (i) actual cash collected/recovered during the current period and (ii) expected cash recoveries for the current period, which generally represents over or under performance for the period; and (b) Changes in expected future recoveries, which is the present value change of expected future recoveries, where such change generally results from (i) collections “pulled forward from” or “pushed out to” future periods (i.e. amounts either collected early or expected to be collected later) and (ii) magnitude and timing changes to estimates of expected future collections (which can be increases or decreases).

We measure expected future recoveries based on historical experience, current conditions, and reasonable and supportable forecasts. Factors that may change the expected future recoveries may include both internal as well as external factors. Internal factors include operational performance, such as capacity and the productivity of our collection staff. External factors that may have an impact on our collections include macroeconomic conditions, new laws or regulations, and new interpretations of existing laws or regulations. See “Note 4: Investment in Receivable Portfolios, Net” to our consolidated financial statements for further discussion of investment in receivable portfolios.

Valuation of Goodwill and Other Intangible Assets. Business combinations typically result in the recording of goodwill and other intangible assets. The excess of the purchase price over the fair value assigned to the tangible and identifiable intangible assets, liabilities assumed, and noncontrolling interest in the acquiree is recorded as goodwill.

Goodwill is tested annually for impairment and in interim periods if events or changes in circumstances indicate that the assets may be impaired. We perform our annual goodwill impairment assessment at the reporting unit level as of October 1, and any impairment charges resulting from this process are reported in the fourth quarter.

We first assess qualitative factors to determine whether it is necessary to perform a quantitative goodwill impairment test. The qualitative factors include economic environment, business climate, market capitalization, operating performance, competition, and other factors. If, after completing such assessment, we determine it is more likely than not that the fair value of a reporting unit is greater than its carrying amount, then there is no need to perform any further testing. If we conclude otherwise, or if we proceed directly to perform a quantitative assessment, then we calculate the fair value of the reporting unit and compare the fair value with the carrying value of the reporting unit.

As described further in “Note 15: Goodwill and Identifiable Intangible Assets” to our consolidated financial statements, we performed quantitative goodwill impairment tests for both the MCM and the Cabot reporting units as of October 1, 2022 and concluded that no goodwill impairment existed at these two reporting units.

Fair value determinations require considerable judgment and are sensitive to changes in underlying assumptions, estimates, and market factors. While we believe we have made reasonable estimates and assumptions to estimate the fair value of our reporting units, if: actual results are not consistent with our current estimates and assumptions; management significantly changes its estimates and assumptions; there is a deterioration in market factors outside of our control, such as general economic conditions in the countries in which we operate, discount rates, income tax rates, foreign currency exchange rates, or inflation; or there is a sustained decline in our stock price and market capitalization, goodwill impairment charges may be recorded in future periods. The goodwill impairment charges have no effect on liquidity or capital resources. However, they are a non-cash charge and could adversely affect our financial results in the period recognized.

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The determination of the recorded value of intangible assets acquired in a business combination requires management to make estimates and assumptions that affect our consolidated financial statements. Valuation techniques consistent with the market approach, income approach and/or cost approach are used to measure fair value. An estimate of fair value can be affected by many assumptions that require significant judgment. We amortize identifiable intangible assets with finite lives over their useful lives. Changes in strategy and/or market condition may result in adjustments to recorded intangible asset balances or their useful lives.

Income Taxes. We are subject to income taxes in multiple tax jurisdictions worldwide. We record income taxes under the asset and liability method, whereby deferred tax assets and liabilities are recognized based on the future tax consequences attributable to temporary differences between the carrying amounts of existing assets and liabilities and their respective tax bases, and attributable to operating loss and tax credit carryforwards.

Accounting standards regarding income taxes require a reduction of the carrying amounts of deferred tax assets by a valuation allowance, if based on the available evidence, it is more likely than not such assets will not be realized. Accordingly, the need to establish valuation allowances for deferred tax assets is assessed at each reporting period based on a more likely than not criteria. This assessment considers, among other matters, the nature, frequency and severity of current and cumulative losses, forecasts of future profitability, the duration of statutory carryforward periods, tax credit carryforwards and tax planning strategies.

We recorded a valuation allowance on the net deferred tax assets of certain foreign jurisdictions of $66.6 million and $35.9 million as of December 31, 2022 and 2021, respectively. Management will reassess the realization of deferred tax assets each reporting period and consider all available evidence including the scheduled reversal of deferred tax liabilities, sources of taxable income and tax planning strategies. To the extent the financial results of these operations improve and it becomes more likely than not the deferred tax assets are realizable, we will reduce the valuation allowance in the period such determination is made, as appropriate.

Recent Accounting Pronouncements

Information regarding recent accounting pronouncements and the impact of those pronouncements, if any, on our consolidated financial statements is provided in this Annual Report in “Note 1: Ownership, Description of Business, and Summary of Significant Accounting Policies” to our consolidated financial statements.

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