Pra Group Inc Q1 FY2020 Earnings Call

Good afternoon and welcome to the PRA Group Conference Call. All participants will be in a listen-only mode. I would now like to turn the conference over to Ms. Darby Schoenfeld, Vice President of Investor Relations for PR Group. Please go ahead.

Thank you. Good afternoon everyone and thank you for joining us. With me today are Kevin Stevenson, President and Chief Executive Officer; and Pete Graham, Executive Vice President and Chief Financial Officer. We will make forward-looking statements during the call, which are based on management's current expectations. We caution listeners that these forward-looking statements are subject to risks, uncertainties and assumptions that could cause actual results to differ materially from our expectations. Please refer to the earnings press release and our SEC filings for a detailed discussion of these factors. The earnings press release, the slide presentation that we will use during today's presentation and our SEC filings can be found on the Investor Relations section of our website at www.pragroup.com. Additionally, a replay of this call will be available shortly after its conclusion, and the information needed to listen is in the earnings press release. However, please note the passcode in the press release is incorrect. The correct replay passcode is 10139254. We will post it on the Events and Presentations page of our website. All comparisons mentioned today will be between the first quarter of 2020 and the first quarter of 2019, unless otherwise noted. During our call, we will discuss total revenues for the first quarter of 2019 on an adjusted basis. Please refer to the appendix of the slide presentation utilized during the call for a reconciliation from non-GAAP to the most directly comparable GAAP financial measure. This slide presentation including the GAAP reconciliation can be found on the Investor Relations section of our website. I'd now like to turn the call over to Kevin Stevenson, our President and Chief Executive Officer.

Thank you, Darby. As we start this evening, I want to emphasize that this pandemic represents a significant human tragedy that the world has not experienced in a long time. As a company founded to do the right thing for the right reasons, we are acutely aware of the global impact this is having, and our thoughts are with everyone affected. However, I believe that the world will overcome this, and our economies will recover. This recovery explains much of the positive outlook we are sharing for PRA. We have an important role to play in helping people navigate financial difficulties. Steve Fredrickson and I founded this company nearly 25 years ago with a mission to purchase non-performing loans and aid recovery in a professional, respectful, and patient manner. Currently, everyone is focused on this crisis and its effects on people's financial situations. It’s crucial to highlight that PRA does not engage with the average consumer. Banks typically deal with customers who are non-delinquent but at risk of falling behind, while we exclusively work with defaulted consumers. Our entire customer base consists of charged-off, defaulted, non-performing individuals, regardless of how one describes them. Even with nearly 30 years of experience in distressed debt, I find it sobering that during periods of economic growth or downturn, our customers are always facing their own financial struggles. This situation is just as impactful, significant, and personal for them, whether the economy is thriving, struggling, driven by technology, mortgages, or a pandemic. In a challenging economic landscape, we become more vital, and we prepare for these circumstances. This is why maintaining a conservative capital structure is one of our foundational principles. We aim to be ready for difficult times because they are bound to happen. Another key principle is how we perceive risk. We engage in measured risks while staying prepared for the future. That reflects our current situation. While it’s unfortunate that the world is undergoing such times, PRA has a robust capital structure, a consumer-focused mission, and the experience necessary to progress. Now, I'd like to discuss our positioning at the start of 2020. We concluded 2019 on a strong note and were well-positioned with favorable conditions. In Europe, we successfully executed several portfolio purchases in 2019 after patiently waiting for more rational pricing. In the U.S., we also had a positive purchasing year, with supply steady and pricing competitive. As we wrapped up 2019, we effectively balanced our U.S. collector workforce with our legal channel, leading to operational improvements that boosted our cash efficiency ratio heading into 2020. Consequently, we achieved global cash collections of $495 million in the quarter. Quarterly purchases totaled $273 million, marking a solid start to the year, with remaining estimated collections at $6.5 billion. Following this Q1 performance headline, I’ll walk you through the operational results in the Americas and recap developments since mid-March. Afterward, I'll cover Europe, and Pete will discuss the financials, including our assumptions regarding the impact of COVID-19, followed by my summary and outlook. In the Americas, cash collections in core and insolvency reached $349 million, setting a new record for PRA, surpassing the previous high from Q2 of 2019. Our cash results have been so remarkable that any of the last five quarters would have established a new record compared to quarters before 2019. In the U.S., cash collected per hour increased by 24% from Q1 2019, setting a new record for Q1. Our technological advancements, growth in digital payments, and improvements in data and analytics have contributed to enhancing this metric, and we anticipate continuing this upward trend. U.S. legal cash collections are also on the rise due to prior investments. Collections outside the U.S. have also continued to rise, particularly thanks to last year’s portfolio acquisitions. Total portfolio purchases in the Americas for the quarter were $193 million, as supply and pricing remained steady. COVID-19 first affected our U.S. operations in mid-March when many governors issued stay-at-home orders, including in states where we operate. Most of our offices managed to stay open as essential businesses, though a significant number of employees did not report to work for various reasons, such as school closures and health concerns regarding the virus. The workforce reduction was most significant in late March and extended into early April, where we generally operated with 60% to 70% of our U.S. collector workforce. Our priority quickly turned to ensuring the safety of our employees while continuing to serve our customers. I communicated to our employees that their safety, productivity, and compensation were our top priorities. We implemented early and rigorous social distancing measures in our offices. With additional capacity in many of our call centers, we were able to do this with minimal disruption or cost, arranging staff to work from every other workstation and easily maintaining a distance of over six feet. Rent accounts for a relatively small portion of our financial statement, and having extra space acts as an affordable buffer against unforeseen capacity needs. While we expected portfolio purchases to drive this need, I am pleased our extra real estate allowed us to adapt to social distancing without incurring significant costs. Although the additional space has proven valuable at this time, we were previously considering downsizing the call center in 2020 to optimize costs, space, and productivity. After temporarily closing the Nevada call center, we decided to mothball that location, meaning we will retain the lease and not dismantle the site, as we want to see what the future holds. Throughout our operational sites, we have initiated enhanced cleaning and disinfecting procedures, along with increasing the availability of hand sanitizer stations, which we have maintained for years. Our facility staff received extra training, cleaning every shift and periodically throughout the day and at the day’s end. We posted signs in communal areas, reminding everyone about social distancing and other measures to mitigate germ spread. We marked floors in certain areas to indicate how far apart employees should stand to meet the distance guidelines. We also created a COVID-19 section on our intranet, featuring frequently asked questions and updates. Beyond the call centers, we promptly transitioned the vast majority of support functions to a work-from-home model. We tested this on a Thursday and implemented it by Monday, involving roughly 700 people in the U.S. Our experience with back-office support working from home has been extraordinarily positive. In several cases, we observed higher productivity from at-home employees compared to their performance on site. We shifted seamlessly into this work-from-home routine, and I credit our acquisition of Aktiv Kapital in 2014, as we have been accustomed to managing the business through video conferencing for nearly six years. We have successfully managed operations this way while also building interdepartmental relationships over video, which I find satisfying. Regarding our customers, our usual policies and processes account for environments like these. Whether times are good or bad, our customers are consistently in financial distress. One major focus has been our hardship policy, which addresses customers in severe difficulties, such as illness or hospitalization. Our collectors and third-party attorneys are trained in these policies and operate in accordance with them, which is especially pertinent in the current climate as we aim to assist customers affected by COVID-19. Alongside this hardship policy, we have launched several additional policies and procedures. For example, we are not filing any new liens or garnishments and have reduced our call and letter outreach in hard-hit areas. Additionally, we have allowed certain call center employees who are high-risk for COVID-19 or work in offices with high staffing density to work from home. However, the work-from-home collection environment presents numerous challenges, and these employees are not performing at their full potential. One significant challenge is infrastructure; not all internet services are equal. Variances in infrastructure, networking hardware, personal devices, and internet speeds can hinder call quality and response times. We have extensively tested these issues, which have included delays, line noise, poor quality, and call drops. Currently, eight of our U.S. sites remain open, and while we previously had about 80 collections employees working offsite, that number has decreased to around 20 in May. While we appreciate the concept of remote work, challenges exceed beyond technology. Before COVID-19, we could only collect in 22 states if collectors were working from home. Following the issuance of guidelines by several states allowing remote work during the pandemic, we still face licensing and regulatory barriers in seven states and two major cities that prevent our collections without licensed personnel present at a registered location. I approach these challenges from the standpoint of equality; I want our collectors, regardless of their location, to have access to the same tools, technology, and generate similar call volumes while adhering to compliance and security protocols. We would expect at-home collectors to perform as effectively as those in the call center, but they simply are not meeting that expectation at present. That being said, we have made technological preparations for 1,000 collectors to work from home if absolutely necessary, but we may still encounter the same challenges I described. We also modified our legal process during this crisis. We are proceeding with lawsuits in cases that were filed before COVID-19 but have not introduced any new accounts into the legal channel. While most courts are now open for electronic filing and virtual hearings, we have opted not to serve individuals based on our internal policies. Therefore, we are following the court's guidelines for lawsuits that have already been served but remain in a holding pattern for newly served accounts while we assess when to proceed. In South America and Canada, most employees have been operating from work-from-home status, and we have noted some impacts on cash collections, particularly in April, which we are closely monitoring. As of now, I want to share some recent updates. By the end of April, we have successfully opened eight call centers across our U.S. platform, adhering to state guidelines. To recap their locations: Norfolk and Hampton, Virginia; Burlington, North Carolina; Birmingham, Alabama; Jackson, Tennessee; Hutchinson, Kansas; Dallas, Texas; and our new center in Danville, Virginia. While our Danville center is operational, we have not yet begun hiring there, though we plan to add about 100 positions soon. Collector attendance in the U.S. has improved as well; while we were operating with around 60% to 70% of our workforce in late March, attendance began to return to more typical levels by late April. Concerning cash collections, remember that Q1 2020 set a global record for PRA. In April, U.S. cash collections surpassed our COVID-adjusted projections by 28% and exceeded April 2019 figures by 1% on a currency-adjusted basis. Additionally, U.S. digital collections broke multiple records in April, and although we are only a few days into May, ongoing collection trends remain strong. I’d like to share some further data regarding our Right Party Contact or RPC metrics, which track how many calls are needed to reach a customer. These metrics improved significantly from mid-March onward and have continued to perform favorably compared to 2019. The conversion rate—representing the percentage of successful contacts that lead to a payment or payment plan—dipped in late March but fully rebounded in April and remains strong into May. A similar trend is noted in our payment break rates, which increased in late March but returned to the level seen in April 2019 by April's end. This is very promising news. Moving to Europe, total cash collections for the quarter reached a record $146 million, marking the fifth consecutive quarter of records set in the region. This reflects a growth of 16% or 19% when adjusted for currency, primarily driven by strong portfolio purchases in 2019. Portfolio acquisitions for the quarter reached $80 million. Like in the Americas, Europe started 2020 with impressive results, but many countries experienced COVID-19 impacts before the U.S., prompting adjustments to begin earlier in March. The nations most heavily affected where we operate have been Italy and Spain, both of which underwent national lockdowns with strict travel restrictions. We swiftly moved most employees to work-from-home arrangements, but retained a handful in the office since work-related travel remains permitted. For our remaining operational countries—the U.K., Poland, Norway, Germany, Sweden, Finland, and Austria—we adopted a mix of work-from-home and in-office operations according to local regulations. Given the overall climate in Europe, we had no alternative but to shift collectors offsite due to only partial office openings in March and April, impacting their tools and limiting calling methods, resulting in a dip in productivity compared to office work. Nonetheless, as of Monday this week, we have begun bringing more employees back to the office as restrictions ease across most European nations. Each country has specific operating requirements related to COVID-19, which we are closely monitoring. Amid these ongoing challenges, I’m pleased to share that, by the end of April, cash collections in Europe were aligning with our COVID-19 adjusted expectations. While performance may vary by country, I find this result encouraging as it indicates that the expectations surrounding COVID-related charges driving adjustments to ERC were adequate. Now, I’ll hand things over to Pete for the financial results. Pete?

Thanks, Kevin. Before I review the results for the first quarter, I would like to recap the presentation changes as a result of our CECL implementation. At the beginning of this year, we started accounting for our debt purchasing business under CECL. And on the income statement, we have two components of revenue. First, portfolio income, which is the yield component and comparable to the prior year's income recognized on finance receivable. Second, instead of having allowance charges as a separate item apart from revenue, we now record changes in expected recoveries as a component of revenue. And in order to provide comparability, we're presenting total revenues net of allowances for the prior period in this presentation. The first quarter began the year with strong performance. Total revenues were $252 million, an increase of $12 million or 5%, primarily due to solid portfolio income growth. Our portfolio income was $262 million, an increase of $23 million or 10%, primarily due to higher purchasing in the past few years, coupled with solid operating performance. Under CECL, instead of having allowance charges, we now record changes in expected recoveries, which were a net negative $13 million in the quarter. This consists of two parts. First, we recognize the present value of positive or negative changes in ERC. This quarter that netted to a negative $21 million. The primary driver of this was downward adjustments to our expected collections due to the COVID-19 pandemic. Based on historical experience with economic recessions including the global financial crisis, we believe that the economic impact of the pandemic will be a delay in cash collections, rather than a permanent reduction in our ERC. Using trends we were seeing in March as well as historical references, we made downward adjustments to our expected collections in the second quarter and delayed those collections to the latter part of the year and into 2021. These adjustments were made to our curves on a forward-looking basis. And after the first month of the second quarter, this assumption appears to be about right, with the exception of the U.S. where it may have been too heavy of an adjustment. The second part of changes in expected recoveries is cash we collect in the quarter compared to expected collection. This quarter, we collected $8 million in excess of expectations, partially offsetting the present value change in ERC. Operating expenses were $191 million, almost flat to the first quarter of 2019, and our cash efficiency ratio was 61.5% in the quarter. Income from operations was $61 million, a 24% increase compared to the first quarter of 2019, despite taking a $21 million write down on the portfolio. Net income was $19 million, an increase of 26% generating $0.42 in diluted earnings per share. Cash collections in the quarter were a record $495 million, an increase of $33 million or 7%. Cash collections in the Americas increased $14 million driven by a 10% increase in U.S. legal collections and a 23% increase in Brazil, Canada, and Colombia. Europe cash collections during the quarter grew by 16%. On a constant currency basis, collections were up 19%. The biggest drivers of this growth were higher levels of portfolio purchasing and the performance of recent vintages. We don't normally provide commentary on what's happened after quarter-end, but these aren't normal times. While one month of results doesn't provide any certainty for the full quarter, our April cash results have significantly exceeded the adjusted levels of expected recoveries at the end of the first quarter. And on a consolidated basis, we're slightly above the original expectations prior to our COVID adjustment. In Europe, although there's variability country-by-country, our collections in total were down 7% from our original expectations. However, they exceeded our COVID adjusted curves by 5%. This was also the case in the U.K., our largest market outside the U.S. where our collections exceeded our COVID adjusted curves by 2%. In the U.S., we exceeded our original pre-COVID adjusted curves by 8% and exceeded our COVID adjusted curves by 28%. Although, it's still very early to predict the ultimate impact that the economic closures and offsetting government actions will have on our collections, the early signs are encouraging. Our cash efficiency ratio was 61.5% for the quarter, a 230 basis point improvement compared to the first quarter of 2019. Operating expenses in the quarter were $191 million, almost unchanged from the first quarter of 2019, while cash receipts were 6% higher as a result of record cash collections. Compensation expenses in the U.S. decreased as we continue to balance the call centers with legal collections and leverage other operating efficiencies. Our legal collection costs have stabilized at a level similar to the prior year. Legal collection fees have increased in concert with external legal cash collections. Outside fees and services increased due to a number of items that individually were immaterial. During the quarter, we had no material impact to operating expenses as a result of the pandemic. PRA had a significant amount of support functions in a ready state to work-from-home. And as we're a global company, a substantial number of our internal meetings have been over video for quite some time. So, we had no additional investments there either. As we move into the second quarter remember, we're not putting any new accounts in the legal channel in the U.S., and ports in many of our European countries are also closed. Therefore, we expect our legal collection costs to decrease significantly in the second quarter. Depending on the timing of reopening, it could be as low as $12 million to $15 million. However, we will likely get back to our $30 million to $35 million per quarter level by the end of the year. We're targeting a cash efficiency ratio approaching 61% for the full year of 2020. ERC at the end of the first quarter was $6.5 billion with 53% in the U.S., 42% in Europe. ERC increased almost $300 million from the first quarter of 2019. However, the strengthening U.S. dollar caused a $239 million decrease in reported ERC from the end of 2019. Combining cash flow from operations and recoveries applied to negative allowance, the business generated $283 million in the quarter. We also had capital available for portfolio purchases amounting to $846 million globally, $521 million in the Americas and $325 million in Europe. At the end of the first quarter, we amended our European credit facility, adding a total of $200 million in capacity and extending the maturity to 2023. And in addition, just this week, we amended our North American facility, temporarily increasing our leverage ratios and the ERC borrowing base calculation. These actions combined provide some short-term flexibility that gives us the capability to manage our maturing convertible notes in August with cash on-hand and committed credit lines should that be our decision. Now, I'd like to turn things back to Kevin.

Thank you, Pete. Given the environment, there have been a number of discussions about debt collection and industry news, as well as in legislative and regulatory areas. As a result, we've been very active in the government relations space. And thus far, had real impact on proposed as well as implemented legislation and orders. Our primary focus has been on distinguishing between voluntary and involuntary collections. In my opinion, the phrase debt collection has been conflated by many with the concept of involuntary collections and specifically bank liens or garnishments. We've stressed that a simple phone call and an amicable meeting of minds, resulting in a payment is certainly not involuntary nor offensive in any way. In fact, we're helping our customers address the reality of their financial situation in a manner that works for them. Our next focus was regarding the legal channel. And generally speaking, a person not familiar with our industry might consider all legal collections involuntary, something that I would strongly disagree with. Those familiar with PRA know that our goal is to work with people to create an affordable payment plan, and only pursue legal where we believe someone can pay, but does not have the inclination to do so. Oftentimes, even after we obtain a judgment, we generally do not have to resort to garnishments or liens as the customer typically choose to negotiate payment plans. As a result, only about 2% of our total cash collection comes from what I would consider involuntary means, and that's specifically wage garnishments or liens or bank garnishments. And bank garnishments are clearly a subset of that. It's about 0.5%. I mention this because I believe it's important to understand the full extent of the environment we're operating in. We're holding to our philosophy of doing the right things for the right reasons and our policies and procedures are aimed at being empathetic and understanding during times like these. We've seen all this evidence in April that our customers are resilient and they are choosing to continue to pay their balances. There are multiple reasons why and certainly, we can't ignore the many government programs and government actions that have been put in place as a result of a stay-at-home or lockdown orders globally. So, in the U.S., these range from the PPP loans, the Payroll Protection Program, to unemployment changes, to stimulus checks and the last of which has also become a very hot topic during the pandemic. As I mentioned before, garnishments are a very small part of our cash collections and we have a longstanding practice to address situations like these. Our practices exist that prevent the garnishment of exempt funds. And we have no intention of garnishing stimulus funds. We've specifically instructed our employees and collection law firms. But we don't control the bank garnishment process. In the rare case where these funds may be swept out by a bank and sent to us, we're notified, and we will return the funds to the customer. To my knowledge, we've not had this occur with respect to stimulus funds to date. In Europe, many of the governments are providing companies with funds to continue to pay their employees. They were forced to furlough. And with the closure of multiple public places and businesses across the globe, expenses have decreased for many. As an unfortunate consequence, there are fewer places for the consumer to spend their discretionary funds. They can't stroll them all and make an impulse purchase. They can't go out for dinner and a movie. And in most cases, they can't get their haircut. However, it appears as though some consumers may be choosing to utilize these extra funds to reduce debt. As possible, the consumers may emerge from this in a better financial position than they went in. And that brings me to the future portfolio of sales. The reaction by many sellers to the pandemic in the U.S. has been muted. Most sellers are operating under normal circumstances and continuing to bring portfolios to the market. In Europe, we initially saw sellers halt or postpone portfolio of sales. But recently, we've seen them start to reengage and begin the process again. In all cases, we're utilizing historical data, plus our recent experience to evaluate pricing and adjusting as necessary. Now, this behavior is very similar to the GFC, as both buyers and sellers adjust to the new market realities. And going forward, it remains to be seen what happens with the overall economic environment. It's uncertain if there will be a wave of charge-offs after this, generating additional supply for us. However, given the reserve builds that we've seen from virtually all consumer lenders in Q1, we would expect to see portfolio volumes increase at some point in 2020. And if so, we'll be prepared to be well-positioned, with one of the most conservative capital structures in the industry. However, all of the actions and programs are all successful in limiting global surge and charge-offs, and I will end where I started the call. We simply returned to the attractive environment that we've created. As we enter 2020, PRA would still be in a great competitive position, with significant amounts of supply, rational pricing and operations that are generating margin expansion. With that, operator, we are ready for questions.

Thank you. We will now begin the question-and-answer session. Our first question today will come from Dominick Gabriele of Oppenheimer. Please proceed with your question.

Thank you for taking my question and for the insights into your business. You mentioned that about 20 collectors are working from home. What percentage does that represent of the total collector workforce? Additionally, regarding their productivity, do you see them as being 50% or 75% less productive? What are your thoughts on these metrics and their performance?

It's less than 1%. We had about 1,600 employees at the end of the quarter, and we're down to around 1,500 now, so that’s 20 individuals out of 1,500, which is a very small number. We are making these adjustments to ensure proper social distancing at our sites. For example, our facilities in Kansas and Tennessee are more densely populated, so we’ve moved some people offsite, including those who might be more susceptible to COVID. As for productivity, I have the figure somewhere; it seems to be in the range of 50% to 75%. I’ll try to find that number before the call ends. Do you have another question?

Sure. When you consider the legal channel specifically, you mentioned that some activities will be paused. It seems that obtaining necessary documents could be challenging for some lawyers. You noted that expenses would be lower. How might this delay impact the cash collection as you move forward? Additionally, could you provide any insight into the reasons behind the payment fluctuations you observed? You indicated that breakage rates increased and then decreased again. Can you discuss what feedback you received from your portfolios that might explain this rebound? Thank you.

I was taking notes, and there are numerous questions. You mentioned an issue regarding documents, but I want to clarify that documents are not a problem since they are mainly electronic in this industry. Most of our document resource personnel are working offsite, so that's not something I see as a challenge. The real delays stem from various factors, as I mentioned earlier. We are not currently able to serve people in this environment, and we are addressing accounts that were in progress before COVID. The courts are generally open, but around 70% of counties have approved video appearances, which means about 30% are either rescheduling or closed. That's the current situation. Regarding cash, it's just a matter of mathematics. Cash will be affected at some point due to the decisions we've made; it’s just not the right time yet. We may reconsider in the near future, but right now, serving people during this pandemic takes precedence. So, it likely won't have an immediate effect. Perhaps Pete would like to add something, but if there is an impact, it will probably be felt in Q3 or Q4.

Yeah. Again, it's a timing thing, right? So, obviously, the longer we're on a holding pattern, the longer that delay will be. But at this point, we feel like we've addressed that timing concern in the adjustments we've made.

It's important to note that we have adjusted our approach considering the COVID situation and any potential buying offers. Regarding the cash situation, there was a notable decrease in activity during the latter part of March when the pandemic hit. This situation was unexpected for everyone and caused significant fear, which differs from concerns about financial stability. In terms of cash flow, staffing levels were about 60% to 70% in late March, which impacted our ability to collect anticipated cash. Thankfully, that situation has improved. Various government programs, like PPP loans and unemployment benefits, play a role in this as well. The closure of malls and restaurants has decreased opportunities for purchases, such as luxury items. Additionally, tax season aligned with COVID this year, and it was shorter than in previous years without any clear reasons for the change. A part of the recovery we’re seeing in April and May might be tied to people feeling secure enough to spend their tax refunds. Ultimately, there are many external factors that influence our cash flow, and I wanted to provide a comprehensive view of my thoughts on this cash rebound.

Great. Thanks so much.

Thank you. Our next question will come from Eric Hagen of KBW. Please proceed with your question.

Hey, thanks. Good afternoon and I hope you guys are doing well. Just clarity on the legal costs. Did you say coming down by $12 million a quarter, or did you say it will be around $12 million a quarter over the next few quarters, I think you said?

What I said was given the fact that we are primarily in the U.S., we're kind of on pause. And we've got so many closures around Europe. Depending on the timing of starting that backup, the second quarter could be as low as $12 million to $15 million. But that by the end of the year, we expect we'll be back in that range that we had been $30 million to $35 million a quarter. It's really hard to say whether that's a second quarter restart or third quarter restart, but we are trending down as we sit right now.

Got it. Thanks for the clarification. I appreciate it. I have a couple of questions. First, what kind of cash efficiency ratio do you think you can achieve in this environment, assuming there are no significant changes over the next couple of months? Also, regarding incremental deployments, is the current environment suggesting you should be more aggressive, or would it be wiser to take a more cautious approach to new deployments until you have a clearer outlook?

I'll begin this discussion, and then Pete will provide insights on the cash efficiency ratio. I want to emphasize that since I served as CFO for 20 years, this ratio is among the lowest we've seen, dating back to around 2016. It is indeed one of the lowest rates we've encountered.

One of the best.

… one of the best rates, right? I think more of expense ratio as everybody's putting their thumbs in there. So, one of the best expense ratio since about 2016. Of course, I have a little more granular look at the numbers than you guys do publicly. But our salaries and fringe number is, as far as my records go back, the lowest it's ever been as a percentage of cash receipts. So, that's really encouraging. I'll let Pete finish that. And then I'll move back to the investment side. Do you want anything else to say about that?

We are aiming for an expense ratio of over 60%, specifically around 61%, and we hope to improve that further. In the second quarter, if our cash flow remains strong and we manage to lower our legal expenses, we might see a temporary fluctuation. However, our overall projection for the year is approximately 61%, which aligns with what I previously mentioned.

On the buying side, if you're inquiring about how aggressive we are, that might not be a term you'd commonly hear. However, I want to emphasize that we actively seek opportunities. Our primary focus is on purchasing debt while considering the associated risks. This is why I began with that initial commentary. I'm open to making purchases at this moment. All indicators suggest there could be a significant shift toward the end of 2020, assuming the banks are accurate in their provisioning. Therefore, it is wise to retain some capital for that purpose. We're striving to find a balance in these aspects, and that's likely the best response to your question.

Yeah. Yeah. That makes sense. Thanks for that. And then just one on housekeeping, I think, on the leverage that's embedded in your borrowing agreements. Is that net debt on equity, or is that based on debt to adjusted EBITDA? Just give us some sense for what that covenant actually is.

It's essentially debt to cash adjusted EBITDA, which is the primary adjustment. However, like with any bank agreements, the legal documents provide specific details on how it's calculated.

Yeah. Thank you very much. Stay well. Appreciate it.

Thank you.

Our next question will come from Robert Dodd of Raymond James. Please proceed with your question.

Hi everyone, and congratulations on the cash collections. Going back to something you've been pondering, Kevin, regarding the source of the out-performance in timing, it's clear that if the U.S. is performing 28% above your COVID-adjusted expectations in April, something significant occurred earlier than anticipated. Can you provide any insights into the types of accounts involved? Are they small accounts or large balance accounts? Are we seeing more one-off payments, or does it seem like payment plan formation has returned to normal instead of being exceptional? Any additional information on this would be helpful. It seems reasonable to think that if people are using their tax returns to pay off bills, it might be in lump sums rather than through payment plans. Any insight into the consumer mix given the out-performance would be appreciated.

I can provide some insights. Initially, there was clearly an unexpected event that led to exceeding our COVID adjustment curve by 28%. We had a two-week period to analyze the results, during which I shared my thoughts on cash collections. The fact that 40% of the staff was unavailable hindered our ability to fully engage with our entire portfolio. Additionally, there were delays related to tax season, and while "panic" may not be the right term, there was certainly a sense of fear that affected everyone involved in the call. This led to a bit of a downturn in the latter part of March, due to various factors we considered in our analysis. The data we had informed our strategy, and the outcomes were determined by those insights. In Europe, however, we seemed to have a better handle on the situation overall. Regarding channels, I noticed from a recent report that we experienced some larger payments through digital channels, but the average payment size remained relatively stable, varying between $100 and $120. Although there was a slight increase in digital transactions, it doesn't appear to be significant. Pete, do you have any observations to add?

I don't think so.

Okay. Does that answer?

I appreciate that. Fair enough. Regarding the 61% cash collection ratio, I assume that reflects your expectations based on the new COVID trends, correct? Additionally, does that take into account the strong performance you've observed so far in April, even though it's just a short timeframe? Is there a possibility that if this trend continues and other factors, like court closures, remain in play, the cash collection ratio could surpass your stated target?

I believe anything is possible. Regarding the first part of your question, the cash assumptions in the 61% forecast were included in our financial close at the end of March. Therefore, it doesn't account for the improvement we've observed in April. Additionally, it was based on the assumption of a relatively short duration in this environment. If this situation extends beyond the anticipated timeframe, both cash flow and expenses will adjust accordingly. While a longer closure could help reduce expenses, it will also lead to further delays in cash collection.

I could clear a couple of things. Robert said something I want to make sure. We also gave a little bit of color in my script that we are seeing that strength in cash continuing into these few booking days so far in May. Yeah. Okay. Go ahead Robert.

Yeah. I did know that. I did know that, sorry. I appreciate the color. Thanks a lot and congratulations on the performance.

I'd add one more comment. I wanted to get back on the question about at home production. It certainly varies by rep, but that 50% to 75% as productive is a good range to think about. And so, that means that they're 50% to 25% less productive, right? So, I want to make sure we cleared out what that was.

Thank you. Our next question will come from David Scharf with JMP. Please proceed with your question.

Hi. Good afternoon. Thanks for taking my questions. I need to step out of the queue shortly. Kevin, I had planned to ask you about state regulations, the potential for a delayed tax refund season, bank behavior, and the impact of stimulus. It seems you have already addressed all those points. I have a couple of questions left, one of which is quite open-ended and speculative. After experiencing an earnings season where consumer lenders are clearly facing a significant lack of visibility, we are considering what might change permanently as we come out of this situation. Do you foresee any lasting changes in your business or industry, whether they relate to regulations or insights about digital collections or remote work? Societies often evolve following major disruptions like this, so I’m curious about your thoughts.

Sure, it's interesting. I want to share a story from about 18 months ago. I'm a strong supporter of working from home, especially for collectors. We need to figure out how to approach this from a regulatory perspective. I spoke with our Chief Risk Officer, Laura White, who oversees our dispute department, and it's an ideal group for testing remote work due to their existing dispute queues. For example, we have many single moms in that team, especially with schools closed. They log in early, around 5 a.m., to start working on their queues, and as their kids wake up and start their day, they switch to school-related activities and then log back in at night to finish their work. It's been a positive experience for them and us. I mentioned to Laura that if they prefer to stay offsite, we shouldn't bring them back. The interesting aspect is related to regulation. Before COVID, we could collect from about 21 states, and now it's down to seven states where collecting isn’t allowed. This shift in perspective during the pandemic raises the question of whether it will continue. Over time, we can definitely address some of these simpler technology challenges. These factors are significant structural elements to consider.

Sure. I am sorry.

No, let's go ahead. What's your question?

No. I was just curious. I think yesterday, a federal judge struck down the Massachusetts AG …

Yeah.

Is that something that would provide relief to you for these remaining seven states? I don't know what the specifics are or what exactly the ban entails.

I don't have the list, and I don't believe they are among the seven. As of yesterday, we were unable to call into the additional state.

But I think the trade group filed suit in federal court against Massachusetts.

They certainly did. Additionally, if anyone from the ACA is listening, great job to you all. I believe they handled things well. In my remarks, I mentioned that there's nothing wrong with a simple phone call and a meeting of minds to negotiate a payment, but we were unable to do that in Massachusetts. The judge's opinion was quite strong, addressing the constitutionality of communication methods and emphasizing that a capitalist society requires a fluid financial arm, and debt collection plays a critical role in that. Overall, I thought it was a strong opinion, but unfortunately, Massachusetts is not one of the seven states.

Right. Okay. No, I just didn't know if that ruling since it was at the federal level, ultimately will translate to the other seven, but we'll know soon enough.

So let me just clarify. The seven are work from home people, right? These seven states and I'm talking about …

Got it. Okay.

Massachusetts, but again, until yesterday even our call center couldn't call in Massachusetts.

Got it. On the legal side, just to double-check, you're not filing new suits, but with having to pause the process for things that are already filed or even those that you are not yet filing, does any of this risk running into statute of limitations issues? For instance, if there's a resurgence in the fall and courthouses are closed again in October during flu season, does it jeopardize any statute of limitations?

Sure. Yeah. Because as far as I'm aware, maybe I get off this call and our General Counsel will correct me. But as far as I'm aware, people aren't extending statute. Maybe Darby can track that down while we're on the call.

Okay. And just the last question. Not so much the numbers, but maybe I just want to understand the forecasting and how it impacts the accounting. It seemed like we experienced a lot of events in a compressed timeframe. For example, in the lending area, there was a significant drop in the second half of March. You referred to this as your COVID adjusted curves, which resulted in the net revenue adjustment as well. However, things rebounded quickly. I'm trying to understand the macro assumptions that influenced those curves. If you were to outperform them just a few weeks later in April by 28%, it suggests there might be a reversal happening soon.

Yes, to Kevin's earlier point, when we closed the books, we were only two weeks in with limited data. This adjustment was not heavily data-driven; it was more of a broad, product and country-specific approach. For instance, in the U.S., if we exceeded our pre-adjusted expectations by 8% and adjusted for post-COVID by 28%, you could mathematically conclude that we lowered our expectations for the U.S. core by about 20%. Our strategy was based on the assumption that this situation is temporary and that recovery would happen quickly. With that in mind, as we gain more insights into how things will unfold, we are open to making further adjustments to our outlook on ERC and collections. Any over-performance will offset these adjustments. In the first quarter, that amounted to $8 million in what would be considered a normal quarter.

Yeah. Normal is not a word we used in the last couple of months. Appreciate it. Well, terrific results, obviously. So, thanks for taking my questions once again.

Thank you.

Our next question will come from John Rowan of Janney. Please proceed with your question.

Good evening, guys.

Hi.

I’d like to play devil's advocate for a moment. There has been talk about a potential wave of charge-offs in the fall, which you mentioned in your commentary. What if, come fall, we experience a resurgence of the coronavirus and need to shut down more call centers, leading to a larger number of employees working from home? Even if they maintain 50% to 75% productivity, would that impact your purchasing decisions, assuming everything else remains constant? I'm trying to gauge whether you would continue to buy as much as possible in that situation, anticipating better internal rates of return on those investments, or if you'd need to reduce purchases due to a lack of capacity to manage that debt in the short term.

I think the what-if scenario is interesting. If we see a resurgence of COVID this fall, we might need to close centers again. Although we did close in Vegas, we also opened in Danville, so that balances out. If we had to work from home and productivity dropped to 50% to 75%, we still haven't resolved the technology issues. In that case, we would need to assess pricing based on the market conditions at the time. We would analyze our capacity and forecast our current and upcoming portfolio to create a curve and run the internal rate of return on it. If the seller was willing to sell, we would consider the purchase. It's straightforward. Pete, do you have any different thoughts on this?

Yeah. No, I think that's right. Quite frankly that's kind of what we're doing in the current environment. We are making adjustments on assumptions for money going out the door and pricing accordingly. The one thing I would point out though in your what-if scenario is the wave of charge-off isn't going to come to market in third quarter. I mean, given the programs that the selling banks are putting in place with regards to deferment of payments and other things. I think it's going to be a little bit more of a slow burn before that works its way through the process on the bank side before it turns into charge-off for us. My view is, I think, fourth quarter is probably as early as we would start to see that wave.

Okay. All right. Thank you, guys.

Yeah.

Our next question comes from Mark Hughes with SunTrust. Please proceed with your question.

Thanks for the call and sticking it out here. When you think about forward flows, you clearly committed in a different environment. Can you get adjustments to your purchase price?

Certainly. So, I want to highlight a couple of points regarding that. The figures we provided in the quarterly report and the press release represent the maximum contractual commitments, not the exact amounts that will be utilized. Additionally, these forward flows are established with long-term partners, and the situation varies from seller to seller. As Kevin mentioned in his prepared comments about Europe, some sellers have halted or paused their processes. In the U.S., we have generally maintained the status quo, and negotiations among commercial partners continue to adapt to the current circumstances.

Is that just to be expected? Is there some stigma if you say the underwriting environment is different, we can't do this?

I don't think there's any stigma. This is a global pandemic. And I would say there are sellers who are every bit as concerned about it and as we would be. So.

And then for Europe, I just want to make sure I had the right number. I think you said your collections in April were 7% versus your original expectations. What was the percentage you shared relative to your revised expectations?

5%.

So, 5% above?

5% above the total adjustment, in total. Yeah.

And then, did you try to estimate a number of the collections impact in the first quarter from COVID?

No, quite frankly, it's unknowable. There are too many variables.

When considering the financial impact of this $20 million adjustment, if it were not reversed, you would be applying the same yield to a slightly smaller balance to determine your finance income. Is that the correct way to view it?

Yeah. Conceptually. I mean, we're all still getting used to the way CECL works but ... and not even a whole quarter. But that essentially is going to be the impact on the portfolio income. It will behave similarly to the yield calculations under the old standard. You have made an adjustment to your expected future cash flows and you've discounted that adjustment. So, there'll be a reduction of revenue on a go-forward basis.

Then just a final question. Another number I didn't write fast enough. You said the $283 million, I think that might have been total cash generated cash flow, some sort of maybe EBITDA. What was that number?

It's from the cash flow statement which will be in the Q. It's adjusting cash flow from operations and essentially adding back the CECL equivalent of portfolio amortization.

Thank you very much.

Cash applied to negative allowance, recovery supplied to negative allowance.

It's the old payments applied to principal, right? Yeah. Right.

Conceptually.

It's cash flow from operations, plus the old payments applied to principal, essentially.

Yeah.

Okay. Thank you. Appreciate it.

Before we move on to the next question, I have a response regarding David Scharf's inquiry about expiring statutes. The team feels there isn’t much cause for concern, especially since 70% of counties are now accepting virtual hearings. Also, I find virtual hearings to be a fascinating concept that is very friendly to consumers or litigants, and I hope to see this trend continue. I'm not sure how common this was in the past, but let's proceed to the next question.

Thank you. Our next question will come from a follow-up from Dominick Gabriele of Oppenheimer. Please proceed with your question.

Thank you for taking my question again. Could you explain how we move from the gross revenue vintage numbers to the portfolio income? I might have missed it if you discussed it already, but could you clarify that for us? Also, did the way you account for portfolio income change compared to how you account for the gross revenue number?

They are conceptually similar, but the mechanics of how you arrive at them are different. The portfolio income figure corresponds to the yield calculation we would have used under the previous reporting standard, reflecting income on financing receivables from the previous year's comparable data. However, with our new CECL income statement presentation, we have other components to consider. We see changes in expected recoveries, which involves two parts: the write-down on ERC and the net present value of that adjustment, along with the performance during the period. This period saw $8 million in cash collections that exceeded our expectations. Therefore, we faced a net negative change in expected recoveries of $12 million to $13 million, when combined with portfolio income and fees, results in our total revenue.

Okay. Great. And then just one more thing. With everybody being home, when you think about everybody actually has to sit at home and their phone is to the left of them or so maybe they're just using their cell phones. But for the people that obviously have house phones that you've been calling and trying to reach, I mean, has the fact that people have been at home and are able to take these calls? Have you seen any impact in your ability to reach people more since this has started? Thanks. I really appreciate it.

Yes. I mentioned it earlier, but I might have combined the explanation. I was talking about the RPC rate, which stands for right party contact rate. It showed a significant improvement in mid-March, which is quite a leap from the usual performance. This trend has continued into May.

Okay. Great. Thanks.

This concludes our question-and-answer session. I would now like to turn the conference back over to Mr. Kevin Stevenson, President and CEO.

Thank you very much. And I do have something to say this evening at closing. First, of course, thank you for joining the call, and please stay safe and keep your family safe. But please, remember your local charities, they are really suffering during this time and they need your support and your company support. So, I thought I wanted to throw that out there. Again, we look forward to talking to you next quarter, and we'll see you then.

Thank you. The conference is now concluded. Thank you very much for attending today’s presentation. You may now disconnect.