<PAGE> 1
U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934 For the Quarterly Period Ended November 30, 2000
or
[ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934 For the Transition Period From to .
---------- -----------
Commission file number 001-16083
THE CREDIT STORE, INC.
-------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 87-0296990
-------- ----------
(State or other jurisdiction of (I.R.S. employer
incorporation or organization) identification no.)
3401 North Louise Avenue
Sioux Falls, South Dakota 57107
------------------------- -----
(Address of principal executive offices) (Zip code)
(800) 240-1855
----------------------
Registrant's telephone number
Not Applicable
------------------------------------------------------------------------------
(Former name, former address and former fiscal year, if changed since last
report)
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act
during the preceding 12 months (or for such shorter period that the registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [ ]
State the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practical date: Common Stock, $.001 par value --
34,851,465 issued and outstanding as of December 31, 2000.
<PAGE> 2
THE CREDIT STORE, INC.
FORM 10-Q
For the Quarter Ended November 30, 2000
INDEX
<TABLE>
<CAPTION>
PAGE
--------
<S> <C> <C>
PART I. FINANCIAL INFORMATION
Item 1. Condensed Consolidated Financial Statements (Unaudited):
Condensed Consolidated Balance Sheets as of November 30, 2000
and May 31, 2000 3
Condensed Consolidated Statements of Operations
for the three months ended November 30, 2000 and 1999 4
Condensed Consolidated Statements of Operations
for the six months ended November 30, 2000 and 1999 5
Condensed Consolidated Statements of Cash Flows
for the six months ended November 30, 2000 and 1999 6
Notes to Condensed Consolidated Financial Statements 7
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 10
Item 3. Quantitative and Qualitative Disclosures About Market Risk 13
PART II. OTHER INFORMATION 14
Item 1. Legal Proceedings 14
Item 2. Changes in Securities 14
Item 3. Defaults under Senior Securities 14
Item 4. Submission of Matters to Vote of Security Holders 14
Item 5. Other Information 15
Item 6. Exhibits and Reports on Form 8-K 15
SIGNATURES 17
</TABLE>
2
<PAGE> 3
PART I. FINANCIAL INFORMATION
ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
THE CREDIT STORE, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
NOVEMBER 30, MAY 31,
ASSETS 2000 2000
-------------- -------------
(UNAUDITED)
<S> <C> <C>
Cash and cash equivalents $ 2,412,584 $ 1,423,248
Restricted cash 1,258,285 1,025,631
Accounts and notes receivable, net 2,824,306 2,765,882
Prepaid expenses 1,067,400 1,341,516
Amounts due from special purpose entities 567,843 9,332,890
Investments in receivable portfolios, net 38,735,026 33,892,290
Investment in unconsolidated affiliates 1,205,143 1,279,888
Retained interest in securitized receivables 3,339,727 2,142,846
Property and equipment, net of accumulated depreciation 5,109,907 4,790,060
Goodwill, net 2,244,411 2,347,999
Deferred tax asset 2,700,000 2,700,000
Other assets 2,090,299 1,345,942
------------ ------------
Total assets $ 63,554,931 $ 64,388,192
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES
Accounts payable and accrued expenses $ 6,670,105 $ 4,499,142
Notes payable 22,789,616 23,609,326
Capitalized lease obligations 3,583,280 2,766,228
Subordinated notes and accrued interest payable -
related party 19,486,903 19,139,028
------------ ------------
Total liabilities 52,529,904 50,013,724
------------ ------------
STOCKHOLDERS' EQUITY
Preferred Stock, Series A, B, C, D and E 27,000,000 27,000,000
Common Stock, $.001 par value, 65,000,000 authorized, 34,847,965 and
34,761,965 outstanding at November 30, 2000 and May 31, 2000 34,848 34,762
Additional paid-in capital 23,964,374 23,743,260
Unrealized gain from retained interest in securitized
receivables, net of tax 1,541,791 638,227
Accumulated deficit (41,515,986) (37,041,781)
------------ ------------
Total stockholders' equity 11,025,027 14,374,468
------------ ------------
Total liabilities and stockholders' equity $ 63,554,931 $ 64,388,192
============ ============
</TABLE>
The accompanying notes are an integral part of these statements.
3
<PAGE> 4
THE CREDIT STORE, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
------------------------------
NOVEMBER 30, NOVEMBER 30,
2000 1999
----------------- ------------
<S> <C> <C>
Revenue
Income from receivables $10,241,597 $ 7,557,406
Gain on sales of portfolios and retained interests 362,630 6,345,247
Servicing fees and other income 1,070,738 718,064
Provision for losses (2,724,324) (1,702,991)
----------- ------------
Net revenue 8,950,641 12,917,726
----------- ------------
Expenses
Salaries and employee benefits 3,358,312 3,348,192
Professional and financing fees 1,364,191 842,610
Credit card servicing 2,247,662 1,450,327
Occupancy and equipment expense 783,350 862,860
Other 1,351,510 860,756
----------- ------------
Total expenses 9,105,025 7,364,745
----------- ------------
Operating income (loss) (154,384) 5,552,981
Interest expense 1,424,721 1,131,552
----------- ------------
Income (loss) before income taxes (1,579,105) 4,421,429
Income tax expense - (1,286,409)
----------- -------------
Net income (loss) (1,579,105) 3,135,020
Dividends on preferred stock (500,000) (500,000)
----------- ------------
Net income (loss), applicable to
common shareholders $(2,079,105) $ 2,635,020
=========== ============
Net income (loss) per share
Basic $ (.06) $ .08
=========== ============
Diluted $ (.06) $ .07
=========== ============
Weighted-average common shares outstanding
Basic 34,843,696 34,761,965
=========== ============
Diluted 34,843,696 37,051,897
=========== ============
</TABLE>
The accompanying notes are an integral part of these statements.
4
<PAGE> 5
THE CREDIT STORE, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
<TABLE>
<CAPTION>
SIX MONTHS ENDED
-------------------------------
NOVEMBER 30, NOVEMBER 30,
2000 1999
---------------- -------------
<S> <C> <C>
Revenue
Income from receivables $20,436,636 $ 15,171,683
Gain on sales of portfolios and retained interests 568,382 6,336,221
Servicing fees and other income 1,782,581 1,346,061
Provision for losses (5,605,969) (3,737,867)
----------- ------------
Net revenue 17,181,630 19,116,098
----------- ------------
Expenses
Salaries and employee benefits 6,923,205 6,615,777
Professional and financing fees 2,634,689 1,867,458
Credit card servicing 4,227,231 3,188,592
Occupancy and equipment expense 1,529,437 1,726,016
Other 3,539,989 1,765,850
----------- ------------
Total expenses 18,854,551 15,163,693
----------- ------------
Operating income (loss) (1,672,921) 3,952,405
Interest expense 2,801,284 2,139,454
----------- ------------
Income (loss) before income taxes (4,474,205) 1,812,951
Income tax expense - (1,286,409)
----------- ------------
Net income (loss) (4,474,205) 526,542
Dividends on preferred stock (1,000,000) (1,000,000)
----------- ------------
Net loss, applicable to
common shareholders $(5,474,205) $ (473,458)
=========== ============
Net loss per share
Basic $ (.16) $ (.01)
=========== ============
Diluted $ (.16) $ (.01)
=========== ============
Weighted-average common shares outstanding
Basic 34,809,166 34,761,965
=========== ============
Diluted 34,809,166 34,761,965
=========== ============
</TABLE>
The accompanying notes are an integral part of these statements.
5
<PAGE> 6
THE CREDIT STORE, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
<TABLE>
<CAPTION>
SIX MONTHS ENDED
--------------------------------
NOVEMBER 30, NOVEMBER 30,
2000 1999
--------------- ---------------
<S> <C> <C>
Cash flows from operating activities:
Net income (loss) $ (4,474,205) $ 526,542
Adjustments to reconcile net income (loss) to
net cash provided by (used in) operating
activities -
Provision for credit card losses 5,605,969 3,737,867
Provision for losses on trade receivables 4,506 30,551
Amortization of discount on performing
credit card portfolio (628,632) (626,110)
Accretion (8,730,717) -
Depreciation and amortization 953,502 1,333,893
(Gain) loss from unconsolidated affiliates 37,357 (33,506)
Gain on sale of portfolios and retained interests (568,382) (5,260,358)
Services received for stock options granted 18,900 -
Deferred tax expense - 1,286,409
Changes in operating assets and liabilities:
Restricted cash (232,654) -
Accounts and notes receivable (62,930) (2,047,217)
Prepaid expenses 275,980 (269,907)
Receivable from unconsolidated
affiliate 8,765,047 1,230,701
Accrued interest and fees receivable (582,786) (932,849)
Other assets (745,356) 365,775
Unearned fees (121,237) 132,041
Accounts payable and accrued expenses 2,518,838 (703,235)
------------ ------------
Net cash provided by (used in)
operating activities 2,033,200 (1,229,403)
------------ ------------
Cash flows from investing activities:
Collection of investments in receivable portfolios 17,273,310 11,907,387
Funds advanced on securitized credit card receivables (255,930) (2,036,060)
Funds advanced on credit cards (14,207,886) (14,282,863)
Purchase of consumer debt portfolios (3,452,621) (8,545,353)
Proceeds from sale of portfolios and retained interests 568,382 8,643,233
Acquisition of property and equipment (1,168,761) (75,972)
------------ ------------
Net cash used in
investing activities (1,243,506) (4,389,628)
------------ ------------
Cash flows from financing activities:
Net proceeds (payments) from debt (819,710) 7,213,221
Borrowings from sale/leaseback transactions 1,615,620 424,000
Payments on capital lease obligations (798,568) (1,028,999)
Proceeds from exercises of stock options 202,300 -
------------ ------------
Net cash provided by
financing activities 199,642 6,608,222
------------ ------------
Net increase in cash and cash equivalents 989,336 989,191
Cash and cash equivalents at beginning of period 1,423,248 3,533,930
------------ ------------
Cash and cash equivalents at end of period $ 2,412,584 $ 4,523,121
============ ============
</TABLE>
The accompanying notes are an integral part of these statements.
6
<PAGE> 7
THE CREDIT STORE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE A - ORGANIZATION
The Credit Store, Inc. is a technology based, financial services company that
provides credit card products to consumers who may otherwise fail to qualify for
a traditional unsecured bank credit card. The Company reaches these consumers by
acquiring portfolios of non-performing consumer receivables and offering a new
credit card to those consumers who agree to pay all or a portion of the
outstanding amount due on their debt and who meet the Company's underwriting
guidelines. The new card is issued with an initial balance and credit line equal
to the agreed repayment amount. After the consumers have made a certain number
of on-time payments on their outstanding credit card balance, the Company seeks
to finance, sell or securitize the credit card receivables generated by this
business strategy. The Company offers other forms of settlement to those
consumers who do not accept the credit card offer.
NOTE B - BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements have been
prepared pursuant to the rules and regulations of the Securities and Exchange
Commission. Certain information and footnote disclosures normally included in
financial statements prepared in accordance with generally accepted accounting
principles have been condensed or omitted pursuant to such rules and
regulations, although management believes that the disclosures are adequate to
make the information presented not misleading. These financial statements and
notes thereto should be read in conjunction with financial statements and notes
thereto included in the Company's audited consolidated financial statements for
the year ended May 31, 2000 contained in the Company's annual report on Form
10-K/A for the year ended May 31, 2000.
Preparation of the Company's consolidated financial statements requires
management to make estimates and assumptions that affect reported amounts of
assets and liabilities and related revenues and expenses. Actual results could
differ from the estimates used by management.
In the opinion of management, the unaudited condensed consolidated financial
statements contain all adjustments (consisting of only normal recurring
adjustments) necessary to present fairly the financial position as of November
30, 2000, the results of operations for the three months ended November 30, 2000
and November 30, 1999, and the results of operations and cash flows for the six
months ended November 30, 2000 and November 30, 1999. The results of operations
for the six months ended November 30, 2000 are not necessarily indicative of the
results for the full year.
NOTE C - INCOME (LOSS) PER SHARE
The Company's basic net income (loss) per share is computed by dividing net
income (loss) applicable to common stockholders by the weighted average number
of outstanding common shares outstanding during the period. Net income (loss)
applicable to common stockholders is computed by deducting dividends on
preferred stock from net income or net loss. The Company's diluted net income
(loss) per share is computed by dividing net income (loss) by the weighted
average number of outstanding common shares and common share equivalents
relating to stock options, when dilutive.
NOTE D - ACCOUNTING METHODOLOGY CHANGE FOR INVESTMENTS IN RECEIVABLE PORTFOLIOS
Effective June 1, 2000, the Company accounts for its investment in receivable
portfolios on the accrual basis of accounting in accordance with the provisions
of the AICPA's Practice Bulletin 6, "Amortization of Discounts on Certain
Acquired Loans." Prior to June 1, 2000, the Company used the cost recovery
method of accounting. Practice Bulletin 6 requires that the accrual basis of
accounting be used at the time the amount and timing of portfolio projected cash
flows can be reasonably estimated and collection is probable. The Company has
established projection models from historical portfolio data that it believes
provides appropriate information to reasonably estimate future cash flows.
Under the accrual basis of accounting, static pools are established with
accounts having similar attributes, based on the specific seller and the timing
of the acquisition. Once a static pool is established, the receivables are
permanently assigned to the pool. The discount (i.e., the difference between the
cost of each static pool and the related aggregate contractual receivable
balance) is not recorded because the Company expects to collect a relatively
small percentage of each static pool's contractual receivable balance.
7
<PAGE> 8
The Company accounts for each static pool as a unit for the economic life of the
pool for recognition of income from receivable portfolios, for collections
applied to principal of receivable portfolios and for provision for loss or
impairment. Income from receivable portfolios is accrued based on the effective
interest rate determined for each pool applied to each pool's carrying value as
of June 1, 2000 or its cost if purchased after June 1, 2000, adjusted for unpaid
accrued income and principal paydowns. The effective interest rate is the
internal rate of return determined based on the timing and amounts of actual
cash received since the date of adoption or since inception if purchased after
June 1, 2000 and anticipated future cash flow projections for each pool.
The Company monitors impairment of receivable portfolios based on discounted
projected future cash flows of each portfolio compared to each portfolio's
carrying amount. The receivable portfolios are evaluated for impairment
periodically based on current market and cash flow assumptions. Provisions for
losses are charged to earnings when it is determined that the investment in a
receivable portfolio is greater than the present value of expected future cash
flows. No such provision for losses was recorded in the three or six months
ended November 30, 2000.
The change to the accrual method resulted in an increase of $8.5 million in
income from credit card receivables during the first six months of fiscal 2001,
compared to the amount that would have been reported under the cost recovery
method previously used, and an increase of $3.0 million in provision for losses
on credit card receivables. Prior periods are not required to be restated.
NOTE E - TRANSFERS OF FINANCIAL ASSETS
During the three month period ended November 30, 2000, the Company established
a new wholly-owned qualified special purpose entity, Credit Store Services, Inc.
("CSSI"), for the purpose of purchasing non-performing consumer debt portfolios
from the Company. CSSI entered into a $25,000,000 credit facility with a lending
institution to finance the purchase of non-performing consumer debt at the
lender's discretion. Once the Company has acquired these non-performing consumer
debt portfolios, they are sold to CSSI within a very short period of time.
Non-performing consumer debt portfolio sales to CSSI are equal to the Company's
book value.
NOTE F - COMMITMENTS AND CONTINGENCIES
The Company, in the ordinary course of business, receives notices of consumer
complaints from regulatory agencies and is named as a defendant in legal actions
filed by those who have been solicited to participate in its credit card
programs. Currently pending against the Company are: (i) three class actions
(that were subsequently consolidated into one action) on behalf of persons
solicited by the Company to open credit card accounts and voluntarily to repay
debt that had been discharged in bankruptcy, which action is subject to a
settlement agreement between the Company and the plaintiffs, which settlement
agreement has received preliminary court approval, (ii) three class actions
alleging violation of the Fair Debt Collection Practices Act and state law in
connection with mailers sent to prospective customers whose debt was
out-of-statute, and (iii) one class action alleging RICO claims arising out of
the reporting of credit information. The Company is defending itself vigorously
in these lawsuits. The Company does not believe that pending litigation and
regulatory complaints involving the Company will have a material adverse effect
on the consolidated financial position and results of operations. However, a
significant judgment against the Company in one or more of the lawsuits could
subject the Company to a monetary judgment and/or require the Company to modify
its methods of operation, either of which could have a material adverse effect
on the Company's results of operations or financial condition.
NOTE G - INVESTMENTS IN RECEIVABLE PORTFOLIOS
The Company acquires portfolios of non-performing consumer debt. These debts are
acquired at a substantial discount from the actual outstanding consumer balance.
The remaining outstanding balance of the debt acquired by the Company at
November 30, 2000 and May 31, 2000 was approximately $3.5 billion and $3.1
billion, respectively. The Company's objective is to offer the consumer an
opportunity to settle these debts, typically at a discount, and transfer the
settled amount to a newly issued credit card. The Company expenses origination
costs, including direct mail and telemarketing costs, as incurred.
8
<PAGE> 9
The following summarizes the components in the balance of the investments in
receivable portfolios for the following periods:
<TABLE>
<CAPTION>
NOVEMBER 30, MAY 31,
2000 2000
--------------- ------------
(UNAUDITED)
<S> <C> <C>
Total credit card balances $97,865,122 $77,832,562
=========== ===========
Available credit $ 9,075,096 $ 7,837,918
=========== ===========
Cost and accretion $12,945,619 $ 9,648,090
----------- -----------
Principal funded on new advances and purchases $30,905,190 $26,536,055
Accrued interest on principal funded 415,885 420,383
Accrued fees 348,593 429,727
----------- -----------
31,669,668 27,386,165
----------- -----------
Less
Provision for losses on credit card receivables 5,335,371 2,475,838
Unearned fees 544,890 666,127
----------- -----------
5,880,261 3,141,965
----------- -----------
Investments in receivable portfolios $38,735,026 $33,892,290
=========== ===========
</TABLE>
Total credit card balances in the chart above represent the total amount owed to
the Company by the cardholders. Available credit represents the amount that the
Company would be obligated to fund if the credit cards were fully utilized by
the cardholders.
9
<PAGE> 10
THE CREDIT STORE, INC.
The information presented below in Management's Discussion and Analysis of
Financial Condition and Results of Operations contains forward-looking
statements within the meaning of the safe harbor provisions of Section 21E of
the Securities Exchange Act of 1934, as amended. Such statements are subject to
risks and uncertainties, including those discussed under "Disclosure Regarding
Forward-Looking Statements" below, that could cause actual results to differ
materially from those projected. Because actual results may differ, readers are
cautioned not to place undue reliance on these forward-looking statements. We
assume no obligation to publicly release the results of any revisions or updates
to these forward-looking statements to reflect future events or unanticipated
occurrences.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
OVERVIEW
The Credit Store, Inc. (the "Company", "us" and "our") is a technology based,
financial services company that provides credit card products to consumers who
may otherwise fail to qualify for a traditional unsecured bank credit card. The
Company reaches these consumers by acquiring portfolios of non-performing
consumer receivables and offering a new credit card to those consumers who agree
to pay all or a portion of the outstanding amount due on their debt and who meet
the Company's underwriting guidelines. The new card is issued with an initial
balance and credit line equal to the agreed repayment amount. After the
consumers have made a certain number of on-time payments on their outstanding
credit card balance, the Company seeks to finance, sell or securitize the credit
card receivables generated by this business strategy. The Company offers other
forms of settlement to those consumers who do not accept the credit card offer.
RESULTS OF OPERATIONS
THREE MONTHS ENDED NOVEMBER 30, 2000 COMPARED TO THREE MONTHS ENDED NOVEMBER 30,
1999:
REVENUES. Net revenue for the quarter ended November 30, 2000 was $8.95 million,
a 30.7% decrease from the $12.92 million recorded during the quarter ended
November 30, 1999. Core revenue (income from receivables, servicing fees and
other income) increased 36.7% during the second quarter of fiscal year 2001 as
compared to the second quarter of fiscal year 2000 impacted positively by the
adoption of accrual accounting for receivable portfolios. Gains from sales of
portfolios and retained interests in securitized receivables decreased 94.3%
from $6.35 million in the quarter ended November 30, 1999 to $0.36 million in
the quarter ended November 30, 2000 due to the sale of three special purpose
entities in November 1999 with no similar event during the second quarter of
fiscal year 2001. The provision for losses increased 60.0% from $1.70 million in
the quarter ended November 30, 1999 to $2.72 million in the quarter ended
November 30, 2000 and increased as a percentage of core revenue from 20.6% in
the quarter ended November 30, 1999 to 24.1% in the quarter ended November 30,
2000.
During the first quarter of Fiscal 2001, the Company adopted the accrual method
of accounting for its investment in receivable portfolios. Prior to June 1,
2000, the Company used the cost recovery method of accounting. Under cost
recovery all cash receipts relating to individual portfolios of nonperforming
consumer debt are applied first to recover the cost of the portfolios, prior to
recognizing any revenue. For the second quarter of fiscal 2001, the adoption of
the accrual method of accounting resulted in an increase of $4.62 million in
income from credit card receivables, and an increase of $1.09 million in
provision for losses on credit card receivables.
EXPENSES. Total operating expenses for the quarter ended November 30, 2000 were
$9.11 million, a 23.6% increase from $7.36 million in the quarter ended November
30, 1999. Increased expenses were largely related to a 151% increase in new
credit card originations from $9.86 million for the quarter ended November 30,
1999 to $24.73 million for the quarter ended November 30, 2000. Salaries and
employee benefits remained fairly constant at $3.35 million in the quarter ended
November 30, 1999 compared to $3.36 million in the quarter ended November 30,
2000, and decreased as a percentage of core revenue from 40.5% in the quarter
ended November 30, 1999 to 29.7% in the quarter ended November 30, 2000.
Professional and financing fees increased 61.9% from $0.84 million in the
quarter ended November 30, 1999 to $1.36 million in the quarter ended November
30, 2000 and as a percentage of core revenue increased from 10.2% in the quarter
ended November 30, 1999 to 12.1% in the quarter ended November 30, 2000. Credit
card servicing increased 55.0% from $1.45 million in the quarter ended November
30, 1999 to $2.25 million in the quarter ended November 30, 2000 and as a
percentage of core revenue increased from 17.5% in the quarter ended November
30, 1999 to 19.9% in the quarter ended November 30, 2000. Other expenses
increased 57.0% from $0.86 million in the quarter ended November 30, 1999 to
$1.35 million in the quarter ended November 30, 2000 due to increased printing
and insurance costs. Other expenses increased as a percent of core revenues from
10.4% in the quarter ended November 30, 1999 to 11.9% in the quarter ended
November 30, 2000.
INTEREST EXPENSE. Interest expense increased 25.9% from $1.13 million in the
quarter ended November 30, 1999 to $1.42 million in the quarter ended November
30, 2000, based on a higher average amount of debt outstanding. As a percentage
of core revenue, interest expense decreased from 13.7% in the quarter ended
November 30, 1999 to 12.6% in the quarter ended November 30, 2000.
INCOME TAX EXPENSE. The company recorded a $1.29 million tax expense during the
three months ended November 30, 1999 as a result of the gain from sale of the
retained interests in its securitizations. No income tax benefits related to the
10
<PAGE> 11
net loss were recorded in the three months ended November 30, 2000 due to the
uncertainty as to the recognition of these future tax benefits.
NET INCOME (LOSS). Net income was $3.14 million for the quarter ended November
30, 1999 compared to a net loss of $1.58 million in the quarter ended November
30, 2000. After providing for preferred dividends of $.50 million in both
quarters, the net income applicable to common shareholders was $2.64 million, or
$.08 per common share, in the second quarter of fiscal year 2000, compared to a
net loss of $2.08 million, or ($.06) per common share, in the second quarter of
fiscal year 2001.
SIX MONTHS ENDED NOVEMBER 30, 2000 COMPARED TO SIX MONTHS ENDED NOVEMBER 30,
1999:
REVENUES. Net revenue for the six months ended November 30, 2000 was $17.18
million, a 10.1% decrease from the $19.12 million recorded during the six months
ended November 30, 1999. Core revenue (income from receivables, servicing fees
and other income) increased 34.5% during the first six months of fiscal year
2001 as compared to the first six months of fiscal year 2000, and was impacted
positively by the adoption of accrual accounting for receivable portfolios.
Gains from sales of portfolios and retained interests in securitized receivables
decreased 91.0% from $6.34 million in the six months ended November 30, 1999 to
$0.57 million in the six months ended November 30, 2000 due to the sale of three
special purpose entities in November 1999 with no similar event during the first
six months of fiscal year 2001. The provision for losses increased 50.0% from
$3.74 million in the six months ended November 30, 1999 to $5.61 million in the
six months ended November 30, 2000 and increased as a percentage of core revenue
from 22.6% in the six months ended November 30, 1999 to 25.2% in the six months
ended November 30, 2000.
During the first quarter of Fiscal 2001, the Company adopted the accrual method
of accounting for its investment in receivable portfolios. Prior to June 1,
2000, the Company used the cost recovery method of accounting. Under cost
recovery all cash receipts relating to individual portfolios of nonperforming
consumer debt are applied first to recover the cost of the portfolios, prior to
recognizing any revenue. For the first six months of fiscal 2001, the adoption
of the accrual method of accounting resulted in an increase of $8.50 million in
income from credit card receivables, and an increase of $3.00 million in
provision for losses on credit card receivables.
EXPENSES. Total operating expenses for the six months ended November 30, 2000
were $18.85 million, a 24.3% increase from $15.16 million in the six months
ended November 30, 1999. Increased expenses were largely related to a 169%
increase in new credit card originations from $19.45 million for the six months
ended November 30, 1999 to $52.26 million for the six months ended November 30,
2000. Salaries and employee benefits increased 4.6% from $6.62 million in the
six months ended November 30, 1999 to $6.92 million in the six months ended
November 30, 2000 due to an increase in the number of employees from 314 to 360,
and decreased as a percentage of core revenue from 40.1% in the six months ended
November 30, 1999 to 31.2% in the six months ended November 30, 2000.
Professional and financing fees increased 41.1% from $1.87 million in the six
months ended November 30, 1999 to $2.63 million in the six months ended November
30, 2000 and as a percentage of core revenue remained fairly constant at 11.3%
in the six months ended November 30, 1999 compared to 11.9% in the six months
ended November 30, 2000. Credit card servicing increased 32.6% from $3.19
million in the six months ended November 30, 1999 to $4.23 million in the six
months ended November 30, 2000 and as a percentage of core revenue remained
fairly constant at 19.3% in the six months ended November 30, 1999 compared to
19.0% in the six months ended November 30, 2000. Other expenses increased 100.5%
from $1.77 million in the six months ended November 30, 1999 to $3.54 million in
the six months ended November 30, 2000 due to royalties paid on a related
increase in the amount of credit card receivables eligible under a royalty
agreement with third parties. Other expenses increased as a percent of core
revenues from 10.7% in the six months ended November 30, 1999 to 15.9% in the
six months ended November 30, 2000.
INTEREST EXPENSE. Interest expense increased 30.9% from $2.14 million in the six
months ended November 30, 1999 to $2.80 million in the six months ended November
30, 2000, based on a higher average amount of debt outstanding. As a percentage
of core revenue, interest expense decreased from 13.0% in the six months ended
November 30, 1999 to 12.6% in the six months ended November 30, 2000.
INCOME TAX EXPENSE. The company recorded a $1.29 million tax expense during the
six months ended November 30, 1999 as a result of the gain from sale of the
retained interests in its securitizations. No income tax benefits related to the
net loss were recorded in the six months ended November 30, 2000 due to the
uncertainty as to the recognition of these future tax benefits.
NET INCOME (LOSS). Net income was $0.53 million for the six months ended
November 30, 1999 compared to a net loss of $4.47 million in the six months
ended November 30, 2000. After providing for preferred dividends of $1.0 million
in each six month period, the net loss applicable to common shareholders was
$0.47 million, or ($.01) per common share, in the first six months of fiscal
year 2000, compared to a net loss of $5.47 million, or ($.16) per common share,
in the first six months of fiscal year 2001.
11
<PAGE> 12
LIQUIDITY AND CAPITAL RESOURCES
The Company seeks to maintain an adequate level of liquidity through active
management of assets and liabilities, through sales or securitizations of credit
card receivables, and through debt and equity financing. Because the
characteristics of its assets and liabilities change, liquidity management is a
dynamic process affected significantly by the maturity of the Company's assets
and the seasonality of the credit card business. The Company anticipates that it
will need additional working capital to accommodate anticipated increases in
credit card receivables and to meet other operating expenses. The Company
believes that it will have sufficient sources of liquidity to meet these funding
needs.
At November 30, 2000, the Company had $2.41 million of cash and cash
equivalents, compared to $1.42 million at May 31, 2000. The Company maintains
restricted cash reserves at its banks to facilitate the funding of new charges
and advances on its customer's credit cards. These restricted balances were
$1.26 million at November 30, 2000, and $1.03 million at May 31, 2000. The
Company maintains a senior secured revolving credit line with Coast Business
Credit, a division of Southern Pacific Bank. The credit line is for $15 million
and expires in July 2001. The credit line is secured by substantially all of the
Company's assets. Borrowings under the credit line are based on a formula, which
is dependent primarily upon the performance and maturing of the Company's credit
card receivables. There was $11.93 million outstanding under the credit line at
November 30, 2000, with $3.07 million available for future borrowings.
The Company has also received secured financing from a related party, J.L.B. of
Nevada, Inc., which is subordinated to the senior secured revolving credit line.
The principal amount outstanding on these notes totaled $17.32 million and
accrued but unpaid interest totaled $2.17 million at November 30, 2000.
The Company has a $17.5 million secured revolving credit line with General
Electric Capital Corporation to finance the acquisition of non-performing
consumer debt portfolios. The borrower is a wholly owned, bankruptcy remote
special purpose entity established by the Company for this transaction and is
fully consolidated with the Company's financial results. Borrowings are
non-recourse to the Company and based on the age of the non-performing consumer
debt portfolios acquired by the Company coupled with contracts that the
subsidiary enters into to resell portfolios to other debt buyers. There was
$1.63 million outstanding under the credit line at November 30, 2000 with $0.44
million available for future borrowings.
The Company entered into a credit card receivables repurchase agreement with a
bank in December 2000, whereby the bank purchased credit card receivables from
the Company for a purchase price of $8.0 million. This agreement was used to
repay an existing $6.0 million repurchase agreement.
The Company's wholly-owned qualified special purpose entity TCS Funding IV, Inc.
has a $40.0 million credit facility with a lending institution to finance the
purchase of credit card receivables. On May 31, 2000, $10.0 million of the
facility was used to purchase credit card receivables with a principal balance
of $14.2 million at a purchase price of $12.1 million with $2.1 million of the
purchase price recorded by the Company as a retained interest. Future borrowings
under the facility are subject to the lender's discretion and a number of other
conditions.
During the three month period ending November 30, 2000, the Company established
a new wholly-owned qualified special purpose entity, Credit Store Services, Inc.
("CSSI"), for the purpose of purchasing non-performing consumer debt portfolios
from the Company. Non-performing consumer debt portfolio sales to CSSI are equal
to the Company's book value. CSSI entered into a $25.0 million credit facility
with a lending institution to finance a portion of non-performing consumer debt
portfolio acquisitions at the lender's discretion. As of November 30, 2000, the
outstanding balance under CSSI's credit facility was $1.04 million, with $23.96
million available for future borrowings at the lender's discretion. The terms of
the credit facility also provide that a percentage of the future cash flow of
the purchased accounts be paid to the lender after the payment of principal and
interest for amounts borrowed.
INFLATION
The Company believes that inflation has not had a material impact on its results
of operations for the six months ended November 30, 2000.
DISCLOSURE REGARDING FORWARD-LOOKING STATEMENTS
This Form 10-Q for the second quarter ended November 30, 2000 contains
forward-looking statements within the meaning of the safe harbor provisions of
Section 21E of the Securities Exchange Act of 1934. These forward-looking
statements are based on the beliefs of our management as well as on assumptions
made by and information currently available to us at the time the statements
were made. When used in this Form 10-Q, the words "anticipate", "believe",
"estimate", "expect", "intend" and similar expressions, as they relate to us,
are intended to identify the forward-looking statements. Although we believe
that these statements are reasonable, you should be aware that actual results
could differ materially from those projected by the forward-looking statements.
Because actual results may differ, readers are cautioned not to place undue
reliance on forward-looking statements. Factors that may cause our actual
results to differ from those projected include, among others, the following: Our
credit card portfolio may not perform as well as we expect and may not generate
sufficient cash flows to fund our operations. We may not be able to finance our
operations if we are unable to sell our credit card receivables, if we are
unable to secure future financing, including credit line increases, or if we are
unable to control our expenses. The market for the sale or securitization of our
credit card receivables is limited and could be further limited if there is
12
<PAGE> 13
an increase in competition or regulatory burdens on the industry or if the
economy declines. Our operations could be adversely affected if our suppliers
and vendors on which we rely to issue and service our credit card products fail
to perform or discontinue their agreements with us. If competition increases or
if the economy fluctuates, we may not be able to acquire enough credit card
receivables on favorable terms to operate profitably. In addition, we could
experience a shortfall in revenue if our customers do not pay on their
outstanding card balances. We may also be subject to adverse legal
determinations in lawsuits pending against us or filed in the future. Additional
factors that could cause actual results to differ include: risks associated with
future growth; fluctuations in operating results; the need for additional
capital; risks associated with consumer acceptance of our products; inability to
compete with competitors; potential labor shortages; and our failure to comply
with consumer and debtor protection laws and regulations. Certain of these risk
factors are more fully discussed in the Company's Amended Annual Report on Form
10-K/A filed with the Securities and Exchange Commission on September 28, 2000.
We caution you, however, that the list of factors above may not be exhaustive
and that those or other factors, many of which are outside of our control, could
have a material adverse effect on us and our results of operations. All
forward-looking statements attributable to persons acting on our behalf or us
are expressly qualified in their entirety by the cautionary statements set forth
here. We assume no obligation to publicly release the results of any revision or
updates to these forward-looking statements to reflect future events or
unanticipated occurrences.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risk is the risk of loss from adverse changes in market prices and rates.
The Company's principal market risk is due to changes in interest rates. These
changes affect the Company directly in its lending and borrowing activities, as
well as indirectly as interest rates may impact the payment performance of the
Company's credit card holders.
To manage the Company's direct risk to market interest rates, management
actively monitors the interest rates and the interest sensitive components of
the Company's balance sheet to minimize the impact changes in interest rates
have on the fair value of assets, net income and cash flow. Management seeks to
minimize the impact of changes in interest rates on the Company primarily by
matching asset and liability repricings.
The Company's credit card receivables earn interest at a fixed annual percentage
rate. The Company's fixed annual percentage rate credit card receivables have no
stated maturity or repricing period. However, the Company may reprice its credit
card receivables upon providing the required prior notice to the customer, which
is generally no more than 60 days. The interest rates on the Company's
liabilities are generally indexed to the prime rate. These characteristics of
the Company's receivables and liabilities expose the Company to repricing risk,
which results from differences between the timing of rate changes and the timing
of cash flows, which could impact net interest income if liabilities reprice
more often than assets. The principal objective of the Company's asset/liability
risk management activities is to monitor and control the Company's exposure to
adverse effects resulting from movements of interest rates over time. The
Company has not entered into derivative transactions to hedge repricing risk.
13
<PAGE> 14
PART II -- OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The Company, in the ordinary course of business, receives notices of consumer
complaints from regulatory agencies and is named as a defendant in legal actions
filed by those who have been solicited to participate in its credit card
programs. The Company is defending itself vigorously in these lawsuits. The
Company does not believe that these suits will have a material adverse effect on
the consolidated financial position and results of operations. However, a
significant judgment against the Company in one or more of the lawsuits could
subject the Company to a monetary judgment and /or require the Company to modify
its methods of operation, either of which could have a material adverse effect
on the Company's results of operations or financial condition.
On May 27, 1999, the Company was sued on behalf of a class of Florida debtors in
the United States District Court for the District of Florida in an action
entitled McIntyre v. Credit Store Inc. On May 21, 1999, the Company was sued on
behalf of class of Arizona debtors in the United States District Court for the
District of Arizona in an action entitled Bingham v. The Credit Store, Inc. Both
actions allege that communications sent by the Company to class members violate
the Fair Debt Collection Practices Act and similar state laws in connection with
attempts to collect out-of-statute debt. Both complaints seek monetary damages
and declaratory judgments that the Company's mailers violate statutory
provisions. The Company's motions to dismiss these cases have been granted and
the suits have been dismissed. The time for appeal for the cases has not yet
run.
In February 2000, the Company and certain officers and directors were sued in
United States District Court for the Northern District of Illinois in an action
entitled Greene v. Burke, et al. The suit was brought on behalf of a class of
certain Illinois debtors alleging violations of the Fair Debt Collection
Practices Act, the Federal Credit Repair Organization Act, and the Illinois
Credit Services Organization Act arising out of the Company's attempts to
collect out-of-statute debts. The complaint seeks actual, statutory and punitive
damages on behalf of the class. The plaintiff has subsequently agreed to
voluntarily dismiss the claim and the court has approved the dismissal.
On August 25, 2000, the Company was named as a co-defendant in an action brought
on behalf of a class of debtors in the United States District Court for the
Eastern District of Texas in an action entitled Barnett v. Experian Information
Solutions, et al. The plaintiffs claim that their debt had been improperly
reported as a bad debt on a credit-reporting bureau, Experian Information
Solutions, Inc., which was also named as a defendant. Plaintiffs asserted claims
against the Company under RICO and sought unspecified actual damages.
On October 20, 2000, the Company was named in an action on behalf of California
debtors filed in Superior Court for the State of California, San Diego County,
styled Maugeri v. The Credit Store, Inc., et al. The suit seeks damages and
injunctive relief barring the Company from offering its credit card program to
debtors whose debt is out-of-statute and/or cannot be reported on a credit
bureau as bad debt. Claims are asserted against the Company under the California
Business and Professions Code and related state statutes.
ITEM 2. CHANGES IN SECURITIES
Not applicable.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not applicable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Annual Meeting of the Stockholders of the Company was held on November 6,
2000. At such meeting, the following matters were voted on:
1. The five individuals listed below were elected to the Company's
Board of Directors, with each receiving the number of shares set
forth opposite his name (shares "for" and "against" represent
shares of the Company's Common Stock, all of the shares of the
Company's outstanding Series A and Series B Preferred Stock were
voted in favor of the following):
a. Jay L. Botchman 28,768,298 for nominee and none
against
14
<PAGE> 15
b. J. Richard Budd, III 28,768,298 for nominee and none
against
c. Barry E. Breeman 28,768,298 for nominee and none
against
d. Kevin T. Riordan 28,768,298 for nominee and none
against
e. Geoffrey A. Thompson 28,768,298 for nominee and none
against
2. The Company's Amended 1997 Stock Option Plan was approved with
22,617,417 votes cast for the motion, 29,100 votes cast against the
motion, and 2,105 votes abstaining (shares "for", "against" and
"abstaining" represent shares of the Company's Common Stock, all of
the shares of the Company's outstanding Series A and Series B
Preferred Stock were voted in favor of the motion).
3. The appointment of Grant Thornton LLP as independent public
accountants of the Company for the fiscal year ending May 31, 2001
was ratified with 28,775,448 votes cast for the motion, 1,000 votes
cast against the motion, and 750 votes abstaining (shares "for",
"against" and "abstaining" represent shares of the Company's Common
Stock, all of the shares of the Company's outstanding Series A and
Series B Preferred Stock were voted in favor of the motion).
For further information respecting all such matters reference is made to the
Company's definitive proxy statement dated October 13, 2000 (File No.
001-16083).
ITEM 5. OTHER INFORMATION
Not applicable.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(A) EXHIBITS
The following exhibits are filed as part of this Quarterly Report on Form 10-Q
for the second quarter ended November 30, 2000:
<TABLE>
<CAPTION>
EXHIBIT DESCRIPTION
--------- -------------------------------------------------------------------------
<S> <C>
3.1 Amended and Restated Certificate of Incorporation.*
3.2 Amended and Restated By-Laws of the Company.
4 Specimen certificate representing shares of Common Stock.*
10.23 Amended and Restated 1997 Stock Option Plan**
10.42 Receivables Purchase Agreement, dated as of May 31, 2000, by and
between The Credit Store, Inc. and TCS Funding IV, Inc.
10.43 Master Credit and Security Agreement, dated as of May 31, 2000, by and
among TCS Funding IV, Inc., The Credit Store, Inc., and Miller &
Schroeder Investments Corporation.
10.44 Account Purchase Agreement, dated as of October 31, 2000, by and
among The Credit Store, Inc. and Credit Services, Inc.
10.45 Converted Accounts/Receivables Sale Agreement, dated as of October 31,
2000, by and among Credit Store Services, Inc. and The Credit Store, Inc.
10.46 Master Loan and Servicing Agreement, dated October 31, 2000, by and
among Credit Store Services, Inc., The Credit Store, Inc., and The Varde
Fund IV-A.#
10.47 Repurchase Agreement, dated November 22, 2000, by and between Bank
of Hoven and The Credit Store, Inc.
</TABLE>
* Incorporated by reference to the like numbered Exhibit to the Company's
Registration Statement on Form 10 filed February 24, 2000 (File No. 000-28709).
** Incorporated by reference to Exhibit 4 to the Company's Registration
Statement on Form S-8 filed July 26, 2000 (File No. 333-42278).
# Denotes confidential information that has been omitted from the exhibit
and filed separately, accompanied by a confidential treatment request, with the
Securities and Exchange Commission pursuant to Rule 24b-2 of the Securities
Exchange Act of 1934.
Copies of Exhibits will be furnished upon request and payment of the
Company's reasonable expenses in furnishing the Exhibits.
(b) REPORTS ON FORM 8-K
The Company filed a current report on Form 8-K dated September 22, 2000
(File No. 001-16083) reporting that on
15
<PAGE> 16
September 22, 2000, the Board of Directors of the Company appointed Geoffrey A.
Thompson as the Interim (non-executive) Chairman of the Board of the Company and
appointed Kevin T. Riordan, the President and Chief Operating Officer of the
Company, to the Board of Directors. The Company also announced that Martin J.
Burke, III had resigned as the Chairman of the Board, Chief Executive Officer
and as a director of the Company.
16
<PAGE> 17
THE CREDIT STORE, INC.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
THE CREDIT STORE, INC.
DATE: January 16, 2001 By Kevin T. Riordan
---------------- ----------------
President and Chief Operating Officer
DATE: January 16, 2001 By Michael J. Philippe
---------------- -------------------
Chief Financial Officer
17
<PAGE> 18
INDEX TO EXHIBITS
<TABLE>
<CAPTION>
EXHIBIT DESCRIPTION PAGE
--------- ------------------------------------------------------------------------- -------------------------
<S> <C> <C>
3.1 Amended and Restated Certificate of Incorporation.* Incorporated by Reference
3.2 Amended and Restated By-Laws of the Company. Filed Electronically
4 Specimen certificate representing shares of Common Stock.* Incorporated by Reference
10.23 Amended and Restated 1997 Stock Option Plan** Incorporated by Reference
10.42 Receivables Purchase Agreement, dated as of May 31, 2000, by and Filed Electronically
between The Credit Store, Inc. and TCS Funding IV, Inc.
10.43 Master Credit and Security Agreement, dated as of May 31, 2000, by and Filed Electronically
among TCS Funding IV, Inc., The Credit Store, Inc., and Miller &
Schroeder Investments Corporation.
10.44 Account Purchase Agreement, dated as of October 31, 2000, by and Filed Electronically
among The Credit Store, Inc. and Credit Services, Inc.
10.45 Converted Accounts/Receivables Sale Agreement, dated as of October 31, Filed Electronically
2000, by and among Credit Store Services, Inc. and The Credit Store, Inc.
10.46 Master Loan and Servicing Agreement, dated October 31, 2000, by and Filed Electronically
among Credit Store Services, Inc., The Credit Store, Inc., and The Varde
Fund IV-A.#
10.47 Repurchase Agreement, dated November 22, 2000, by and between Bank Filed Electronically
of Hoven and The Credit Store, Inc.
</TABLE>
* Incorporated by reference to the like numbered Exhibit to the Company's
Registration Statement on Form 10 filed February 24, 2000 (File No. 000-28709).
** Incorporated by reference to Exhibit 4 to the Company's Registration
Statement on Form S-8 filed July 26, 2000 (File No. 333-42278).
# Denotes confidential information that has been omitted from the exhibit
and filed separately, accompanied by a confidential treatment request, with the
Securities and Exchange Commission pursuant to Rule 24b-2 of the Securities
Exchange Act of 1934.
18
