e10vq
UNITED
STATES
SECURITIES AND EXCHANGE COMMISSION
FORM 10-Q
(Mark One)
|
|
|
þ |
|
Quarterly Report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 |
For the quarterly period ended June 30, 2005
or
|
|
|
o |
|
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: 001-12351
METRIS COMPANIES INC.
(Exact name of Registrant as specified in its charter)
|
|
|
Delaware
(State of Incorporation)
|
|
41-1849591
(I.R.S. Employer Identification No.) |
10900 Wayzata Boulevard, Minnetonka, Minnesota 55305-1534
(Address of principal executive offices)
(952) 525-5020
(Registrants telephone number)
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 of 1934 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 þ No o
Indicate by check mark whether the Registrant is an accelerated filer (as defined in Rule 12b-2 of
the Exchange Act).
Yes þ No o
As of July 31, 2005, 58,454,018 shares of the Registrants common stock, par value $.01 per share,
were outstanding.
METRIS
COMPANIES INC.
FORM 10-Q
TABLE OF CONTENTS
June 30, 2005
2
Forward-Looking Statements
This Quarterly Report on Form 10-Q contains certain forward-looking statements within the
meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities
Exchange Act of 1934, as amended, which are subject to the safe harbor created by those sections.
Forward-looking statements include, without limitation: expressions of the belief,
anticipation, intent, or expectations of management; statements and information as to our
strategies and objectives; return on equity; changes in our managed loan portfolio; net interest
margins; funding costs; liquidity; cash flow; operating costs and marketing expenses; delinquencies
and charge-offs and industry comparisons or projections; statements as to industry trends or future
results of operations of Metris Companies, Inc. and its subsidiaries (the Company); and other
statements that are not historical fact. Forward-looking statements may be identified by the use of
terminology such as may, will, believes, does not believe, no reason to believe,
expects, plans, intends, estimates, anticipated, or anticipates and similar
expressions, as they relate to the Company or our management. Forward-looking statements are based
on certain assumptions by management and are subject to risks and uncertainties that could cause
actual results to differ materially from those in the forward-looking statements.
These risks and uncertainties include, but are not limited to: the potential impact of any
failure to operate in accordance with directives from the Office of the Comptroller of the
Currency, including those included in our Modified Operating Agreement; the ability of regulators
to impose restrictions on Direct Merchants Credit Card Bank, National Association, that could
negatively impact our operations or financial results; the risk that failure to comply with
applicable laws, regulations, and credit card association bylaws and adverse changes in those laws,
regulations, or credit card association bylaws could have a negative impact on our financial
results and could adversely affect our ability to conduct our business in a profitable manner; the
fact that we are the subject of an investigation by the Securities and Exchange Commission; that
the occurrence of certain events could result in early amortization (required repayment) of the
securities issued by the Metris Master Trust; that credit card receivables generated by our target
consumers generally have higher default rates and our target consumers may be impacted more by
general economic and social factors than higher credit quality consumers; that we require a high
degree of liquidity to operate our business, and an inability to access funding at the times and in
the amounts that we need could adversely affect our ability to operate or our financial results;
that we are the subject of an Internal Revenue Service examination; that changes in the interest
rates on the funds we borrow and the amounts we loan to our credit card customers could adversely
affect our financial results; the fact that we face intense competition; the fact that our
financial results could be negatively impacted by fluctuations in the valuation of our retained
interests in our securitizations; the fact that our restatements of financial results have had, and
may in the future continue to have, adverse effects on us; the fact that changes in the credit card
market as a result of recent judicial decisions with MasterCard® and Visa®
could adversely affect our financial results; and the fact that we are exposed to other
industry-wide risks that could adversely affect our financial performance.
These risks are discussed in our Annual Report on Form 10-K for the year ended December 31,
2004, in Item 1 of such report under the heading Risk Factors. Certain of these and other risks
and uncertainties also are discussed in Legal Proceedings on page 44, Managements Discussion
and Analysis of Financial Condition and Results of Operations on pages 23 43, and Quantitative
and Qualitative Disclosures About Market Risk on pages 43-44 of this Report. Although we have
attempted to list comprehensively the major risks and uncertainties, other factors may in the
future prove to be important in causing actual results to differ materially from those contained in
any forward-looking statement. Readers are cautioned not to place undue reliance on any
forward-looking statement, which speaks only as of the date thereof. We undertake no obligation to
update any forward-looking statements, whether as a result of new information, future events or
otherwise.
3
Part I. Financial Information
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS
METRIS COMPANIES INC. AND SUBSIDIARIES
Consolidated Balance Sheets
(In thousands, except per share and share data)
|
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|
|
|
|
|
|
|
|
June 30, |
|
|
|
|
2005 |
|
December 31, |
|
|
(Unaudited) |
|
2004 |
Assets |
|
|
|
|
|
|
|
|
Cash and due from banks |
|
$ |
23,487 |
|
|
$ |
25,198 |
|
Federal funds sold |
|
|
27,395 |
|
|
|
22,450 |
|
Short-term investments |
|
|
126,083 |
|
|
|
43,070 |
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents |
|
|
176,965 |
|
|
|
90,718 |
|
Available for sale securities |
|
|
109,991 |
|
|
|
306,409 |
|
Liquidity reserve deposit |
|
|
70,044 |
|
|
|
79,746 |
|
Credit card loans, net of allowance of $3,751
and $12,409, respectively |
|
|
2,754 |
|
|
|
55,821 |
|
Retained interests in loans securitized |
|
|
769,184 |
|
|
|
784,135 |
|
Property and equipment, net |
|
|
22,936 |
|
|
|
24,135 |
|
Other receivables due from credit card
securitizations, net |
|
|
66,847 |
|
|
|
68,021 |
|
Other assets |
|
|
47,345 |
|
|
|
72,494 |
|
|
|
|
|
|
|
|
|
|
Total assets |
|
$ |
1,266,066 |
|
|
$ |
1,481,479 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities |
|
|
|
|
|
|
|
|
Debt |
|
$ |
78,626 |
|
|
$ |
373,624 |
|
Accounts payable |
|
|
34,448 |
|
|
|
37,619 |
|
Accrued expenses and other liabilities |
|
|
142,828 |
|
|
|
122,934 |
|
|
|
|
|
|
|
|
|
|
Total liabilities |
|
|
255,902 |
|
|
|
534,177 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stockholders Equity |
|
|
|
|
|
|
|
|
Convertible preferred stock, par value $.01 per share;
10,000,000 shares authorized, 1,444,186 and 1,381,327
shares issued and outstanding, respectively |
|
|
537,960 |
|
|
|
514,545 |
|
Common stock, par value $.01 per share;
300,000,000 shares authorized, 65,501,049 and
65,182,416 issued, respectively |
|
|
655 |
|
|
|
652 |
|
Paid-in capital |
|
|
237,168 |
|
|
|
233,989 |
|
Unearned compensation |
|
|
(404 |
) |
|
|
|
|
Treasury
stock 7,055,300 shares |
|
|
(58,308 |
) |
|
|
(58,308 |
) |
Retained earnings |
|
|
293,093 |
|
|
|
256,424 |
|
|
|
|
|
|
|
|
|
|
Total stockholders equity |
|
|
1,010,164 |
|
|
|
947,302 |
|
|
|
|
|
|
|
|
|
|
Total liabilities and stockholders equity |
|
$ |
1,266,066 |
|
|
$ |
1,481,479 |
|
|
|
|
|
|
|
|
|
|
See accompanying Notes to Consolidated Financial Statements.
4
METRIS COMPANIES INC. AND SUBSIDIARIES
Consolidated Statements of Income
(In thousands, except per-share data) (Unaudited)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
Six Months Ended |
|
|
June 30, |
|
June 30, |
|
|
2005 |
|
2004 |
|
2005 |
|
2004 |
Revenues |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss on new securitizations of receivables to the
Metris Master Trust |
|
$ |
(13,046 |
) |
|
$ |
(90,640 |
) |
|
$ |
(42,207 |
) |
|
$ |
(91,886 |
) |
Loss on replenishment of receivables to
the Metris Master Trust |
|
|
(11,129 |
) |
|
|
(25,454 |
) |
|
|
(22,626 |
) |
|
|
(49,381 |
) |
Discount accretion |
|
|
60,503 |
|
|
|
61,570 |
|
|
|
121,832 |
|
|
|
121,540 |
|
Interest-only revenue |
|
|
96,503 |
|
|
|
55,137 |
|
|
|
185,388 |
|
|
|
130,069 |
|
Change in fair value of retained interests in loans securitized |
|
|
15,696 |
|
|
|
20,718 |
|
|
|
20,808 |
|
|
|
68,683 |
|
Transaction and other costs |
|
|
(5,886 |
) |
|
|
(45,674 |
) |
|
|
(12,498 |
) |
|
|
(84,383 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Securitization income (expense) |
|
|
142,641 |
|
|
|
(24,343 |
) |
|
|
250,697 |
|
|
|
94,642 |
|
Servicing income on securitized receivables |
|
|
28,273 |
|
|
|
33,847 |
|
|
|
57,693 |
|
|
|
70,084 |
|
Credit card loan and other interest income |
|
|
3,211 |
|
|
|
5,010 |
|
|
|
8,159 |
|
|
|
10,116 |
|
Credit card loan fees, interchange and other income |
|
|
1,920 |
|
|
|
5,264 |
|
|
|
4,700 |
|
|
|
16,080 |
|
Enhancement services income |
|
|
2,961 |
|
|
|
6,976 |
|
|
|
6,426 |
|
|
|
14,456 |
|
Gain on sale of membership and warranty business |
|
|
|
|
|
|
|
|
|
|
1,800 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total revenues |
|
|
179,006 |
|
|
|
26,754 |
|
|
|
329,475 |
|
|
|
205,378 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Expenses |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest |
|
|
4,520 |
|
|
|
18,714 |
|
|
|
15,901 |
|
|
|
32,645 |
|
Benefit for loan losses |
|
|
(4,603 |
) |
|
|
(491 |
) |
|
|
(5,551 |
) |
|
|
(6,583 |
) |
Marketing |
|
|
33,924 |
|
|
|
15,726 |
|
|
|
53,071 |
|
|
|
31,658 |
|
Employee compensation |
|
|
38,086 |
|
|
|
35,723 |
|
|
|
74,595 |
|
|
|
74,668 |
|
Data processing services and communications |
|
|
11,832 |
|
|
|
13,777 |
|
|
|
23,832 |
|
|
|
30,249 |
|
Credit protection claims |
|
|
4,030 |
|
|
|
5,036 |
|
|
|
9,443 |
|
|
|
11,384 |
|
Occupancy and equipment |
|
|
4,761 |
|
|
|
5,984 |
|
|
|
9,654 |
|
|
|
12,385 |
|
Other |
|
|
36,448 |
|
|
|
28,735 |
|
|
|
56,207 |
|
|
|
51,110 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total expenses |
|
|
128,998 |
|
|
|
123,204 |
|
|
|
237,152 |
|
|
|
237,516 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) before income taxes |
|
|
50,008 |
|
|
|
(96,450 |
) |
|
|
92,323 |
|
|
|
(32,138 |
) |
Income tax expense (benefit) |
|
|
17,505 |
|
|
|
(26,124 |
) |
|
|
32,239 |
|
|
|
(3,422 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss) |
|
|
32,503 |
|
|
|
(70,326 |
) |
|
|
60,084 |
|
|
|
(28,716 |
) |
Convertible preferred stock dividends |
|
|
11,838 |
|
|
|
10,830 |
|
|
|
23,415 |
|
|
|
21,421 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss) after preferred dividends |
|
$ |
20,665 |
|
|
$ |
(81,156 |
) |
|
$ |
36,669 |
|
|
$ |
(50,137 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earnings (loss) per share |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Distributed |
|
$ |
|
|
|
$ |
|
|
|
$ |
|
|
|
$ |
|
|
Undistributed |
|
|
0.20 |
|
|
|
(1.40 |
) |
|
|
0.35 |
|
|
|
(0.87 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Basic |
|
$ |
0.20 |
|
|
$ |
(1.40 |
) |
|
$ |
0.35 |
|
|
$ |
(0.87 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Diluted |
|
$ |
0.20 |
|
|
$ |
(1.40 |
) |
|
$ |
0.35 |
|
|
$ |
(0.87 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Shares used to compute earnings (loss) per share |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic |
|
|
58,295 |
|
|
|
57,924 |
|
|
|
58,221 |
|
|
|
57,857 |
|
Diluted |
|
|
59,045 |
|
|
|
57,924 |
|
|
|
58,981 |
|
|
|
57,857 |
|
See accompanying Notes to Consolidated Financial Statements.
5
METRIS COMPANIES INC. AND SUBSIDIARIES
Consolidated Statements of Changes in Stockholders Equity
(In thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Convertible |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
|
Number of Shares |
|
Preferred |
|
Common |
|
Paid In |
|
Unearned |
|
Treasury |
|
Retained |
|
Stockholders |
|
|
Preferred |
|
Common |
|
Stock |
|
Stock |
|
Capital |
|
Compensation |
|
Stock |
|
Earnings |
|
Equity |
Balance at December 31, 2003 |
|
|
1,264 |
|
|
|
57,807 |
|
|
$ |
470,728 |
|
|
$ |
649 |
|
|
$ |
229,655 |
|
|
$ |
(27 |
) |
|
$ |
(58,308 |
) |
|
$ |
266,496 |
|
|
$ |
909,193 |
|
Net loss |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(28,716 |
) |
|
|
(28,716 |
) |
Convertible preferred stock dividends |
|
|
57 |
|
|
|
|
|
|
|
21,421 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(21,421 |
) |
|
|
|
|
Issuance of common stock under
employee benefit plans |
|
|
|
|
|
|
200 |
|
|
|
|
|
|
|
1 |
|
|
|
2,331 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2,332 |
|
Deferred compensation obligations |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(85 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(85 |
) |
Restricted stock forfeitures |
|
|
|
|
|
|
(50 |
) |
|
|
|
|
|
|
|
|
|
|
(5 |
) |
|
|
4 |
|
|
|
|
|
|
|
|
|
|
|
(1 |
) |
Amortization of restricted stock |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
23 |
|
|
|
|
|
|
|
|
|
|
|
23 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance at June 30, 2004 (Unaudited) |
|
|
1,321 |
|
|
|
57,957 |
|
|
|
492,149 |
|
|
|
650 |
|
|
|
231,896 |
|
|
|
|
|
|
|
(58,308 |
) |
|
|
216,359 |
|
|
|
882,746 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance at December 31, 2004 |
|
|
1,381 |
|
|
|
58,127 |
|
|
$ |
514,545 |
|
|
$ |
652 |
|
|
$ |
233,989 |
|
|
$ |
|
|
|
$ |
(58,308 |
) |
|
$ |
256,424 |
|
|
$ |
947,302 |
|
Net income |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
60,084 |
|
|
|
60,084 |
|
Convertible preferred stock dividends |
|
|
63 |
|
|
|
|
|
|
|
23,415 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(23,415 |
) |
|
|
|
|
Issuance of common stock under
employee benefit and
compensation plans |
|
|
|
|
|
|
281 |
|
|
|
|
|
|
|
3 |
|
|
|
2,711 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2,714 |
|
Issuance of restricted stock |
|
|
|
|
|
|
38 |
|
|
|
|
|
|
|
|
|
|
|
468 |
|
|
|
(468 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
Amortization of restricted stock |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
64 |
|
|
|
|
|
|
|
|
|
|
|
64 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance at June 30, 2005 (Unaudited) |
|
|
1,444 |
|
|
|
58,446 |
|
|
$ |
537,960 |
|
|
$ |
655 |
|
|
$ |
237,168 |
|
|
$ |
(404 |
) |
|
$ |
(58,308 |
) |
|
$ |
293,093 |
|
|
$ |
1,010,164 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
See accompanying Notes to Consolidated Financial Statements.
6
METRIS COMPANIES INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(In thousands) (Unaudited)
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended |
|
|
June 30, |
|
|
2005 |
|
2004 |
Operating Activities |
|
|
|
|
|
|
|
|
Net income (loss) |
|
$ |
60,084 |
|
|
$ |
(28,716 |
) |
Adjustments to reconcile net income (loss) to net
cash provided by operating activities: |
|
|
|
|
|
|
|
|
Depreciation, amortization and accretion |
|
|
(105,557 |
) |
|
|
(100,583 |
) |
Benefit for loan losses |
|
|
(5,551 |
) |
|
|
(6,583 |
) |
Loss from credit card securitizations |
|
|
64,833 |
|
|
|
141,267 |
|
Gain on sale of membership and warranty business |
|
|
(1,800 |
) |
|
|
|
|
Market loss on derivative financial instruments |
|
|
1,578 |
|
|
|
7,572 |
|
Changes in operating assets and liabilities, net: |
|
|
|
|
|
|
|
|
Liquidity reserve deposit |
|
|
9,702 |
|
|
|
5,295 |
|
Fair value of retained interests in loans securitized |
|
|
(20,808 |
) |
|
|
(68,683 |
) |
Spread accounts receivable |
|
|
38,544 |
|
|
|
163,728 |
|
Other receivables due from credit card securitizations, net |
|
|
1,174 |
|
|
|
4,941 |
|
Accounts payable |
|
|
(3,171 |
) |
|
|
1,800 |
|
Accrued expenses and other liabilities |
|
|
17,093 |
|
|
|
11,844 |
|
Other |
|
|
19,620 |
|
|
|
17,081 |
|
|
|
|
|
|
|
|
|
|
Net cash provided by operating activities |
|
|
75,741 |
|
|
|
148,963 |
|
|
|
|
|
|
|
|
|
|
Investing Activities |
|
|
|
|
|
|
|
|
Proceeds from sales of available for sale securities |
|
|
1,266,326 |
|
|
|
1,206,831 |
|
Purchases of available for sale securities |
|
|
(1,069,908 |
) |
|
|
(1,393,563 |
) |
Net loans collected |
|
|
610,234 |
|
|
|
408,127 |
|
Net repayments of securitized loans |
|
|
(497,402 |
) |
|
|
(420,000 |
) |
Net (additions to) disposals of property and equipment |
|
|
(3,374 |
) |
|
|
2,072 |
|
|
|
|
|
|
|
|
|
|
Net cash provided by (used in) investing activities |
|
|
305,876 |
|
|
|
(196,533 |
) |
|
|
|
|
|
|
|
|
|
Financing Activities |
|
|
|
|
|
|
|
|
Proceeds from issuance of debt |
|
|
|
|
|
|
283,974 |
|
Repayment of debt |
|
|
(295,883 |
) |
|
|
(202,724 |
) |
Proceeds from issuance of common stock |
|
|
513 |
|
|
|
2,332 |
|
|
|
|
|
|
|
|
|
|
Net cash (used in) provided by financing activities |
|
|
(295,370 |
) |
|
|
83,582 |
|
|
|
|
|
|
|
|
|
|
Net increase in cash and cash equivalents |
|
|
86,247 |
|
|
|
36,012 |
|
Cash and cash equivalents at beginning of period |
|
|
90,718 |
|
|
|
178,485 |
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents at end of period |
|
$ |
176,965 |
|
|
$ |
214,497 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Supplemental disclosures and cash flow information |
|
|
|
|
|
|
|
|
Cash paid (received) during the period for: |
|
|
|
|
|
|
|
|
Interest |
|
$ |
19,704 |
|
|
$ |
23,183 |
|
Income taxes |
|
|
15,803 |
|
|
|
(35,820 |
) |
See accompanying Notes to Consolidated Financial Statements.
7
METRIS COMPANIES INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(In thousands, except as noted) (Unaudited)
NOTE 1 ORGANIZATION AND BASIS OF PRESENTATION
The consolidated financial statements include the accounts of Metris Companies Inc. (MCI)
and its subsidiaries. MCIs principal subsidiaries are Direct Merchants Credit Card Bank, National
Association (Direct Merchants Bank or the Bank), Metris Direct, Inc., and Metris Receivables,
Inc. (MRI). MCI and its subsidiaries, as applicable, may be referred to as we, us, our or
the Company. We are an information-based direct marketer of consumer lending products.
All dollar amounts are presented as pre-tax amounts unless otherwise noted. We have
eliminated all intercompany balances and transactions in consolidation.
During the first quarter of 2005, we reclassified certain financial statement line items to
reflect the continuing operations of our business. In prior periods, we classified purchased
portfolio premium as an individual line item in Total assets. For all periods presented,
purchased portfolio premium is classified as Other assets on the consolidated balance sheets. In
prior periods, we classified deposits and deferred income as individual line items in Total
liabilities. For all periods presented, deposits and deferred income are classified as Accrued
expenses and other liabilities. In prior periods, we classified purchased portfolio premium
amortization and asset impairments, lease write-offs and severance as individual line items in
Total expenses. For all periods presented, purchased portfolio premium amortization and asset
impairments, lease write-offs and severance are classified as Other expenses on the consolidated
statements of income.
Interim Financial Statements
We have prepared the unaudited interim consolidated financial statements and related unaudited
financial information in the footnotes in accordance with accounting principles generally accepted
in the United States of America (GAAP) and the rules and regulations of the Securities and
Exchange Commission (SEC or the Commission) for interim financial statements. These interim
financial statements reflect all adjustments consisting of normal recurring accruals, which, in the
opinion of management, are necessary to present fairly our consolidated financial position and the
results of our operations and our cash flows for the interim periods. You should read these
consolidated financial statements in conjunction with the financial statements and the notes
thereto contained in our Annual Report on Form 10-K for the fiscal year ended December 31, 2004.
The nature of our business is such that the results of any interim period may not be indicative of
the results to be expected for the entire year.
Pervasiveness of Estimates
We have prepared the consolidated financial statements in accordance with GAAP, which requires
us to make estimates and assumptions that affect the reported amounts in the consolidated financial
statements and accompanying notes. The most significant and subjective of these estimates is our
determination of the fair value of Retained interests in loans securitized. The significant
factors susceptible to future change that have an impact on this estimate include default rates,
net interest spreads, payment rates, liquidity and the ability to finance future receivables
activity and overall economic conditions. As a result, the fair value of our Retained interests
in loans securitized as of June 30, 2005 and December 31, 2004, could materially differ from these
estimates.
Comprehensive Income
During the three- and six-month periods ended June 30, 2005 and 2004, we did not have any
other comprehensive income as defined by Statement of Financial Accounting Standards (SFAS) No.
130 Reporting Comprehensive Income. As such, net income equals comprehensive income for all
periods presented.
8
NOTE 2
EARNINGS PER SHARE
We calculate earnings per share in accordance with Emerging Issues Task Force (EITF) Issue
No. 03-6 Participating Securities and the two-class method under FASB Statement 128. This method
requires net income to be reduced by the amount of dividends declared in the current period for
each class of stock and by the contractual amount of dividends or other participation payments that
are paid or accumulated for the current period. Undistributed earnings for the period are
allocated to participating securities based on the contractual participation rights of the
security, to share in those current earnings assuming all earnings for the period are distributed.
Our preferred stockholders have contractual participation rights on a converted basis that are
equivalent to those of common stockholders. Therefore, we allocate undistributed earnings to
preferred and common stockholders based on their respective ownership percentage, on a converted
basis, as of the end of the period.
The following table presents the computation of earnings per share.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
Six Months Ended |
|
|
June 30, |
|
June 30, |
|
|
2005 |
|
2004 |
|
2005 |
|
2004 |
Net income (loss) |
|
$ |
32,503 |
|
|
$ |
(70,326 |
) |
|
$ |
60,084 |
|
|
$ |
(28,716 |
) |
Convertible preferred stock dividends |
|
|
11,838 |
|
|
|
10,830 |
|
|
|
23,415 |
|
|
|
21,421 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss) after preferred dividends |
|
$ |
20,665 |
|
|
$ |
(81,156 |
) |
|
$ |
36,669 |
|
|
$ |
(50,137 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Convertible preferred stock dividends |
|
$ |
11,838 |
|
|
$ |
10,830 |
|
|
$ |
23,415 |
|
|
$ |
21,421 |
|
Weighted average preferred shares |
|
|
1,412 |
|
|
|
1,292 |
|
|
|
1,397 |
|
|
|
1,278 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Distributed earnings per share Preferred |
|
$ |
8.38 |
|
|
$ |
8.38 |
|
|
$ |
16.76 |
|
|
$ |
16.76 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Undistributed income (loss) |
|
$ |
20,665 |
|
|
$ |
(81,156 |
) |
|
$ |
36,669 |
|
|
$ |
(50,137 |
) |
Preferred ownership on a converted basis |
|
|
44 |
% |
|
|
44 |
% |
|
|
44 |
% |
|
|
44 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Preferred stockholders interest in undistributed income (1) |
|
$ |
9,093 |
|
|
$ |
|
|
|
$ |
16,134 |
|
|
$ |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted average preferred shares |
|
|
1,412 |
|
|
|
1,292 |
|
|
|
1,397 |
|
|
|
1,278 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Undistributed earnings per share Preferred |
|
$ |
6.44 |
|
|
$ |
|
|
|
$ |
11.55 |
|
|
$ |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Undistributed income (loss) |
|
$ |
20,665 |
|
|
$ |
(81,156 |
) |
|
$ |
36,669 |
|
|
$ |
(50,137 |
) |
Common ownership |
|
|
56 |
% |
|
|
56 |
% |
|
|
56 |
% |
|
|
56 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Common stockholders interest in undistributed income (loss) (1) |
|
$ |
11,572 |
|
|
$ |
(81,156 |
) |
|
$ |
20,535 |
|
|
$ |
(50,137 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted average common shares outstanding Basic |
|
|
58,295 |
|
|
|
57,924 |
|
|
|
58,221 |
|
|
|
57,857 |
|
Common share equivalents |
|
|
750 |
|
|
|
|
|
|
|
760 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Shares used to compute earnings per common share Diluted |
|
|
59,045 |
|
|
|
57,924 |
|
|
|
58,981 |
|
|
|
57,857 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total basic earnings (loss) per share Common |
|
|
0.20 |
|
|
|
(1.40 |
) |
|
|
0.35 |
|
|
|
(0.87 |
) |
Total diluted earnings (loss) per share Common |
|
|
0.20 |
|
|
|
(1.40 |
) |
|
|
0.35 |
|
|
|
(0.87 |
) |
|
|
|
(1) |
|
Preferred stockholders do not participate in any undistributed losses with common stockholders |
9
NOTE 3
STOCK-BASED COMPENSATION PLANS
We recognize expense for equity compensation instruments based on the difference, if any,
between the quoted market price of the stock on the measurement date and the amount an employee
must pay to acquire the stock. No expense has been recorded related to stock options as all
options granted had an exercise price equal to the market value of the underlying common stock on
the measurement date. During the six months ended June 30, 2005 and June 30, 2004, we issued
569,400 and 857,700 restricted stock units to employees, respectively. The units vest over a one
to eight year period if certain earnings targets are met, or in some cases, if a change of control
occurs. If certain earnings targets are not met, the restricted stock units are cancelled. Upon
vesting, each restricted stock unit converts to one share of common stock that is distributable to
the employee. The fair value of the restricted stock units is expensed over the expected vesting
period and included in Employee compensation on the consolidated statements of income and
Accrued expenses and other liabilities on the consolidated balance sheets. We recognized
approximately $2.0 million and $0.3 million in expense related to restricted stock units, net of
related tax benefit, for the quarters ended June 30, 2005 and 2004, respectively, and approximately
$3.0 million and $0.3 million in expense related to restricted stock units, net of related tax
benefit, for the six-month periods ended June 30, 2005 and 2004, respectively.
The following table provides pro forma net income and earnings per share as if we accounted
for our equity compensation instruments under the fair value method. The fair value of the options
was estimated at the grant date using a Black-Scholes option pricing model. The fair value of the
options is amortized to expense over the options vesting periods. Under the fair value method,
our Net income (loss) and Earnings (loss) per share would have been recorded at the pro forma
amounts indicated below:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
Six Months Ended |
|
|
June 30, |
|
June 30, |
(In thousands except per share data) |
|
2005 |
|
2004 |
|
2005 |
|
2004 |
Net income (loss) |
|
$ |
32,503 |
|
|
$ |
(70,326 |
) |
|
|
60,084 |
|
|
$ |
(28,716 |
) |
Add:
Stockbased employee compensation
expense included in reported net income (loss),
net of related tax effects |
|
|
2,057 |
|
|
|
293 |
|
|
|
3,012 |
|
|
|
304 |
|
Deduct: Annual stockbased employee
compensation expense (benefit) determined
based on the fair value for all awards, net of
related tax effects |
|
|
608 |
|
|
|
(3,417 |
) |
|
|
1,737 |
|
|
|
(4,883 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Pro forma net income (loss) |
|
$ |
33,952 |
|
|
$ |
(66,616 |
) |
|
$ |
61,359 |
|
|
$ |
(23,529 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earnings (loss) per share: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basicas reported |
|
$ |
0.20 |
|
|
$ |
(1.40 |
) |
|
$ |
0.35 |
|
|
$ |
(0.87 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basicpro forma |
|
$ |
0.21 |
|
|
$ |
(1.34 |
) |
|
$ |
0.36 |
|
|
$ |
(0.78 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Dilutedas reported |
|
$ |
0.20 |
|
|
$ |
(1.40 |
) |
|
$ |
0.35 |
|
|
$ |
(0.87 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Dilutedpro forma |
|
$ |
0.21 |
|
|
$ |
(1.34 |
) |
|
$ |
0.36 |
|
|
$ |
(0.78 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted-average assumptions in option
valuation: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Riskfree interest rates |
|
|
3.7 |
% |
|
|
3.2 |
% |
|
|
3.7 |
% |
|
|
3.2 |
% |
Stock volatility factor |
|
|
93.7 |
% |
|
|
129.1 |
% |
|
|
93.7 |
% |
|
|
129.1 |
% |
Expected life of options (in years) |
|
|
2.7 |
|
|
|
2.7 |
|
|
|
2.7 |
|
|
|
2.7 |
|
The above pro forma amounts may not be representative of the effects on net earnings for
future periods.
10
In December 2004, the Financial Accounting Standards Board issued SFAS No. 123 (Revised 2004),
Share-Based Payment (SFAS 123R). SFAS 123R is a revision of SFAS No. 123 Accounting for
Stock-Based Compensation, and supersedes Accounting Principles Board Opinion No. 25 Accounting for
Stock Issued to Employees and its related implementation guidance. SFAS 123R was originally
effective as of the beginning of the first interim or annual reporting period that began after June
15, 2005. On April 15, 2005, the SEC amended the date for compliance with SFAS 123R, so that each
registrant that is not a small business issuer will be required to prepare financial statements in
accordance with the guidance beginning with the interim or annual reporting period of the first
fiscal year beginning on or after June 15, 2005. The amendment results in a six month delay for
required compliance from the original effective date of July 1, 2005. The Company intends to adopt
the provisions of SFAS 123R effective January 1, 2006. The impact to compensation expense related
to the equity instruments outstanding as of December 31, 2005, is not expected to be material.
However, the final impact to compensation expense will be dependent on the number of equity
instruments granted during any year, including their timing and vesting period, and the method used
to calculate the fair value of the awards, among other factors.
NOTE 4
AVAILABLE FOR SALE SECURITIES
Our Available for sale securities portfolio consists solely of investments in AA/Aa2 or
higher rated auction rate securities. Auction rate securities are term debt and/or equity
securities earning income at a rate that is frequently reset to reflect current market conditions
through an auction. The following table shows the fair value and cost of term debt and equity
auction rate securities outstanding at June 30, 2005 and December 31, 2004, respectively. Equity
securities available for sale are those auction rate securities with perpetual maturity dates.
|
|
|
|
|
|
|
|
|
|
|
Fair Value and Cost of Available for Sale |
|
|
Securities Outstanding as of |
|
|
June 30, |
|
December 31, |
(In thousands) |
|
2005 |
|
2004 |
Debt Securities |
|
|
|
|
|
|
|
|
Legal Final Maturity Date
Less than 1 year |
|
$ |
|
|
|
$ |
10,000 |
|
1 year 5 years |
|
|
|
|
|
|
10,000 |
|
5 years 10 years |
|
|
|
|
|
|
|
|
Over 10 years |
|
|
60,153 |
|
|
|
24,420 |
|
|
|
|
|
|
|
|
|
|
Total Debt Securities |
|
|
60,153 |
|
|
|
44,420 |
|
|
|
|
|
|
|
|
|
|
Equity Securities |
|
|
49,838 |
|
|
|
261,989 |
|
|
|
|
|
|
|
|
|
|
Total Available for Sale Securities |
|
$ |
109,991 |
|
|
$ |
306,409 |
|
|
|
|
|
|
|
|
|
|
Actual maturities of our available for sale debt securities will vary from their legal final
maturity date because on each reset date, we buy and sell securities at par. As of June 30, 2005
and December 31, 2004, reset dates ranged from two to 31 days. At all times, we invest in
securities with reset dates of 90 days or less. Due to the frequency with which the yields on these
securities reset, cost approximates fair market value, and there is no resulting other
comprehensive income.
11
NOTE 5 ALLOWANCE FOR LOAN LOSSES
The activity in the allowance for loan losses is as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
Six Months Ended |
|
|
June 30, |
|
June 30, |
|
|
2005 |
|
2004 |
|
2005 |
|
2004 |
Balance at beginning of period |
|
$ |
9,830 |
|
|
$ |
18,945 |
|
|
$ |
12,409 |
|
|
$ |
45,492 |
|
Allowance related to assets re-acquired |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1,945 |
|
Benefit for loan losses |
|
|
(4,603 |
) |
|
|
(491 |
) |
|
|
(5,551 |
) |
|
|
(6,583 |
) |
Principal receivables charged-off |
|
|
(2,472 |
) |
|
|
(4,250 |
) |
|
|
(5,283 |
) |
|
|
(26,921 |
) |
Recoveries |
|
|
996 |
|
|
|
1,171 |
|
|
|
2,176 |
|
|
|
1,442 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net principal receivables charged-off |
|
|
(1,476 |
) |
|
|
(3,079 |
) |
|
|
(3,107 |
) |
|
|
(25,479 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance at end of period |
|
$ |
3,751 |
|
|
$ |
15,375 |
|
|
$ |
3,751 |
|
|
$ |
15,375 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Credit card loans greater than 30 days contractually past due for the periods ended June
30, 2005 and 2004, were $3.3 million and $9.3 million, respectively. On May 2, 2005, we sold
approximately $52 million in credit card receivables from Direct Merchants Bank to MCI. MCI
subsequently sold a majority of these loans to the Metris Master Trust. Included in principal
receivables charged-off for the three- and six-month periods ended June 30, 2005, is the impact of
these loans being sold. On April 30, 2004, we sold approximately $38 million of Credit card
loans from Direct Merchants Bank, which had a carrying value of $27.7 million, to a third party.
Proceeds from the sale were approximately $27.9 million. Included in principal receivables
charged-off for the six-month period ended June 30, 2004, is the impact of these loans being sold.
NOTE 6
RETAINED INTERESTS IN LOANS SECURITIZED
The following table shows the fair value of the components of the Retained interests in
loans securitized as of June 30, 2005 and December 31, 2004, respectively.
|
|
|
|
|
|
|
|
|
|
|
June 30, |
|
December, 31 |
|
|
2005 |
|
2004 |
Contractual retained interests |
|
$ |
478,440 |
|
|
$ |
537,945 |
|
Excess transferors interest |
|
|
153,954 |
|
|
|
105,237 |
|
Interest-only strip receivable |
|
|
102,105 |
|
|
|
82,672 |
|
Spread accounts receivable |
|
|
34,685 |
|
|
|
58,281 |
|
|
|
|
|
|
|
|
|
|
Retained interests in loans securitized |
|
$ |
769,184 |
|
|
$ |
784,135 |
|
|
|
|
|
|
|
|
|
|
12
The significant assumptions used in estimating the fair value of Retained interests in loans
securitized as of June 30, 2005 and December 31, 2004, are as follows:
|
|
|
|
|
|
|
|
|
|
|
June 30, |
|
December, 31 |
|
|
2005 |
|
2004 |
Monthly principal payment rate |
|
|
6.5 |
% |
|
|
5.9 |
% |
Annual Gross yield (1) |
|
|
26.3 |
% |
|
|
25.9 |
% |
Annual interest expense and servicing fees |
|
|
5.5 |
% |
|
|
5.0 |
% |
Annual gross principal default rate |
|
|
17.4 |
% |
|
|
18.4 |
% |
Discount rate: |
|
|
|
|
|
|
|
|
Contractual retained interests |
|
|
15.0 |
% |
|
|
16.0 |
% |
Excess transferors interest |
|
|
15.0 |
% |
|
|
16.0 |
% |
Interest-only strip receivable |
|
|
30.0 |
% |
|
|
30.0 |
% |
Spread accounts receivable |
|
|
15.0 |
% |
|
|
16.0 |
% |
Weighted average months to maturity |
|
|
17.9 |
|
|
|
20.1 |
|
Weighted average enhancement level (2) |
|
|
11.4 |
% |
|
|
12.1 |
% |
Gross receivables held in the Metris Master Trust, net of discount (3) |
|
|
93.5 |
% |
|
|
92.3 |
% |
|
|
|
(1) |
|
Includes expected cash flows from finance charges, late and overlimit fees,
debt waiver premiums and bad debt recoveries. Gross yield for purposes of estimating
fair value does not include cash flows from interchange income or cash advance fees. |
|
(2) |
|
Includes contractual retained interests and required minimum spread reserve
deposits. |
|
(3) |
|
Represents the ratio of Retained interests in loans securitized plus the
off-balance sheet receivables to gross receivables in the Metris Master Trust plus the
gross spread accounts receivable. |
At June 30, 2005, the sensitivity of the current fair value of the Retained interests in
loans securitized to immediate 10% and 20% adverse changes are as follows (in millions):
|
|
|
|
|
|
|
|
|
|
|
Adverse Impact on Fair Value |
|
|
10% Adverse Change |
|
20% Adverse Change |
Annual discount rate |
|
$ |
16.3 |
|
|
$ |
32.1 |
|
Monthly principal payment rate |
|
|
4.5 |
|
|
|
9.3 |
|
Annual gross yield |
|
|
84.4 |
|
|
|
177.7 |
|
Annual interest expense and servicing fees |
|
|
28.4 |
|
|
|
55.7 |
|
Annual gross principal default rate |
|
|
56.2 |
|
|
|
107.5 |
|
As the sensitivity indicates, the value of the Companys Retained interests in loans
securitized on its consolidated balance sheets, as well as the potential impact to reported
earnings, could differ significantly if different assumptions or conditions prevailed.
NOTE 7
CONVERTIBLE PREFERRED STOCK
Investors in a Thomas H. Lee Partners, L.P. (THL Partners) fund hold 100% of the outstanding
shares of our preferred stock. In general, the preferred stockholders are entitled to receive
quarterly dividends payable in additional shares of preferred stock (dividends in-kind). The
annual dividend rate is 9% through December 8, 2008, and 15% thereafter (except following a Change
in Control Triggering Event, as described below). Preferred stockholders are also entitled to
receive cash dividends paid on our common stock based on the number of shares of common stock into
which the preferred stock would convert on the record date of the dividend. The preferred
stockholders may also receive, in lieu of a dividend in-kind, dividends payable in cash, property
or other securities equivalent to a dividend in-kind if approved by 80% of the MCI Board of
Directors, which must include a majority of the directors elected by the preferred stockholders.
So long as THL Partners or its affiliates own at least 25% of the originally issued preferred
stock (or any shares of common stock issued upon conversion thereof), the holders of a majority of
the shares of preferred stock are entitled to elect four of 11 directors on the MCI Board of
Directors. So long as THL Partners or its affiliates own at least 10% but less than 25% of the
originally issued preferred stock (or any shares of common stock issued upon conversion thereof),
the holders of a majority of the
shares of preferred stock are entitled to elect one director on the MCI Board of Directors.
Preferred stockholders have the right to vote on general corporate matters with common stockholders
on an as converted basis.
13
Each share of preferred stock is convertible into 30 shares of common stock and, if converted
before December 9, 2005, a premium amount guaranteeing dividends at the 9% rate through December 9,
2005. The preferred stockholders are able to convert at any time, and the preferred shares
automatically convert into common shares after December 9, 2005, if the common stock trades at a
share price of $21.33 or more for 20 consecutive days. As of June 30, 2005, the preferred stock
was convertible into 45,053,541 common shares, or 43.5% of the outstanding common stock on a
converted basis.
Before December 9, 2008, all of the preferred stock may be redeemed by the Company paying 103%
of the redemption price of $372.50 per share and any accrued dividends at the time of redemption,
but only when (i) the common stock has traded at a share price of $21.33 or more for the most
recent 20 consecutive trading days, and (ii) MCI has an unsecured corporate debt rating of at least
Baa3 from Moodys Investors Services, Inc. (Moodys) and BBB- from Standard & Poors Rating
Services (S&P). After December 9, 2008, we also have the option to redeem the preferred stock
without restriction, and without a premium, at $372.50 per preferred share and any accrued
dividends.
If a Change in Control occurs, we have the right to offer redemption of the preferred stock
for cash at 101% of the greater of (i) the as-converted value of the preferred stock in the Change in Control transaction, or (ii)
$372.50 per share of preferred stock plus accrued and unpaid dividends payable at the rate of 9%
per annum through December 9, 2005 (such greater amount referred to as the Liquidation
Preference). THL Partners has the right, but is not obligated, to accept the offer of redemption
of the preferred stock. If an offer of redemption is not made, a Change in Control Trigger Event
occurs and, as a result, (i) additional shares of preferred stock are issued to the holders of
preferred stock such that the total number of outstanding shares of preferred stock equal the
Liquidation Preference divided by $372.50, (ii) the preferred stock dividend rate increases to
11.5% before December 9, 2008, and 15% thereafter, and are due quarterly in cash, and (iii) MCI
becomes subject to limitations on indebtedness, the issuance of capital stock and cannot pay any
dividends or make distributions of stock. If MCI fails to comply with any of the changes in terms,
the dividend rate increases another 2% and THL Partners can require the Company to purchase the
preferred stock at 101% of the Liquidation Preference.
NOTE 8
SUBSEQUENT EVENTS
On July 15, 2005, the Company made a $30 million prepayment on its Senior Notes due July 2006.
In addition, the Company gave notice on July 13, 2005, of its intention to make an additional
prepayment of $49.1 million, which is expected to be made on August 15, 2005. Following the August
payment, all of the Companys corporate debt will be eliminated.
On July 12, 2005, the Company announced that it received a Wells Notice from the staff of
the Midwest Regional Office of the SEC in connection with their investigation concerning the
Companys reporting and treatment of its allowance for loan losses for 2001, its valuation of
Retained interests in loans securitized and other matters. That investigation was disclosed by
the Company in August 2003.
Under the SECs procedures, a Wells Notice indicates that the staff intends to recommend that
the Commission bring a civil injunctive action against the recipient for possible violations of
federal securities law. Recipients of Wells Notices have the opportunity to respond to the SEC
staff before the staff makes its formal recommendation on whether any action should be brought by
the SEC. On August 2, 2005, the Company filed its responsive Wells submission with the Midwest
Regional Office of the SEC. In addition to the Company, our current and former chief executive
officers and our current controller received similar Wells Notices regarding this matter.
In a Current Report on Form 8-K filed with the SEC on August 4, 2005,
the Company announced that it reached a definitive agreement
with HSBC Finance Corporation (HSBC Finance) for HSBC Finance to acquire Metris in an all-cash
transaction. Upon completion of the transaction, Metris will become a wholly-owned subsidiary of
HSBC Finance. Under terms of the merger agreement, Metris common stockholders will be entitled to
receive $15.00 for each share of Metris common stock if the transaction closes on or before
December 9, 2005. After December 9, 2005, the price per common share to the common stockholders
will decrease by an amount based on the pay-in-kind dividends that accumulate on Metris Series C
Preferred Stock in accordance with its terms. The transaction is expected to close in the fourth
quarter of 2005. The Board of Directors of Metris has unanimously approved the transaction, as has
the Board of Directors of HSBC Finance. As part of the total consideration, the convertible
preferred stock held by Thomas H. Lee Partners, L.P. will receive, in accordance with its terms,
approximately $682.6 million if the transaction closes on or
before December 9, 2005. Thereafter, the amount payable on the convertible preferred
stock will be increased based
on the pay-in-kind dividends that accrue on such stock in accordance with
its terms. The holders of the convertible preferred stock have given an irrevocable proxy to HSBC
Finance to vote in favor of the transaction. Those shares represent approximately 44% of the voting
rights of Metris stockholders. Total consideration payable to common stockholders, on or before
December 9, 2005, is approximately $911.1 million. The acquisition is subject to certain
conditions, including resolution of the potential civil injunctive action of the SEC against Metris
as disclosed by the Company on July 12, 2005, approval by the
stockholders of Metris, and various
regulatory consents.
NOTE 9
SUPPLEMENTAL CONSOLIDATING FINANCIAL STATEMENTS
The Senior Notes due 2006 are unconditionally guaranteed on a senior basis, jointly and
severally, by Metris Direct, Inc., magnUS Services, Inc., Metris Card Services, LLC and Metris
Credit Card Services, Inc. (the Guarantors). Any subsidiaries we form in the future may provide
a guarantee of this indebtedness. The guarantee is an unsecured obligation of the Guarantors and
ranks equally with all existing and future unsubordinated indebtedness. We also have various
indirect subsidiaries, which do not guarantee MCIs debt. We have prepared condensed consolidating
financial statements, which detail the Guarantor subsidiaries and the non-guarantor subsidiaries
for purposes of complying with SEC reporting requirements. Separate financial statements of the
Guarantor subsidiaries and the non-guarantor subsidiaries are not presented because we have
determined that the subsidiaries financial information would not be material to investors. As
discussed in Note 8, the Company has given notice of its intention to pay, in full, its Senior
Notes in August 2005. Following the August payment, the Companys corporate debt will be
eliminated.
14
METRIS COMPANIES INC.
Supplemental Consolidating Balance Sheets
June 30, 2005
(In thousands) (Unaudited)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Metris |
|
Guarantor |
|
Non-Guarantor |
|
|
|
|
|
|
Companies Inc. |
|
Subsidiaries |
|
Subsidiaries |
|
Eliminations |
|
Consolidated |
Assets |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash and due from banks |
|
$ |
(2,282 |
) |
|
$ |
(3 |
) |
|
$ |
25,772 |
|
|
$ |
|
|
|
$ |
23,487 |
|
Federal funds sold |
|
|
|
|
|
|
|
|
|
|
27,395 |
|
|
|
|
|
|
|
27,395 |
|
Short-term investments |
|
|
1,460 |
|
|
|
|
|
|
|
124,623 |
|
|
|
|
|
|
|
126,083 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents |
|
|
(822 |
) |
|
|
(3 |
) |
|
|
177,790 |
|
|
|
|
|
|
|
176,965 |
|
Available for sale securities |
|
|
61,153 |
|
|
|
|
|
|
|
48,838 |
|
|
|
|
|
|
|
109,991 |
|
Liquidity reserve deposit |
|
|
|
|
|
|
|
|
|
|
70,044 |
|
|
|
|
|
|
|
70,044 |
|
Net credit card loans |
|
|
592 |
|
|
|
|
|
|
|
2,162 |
|
|
|
|
|
|
|
2,754 |
|
Retained interests in loans
securitized |
|
|
1,362 |
|
|
|
|
|
|
|
767,822 |
|
|
|
|
|
|
|
769,184 |
|
Property and equipment, net |
|
|
|
|
|
|
22,936 |
|
|
|
|
|
|
|
|
|
|
|
22,936 |
|
Other receivables due from
credit card
securitizations, net |
|
|
3 |
|
|
|
|
|
|
|
66,844 |
|
|
|
|
|
|
|
66,847 |
|
Other assets |
|
|
18,050 |
|
|
|
26,144 |
|
|
|
33,058 |
|
|
|
(29,907 |
) |
|
|
47,345 |
|
Investments in subsidiaries |
|
|
1,225,908 |
|
|
|
1,049,685 |
|
|
|
802 |
|
|
|
(2,276,395 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total assets |
|
$ |
1,306,246 |
|
|
$ |
1,098,762 |
|
|
$ |
1,167,360 |
|
|
$ |
(2,306,302 |
) |
|
$ |
1,266,066 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Debt |
|
$ |
286,517 |
|
|
$ |
(211,366 |
) |
|
$ |
46,475 |
|
|
$ |
(43,000 |
) |
|
$ |
78,626 |
|
Accounts payable |
|
|
546 |
|
|
|
26,162 |
|
|
|
22,306 |
|
|
|
(14,566 |
) |
|
|
34,448 |
|
Accrued expenses and other
liabilities |
|
|
9,019 |
|
|
|
14,176 |
|
|
|
88,954 |
|
|
|
30,679 |
|
|
|
142,828 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total liabilities |
|
|
296,082 |
|
|
|
(171,028 |
) |
|
|
157,735 |
|
|
|
(26,887 |
) |
|
|
255,902 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total stockholders equity |
|
|
1,010,164 |
|
|
|
1,269,790 |
|
|
|
1,009,625 |
|
|
|
(2,279,415 |
) |
|
|
1,010,164 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total liabilities and
stockholders equity |
|
$ |
1,306,246 |
|
|
$ |
1,098,762 |
|
|
$ |
1,167,360 |
|
|
$ |
(2,306,302 |
) |
|
$ |
1,266,066 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
15
METRIS COMPANIES INC.
Supplemental Consolidating Balance Sheets
December 31, 2004
(In thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Metris |
|
Guarantor |
|
Non-Guarantor |
|
|
|
|
|
|
Companies Inc. |
|
Subsidiaries |
|
Subsidiaries |
|
Eliminations |
|
Consolidated |
Assets |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash and due from banks |
|
$ |
(1,102 |
) |
|
$ |
(178 |
) |
|
$ |
26,478 |
|
|
$ |
|
|
|
$ |
25,198 |
|
Federal funds sold |
|
|
|
|
|
|
|
|
|
|
22,450 |
|
|
|
|
|
|
|
22,450 |
|
Short-term investments |
|
|
6,065 |
|
|
|
|
|
|
|
37,005 |
|
|
|
|
|
|
|
43,070 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents |
|
|
4,963 |
|
|
|
(178 |
) |
|
|
85,933 |
|
|
|
|
|
|
|
90,718 |
|
Available for sale securities |
|
|
50,000 |
|
|
|
|
|
|
|
256,409 |
|
|
|
|
|
|
|
306,409 |
|
Liquidity reserve deposit |
|
|
|
|
|
|
|
|
|
|
79,746 |
|
|
|
|
|
|
|
79,746 |
|
Net credit card loans |
|
|
99 |
|
|
|
|
|
|
|
55,722 |
|
|
|
|
|
|
|
55,821 |
|
Retained interests in loans
securitized |
|
|
8,686 |
|
|
|
|
|
|
|
775,449 |
|
|
|
|
|
|
|
784,135 |
|
Property and equipment, net |
|
|
|
|
|
|
24,135 |
|
|
|
|
|
|
|
|
|
|
|
24,135 |
|
Other receivables due from
credit card
securitizations, net |
|
|
4 |
|
|
|
|
|
|
|
68,017 |
|
|
|
|
|
|
|
68,021 |
|
Other assets |
|
|
34,117 |
|
|
|
29,541 |
|
|
|
54,830 |
|
|
|
(45,994 |
) |
|
|
72,494 |
|
Investments in subsidiaries |
|
|
1,302,122 |
|
|
|
1,110,022 |
|
|
|
782 |
|
|
|
(2,412,926 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total assets |
|
$ |
1,399,991 |
|
|
$ |
1,163,520 |
|
|
$ |
1,376,888 |
|
|
$ |
(2,458,920 |
) |
|
$ |
1,481,479 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Debt |
|
$ |
462,282 |
|
|
$ |
(213,993 |
) |
|
$ |
168,335 |
|
|
$ |
(43,000 |
) |
|
$ |
373,624 |
|
Accounts payable |
|
|
1,598 |
|
|
|
21,761 |
|
|
|
28,493 |
|
|
|
(14,233 |
) |
|
|
37,619 |
|
Accrued expenses and other
liabilities |
|
|
(11,191 |
) |
|
|
14,743 |
|
|
|
104,285 |
|
|
|
15,097 |
|
|
|
122,934 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total liabilities |
|
|
452,689 |
|
|
|
(177,489 |
) |
|
|
301,113 |
|
|
|
(42,136 |
) |
|
|
534,177 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total stockholders equity |
|
|
947,302 |
|
|
|
1,341,009 |
|
|
|
1,075,775 |
|
|
|
(2,416,784 |
) |
|
|
947,302 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total liabilities and
stockholders equity |
|
$ |
1,399,991 |
|
|
$ |
1,163,520 |
|
|
$ |
1,376,888 |
|
|
$ |
(2,458,920 |
) |
|
$ |
1,481,479 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
16
METRIS COMPANIES INC.
Supplemental Consolidating Statements of Income
Three Months Ended June 30, 2005
(In thousands) (Unaudited)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Metris |
|
Guarantor |
|
Non-Guarantor |
|
|
|
|
|
|
Companies Inc. |
|
Subsidiaries |
|
Subsidiaries |
|
Eliminations |
|
Consolidated |
Revenues |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Securitization income |
|
$ |
3,003 |
|
|
$ |
|
|
|
$ |
115,658 |
|
|
$ |
23,980 |
|
|
$ |
142,641 |
|
Servicing income on securitized
receivables |
|
|
(64 |
) |
|
|
|
|
|
|
28,337 |
|
|
|
|
|
|
|
28,273 |
|
Credit card loan and other interest
income |
|
|
225 |
|
|
|
|
|
|
|
2,986 |
|
|
|
|
|
|
|
3,211 |
|
Credit card loan fees, interchange and
other income |
|
|
(125 |
) |
|
|
28,569 |
|
|
|
24,715 |
|
|
|
(51,239 |
) |
|
|
1,920 |
|
Enhancement services income |
|
|
|
|
|
|
15 |
|
|
|
2,958 |
|
|
|
(12 |
) |
|
|
2,961 |
|
Intercompany allocations |
|
|
67 |
|
|
|
37,599 |
|
|
|
876 |
|
|
|
(38,542 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total revenues |
|
|
3,106 |
|
|
|
66,183 |
|
|
|
175,530 |
|
|
|
(65,813 |
) |
|
|
179,006 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Expenses |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest |
|
|
6,490 |
|
|
|
(2,043 |
) |
|
|
73 |
|
|
|
|
|
|
|
4,520 |
|
Benefit for loan losses |
|
|
(290 |
) |
|
|
|
|
|
|
(4,313 |
) |
|
|
|
|
|
|
(4,603 |
) |
Marketing |
|
|
|
|
|
|
30,891 |
|
|
|
28,649 |
|
|
|
(25,616 |
) |
|
|
33,924 |
|
Employee compensation |
|
|
|
|
|
|
37,346 |
|
|
|
740 |
|
|
|
|
|
|
|
38,086 |
|
Data processing services and
communications |
|
|
79 |
|
|
|
(10,143 |
) |
|
|
24,700 |
|
|
|
(2,804 |
) |
|
|
11,832 |
|
Credit protection claims |
|
|
|
|
|
|
|
|
|
|
4,030 |
|
|
|
|
|
|
|
4,030 |
|
Occupancy and equipment |
|
|
|
|
|
|
4,761 |
|
|
|
|
|
|
|
|
|
|
|
4,761 |
|
Other |
|
|
18,970 |
|
|
|
13,010 |
|
|
|
4,895 |
|
|
|
(427 |
) |
|
|
36,448 |
|
Intercompany allocations |
|
|
58 |
|
|
|
10,755 |
|
|
|
27,729 |
|
|
|
(38,542 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total expenses |
|
|
25,307 |
|
|
|
84,577 |
|
|
|
86,503 |
|
|
|
(67,389 |
) |
|
|
128,998 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(Loss) income before income taxes |
|
|
(22,201 |
) |
|
|
(18,394 |
) |
|
|
89,027 |
|
|
|
1,576 |
|
|
|
50,008 |
|
Income tax (benefit) expense |
|
|
(7,764 |
) |
|
|
(7,372 |
) |
|
|
32,092 |
|
|
|
549 |
|
|
|
17,505 |
|
Equity in income of subsidiaries |
|
|
46,940 |
|
|
|
56,935 |
|
|
|
|
|
|
|
(103,875 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income |
|
$ |
32,503 |
|
|
$ |
45,913 |
|
|
$ |
56,935 |
|
|
$ |
(102,848 |
) |
|
$ |
32,503 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
17
METRIS COMPANIES INC.
Supplemental Consolidating Statements of Income
Three Months Ended June 30, 2004
(In thousands) (Unaudited)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Metris |
|
Guarantor |
|
Non-Guarantor |
|
|
|
|
|
|
Companies Inc. |
|
Subsidiaries |
|
Subsidiaries |
|
Eliminations |
|
Consolidated |
Revenues |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Securitization expense |
|
$ |
(1,036 |
) |
|
$ |
|
|
|
$ |
(24,012 |
) |
|
$ |
705 |
|
|
$ |
(24,343 |
) |
Servicing income on securitized
receivables |
|
|
|
|
|
|
|
|
|
|
33,847 |
|
|
|
|
|
|
|
33,847 |
|
Credit card loan and other interest
income |
|
|
284 |
|
|
|
|
|
|
|
4,726 |
|
|
|
|
|
|
|
5,010 |
|
Credit card loan fees, interchange and
other income |
|
|
1,222 |
|
|
|
19,252 |
|
|
|
4,048 |
|
|
|
(19,258 |
) |
|
|
5,264 |
|
Enhancement services income |
|
|
|
|
|
|
27 |
|
|
|
6,955 |
|
|
|
(6 |
) |
|
|
6,976 |
|
Intercompany allocations |
|
|
(166 |
) |
|
|
37,915 |
|
|
|
643 |
|
|
|
(38,392 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total revenues |
|
|
304 |
|
|
|
57,194 |
|
|
|
26,207 |
|
|
|
(56,951 |
) |
|
|
26,754 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Expenses |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest |
|
|
18,606 |
|
|
|
(2,983 |
) |
|
|
3,091 |
|
|
|
|
|
|
|
18,714 |
|
Provision (benefit) for loan losses |
|
|
29 |
|
|
|
(2 |
) |
|
|
(518 |
) |
|
|
|
|
|
|
(491 |
) |
Marketing |
|
|
|
|
|
|
12,951 |
|
|
|
19,061 |
|
|
|
(16,286 |
) |
|
|
15,726 |
|
Employee compensation |
|
|
|
|
|
|
36,721 |
|
|
|
(998 |
) |
|
|
|
|
|
|
35,723 |
|
Data processing services and
communications |
|
|
|
|
|
|
(12,705 |
) |
|
|
29,470 |
|
|
|
(2,988 |
) |
|
|
13,777 |
|
Credit protection claims |
|
|
|
|
|
|
|
|
|
|
5,036 |
|
|
|
|
|
|
|
5,036 |
|
Occupancy and equipment |
|
|
|
|
|
|
|
|
|
|
5,984 |
|
|
|
|
|
|
|
5,984 |
|
Other |
|
|
4,856 |
|
|
|
22,206 |
|
|
|
1,988 |
|
|
|
(315 |
) |
|
|
28,735 |
|
Intercompany allocations |
|
|
37 |
|
|
|
9,058 |
|
|
|
29,297 |
|
|
|
(38,392 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total expenses |
|
|
23,528 |
|
|
|
65,246 |
|
|
|
92,411 |
|
|
|
(57,981 |
) |
|
|
123,204 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss before income taxes |
|
|
(23,224 |
) |
|
|
(8,052 |
) |
|
|
(66,204 |
) |
|
|
1,030 |
|
|
|
(96,450 |
) |
Income tax expense (benefit) |
|
|
377 |
|
|
|
(14,055 |
) |
|
|
(12,213 |
) |
|
|
(233 |
) |
|
|
(26,124 |
) |
Equity in loss of subsidiaries |
|
|
(46,725 |
) |
|
|
(53,991 |
) |
|
|
|
|
|
|
100,716 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss |
|
$ |
(70,326 |
) |
|
$ |
(47,988 |
) |
|
$ |
(53,991 |
) |
|
$ |
101,979 |
|
|
$ |
(70,326 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
18
METRIS COMPANIES INC.
Supplemental Consolidating Statements of Income
Six Months Ended June 30, 2005
(In thousands) (Unaudited)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Metris |
|
Guarantor |
|
Non-Guarantor |
|
|
|
|
|
|
Companies Inc. |
|
Subsidiaries |
|
Subsidiaries |
|
Eliminations |
|
Consolidated |
Revenues |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Securitization income |
|
$ |
5,958 |
|
|
$ |
|
|
|
$ |
196,984 |
|
|
$ |
47,755 |
|
|
$ |
250,697 |
|
Servicing income on securitized
receivables |
|
|
(124 |
) |
|
|
|
|
|
|
57,817 |
|
|
|
|
|
|
|
57,693 |
|
Credit card loan and other interest
income |
|
|
574 |
|
|
|
|
|
|
|
7,585 |
|
|
|
|
|
|
|
8,159 |
|
Credit card loan fees, interchange and
other income |
|
|
(12 |
) |
|
|
56,998 |
|
|
|
51,572 |
|
|
|
(103,858 |
) |
|
|
4,700 |
|
Enhancement services income |
|
|
|
|
|
|
86 |
|
|
|
6,371 |
|
|
|
(31 |
) |
|
|
6,426 |
|
Gain on sale of membership and
warranty business |
|
|
|
|
|
|
|
|
|
|
1,800 |
|
|
|
|
|
|
|
1,800 |
|
Intercompany allocations |
|
|
143 |
|
|
|
74,583 |
|
|
|
2,123 |
|
|
|
(76,849 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total revenues |
|
|
6,539 |
|
|
|
131,667 |
|
|
|
324,252 |
|
|
|
(132,983 |
) |
|
|
329,475 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Expenses |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest |
|
|
19,018 |
|
|
|
(4,141 |
) |
|
|
1,024 |
|
|
|
|
|
|
|
15,901 |
|
Benefit for loan losses |
|
|
(228 |
) |
|
|
|
|
|
|
(5,323 |
) |
|
|
|
|
|
|
(5,551 |
) |
Marketing |
|
|
|
|
|
|
47,945 |
|
|
|
56,113 |
|
|
|
(50,987 |
) |
|
|
53,071 |
|
Employee compensation |
|
|
|
|
|
|
72,617 |
|
|
|
1,978 |
|
|
|
|
|
|
|
74,595 |
|
Data processing services and
communications |
|
|
90 |
|
|
|
(21,355 |
) |
|
|
50,782 |
|
|
|
(5,685 |
) |
|
|
23,832 |
|
Credit protection claims |
|
|
|
|
|
|
|
|
|
|
9,443 |
|
|
|
|
|
|
|
9,443 |
|
Occupancy and equipment |
|
|
|
|
|
|
9,653 |
|
|
|
1 |
|
|
|
|
|
|
|
9,654 |
|
Other |
|
|
20,909 |
|
|
|
25,148 |
|
|
|
10,905 |
|
|
|
(755 |
) |
|
|
56,207 |
|
Intercompany allocations |
|
|
98 |
|
|
|
21,533 |
|
|
|
55,218 |
|
|
|
(76,849 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total expenses |
|
|
39,887 |
|
|
|
151,400 |
|
|
|
180,141 |
|
|
|
(134,276 |
) |
|
|
237,152 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(Loss) income before income taxes |
|
|
(33,348 |
) |
|
|
(19,733 |
) |
|
|
144,111 |
|
|
|
1,293 |
|
|
|
92,323 |
|
Income tax (benefit) expense |
|
|
(11,645 |
) |
|
|
(8,850 |
) |
|
|
52,282 |
|
|
|
452 |
|
|
|
32,239 |
|
Equity in income of subsidiaries |
|
|
81,787 |
|
|
|
91,829 |
|
|
|
|
|
|
|
(173,616 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income |
|
$ |
60,084 |
|
|
$ |
80,946 |
|
|
$ |
91,829 |
|
|
$ |
(172,775 |
) |
|
$ |
60,084 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
19
METRIS COMPANIES INC.
Supplemental Consolidating Statements of Income
Six Months Ended June 30, 2004
(In thousands) (Unaudited)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Metris |
|
Guarantor |
|
Non-Guarantor |
|
|
|
|
|
|
Companies Inc. |
|
Subsidiaries |
|
Subsidiaries |
|
Eliminations |
|
Consolidated |
Revenues |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Securitization (expense) income |
|
$ |
(1,079 |
) |
|
$ |
|
|
|
$ |
94,338 |
|
|
$ |
1,383 |
|
|
$ |
94,642 |
|
Servicing income on securitized
receivables |
|
|
|
|
|
|
|
|
|
|
70,084 |
|
|
|
|
|
|
|
70,084 |
|
Credit card loan and other interest
income |
|
|
407 |
|
|
|
|
|
|
|
9,709 |
|
|
|
|
|
|
|
10,116 |
|
Credit card loan fees, interchange and
other income |
|
|
2,449 |
|
|
|
34,115 |
|
|
|
13,165 |
|
|
|
(33,649 |
) |
|
|
16,080 |
|
Enhancement services income |
|
|
|
|
|
|
141 |
|
|
|
14,333 |
|
|
|
(18 |
) |
|
|
14,456 |
|
Intercompany allocations |
|
|
149 |
|
|
|
78,810 |
|
|
|
1,395 |
|
|
|
(80,354 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total revenues |
|
|
1,926 |
|
|
|
113,066 |
|
|
|
203,024 |
|
|
|
(112,638 |
) |
|
|
205,378 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Expenses |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest |
|
|
32,561 |
|
|
|
(5,561 |
) |
|
|
5,645 |
|
|
|
|
|
|
|
32,645 |
|
Benefit for loan losses |
|
|
(1,288 |
) |
|
|
(1 |
) |
|
|
(5,294 |
) |
|
|
|
|
|
|
(6,583 |
) |
Marketing |
|
|
|
|
|
|
24,262 |
|
|
|
34,873 |
|
|
|
(27,477 |
) |
|
|
31,658 |
|
Employee compensation |
|
|
|
|
|
|
75,763 |
|
|
|
(1,095 |
) |
|
|
|
|
|
|
74,668 |
|
Data processing services and
communications |
|
|
5 |
|
|
|
(28,443 |
) |
|
|
64,897 |
|
|
|
(6,210 |
) |
|
|
30,249 |
|
Credit protection claims |
|
|
|
|
|
|
|
|
|
|
11,384 |
|
|
|
|
|
|
|
11,384 |
|
Occupancy and equipment |
|
|
|
|
|
|
|
|
|
|
12,385 |
|
|
|
|
|
|
|
12,385 |
|
Other |
|
|
5,368 |
|
|
|
44,076 |
|
|
|
2,684 |
|
|
|
(1,018 |
) |
|
|
51,110 |
|
Intercompany allocations |
|
|
68 |
|
|
|
20,471 |
|
|
|
59,815 |
|
|
|
(80,354 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total expenses |
|
|
36,714 |
|
|
|
130,567 |
|
|
|
185,294 |
|
|
|
(115,059 |
) |
|
|
237,516 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(Loss) income before income taxes |
|
|
(34,788 |
) |
|
|
(17,501 |
) |
|
|
17,730 |
|
|
|
2,421 |
|
|
|
(32,138 |
) |
Income tax (benefit) expense |
|
|
(3,705 |
) |
|
|
(18,912 |
) |
|
|
18,937 |
|
|
|
258 |
|
|
|
(3,422 |
) |
Equity in income (loss) of subsidiaries |
|
|
2,367 |
|
|
|
(1,207 |
) |
|
|
|
|
|
|
(1,160 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net (loss) income |
|
$ |
(28,716 |
) |
|
$ |
204 |
|
|
$ |
(1,207 |
) |
|
$ |
1,003 |
|
|
$ |
(28,716 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
20
METRIS COMPANIES INC.
Supplemental Condensed Consolidating Statements of Cash Flows
Six Months Ended June 30, 2005
(In thousands) (Unaudited)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Metris |
|
Guarantor |
|
Non-Guarantor |
|
|
|
|
|
|
Companies Inc. |
|
Subsidiaries |
|
Subsidiaries |
|
Eliminations |
|
Consolidated |
Operating Activities: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash provided by operating
activities |
|
$ |
96,955 |
|
|
$ |
921 |
|
|
$ |
59,649 |
|
|
$ |
(81,784 |
) |
|
$ |
75,741 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Investing Activities: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Proceeds from sales of available for
sale securities |
|
|
362,800 |
|
|
|
|
|
|
|
903,526 |
|
|
|
|
|
|
|
1,266,326 |
|
Purchases of available for sale
securities |
|
|
(373,953 |
) |
|
|
|
|
|
|
(695,955 |
) |
|
|
|
|
|
|
(1,069,908 |
) |
Net loans collected |
|
|
8,336 |
|
|
|
|
|
|
|
601,898 |
|
|
|
|
|
|
|
610,234 |
|
Net repayments of securitized loans |
|
|
|
|
|
|
|
|
|
|
(497,402 |
) |
|
|
|
|
|
|
(497,402 |
) |
Net additions to property and equipment |
|
|
|
|
|
|
(3,374 |
) |
|
|
|
|
|
|
|
|
|
|
(3,374 |
) |
Investment in subsidiaries |
|
|
76,214 |
|
|
|
60,337 |
|
|
|
(20 |
) |
|
|
(136,531 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash provided by investing
activities |
|
|
73,397 |
|
|
|
56,963 |
|
|
|
312,047 |
|
|
|
(136,531 |
) |
|
|
305,876 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Financing Activities: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net (decrease) increase in debt |
|
|
(176,650 |
) |
|
|
2,627 |
|
|
|
(121,860 |
) |
|
|
|
|
|
|
(295,883 |
) |
Proceeds from issuance of common stock |
|
|
513 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
513 |
|
Capital contributions |
|
|
|
|
|
|
(60,336 |
) |
|
|
(157,979 |
) |
|
|
218,315 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash used in financing
activities |
|
|
(176,137 |
) |
|
|
(57,709 |
) |
|
|
(279,839 |
) |
|
|
218,315 |
|
|
|
(295,370 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net (decrease) increase in cash and
cash equivalents |
|
|
(5,785 |
) |
|
|
175 |
|
|
|
91,857 |
|
|
|
|
|
|
|
86,247 |
|
Cash and cash equivalents at beginning
of period |
|
|
4,963 |
|
|
|
(178 |
) |
|
|
85,933 |
|
|
|
|
|
|
|
90,718 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents at end
of period |
|
$ |
(822 |
) |
|
$ |
(3 |
) |
|
$ |
177,790 |
|
|
$ |
|
|
|
$ |
176,965 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
21
METRIS COMPANIES INC.
Supplemental Condensed Consolidating Statements of Cash Flows
Six Months Ended June 30, 2004
(In thousands) (Unaudited)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Metris |
|
Guarantor |
|
Non-Guarantor |
|
|
|
|
|
|
Companies Inc. |
|
Subsidiaries |
|
Subsidiaries |
|
Eliminations |
|
Consolidated |
Operating Activities: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash (used in) provided by operating
activities |
|
$ |
(53,268 |
) |
|
$ |
(423,868 |
) |
|
$ |
616,270 |
|
|
$ |
9,829 |
|
|
$ |
148,963 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Investing Activities: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Proceeds from sales of available for
sale securities |
|
|
126,027 |
|
|
|
|
|
|
|
1,080,804 |
|
|
|
|
|
|
|
1,206,831 |
|
Purchases of available for sale
securities |
|
|
(186,030 |
) |
|
|
|
|
|
|
(1,207,533 |
) |
|
|
|
|
|
|
(1,393,563 |
) |
Net loans collected |
|
|
9,446 |
|
|
|
|
|
|
|
394,047 |
|
|
|
4,634 |
|
|
|
408,127 |
|
Net repayments of securitized loans |
|
|
|
|
|
|
|
|
|
|
(420,000 |
) |
|
|
|
|
|
|
(420,000 |
) |
Net disposals of property and equipment |
|
|
|
|
|
|
2,068 |
|
|
|
4 |
|
|
|
|
|
|
|
2,072 |
|
Investment in subsidiaries |
|
|
36,897 |
|
|
|
410,250 |
|
|
|
(423,255 |
) |
|
|
(23,892 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash (used in) provided by investing
activities |
|
|
(13,660 |
) |
|
|
412,318 |
|
|
|
(575,933 |
) |
|
|
(19,258 |
) |
|
|
(196,533 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Financing Activities: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net increase in debt |
|
|
81,250 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
81,250 |
|
Proceeds from issuance of common stock |
|
|
2,332 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2,332 |
|
Capital contributions |
|
|
|
|
|
|
11,006 |
|
|
|
(20,435 |
) |
|
|
9,429 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash provided by (used in) financing
activities |
|
|
83,582 |
|
|
|
11,006 |
|
|
|
(20,435 |
) |
|
|
9,429 |
|
|
|
83,582 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net increase (decrease) in cash and
cash equivalents |
|
|
16,654 |
|
|
|
(544 |
) |
|
|
19,902 |
|
|
|
|
|
|
|
36,012 |
|
Cash and cash equivalents at beginning
of period |
|
|
(1,081 |
) |
|
|
3,034 |
|
|
|
176,532 |
|
|
|
|
|
|
|
178,485 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents at end
of period |
|
$ |
15,573 |
|
|
$ |
2,490 |
|
|
$ |
196,434 |
|
|
$ |
|
|
|
$ |
214,497 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
22
ITEM 2.
METRIS
COMPANIES INC. AND SUBSIDIARIES
MANAGEMENTS DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Business Overview
The following discussion and analysis provides information management believes to be relevant
to understanding the financial condition and results of operations of Metris Companies Inc. (MCI)
and its subsidiaries. MCIs principal subsidiaries are Direct Merchants Credit Card Bank, National
Association (Direct Merchants Bank or Bank), Metris Direct, Inc. and Metris Receivables, Inc.
(MRI). MCI and its subsidiaries, as applicable, may be referred to as we, us, our or the
Company. You should read this discussion along with Managements Discussion and Analysis of
Financial Condition and Results of Operations in our Annual Report on Form 10-K for the fiscal year
ended December 31, 2004, filed with the Securities and Exchange Commission on March 11, 2005, for a
full understanding of our financial condition and results of operations. In addition, you should
read this discussion along with our consolidated financial statements and related notes thereto for
the period ended June 30, 2005, included herein.
MCI was incorporated in Delaware on August 20, 1996, and completed an initial public offering
in October 1996. MCI and its subsidiaries provide financial products and services to middle market
consumers throughout the United States. Our financial products and services are primarily
unsecured consumer credit cards, including the Direct Merchants Bank MasterCard® and
Visa® credit cards. We also offer co-branded credit cards through partnerships with
other companies. Our credit cards generate consumer loans through Direct Merchants Bank. These
loans in turn generate income and cash flow from principal, interest and fee payments. The sales
of our other consumer financial products, such as credit protection products, generate additional
cash flow. Our earnings may fluctuate based on several factors, including securitization activity.
When securitization transactions occur, we currently incur Loss on new securitizations to the
Metris Master Trust and increased transaction costs.
Our business results have strengthened over the last two years resulting in the improved level
of net income and earnings per share posted in the three- and six-month periods ended June 30,
2005. We believe this improvement has resulted from improved credit quality due to several
factors. These include the operating strategies with which we manage our portfolio, significantly
enhanced collection efforts and improvements in the economy. The average excess spread in the
Metris Master Trust for the quarter ended June 30, 2005, was 6.83%, compared to 6.47% reported for
the previous quarter, and 3.83% reported for the second quarter of 2004. The increase in the
excess spread has been driven primarily by improvements in the overall credit quality of the
portfolio. As of June 30, 2005, the first-cycle delinquency rate in the Metris Master Trust was
4.3%, compared to 4.4% as of December 31, 2004, and 4.8% as of June 30, 2004. The two-cycle plus
delinquency rate in the Metris Master Trust decreased to 7.7% as of June 30, 2005, compared to 9.2%
as of December 31, 2004, and 9.5% as of June 30, 2004. The average principal default rate in the
Metris Master Trust was 15.5% for the quarter ended June 30, 2005, compared to 17.1% in the prior
quarter and 19.2% for the comparable period in 2004. Principal payment rates in the Metris Master
Trust were 6.5% for the quarter ended June 30, 2005, compared to 6.0% for the prior quarter and
5.9% for the quarter ended June 30, 2004. Gross yield improved 124-basis-points to 27.99% for the
quarter ended June 30, 2005 from 26.75% for the quarter ended June 30, 2004. While we anticipate
overall long-term improvement in the performance of the Metris Master Trust, we do expect monthly
and quarterly fluctuations in both excess spread and delinquencies resulting from several factors,
including seasonal trends.
The one-month London Interbank Offered Rate (LIBOR), the index which primarily drives our
cost of funds, increased to 3.34% as of June 30, 2005, from 2.40% at December 31, 2004. This
increase, and potential future increases, will result in a higher cost of funds on securities
issued out of the Metris Master Trust, which is partially offset by higher yields on our credit
card portfolio. We believe that impacts to our financial statements that result from increases in
interest rates may be mitigated by a variety of management strategies, including, but not limited
to, interest rate caps, portfolio re-pricing or the issuance of fixed rate debt. For further
information on the impact to us resulting from changes in interest rates, refer to Item 3,
Quantitative and Qualitative Disclosures about Market Risk on pages 43-44 of this Report.
23
In January 2003, the Federal Financial Institutions Examination Council (FFIEC) issued
guidance with respect to various account management practices for financial institutions engaged in
credit card lending. The guidance provides requirements for certain operational and accounting
policies, including requirements for credit card lenders to ensure cardholder balances amortize
over time. The guidance is designed to bring consistency in practice among credit card lenders.
We are in compliance with most aspects of the FFIEC guidance and have been moving ahead with a
multi-phased approach to address the receivable amortization aspects of that guidance. Full
implementation should occur by year-end 2005, at which time our portfolio will be operating under
minimum payment terms that should satisfy the amortization timeframes set forth by our regulators.
We will deploy various strategies intended to minimize the increased delinquency that otherwise may
result from our changes in contractual terms for our cardholders. These strategies will include
limiting fee billings, modifying minimum payment requirements, and / or reducing customers
interest rates. Such changes will have a significant impact on billed revenues, but a smaller
impact on cash collected. This impact on cash collected will be reflected in our interest-only
revenues. Furthermore, other credit card companies will be implementing similar changes to their
customer accounts. The actions of other credit card companies, combined with our changes, create
additional uncertainty regarding future levels of delinquencies and charge-offs. We do not
anticipate any significant impact to 2005 excess spread. However, we believe the changes will
negatively impact the trend we otherwise would have seen in Metris Master Trust excess
spread in 2006 and subsequent years. The impact of fully adopting this guidance on our customers
and the performance of our portfolio will not occur until 2006.
The improvements in our cash flow and lower capital requirements at Direct Merchants Bank have
allowed us to pay down corporate debt in the first half of 2005. In April 2005, the Modified
Operating Agreement entered into by MCI, Direct Merchants Bank and the Office of the Comptroller of
the Currency (OCC) was amended to reduce the minimum amount of capital required to be held by
Direct Merchants Bank from $213 million to $100 million. As a result of the change to the Banks
minimum capital requirements, the OCC approved a permanent capital reduction at the Bank of $130
million concurrent with the transfer of all eligible credit card receivables from the Company to
the Metris Master Trust, which occurred in May 2005. The Company used proceeds from the permanent
capital reduction and existing Short-term investments to make optional prepayments totaling $225
million on its senior secured credit agreement due May 2007, resulting in approximately $18.0
million in costs and charges. As a result of the cumulative prepayments, MCI paid off, in full,
its remaining obligations owed under its $300 million senior secured credit agreement, effectively
terminating the credit agreement.
During May 2005, the Company made three optional prepayments totaling $21.0 million on its
unsecured 10.125% Senior Notes due July 2006. Subsequent to June 30, 2005, the Company made an
additional optional prepayment of $30.0 million on its Senior Notes, and announced its intention to
pay the final $49.1 million remaining on its Senior Notes in August 2005, following the required
notification period. Following the August payment, the Company will have eliminated all of its
corporate debt.
The continued improvements in our business results have allowed us to invest more heavily in
new marketing programs. During the quarter ended June 30, 2005, we generated approximately 165,000
new credit card accounts, compared to 96,000 new accounts for the same period in 2004. For the
six-month period ended June 30, 2005, we generated approximately 328,000 new credit card accounts
compared to 154,000 new accounts for the comparable prior year period. Our new credit card account
growth remains focused on our traditional target market, the middle-market consumer. We are
comfortable increasing our new credit card account originations due to the continued strong results
we are experiencing in our 2004 and 2003 vintages, our improved liquidity position and the improved
performance of the Metris Master Trust. We have also experienced an improvement in delinquencies
in comparing our 2004 and 2003 vintages to our 2002 vintages at the same point in time. Credit
card account originations in 2005 continue to reflect the discipline exhibited in our 2003 and 2004
originations and we expect these improved results to create a more reliable, predictable and
long-term receivables base.
During the quarter ended June 30, 2005, we experienced a decrease in our response rates.
Published data suggests that April 2005 response rates were at a historical low for the industry.
Although our second quarter response rates were lower than the first quarter of 2005, we believe we
are well positioned to handle this industry-wide trend and remain satisfied with the quality of the
new credit card accounts that we are adding. We will continue to leverage our credit card account
origination strategies, continue our efforts to penetrate the Hispanic customer segment and
continue our partnership and third-party marketing efforts and test additional products, channels
and incremental prospects. During the second quarter of 2005, we made significant progress in our
efforts to increase our partnership marketing efforts by signing two new significant partnership agreements, one with a retailer, and
extending our relationships with existing partners.
24
On July 12, 2005, the Company announced that it received a Wells Notice from the staff of
the Midwest Regional Office of the SEC in connection with their investigation concerning the
Companys reporting and treatment of its allowance for loan losses for 2001, its valuation of
Retained interests in loans securitized and other matters. That investigation was disclosed by
the Company in August 2003.
Under the SECs procedures, a Wells Notice indicates that the staff intends to recommend that
the Commission bring a civil injunctive action against the recipient for possible violations of
federal securities law. Recipients of Wells Notices have the opportunity to respond to the SEC
staff before the staff makes its formal recommendation on whether any action should be brought by
the SEC. On August 2, 2005, the Company filed its responsive Wells submission with the Midwest
Regional Office of the SEC. In addition to the Company, our current and former chief executive
officers and our current controller received similar Wells Notices regarding this matter.
In a Current Report on Form 8-K filed with the SEC on August 4, 2005,
the Company announced that it reached a definitive agreement
with HSBC Finance Corporation (HSBC Finance) for HSBC Finance to acquire Metris in an all-cash
transaction. Upon completion of the transaction, Metris will become a wholly-owned subsidiary of
HSBC Finance. Under terms of the merger agreement, Metris common stockholders will be entitled to
receive $15.00 for each share of Metris common stock if the transaction closes on or before
December 9, 2005. After December 9, 2005, the price per common share to the common stockholders
will decrease by an amount based on the pay-in-kind dividends that accumulate on Metris Series C
Preferred Stock in accordance with its terms. The transaction is expected to close in the fourth
quarter of 2005. The Board of Directors of Metris has unanimously approved the transaction, as has
the Board of Directors of HSBC Finance. As part of the total consideration, the convertible
preferred stock held by Thomas H. Lee Partners, L.P. will receive, in accordance with its terms,
approximately $682.6 million if the transaction closes on or
before December 9, 2005. Thereafter, the amount payable on the convertible preferred
stock will be increased based
on the pay-in-kind dividends that accrue on such stock in accordance with
its terms. The holders of the convertible preferred stock have given an irrevocable proxy to HSBC
Finance to vote in favor of the transaction. Those shares represent approximately 44% of the voting
rights of Metris stockholders. Total consideration payable to common stockholders, on or before
December 9, 2005, is approximately $911.1 million. The acquisition is subject to certain
conditions, including resolution of the potential civil injunctive action of the SEC against Metris
as disclosed by the Company on July 12, 2005, approval by the
stockholders of Metris, and various
regulatory consents.
Critical Accounting Estimates
The Companys most critical accounting estimate is the valuation of our Retained interests
in loans securitized on our consolidated balance sheets. This valuation is associated with our
securitization transactions and includes contractual retained interests, excess transferors
interest, interest-only strip receivable and spread accounts receivable. We determine the fair
value of each component of the Retained interests in loans securitized at the time a
securitization transaction or replenishment sale is completed, using a discounted cash flow
valuation model, and on a quarterly basis thereafter. Increases to the fair value of each of the
assets related to discount accretion are recorded in Discount accretion. Any other changes in
the fair value are recorded in the Change in fair value of retained interests in loans
securitized.
The discounted cash flow valuation is limited to the receivables that exist and have been
sold to the Metris Master Trust. Therefore, the model assumes the current principal receivable
balance as of the balance sheet date amortizes with no new sales, interchange fees or cash
advances. The future cash flows are modeled in accordance with the Metris Master Trusts debt
series legal documents and are applied to all series on a pro-rata basis. The valuation model
assumes that we repurchase the outstanding principal receivables within each series at face value
according to the clean-up call provisions contained in the respective security series legal
documents.
The contractual retained interests represent subordinated securities held by us. There is no
stated interest or coupon rate associated with these securities and they are not rated. They are
subordinate to all other securities and, accordingly, are repaid last. Their fair value is
determined by discounting the expected future cash flows using a discount rate commensurate with
the risks of the underlying assets and the expected timing of repayment based on the scheduled
maturity date for the underlying securitization. If these securities are recoverable based on the
Metris Master Trust forecasts, cash flows related to the entire subordinated principal balance are
used in determining their fair value.
Transferors interest represents an undivided interest in receivables that are not pledged to
support a specific security series or class, and represent our interest in the excess principal
receivables held in the Metris Master Trust. The fair value is determined in the same manner as
the contractual retained interests and is discounted based on 12 months-to-maturity. We have
subordinated our rights to the excess cash flows on the receivables underlying the transferors
interest, thus they are included in the value of the interest-only strip receivable.
Spread account receivable balances represent interest-earning cash held by the Metris Master
Trust Trustee due to performance of the Metris Master Trust and minimum spread reserve deposits
required by certain security series. Their fair value is determined by discounting the expected
future cash flows using a discount rate commensurate with the risks of the underlying assets and
the expected timing based on the scheduled maturity date for the underlying securitization. The
expected future cash flows include the release of the spread account receivable balance on the
scheduled maturity date and estimated interest earned on the cash balances.
The interest-only strip receivable represents the contractual right to receive excess spread
cash flows (portfolio collections, less principal charge-offs, financing costs and servicing costs)
from customer receivables over the estimated life of the amortizing receivables. The fair value is
determined by discounting the expected future cash flows using a discount rate commensurate with
the risks of the underlying assets based on the expected timing of cash flows in the retained
interests valuation model. Within the model, future excess spread cash flows are first applied to
meet spread accounts receivable requirements in accordance with the relevant Metris Master Trust
debt series legal documents. When the spread accounts receivable requirements are met, cash is
returned to us and is valued as the interest-only strip receivable. We determine upper and lower
valuation limits of the interest-only strip receivable based on historical and forecasted excess
spreads, excluding interchange and cash advance fee collections. We then determine the best
estimate within the range, weighted heavily toward the low end of the range.
25
At least quarterly, we adjust our valuation of the Retained interests in loans securitized
to reflect changes in the amount and expected timing of future cash flows. The significant factors
that affect the timing and amount of cash flows relate to collateral assumptions, which include
payment rate, default rate, gross yield and discount rate. These values can, and will, vary as a
result of changes in the amount and timing of the cash flows and the underlying economic
assumptions. The discount rates used to estimate the fair value of the Retained interests in loans
securitized are commensurate with the risk associated with the underlying expected future cash
flows. Indicators of the level of risk inherent in the portfolio include delinquency and loss
rates and expectations surrounding interest rates. Other factors that would impact the risk
assessment include changes to our corporate capital structure, corporate debt ratings or
securitization enhancement levels. Changes in expectations as to the level of risk related to
future cash flows may result in changes to the discount rate assumptions.
Results of Operations
Three Months Ended June 30, 2005 and 2004
Net income for the quarter ended June 30, 2005, was $32.5 million, a $102.8 million increase
from a net loss of $70.3 million for the quarter ended June 30, 2004.
Securitization income was $142.6 million for the quarter ended June 30, 2005,
compared to a loss of $24.3 million for the comparable period in 2004. The following table details
Securitization income for the quarters ended June 30, 2005 and 2004, respectively.
Table 1: Analysis of Securitization Income (Expense)
(In thousands)
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
June 30, |
|
|
2005 |
|
2004 |
Loss on new securitizations of receivables to the
Metris Master Trust: |
|
|
|
|
|
|
|
|
Defeasance of maturing ABS series into conduit |
|
$ |
|
|
|
$ |
(78,008 |
)(2) |
New term ABS transactions |
|
|
(13,046 |
) (1) |
|
|
(12,632 |
) (3) |
|
|
|
|
|
|
|
|
|
|
|
|
(13,046 |
) |
|
|
(90,640 |
) |
|
|
|
|
|
|
|
|
|
Loss on replenishment of receivables to the Metris
Master Trust |
|
|
(11,129 |
) |
|
|
(25,454 |
) |
Discount accretion |
|
|
60,503 |
|
|
|
61,570 |
|
Interest-only revenue: |
|
|
|
|
|
|
|
|
Gross yield(4) |
|
|
390,961 |
|
|
|
441,130 |
|
Principal defaults |
|
|
(219,105 |
) |
|
|
(324,723 |
) |
Interest expense and servicing fees |
|
|
(75,353 |
) |
|
|
(61,270 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
96,503 |
|
|
|
55,137 |
|
|
|
|
|
|
|
|
|
|
Change in fair value of retained interests in loans securitized |
|
|
15,696 |
|
|
|
20,718 |
|
Transaction and other costs |
|
|
(5,886 |
) |
|
|
(45,674 |
) |
|
|
|
|
|
|
|
|
|
Securitization income (expense) |
|
$ |
142,641 |
|
|
$ |
(24,343 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
Loss represents $89 million retained bond (14.0% required subordination, including the issuance of BB bonds) discounted at 15% for 23 months, partially offset by
the present value of future assumed excess spread discounted at 30%. |
|
(2) |
|
Loss represents discount on a $250 million retained bond (18.5% required subordination) at 16% for 24 months and a $47 million spread account floor discounted at
15.25% for 24 months, partially offset by the present value of future assumed excess spread discounted at 30%. |
|
(3) |
|
Loss represents discount on $27 million retained bond (12% required subordination) discounted at 16% for 36 months and a $7 million spread account floor
discounted at 15.25% for 36 months, partially offset by the present value of future assumed excess spread discounted at 30%. |
|
(4) |
|
Includes cash flows from finance charges, late, overlimit, debt waiver and cash advance fees, bad debt recoveries
and interchange income. |
26
Loss on new securitizations of receivables to the Metris Master Trust was $13.0 million for
the quarter ended June 30, 2005, a decrease of $77.6 million or 85.7% from $90.6 million for the
quarter ended June 30, 2004. The improvement was primarily due to lower volume of new
securitizations, lower average months to maturity, lower enhancement levels and higher excess
spread assumptions used in calculating the loss on new securitization due to improved performance
in the Metris Master Trust.
Loss on replenishment of receivables to the Metris Master Trust was $11.1 million for the
quarter ended June 30, 2005, a decrease of $14.4 million or 56.5 % from $25.5 million for the
quarter ended June 30, 2004. The improvement was primarily due to higher excess spread assumptions
used in calculating the loss on replenishment due to improved performance in the Metris Master
Trust.
Interest-only revenue was $96.5 million for the quarter ended June 30, 2005, a $41.4 million
or 75.1% increase from $55.1 million for the quarter ended June 30, 2004. The increase was
primarily due to a 300-basis-point increase in the three month
average excess spread in the Metris Master Trust, partially offset by a $1.1 billion reduction
in average principal receivables held by the Metris Master Trust between the two periods.
Change in fair value of retained interests in loans securitized was $15.7 million for the
quarter ended June 30, 2005, a $5.0 million or 24.2% decrease from $20.7 million for the quarter
ended June 30, 2004. The decrease was primarily due to a $26.2 million decrease related to the
reduction in conduit borrowings and receivable attrition between the two periods. This decrease
was partially offset by a $19.8 million increase due to the release of restricted cash resulting
from improved Metris Master Trust performance.
Transaction and other costs were $5.9 million for the quarter ended June 30, 2005, a $39.8
million or 87.1% decrease from $45.7 million for the quarter ended June 30, 2004. The decrease is
primarily due to fees incurred in 2004 related to establishing a two-year financing conduit and
commitment fees to insure future asset-backed transactions.
Servicing income on securitized receivables was $28.3 million for the quarter ended June 30,
2005, a $5.5 million or 16.3% decrease from $33.8 million for the quarter ended June 30, 2004. This
decrease reflects a $1.1 billion reduction in average principal receivables held by the Metris
Master Trust between the two periods.
Credit card loan and other interest income and Credit card loan fees, interchange and other
income, totaled $5.1 million for the quarter ended June 30, 2005, a $5.2 million or 50.5% decrease
from $10.3 million for the quarter ended June 30, 2004. This cumulative decrease resulted
primarily from the $55.3 million reduction in average owned credit card loans between the two
periods.
Enhancement services income was $3.0 million for the quarter ended June 30, 2005, a $4.0
million or 57.1% decrease from $7.0 million for the quarter ended June 30, 2004. The decrease
resulted primarily from a declining number of memberships resulting from a declining portfolio.
Interest expense was $4.5 million for the quarter ended June 30, 2005, a $14.2 million or
75.9% decrease from $18.7 million for the quarter ended June 30, 2004. This decrease resulted
primarily from the $50.0 million prepayment on our Senior Notes due 2006 during January 2005, and
the cumulative $300.0 million in prepayments on our Term Loan due May 2007 subsequent to the
quarter ended June 30, 2004.
Marketing
expenses were $33.9 million for the quarter ended June 30, 2005, a $18.2 million
or 115.9% increase from $15.7 million for the quarter ended June 30, 2004. The increase resulted
from an increase in new accounts for the three months ended June 30, 2005 over the comparable prior
year period. We generated approximately 165,000 new accounts for the three-month period ended June
30, 2005 compared to approximately 96,000 new accounts for the three-month period ended June 30,
2004. This increase was also attributed to an increase in partnership marketing expenditures during the
quarter that resulted from signing two new significant partnership agreements, an increase in overall account marketing to offset a decline in customer
response rates consistent with current trends in the industry and campaign expense timing.
Employee compensation was $38.1 million for the quarter ended June 30, 2005, a $2.4 million
or 6.7% increase from $35.7 million for the quarter ended June 30, 2004. This increase resulted
from an increase in performance based compensation, partially offset by a reduction in the number
of employees required to service fewer average gross active accounts.
Other expenses were $36.4 million for the quarter ended June 30, 2005, a $7.7 million or
26.8% increase from $28.7 million for the quarter ended June 30, 2004. The following table
illustrates the components of Other expenses for the quarters ended June 30, 2005 and 2004,
respectively.
27
Table 2: Other Expenses
(in thousands)
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
June 30, |
|
|
2005 |
|
2004 |
MasterCard® / Visa® assessment and fees |
|
$ |
2,051 |
|
|
$ |
1,547 |
|
Credit card fraud losses |
|
|
455 |
|
|
|
433 |
|
Legal fees |
|
|
2,058 |
|
|
|
1,929 |
|
Collection and risk management |
|
|
2,889 |
|
|
|
3,173 |
|
Other professional fees |
|
|
4,550 |
|
|
|
4,006 |
|
Purchased portfolio premium amortization |
|
|
1,458 |
|
|
|
2,105 |
|
Asset impairment, lease write-offs and severance |
|
|
(11 |
) |
|
|
1,791 |
|
Debt prepayment expenses |
|
|
18,252 |
|
|
|
4,879 |
|
General and administrative expenses and other |
|
|
4,746 |
|
|
|
8,872 |
|
|
|
|
|
|
|
|
|
|
Total other expenses |
|
$ |
36,448 |
|
|
$ |
28,735 |
|
|
|
|
|
|
|
|
|
|
Included in debt prepayment expenses for the three months ended June 30, 2005 is approximately
$18 million related to prepayments on our Term Loan due May 2007. The remaining debt prepayment
expenses for the three-month period related to prepayments on our Senior Notes due July 2006.
Included in debt prepayment expenses for the three months ended June 30, 2004, are $4.5 million in
costs related to the prepayment of our $125 million senior secured credit agreement due June 2004.
The remainder of the debt prepayment costs for the three months ended June 30, 2004 related to the
prepayment of our $100 million 10% Senior Notes due November 2004.
The decrease in general and administrative expenses and other for the three months ended June
30, 2005, compared to the three months ended June 30, 2004, resulted primarily from a $2.0 million
reduction in expenses related to technology licensing fees, a $0.6 million reduction in insurance
costs and a $0.6 million reduction in claims expense associated with our declining enhancement
services business.
Six Months Ended June 30, 2005 and 2004
Net income for the six months ended June 30, 2005, was $60.1 million, an $88.8 million
increase from a net loss of $28.7 million for the six months ended June 30, 2004.
Securitization income was $250.7 million for the six-month period ended June 30,
2005, compared to $94.6 million for the comparable period in 2004. The following table details
Securitization income for the six-month periods ended June 30, 2005 and 2004, respectively.
28
Table 3: Analysis of Securitization Income
(in thousands)
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended |
|
|
June 30, |
|
|
2005 |
|
2004 |
Loss on new securitizations of receivables to the
Metris Master Trust: |
|
|
|
|
|
|
|
|
Defeasance of maturing ABS series into conduit |
|
|
(34,525 |
)(1) |
|
$ |
(78,008 |
)(4) |
Amortizing term series financing |
|
|
|
|
|
|
(1,246 |
)(5) |
New term ABS transactions |
|
|
(13,046 |
)(2) |
|
|
(12,632 |
)(6) |
Issuance of BB bonds |
|
|
5,364 |
(3) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(42,207 |
) |
|
|
(91,886 |
) |
|
|
|
|
|
|
|
|
|
Loss on replenishment of receivables to the Metris
Master Trust |
|
|
(22,626 |
) |
|
|
(49,381 |
) |
Discount accretion |
|
|
121,832 |
|
|
|
121,540 |
|
Interest-only revenue: |
|
|
|
|
|
|
|
|
Gross yield(7) |
|
|
805,366 |
|
|
|
927,921 |
|
Principal defaults |
|
|
(468,676 |
) |
|
|
(672,813 |
) |
Interest expense and servicing fees |
|
|
(151,302 |
) |
|
|
(125,039 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
185,388 |
|
|
|
130,069 |
|
|
|
|
|
|
|
|
|
|
Change in fair value of retained interests in loans securitized |
|
|
20,808 |
|
|
|
68,683 |
|
Transaction and other costs |
|
|
(12,498 |
) |
|
|
(84,383 |
) |
|
|
|
|
|
|
|
|
|
Securitization income |
|
$ |
250,697 |
|
|
$ |
94,642 |
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
Loss represents $204 million retained bond (18.5% required
subordination) discounted at 16% for 15 months and a $33 million spread account
floor discounted at 16% for 15 months, partially offset by the present value of
future assumed excess spread discounted at 30%. |
|
(2) |
|
Loss represents $89 million retained bond (14.0% required
subordination, including the issuance of BB bonds) discounted at 15% for 23
months, partially offset by the present value of future assumed excess spread
discounted at 30%. |
|
(3) |
|
Gain represents the reversal of the remaining discount (16% over
21 months) on a $53 million retained bond, partially offset by a $7 million
interest reserve account discounted at 16% for 21 months and increased interest
expense on $53 million of BB bonds discounted monthly at 30%. |
|
(4) |
|
Loss represents discount on a $250 million retained bond (18.5%
required subordination) at 16% for 24 months and a $47 million spread account
floor discounted at 15.25% for 24 months, partially offset by the present value
of future assumed excess spread discounted at 30%. |
|
(5) |
|
Loss represents discount on a $113 million retained bond (18.5%
required subordination) at 16% for one month, partially offset by the present
value of future assumed excess spread discounted at 30%. |
|
(6) |
|
Loss represents discount on $27 million retained bond (12%
required subordination) discounted at 16% for 36 months and a $7 million spread
account floor discounted at 15.25% for 36 months, partially offset by the
present value of future 36 months assumed excess spread discounted at 30%. |
|
(7) |
|
Includes cash flows from finance charges, late, overlimit, debt
waiver and cash advance fees, bad debt recoveries and interchange income. |
Loss on new securitizations of receivables to the Metris Master Trust was $42.2 million for
the six-month period ended June 30, 2005, a decrease of $49.7 million or 54.1% from $91.9 million
for the six-month period ended June 30, 2004. The improvement was primarily due to a lower volume
of new securitizations, lower average months to maturity, lower enhancement levels and higher
excess spread assumptions used in calculating the loss on new securitization due to improved
performance in the Metris Master Trust.
Loss on replenishment of receivables to the Metris Master Trust was $22.6 million for the
six-month period ended June 30, 2005, a decrease of $26.8 million or 54.3% from $49.4 million for
the six-month period ended June 30, 2004. The improvement was primarily due to higher excess
spread assumptions used in calculating the loss on replenishment due to improved performance in the
Metris Master Trust.
29
Interest-only revenue was $185.4 million for the six-month period ended June 30, 2005, a
$55.3 million or 42.5% increase from $130.1 million for the six-month period ended June 30, 2004.
The increase was primarily due to a 243-basis-point increase in average excess spread in the Metris
Master Trust, partially offset by a $1.2 billion reduction in average principal receivables in the
Metris Master Trust.
Change in fair value of retained interests in loans securitized was $20.8 million for the
six-month period ended June 30, 2005, a $47.9 million or 69.7% decrease from $68.7 million for the
six-month period ended June 30, 2004. The decrease is primarily due to a $73.2 million larger
reduction in fair value related to the change in conduit borrowings and receivable attrition,
partially offset by a $22.4 million larger increase in fair value related to interest earned on
cash balances in the Metris Master Trust and the release of restricted cash resulting from improved
Metris Master Trust performance.
Transaction and other costs were $12.5 million for the six-month period ended June 30, 2005,
a $71.9 million or 85.2% decrease from $84.4 million for the six-month period ended June 30, 2004.
The decrease is primarily due to fees incurred in 2004 related to establishing a two-year financing
conduit and commitment fees to insure future asset-backed transactions.
Servicing income on securitized receivables was $57.7 million for the six-month period ended
June 30, 2005, a $12.4 million or 17.7% decrease from $70.1 million for the six-month period ended
June 30, 2004. This decrease reflects a $1.2 billion reduction in average principal receivables
held by the Metris Master Trust between the two periods.
Credit card loan and other interest income and Credit card loan fees, interchange and other
income, totaled $12.9 million for the six-month period ended June 30, 2005, a $13.3 million or
50.8% decrease from $26.2 million for the six-month period ended June 30, 2004. The cumulative
decrease resulted primarily from the $58.4 million reduction in average owned credit card loans
between the two periods.
Enhancement services income was $6.4 million for the six-month period ended June 30, 2005,
an $8.1 million or 55.9% decrease from $14.5 million for the six-month period ended June 30, 2004.
The decrease resulted primarily from a declining number of memberships resulting from a declining
portfolio.
Interest expense was $15.9 million for the six-month period ended June 30, 2005, a $16.7
million or 51.2% decrease from $32.6 million for the six-month period ended June 30, 2004. This
decrease resulted primarily from the $141.7 million decrease in average debt outstanding between
the two periods resulting from the prepayments of debt previously discussed.
Marketing expenses were $53.1 million for the six-month period ended June 30, 2005, a $21.4
million or 67.5% increase from $31.7 million for the six-month period ended June 30, 2004. The
increase resulted from an increase in new accounts for the six months ended June 30, 2005 over the
comparable prior year period. We generated approximately 328,000 new accounts for the six-month
period ended June 30, 2005, compared to approximately 154,000 new accounts for the six-month period
ended June 30, 2004.
This increase was also attributed to an increase in partnership marketing expenditures during the
six-month period that resulted from signing two new significant partnership agreements, an increase in overall account marketing to offset a decline
in customer response rates consistent with current trends in the industry and campaign expense
timing. This increase was partially offset by a reduction in expenses associated with the
termination of our obligations under a temporary servicing arrangement with the purchaser of our
membership club and warranty business
Data processing services and communications, and Credit protection claims totaled $33.3
million for the six-month period ended June 30, 2005, an $8.3 million or 20.6% decrease from $41.6
million for the six-month period ended June 30, 2004. This cumulative decrease resulted primarily
from a reduction in average gross active accounts between the two periods.
Other expenses were $56.2 million for the six-month period ended June 30, 2005, a $5.1
million or 10.0% increase from $51.1 million for the six-month period ended June 30, 2004. The
following table illustrates the components of Other expenses for the quarters ended June 30, 2005
and 2004, respectively.
30
Table 4: Other Expenses
(in thousands)
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended |
|
|
June 30, |
|
|
2005 |
|
2004 |
MasterCard® / Visa® assessment and fees |
|
$ |
3,728 |
|
|
$ |
3,356 |
|
Credit card fraud losses |
|
|
988 |
|
|
|
943 |
|
Legal fees |
|
|
2,919 |
|
|
|
2,148 |
|
Collection and risk management |
|
|
5,980 |
|
|
|
7,267 |
|
Other professional fees |
|
|
9,131 |
|
|
|
9,408 |
|
Purchased portfolio premium amortization |
|
|
3,167 |
|
|
|
4,502 |
|
Asset impairment, lease write-offs and severance |
|
|
24 |
|
|
|
3,252 |
|
Debt prepayment expenses |
|
|
20,241 |
|
|
|
4,879 |
|
General and administrative expenses and other |
|
|
10,029 |
|
|
|
15,355 |
|
|
|
|
|
|
|
|
|
|
Total other expenses |
|
$ |
56,207 |
|
|
$ |
51,110 |
|
|
|
|
|
|
|
|
|
|
Included in asset impairment, lease write-offs and severance for the six-month period ended
June 30, 2004 is approximately $3.0 million of severance related expenses.
Included in debt prepayment expenses for the six months ended June 30, 2005 is approximately
$18 million related to prepayments on our Term Loan due May 2007. The remaining debt prepayment
expenses for the six-month period related to prepayments on our Senior Notes due July 2006.
Included in debt prepayment expenses for the six months ended June 30, 2004 are $4.5 million in
costs related to the prepayment of our $125 million senior secured credit agreement due June 2004.
The remainder of the debt prepayment costs for the six months ended June 30, 2004 related to the
prepayment of our $100 million 10% senior notes due November 2004.
The decrease in general and administrative expenses and other for the six months ended June
30, 2005, compared to the six months ended June 30, 2004, resulted primarily from a $2.0 million
decrease related to technology licensing fees, a $1.4 million reduction in certain insurance costs
and a $0.8 million reduction in claims expense associated with our declining enhancement services
business.
Retained Interests in Loans Securitized
Our credit card receivables are primarily funded through asset-backed securitizations. Upon
securitization, we remove the applicable credit card loans from our consolidated balance sheets and
recognize the Retained interests in loans securitized at their allocated carrying value in
accordance with SFAS No. 140, Accounting for Transfers and Servicing of Financial Assets and
Extinguishments of Liabilities a replacement of FASB Statement No. 125 (SFAS No. 140). We sell
some assets to the Metris Master Trust at the inception of a securitization series. We also sell
receivables to the Metris Master Trust on a daily basis to replenish principal receivable balances
that have decreased due to payments and charge-offs. The difference between the allocated carrying
value and the proceeds from the assets sold is recorded as a gain or loss on sale and is included
in Securitization income. At the same time, we recognize Retained interests in loans securitized. The Retained
interests in loans securitized are financial assets measured at fair value consistent with trading
securities in accordance with SFAS No. 115, Accounting for Certain Investments in Debt and Equity
Securities, and include our contractual retained interests, an interest-only strip receivable,
excess transferors interests, and spread accounts receivable. The contractual retained interests
consist of non-interest bearing securities held by us. The interest-only strip receivable
represents the present value of the excess of the estimated future interest and fee collections
expected to be generated by the securitized loans over the period such loans are projected to be
outstanding, over the interest paid on investor certificates, credit losses, contractual servicing
fees and other expenses. The excess transferors interests represent principal receivables held in
the Metris Master Trust in excess of the contractual retained interests. Spread accounts
receivable represent restricted cash reserve accounts held by the Metris Master Trust Trustee that
can be used to fund payments due securitization investors and credit enhancers if cash flows are
insufficient. Cash held in spread accounts is released to us if certain conditions are met or a
securitization series terminates with amounts remaining in the related spread accounts. The fair
value of the Retained interests in loans securitized is determined through estimated cash flows
discounted at rates that reflect the level of subordination, projected repayment term and credit
risk of the securitized loans.
31
The following table summarizes our Retained interests in loans securitized as of June 30,
2005, and December 31, 2004, respectively.
Table 5: Retained interest in loans securitized
(in thousands)
|
|
|
|
|
|
|
|
|
|
|
June 30, |
|
December 31, |
|
|
2005 |
|
2004 |
Contractual retained interests |
|
$ |
478,440 |
|
|
$ |
537,945 |
|
Excess transferors interest |
|
|
153,954 |
|
|
|
105,237 |
|
Interest-only strip receivable |
|
|
102,105 |
|
|
|
82,672 |
|
Spread accounts receivable |
|
|
34,685 |
|
|
|
58,281 |
|
|
|
|
|
|
|
|
|
|
Retained interests in loans securitized |
|
$ |
769,184 |
|
|
$ |
784,135 |
|
|
|
|
|
|
|
|
|
|
The contractual retained interests were $478.4 million as of June 30, 2005, a $59.5 million or
11.1% decrease from $537.9 million as of December 31, 2004. The decrease resulted from lower
contractual retained interests required due to a $493 million decrease in bonds outstanding and a
decrease in weighted average enhancement levels. This decrease was partially offset by a 2.2 month
decrease in the weighted average months-to-maturity on the outstanding series in the Metris Master
Trust.
The excess transferors interests were $154.0 million as of June 30, 2005, a $48.8 million or
46.4% increase from $105.2 million as of December 31, 2004. The increase was due primarily to the
pay down of our variable funding conduits.
The interest-only strip receivable was $102.1 million as of June 30, 2005, a $19.4 million or
23.5% increase from $82.7 million as of December 31, 2004. The increase was due to a higher excess
spread assumption related to receivables held in the Metris Master Trust, partially offset by a
$530.7 million reduction in ending principal receivables in the Metris Master Trust. The excess
spread assumption has increased from 2.58% at December 31, 2004, to 3.36% at June 30, 2005,
primarily due to a decrease in the projected principal default rates, partially offset by net yield
compression resulting from a projected increase in interest rates.
Spread accounts receivable were $34.7 million as of June 30, 2005, a $23.6 million or 40.5%
decrease from $58.3 million as of December 31, 2004. The decrease is primarily due to the improved
performance of the Metris Master Trust. For more information on cash restricted from release, see the Off-Balance Sheet Arrangements section of
Managements Discussion and Analysis of Financial Condition and Results of Operations on pages
35-37.
At least quarterly, we adjust our valuation of the Retained interests in loans securitized
to reflect changes in the amount and expected timing of future cash flows. The significant factors
that affect the timing and amount of cash flows relate to collateral assumptions, which include
payment rate, default rate, gross yield and discount rate. These values can, and will, vary as a
result of changes in the amount and timing of the cash flows and the underlying economic
assumptions. The discount rates used to estimate the fair value of the retained interests assets
are commensurate with the risk associated with the underlying expected future cash flows.
Indicators of the level of risk inherent in the portfolio include delinquency and loss rates and
expectations surrounding interest rates. Other factors that would impact the risk assessment
include changes to our corporate capital structure, corporate debt ratings or securitization
enhancement levels. Changes in expectations as to the level of risk related to future cash flows
may result in changes to the discount rate assumptions. (See Critical Accounting Estimates on pages
25-26 for more information on the valuation of Retained interests in loans securitized.)
32
The significant assumptions we used in estimating the fair value of the Retained interests in
loans securitized as of June 30, 2005 and December 31, 2004, respectively, are as follows:
Table 6: Significant assumptions used for estimating the fair value of retained interests
|
|
|
|
|
|
|
|
|
|
|
June 30, |
|
December 31, |
|
|
2005 |
|
2004 |
Monthly principal payment rate |
|
|
6.5 |
% |
|
|
5.9 |
% |
Gross yield (1) |
|
|
26.3 |
% |
|
|
25.9 |
% |
Annual interest expense and servicing fees |
|
|
5.5 |
% |
|
|
5.0 |
% |
Annual gross principal default rate |
|
|
17.4 |
% |
|
|
18.4 |
% |
Discount rate: |
|
|
|
|
|
|
|
|
Contractual retained interests |
|
|
15.0 |
% |
|
|
16.0 |
% |
Excess transferors interest |
|
|
15.0 |
% |
|
|
16.0 |
% |
Interest-only strip receivable |
|
|
30.0 |
% |
|
|
30.0 |
% |
Spread accounts receivable |
|
|
15.0 |
% |
|
|
16.0 |
% |
Weighted average months to maturity |
|
|
17.9 |
|
|
|
20.1 |
|
Weighted average enhancement level (2) |
|
|
11.4 |
% |
|
|
12.1 |
% |
Gross receivables held in the Metris Master Trust, net of discount(3) |
|
|
93.5 |
% |
|
|
92.3 |
% |
|
|
|
(1) |
|
Includes expected cash flows from finance charges, late and overlimit fees,
debt waiver premiums and bad debt recoveries. Gross yield for purposes of estimating
fair value does not include cash flows from interchange income or cash advance fees. |
|
(2) |
|
Includes contractual retained interests and required minimum spread
reserve deposits. |
|
(3) |
|
Represents the ratio of Retained interests in loans securitized plus the
off-balance sheet receivables to gross receivables in the Metris Master Trust plus the
gross spread accounts receivable. |
At least quarterly, we review and adjust, as appropriate, the assumptions and estimates used
in our model based on a variety of internal and external factors, including national and economic
trends and business conditions, current lending policies, procedures and strategies, historical
trends and assumptions about future trends, competition and legal and regulatory requirements.
Effective March 31, 2005, we reduced the discount rate applied to the contractual retained
interests, excess transferors interest and spread accounts receivable from 16.0% to 15.0%. The
discount rates were reduced to reflect a decrease in the overall risk of the assets in the Metris
Master Trust. Indicators of the reduced level of risk in the portfolio include improvements in
credit quality and excess spreads, corporate debt rating upgrades, securitization enhancement levels (required
subordination levels determined by our rating agencies) and improved access to the securitization
markets.
Credit card receivables
Direct Merchants Bank originates all of our credit card accounts. The receivables on nearly
all of those accounts are currently being funded through asset-backed securitizations with one of
our special purpose entity subsidiaries, the Metris Master Trust. These securitizations are
treated as sales under GAAP and the receivables are removed from our consolidated balance sheets
when sold to the Metris Master Trust. Following the sale, the Bank retains ownership of the
cardholder relationship and services all receivables held by the Metris Master Trust.
As a result of our current funding strategies, our owned credit card receivable portfolio has
decreased significantly over the past two years. Currently, the only receivables held by Direct
Merchants Bank are secured credit card receivables which are secured by a cardholder deposit held
by the Bank. Also, within the normal course of business, MCI and its other non-bank subsidiaries
may hold receivables on their balance sheets.
The following tables illustrate the credit card loans outstanding, delinquency ratios and net
charge-offs of our owned credit card receivables portfolio as of the dates and for the periods
indicated.
33
\
Table 7: Loan Delinquency
(Dollars in thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
June 30, |
|
% of |
|
December 31, |
|
% of |
|
June 30, |
|
% of |
|
|
2005 |
|
Total |
|
2004 |
|
Total |
|
2004 |
|
Total |
Loans outstanding |
|
$ |
6,505 |
|
|
|
100 |
% |
|
$ |
68,230 |
|
|
|
100 |
% |
|
$ |
72,491 |
|
|
|
100 |
% |
Loans contractually delinquent: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
30 to 59 days |
|
|
196 |
|
|
|
3.0 |
% |
|
|
1,750 |
|
|
|
2.6 |
% |
|
|
2,448 |
|
|
|
3.4 |
% |
60 to 89 days |
|
|
237 |
|
|
|
3.7 |
% |
|
|
1,722 |
|
|
|
2.5 |
% |
|
|
2,007 |
|
|
|
2.8 |
% |
90 or more days |
|
|
2,849 |
|
|
|
43.8 |
% |
|
|
4,309 |
|
|
|
6.3 |
% |
|
|
4,866 |
|
|
|
6.7 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
3,282 |
|
|
|
50.5 |
% |
|
$ |
7,781 |
|
|
|
11.4 |
% |
|
$ |
9,321 |
|
|
|
12.9 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The increase in the owned delinquency rate as of June 30, 2005, compared to December 31, 2004
and June 30, 2005 resulted from the sale of approximately $52 million in credit card receivables
from the Company to the Metris Master Trust during the quarter ended June 30, 2005. The increased
delinquency rate results from the nature and quality and the remaining owned credit card
receivables.
Table 8: Net Charge-offs
(Dollars in thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
Six Months Ended |
|
|
June 30, |
|
June 30, |
|
|
2005 |
|
2004 |
|
2005 |
|
2004 |
Average credit card loans |
|
$ |
25,529 |
|
|
$ |
80,779 |
|
|
$ |
45,439 |
|
|
$ |
103,868 |
|
Net charge-offs |
|
|
1,476 |
|
|
|
3,080 |
|
|
|
3,108 |
|
|
|
15,245 |
|
Net charge-off ratio (annualized) |
|
|
23.2 |
% |
|
|
15.3 |
% |
|
|
13.8 |
% |
|
|
29.4 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance Sheet Analysis
Cash and Cash Equivalents and Available for Sale Securities
Cash and cash equivalents and Available for sale securities were $287.0 million as of June
30, 2005, a decrease of $110.1 million or 27.7% from $397.1 million as of December 31, 2004. This
decrease resulted primarily from the $296.0 million in optional debt prepayments made during the
six-month period ended June 30, 2005. These decreases were partially offset by $42.0 million of
cash generated from operations, $80.0 million of net receivable attrition, and $63.7 million of
cash generated from the transfer of credit loans from the Company to the Metris Master Trust.
Net Credit Card Loans
Credit card loans, net of allowance for loan losses of $3,751 and $12,409, respectively were
$2.8 million as of June 30, 2005, a decrease of $53.0 million or 95.0% from $55.8 million at
December 31, 2004. The decrease resulted primarily from the sale of approximately $52 million of
credit card loans from the Company to the Metris Master Trust, during the second quarter of 2005.
Other Assets
Other assets were $47.3 million as of June 30, 2005, a decrease of $25.2 million or 34.8%
from $72.5 million at December 31, 2004. This decrease resulted primarily from a $10.0 million
reduction in capitalized debt fees resulting from the prepayment of corporate debt, amortization of
certain prepaid costs of $5.5 million, a $4.2 million reduction in certain receivables related to
the termination of our obligations under a temporary servicing arrangement with the third-party
purchaser of our membership club and warranty business, and a $3.2 million decrease related to
amortization of purchase portfolio premium.
Debt
Debt was $78.6 million as of June 30, 2005, a decrease of $295.0 million or 79.0% from
$373.6 million at December 31, 2004. This decrease resulted primarily from the $225 million in
optional prepayments on our Term Loan due May 2007 and $71 million in optional prepayments on our
Senior Notes due July 2006.
34
Accrued Expenses and Other Liabilities
Accrued expenses and other liabilities were $142.8 million at June 30, 2005, an increase of
$19.9 million or 16.2% from $122.9 million at December 31, 2004. The increase was due primarily to
a $16.4 million increase in tax related liabilities and a $6.3 million increase in accrued employee
compensation and benefits.
Off-Balance Sheet Arrangements
Our operations are funded primarily through asset-backed securitizations of principal
receivables on credit card accounts. Our securitizations involve selling pools of both current and
future principal receivable balances on credit card accounts. We retain the servicing of the
receivables, and we also currently maintain a qualified back-up servicer. Our securitizations are
treated as sales under GAAP and the receivables are removed from our consolidated balance sheets
(except for any retained interests in the securitization). We primarily securitize receivables by
selling them to the Metris Master Trust, a proprietary, non-consolidated trust, through public and
private asset-backed securitizations or multi-seller commercial paper conduits.
The Metris Master Trust was formed in May 1995 pursuant to a pooling and servicing agreement,
as amended. MRI, one of our special purpose entity subsidiaries, transfers receivables in
designated accounts to the Metris Master Trust. The Metris Master Trust may, and does from time to
time, issue securities that represent undivided interests in the receivables in the Metris Master
Trust. These securities are issued by series, and each series typically has multiple classes of
securities. Each series, or class within a series, may have different terms. The different
classes of an individual series are structured to obtain specific debt ratings. As of June 30,
2005, 11 series of publicly and privately issued securities were outstanding. MRI currently
retains the most subordinated class of securities in each series, and all other classes are issued
to non-affiliated third parties. These securities are interests in the Metris Master Trust only and
are not obligations of MRI, MCI, Direct Merchants Bank or any other subsidiary of the Company. The
interest in the Metris Master Trust not represented by any series of securities issued by the
Metris Master Trust also belongs to MRI, and is known as the transferors interest.
Generally, each series involves an initial reinvestment period, referred to as the revolving
period, in which principal payments on receivables allocated to such series are returned to MRI
and reinvested in new principal receivables arising in the accounts. After the revolving period
ends, principal payments allocated to the series are then accumulated and used to repay the
investors. This period is referred to as the accumulation period, which is followed by a
controlled amortization period wherein investors are repaid their invested amount. As of June
30, 2005, the Metris Master Trust did not have any series in an accumulation period or controlled
amortization period. The scheduled accumulation and amortization periods are set forth in the
securitization agreements governing each series. However, all series set forth certain events by
which amortization can be accelerated, referred to as early amortization. Reasons early
amortization could occur include: (i) one- or three-month average of portfolio collections, less
principal and finance charge charge-offs, financing costs and servicing costs, would drop below
levels between 0.0% and 1.0%; (ii) negative transferors interest within the Metris Master Trust,
or; (iii) failure to obtain funding during an accumulation period for a maturing series. New
receivables in designated accounts cannot be funded from a series that is in early amortization.
We do not currently have any series that are in early amortization.
In addition, there are various triggers within our securitization agreements that, if broken,
would restrict the release of cash to us from the Metris Master Trust. This restricted cash
provides additional security to the investors in the Metris Master Trust. We include cash
restricted from release in the Metris Master Trust at its fair value within Retained interests in
loans securitized on our consolidated balance sheets. The triggers are usually related to the
performance of the Metris Master Trust, specifically the average excess spread over a one- to
three-month period.
The cash restricted from release is limited to the amount of excess spread generated in the
Metris Master Trust on a cash basis. During periods of lower excess spreads, the maximum amount of
cash required to be restricted in the Metris Master Trust may not be generated. During those
periods, all excess cash normally released to MRI will be restricted from release. Once the
maximum amount of cash required to be restricted is restricted from release or excess spreads
improve, cash can again be released to MRI. Table 9 presents the cash restricted from release as of
June 30, 2005 and December 31, 2004, respectively.
35
Table 9: Cash Restricted from Release
(in thousands)
|
|
|
|
|
|
|
|
|
|
|
June 30, |
|
December 31, |
|
|
2005 |
|
2004 |
Cash restricted due to performance |
|
$ |
|
|
|
$ |
36,367 |
|
Cash restricted due to corporate debt ratings |
|
|
13,187 |
|
|
|
13,187 |
|
Cash restricted due to other non-performance
based factors |
|
|
35,593 |
|
|
|
37,770 |
|
|
|
|
|
|
|
|
|
|
Total cash restricted |
|
$ |
48,780 |
|
|
$ |
87,324 |
|
|
|
|
|
|
|
|
|
|
The $36.4 million decrease in cash restricted due to performance from December 31, 2004 to
June 30, 2005, resulted from improving excess spreads in the Metris Master Trust.
The following table generally illustrates the maximum amount of cash (as a percentage of
outstanding securitized principal receivables) that could be held by the Metris Master Trust
Trustee as additional collateral if the one month and three month average excess spread of the
Metris Master Trust were within various ranges:
Table 10: Maximum Cash Restricted in the Metris Master Trust
|
|
|
|
|
Cash Basis Net |
|
Maximum |
Excess Spread |
|
Restricted |
greater than 5.5% |
|
|
- |
|
5.0% 5.5% |
|
|
0.5% - 1.0 |
% |
4.5% 5.0% |
|
|
0.5% - 1.5 |
% |
4.0% 4.5% |
|
|
1.0% - 2.0 |
% |
3.5% 4.0% |
|
|
1.0% - 3.0 |
% |
3.0% 3.5% |
|
|
1.0% - 4.0 |
% |
less than 3.0% |
|
|
4.5% - 5.0 |
% |
On a monthly basis, each series is allocated its share of finance charge and fee collections,
which are used to pay investors interest on their securities, pay their share of servicing fees and
reimburse them for their share of losses due to charge-offs. Amounts remaining may be deposited in
cash accounts of the Metris Master Trust as additional protection for future losses. Once each of
these obligations is fully met, remaining finance charge collections, if any, are returned to us.
Principal receivables held by the Metris Master Trust were $5.6 billion and $6.1 billion as of June
30, 2005 and December 31, 2004, respectively.
The following table shows the average annualized yields, defaults, costs and excess spreads
for the Metris Master Trust on a cash basis:
Table 11: Weighted Average Annualized Yields, Defaults, Costs and Excess Spreads
(In thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
Six Months Ended |
|
|
June 30, |
|
June 30, |
|
|
2005 |
|
2004 |
|
2005 |
|
2004 |
Gross yield (1) |
|
|
27.99 |
% |
|
|
26.75 |
% |
|
|
28.36 |
% |
|
|
27.12 |
% |
Annual principal defaults |
|
|
15.54 |
% |
|
|
19.24 |
% |
|
|
16.31 |
% |
|
|
19.25 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net portfolio yield |
|
|
12.45 |
% |
|
|
7.51 |
% |
|
|
12.05 |
% |
|
|
7.87 |
% |
Annual interest expense and servicing fees |
|
|
5.62 |
% |
|
|
3.68 |
% |
|
|
5.40 |
% |
|
|
3.65 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net excess spread |
|
|
6.83 |
% |
|
|
3.83 |
% |
|
|
6.65 |
% |
|
|
4.22 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
Includes cash flows from finance charges, late, overlimit, debt
waiver and cash advance fees, bad debt recoveries and interchange income. |
36
The following table shows the principal receivables and delinquent principal receivables in
the Metris Master Trust:
Table 12: Principal Receivables
(Dollars in thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
June 30, |
|
December 31, |
|
June 30, |
|
|
2005 |
|
2004 |
|
2004 |
Principal receivables |
|
$ |
5,586,973 |
|
|
$ |
6,117,669 |
|
|
$ |
6,580,659 |
|
2-cycle plus delinquent
principal receivables |
|
$ |
359,644 |
|
|
$ |
470,442 |
|
|
$ |
519,084 |
|
Principal delinquency ratio |
|
|
6.4 |
% |
|
|
7.7 |
% |
|
|
7.9 |
% |
Additional information regarding off-balance sheet arrangements is set forth under Liquidity,
Funding and Capital Resources below. Additional information regarding the accounting for our
Retained interests in loans securitized can be found under Critical Accounting Estimates on pages
25-26 of this Report.
Liquidity, Funding and Capital Resources
One of our primary financial goals is to maintain an adequate level of liquidity through
active management of our assets and liabilities. Liquidity management is a dynamic process,
affected by changes in the characteristics of our assets and liabilities, short- and long-term
interest rates and by the capital markets. We use a variety of financing sources to manage
liquidity, funding and interest rate risks. Table 13 summarizes our funding and liquidity as of
June 30, 2005 and December 31, 2004, respectively.
Table 13: Liquidity, Funding and Capital Resources
(In thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
June 30, 2005 |
|
|
|
|
|
|
|
|
|
December 31, 2004 |
|
|
|
|
|
|
|
|
MCI and non-bank |
|
|
|
|
|
|
|
|
|
MCI and non-bank |
|
|
|
|
DMCCB |
|
subsidiaries |
|
Consolidated |
|
DMCCB |
|
subsidiaries |
|
Consolidated |
Cash and due from banks |
|
$ |
24,537 |
|
|
$ |
(1,050 |
) |
|
$ |
23,487 |
|
|
$ |
25,340 |
|
|
$ |
(142 |
) |
|
$ |
25,198 |
|
Federal funds sold |
|
|
27,395 |
|
|
|
|
|
|
|
27,395 |
|
|
|
22,450 |
|
|
|
|
|
|
|
22,450 |
|
Short-term investments |
|
|
22,729 |
|
|
|
103,354 |
|
|
|
126,083 |
|
|
|
12,599 |
|
|
|
30,471 |
|
|
|
43,070 |
|
Available for sale securities |
|
|
18,835 |
|
|
|
91,156 |
|
|
|
109,991 |
|
|
|
107,138 |
|
|
|
199,271 |
|
|
|
306,409 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total liquid assets |
|
$ |
93,496 |
|
|
$ |
193,460 |
|
|
$ |
286,956 |
|
|
$ |
167,527 |
|
|
$ |
229,600 |
|
|
$ |
397,127 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The following tables detail our outstanding on- and off-balance sheet funding as of June 30,
2005 and December 31, 2004, respectively, including any unused capacity as of those dates.
37
Table 14: Outstanding On- and Off-Balance Sheet Funding
(In thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
June 30, 2005 |
|
December 31, 2004 |
|
|
Outstanding |
|
Unused Capacity |
|
Outstanding |
|
Unused Capacity |
On-balance sheet funding |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
10.125%
senior notes July 2006(1) |
|
|
78,626 |
|
|
|
N/A |
|
|
|
148,624 |
|
|
|
N/A |
|
Term loan
May 2007 |
|
|
|
|
|
|
N/A |
|
|
|
225,000 |
|
|
|
N/A |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Subtotal |
|
|
78,626 |
|
|
|
N/A |
|
|
|
373,624 |
|
|
|
N/A |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Off-balance sheet funding |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Metris Master Trust: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Term asset-backed securitizations
with various maturities through
February 2009 |
|
|
4,647,150 |
|
|
|
N/A |
|
|
|
4,950,000 |
|
|
|
N/A |
|
Conduits
maturing April 2006 |
|
|
170,000 |
|
|
|
830,000 |
|
|
|
360,000 |
|
|
|
840,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Subtotal |
|
|
4,817,150 |
|
|
|
830,000 |
|
|
|
5,310,000 |
|
|
|
840,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
4,895,776 |
|
|
$ |
830,000 |
|
|
$ |
5,683,624 |
|
|
$ |
840,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
On July 15, 2005 the Company made an optional prepayment of $30.0 million on
its 10.125% senior notes due July 2006. On July 13, 2005 the Company announced its
intention to prepay the remaining $49.1 million outstanding on those Senior Notes. This
prepayment is expected to be made on August 15, 2005, after which time all of the
Companys corporate debt will be eliminated. |
We have the following term asset-backed securitizations outstanding as of June 30, 2005:
Table 15: Outstanding Asset-Backed Securitizations
|
|
|
|
|
|
|
Asset-backed securitization |
|
Amount (in thousands) |
|
Expected final payment date(s) |
Series 20003 |
|
$ |
500,000 |
|
|
October 20, 2005 and November 21, 2005 |
Series 19993 |
|
|
300,000 |
|
|
November 21, 2005 |
Series 20012 |
|
|
750,000 |
|
|
May 22, 2006 and June 20, 2006 |
Series 19992 |
|
|
500,000 |
|
|
July 20, 2006 |
Series 20042 |
|
|
652,800 |
|
|
October 20, 2006 |
Series 20051 |
|
|
544,350 |
|
|
March 20, 2007 |
Series 20041 |
|
|
200,000 |
|
|
April 20, 2007 |
Series 20024 |
|
|
600,000 |
|
|
May 21, 2007 |
Series 20021 |
|
|
300,000 |
|
|
January 20, 2009 and February 20, 2009 |
Series 20022 |
|
|
300,000 |
|
|
January 20, 2009 and February 20, 2009 |
|
|
|
|
|
|
|
Total |
|
$ |
4,647,150 |
|
|
|
|
|
|
|
|
|
|
Our term asset-backed securitizations require the accumulation of principal cash payments
received by the Metris Master Trust to fund the repayment of these obligations at the time of
maturity. We typically achieve this by either obtaining a paired series funding vehicle or
defeasing the maturing bonds with draw downs on existing conduit facilities or other funding
vehicles prior to the start of the accumulation period.
As of June 30, 2005 and December 31, 2004, we had $4.7 million and $5.5 million in letters of
credit issued, respectively, under a letter of credit facility agreement. We have pledged 100%
collateral against our letters of credit. This collateral is classified in Other assets on the
consolidated balance sheets.
As of June 30, 2005, our contractual cash obligations during the next twelve months are as
follows:
38
Table 16: Contractual Cash Obligations
(In thousands)
|
|
|
|
|
Operating leases |
|
$ |
7,730 |
|
Deposits |
|
|
2,605 |
|
Contractual purchase obligations |
|
|
48,984 |
|
|
|
|
|
|
Total |
|
$ |
59,319 |
|
|
|
|
|
|
In addition to contractual cash obligations, open-to-buy on credit card accounts was $6.5
billion as of June 30, 2005. While these amounts represent the total lines of credit available to
our customers, we have not experienced, and do not anticipate that we would experience, all of our
customers exercising their entire available credit line at any given point in time. We also have
the right to increase, reduce, cancel, alter or amend the terms for those available lines of credit
at any time.
The Company issued $52.8 million of asset-backed securities from the Metris Secured Note Trust
2004-2 during January 2005. These asset-backed securities are set to mature on October 20, 2006,
and were rated Ba2/BB+ by Moodys Investors Service, Inc. (Moodys) and Fitch Inc. (Fitch),
respectively. Proceeds from the issuance were used to make an optional $50 million prepayment on
the Companys Senior Notes due 2006. In February 2005, we announced the defeasance of the $900
million Series 2002-3 asset-backed securities from the Metris Master Trust. Series 2002-3 was
defeased through use of the two-year conduit facility and was scheduled to mature in May 2005.
Also in February 2005, the Company reduced its conduit capacity from $1.2 billion to $1.0 billion.
In April 2005, the Company issued $544 million in Series 2005-1 asset-backed securities from the
Metris Master Trust. We expect our receivable funding needs for the remainder of 2005 and 2006
will be covered by future asset-backed securitizations (ABS) issuances and, to a lesser extent,
further portfolio attrition. The Company had $830 million of conduit capacity available as of June
30, 2005, and $1.1 billion in remaining commitment from MBIA to provide insurance coverage on
future ABS transactions, of which $0.8 billion currently is available. The remaining $300 million
of commitment will become available to us when Series 1999-3 matures in November 2005.
During the second quarter of 2005, the Company used proceeds from the Banks permanent capital
reduction and existing Short-term investments to make optional prepayments totaling $225 million
on its Term Loan due May 2007, resulting in approximately $18.0 million in costs and charges (see
further discussion regarding the capital reduction in Business Overview on page 24). As a result
of the cumulative prepayments, MCI paid off, in full, its remaining obligations owed under its $300
million senior secured credit agreement, effectively terminating the credit agreement. During May
2005, the Company made three optional prepayments totaling $21 million on its unsecured 10.125%
Senior Notes due July 2006. Subsequent to June 30, 2005, the Company made an additional optional
prepayment of $30.0 million on its Senior Notes, and announced its intention to pay the final $49.1
million remaining on its Senior Notes in August 2005, following the required notification period.
Following the August payment, the Company will have eliminated all of its corporate debt.
The Companys 1998 through 2003 federal income tax returns are under examination by the
Internal Revenue Service (IRS). The IRS is considering adjustments involving the Companys tax
treatment of certain credit card fees as original issue discount (OID). The Company has also
proposed OID-related adjustments in the form of refund claims for some of these years. The fees at
issue include late, overlimit, interchange, cash advance, annual and insufficient funds fees.
Although these fees are primarily reported as income when billed for financial reporting purposes,
we believe the fees create OID that should be deferred and amortized over the remaining life of the
underlying credit card loans for tax purposes. As of June 30, 2005, and December 31, 2004, the
Company had deferred cumulative federal income tax related to this issue of approximately $107
million and $129 million, respectively. Our treatment of these fees is consistent with that of
many other United States credit card issuers.
In May 2005, the Company received a copy of a Technical Advice Memorandum Ruling (TAM)
requested by the local IRS exam team from the IRS National Office. The TAM concludes that the
Companys late, overlimit, cash advance and insufficient funds fees should be treated as OID but
that the Companys interchange and annual fees should not be treated as OID. The TAMs conclusions
were consistent with our expectations of how the IRS would rule on this issue. However, we
continue to maintain that our interchange and annual fees should be treated as OID. We will
continue to work with the IRS to resolve these issues, but the timing and amount of any final
resolution remain uncertain. However, we do not expect the final resolution of this matter to have
a material adverse effect on future earnings or liquidity.
39
Our deposits and unsecured debt are rated by Moodys, Standard & Poors Rating Services
(S&P) and Fitch. Factors affecting the various ratings include the overall health of the global
and national economy, specific economic conditions impacting the subprime consumer finance industry
and our overall financial performance, including earnings, credit losses, delinquencies, excess
spreads in the Metris Master Trust and our overall liquidity. Certain of our term asset-backed
securitizations require the restriction of cash if our corporate debt ratings go below certain
levels. During the quarter ended June 30, 2005, S&P increased our unsecured corporate debt rating
from a CCC to a B-. The following illustrates the current debt and long-term deposit ratings
of MCI and Direct Merchants Bank:
|
|
|
|
|
|
|
|
|
|
|
Moodys |
|
S & P |
|
Fitch |
Metris Companies Inc. |
|
|
|
|
|
|
|
|
Senior unsecured debt |
|
B3 |
|
B- |
|
|
B- |
|
Direct Merchants Bank |
|
|
|
|
|
|
|
|
Long-term deposits |
|
Ba3 |
|
BB- |
|
|
B |
|
Capital Adequacy
As of June 30, 2005, the Companys Total Stockholders Equity was $1.0 billion, or 16.6% of
total managed assets, compared to $947.3 million or 14.0% of total managed assets as of December
31, 2004. In the normal course of business, Direct Merchants Bank enters into agreements, or is
subject to regulatory requirements, that result in cash, debt, dividend or other capital
restrictions. Direct Merchants Bank and MCI have entered into a Capital Assurance and Liquidity
Maintenance Agreement (CALMA) that requires MCI to make such capital infusions or provide the
Bank with financial assistance so as to permit the Bank to meet its liquidity and capital
requirements. Direct Merchants Bank also entered into a Liquidity Reserve Deposit Agreement
(LRDA) under which the Bank has established restricted deposits with third-party depository
institutions for the purpose of supporting Direct Merchants Banks funding needs. These deposits
are invested in short-term liquid assets and are classified on the consolidated balance sheets as
the Liquidity reserve deposit. As of June 30, 2005 and December 31, 2004, the balance in the
liquidity reserve accounts was $70.0 million and $79.7 million, respectively.
MCI and Direct Merchants Bank have a Modified Operating Agreement with the OCC, which was
amended on April 7, 2005 and requires, among other things, that:
|
|
The Bank must maintain minimum Tier 1 capital of $100 million, unless otherwise approved by the OCC. |
|
|
|
The Bank may continue to pay dividends in accordance with applicable statutory and regulatory requirements
provided capital remains at the required level. |
|
|
|
The Bank must maintain liquid assets at the greater of $35 million or 100% of the average highest daily
funding requirement for managed receivables, which was $31.5 million at June 30, 2005. |
|
|
|
The Bank must comply with the terms of the LRDA and the CALMA. |
|
|
|
MCI must comply with the CALMA. |
Direct Merchants Bank and the Company believe they are currently in compliance with all of the
terms of the Modified Operating Agreement, as amended. If the OCC were to conclude that the Bank
failed to adhere to any provisions of the Modified Operating Agreement, the OCC could pursue
various enforcement options. If any of those options were to be pursued by the OCC, it could have
a material adverse effect on our operations or capital position.
On April 7, 2005, the Modified Operating Agreement was amended to reduce the minimum amount of
capital required to be held by Direct Merchants Bank from $213 million to $100 million. As a
result of the change to the Banks minimum capital requirements, the OCC approved a permanent
capital reduction of $130 million concurrent with the transfer of all eligible credit card
receivables from the Company to the Metris Master Trust, which occurred in May 2005. The permanent
capital reduction was completed in May 2005.
40
Direct Merchants Bank is subject to certain capital adequacy guidelines issued by the OCC.
Quantitative measures established by regulation to ensure capital adequacy require Direct
Merchants Bank to maintain minimum amounts and ratios of total and Tier 1 capital (as defined in
the regulations) to risk-weighted assets (as defined) and of Tier 1 leverage capital (as defined)
to average assets (as defined). Failure to meet minimum capital requirements can result in
certain mandatory, and possibly additional discretionary actions, by regulators that, if
undertaken, could have a direct material adverse effect on our financial condition. Furthermore,
FFIEC guidelines indicate that an institution with a concentration in subprime lending should hold
one and one-half to three times the normal minimum capital required. At both June 30, 2005 and
December 31, 2004, Direct Merchants Banks Tier 1 risk-based capital ratio (of 141.0% and 112.3%,
respectively), risk-based total capital ratio (of 142.2% and 113.6%, respectively) and Tier 1
leverage ratio (of 44.8% and 70.5%, respectively) far exceeded the minimum required capital
levels, and Direct Merchants Bank was considered a well-capitalized depository institution under
regulations of the OCC.
Selected Operating Data Managed Basis
In addition to analyzing the Companys performance on an owned basis, we analyze the Companys
financial performance on a managed loan portfolio basis. On a managed basis, the balance sheets
and income statements include other investors interests in securitized loans that are not assets
of the Company, thereby reversing the effects of sale accounting under SFAS No. 140. We believe
this information is meaningful to the reader of the financial statements. We service the
receivables that have been securitized and sold and own the right to the cash flows from those
receivables sold in excess of amounts owed to security holders.
The following information is not in conformity with GAAP, however, we believe the information
is relevant to understanding the overall financial condition and results of operations of the
Company.
Table 17: Managed Loan Portfolio
(Dollars and accounts in thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
Six Months Ended |
|
|
June 30, |
|
June 30, |
|
June 30, |
|
June 30, |
|
|
2005 |
|
2004 |
|
2005 |
|
2004 |
Account originations: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Partner |
|
|
38 |
|
|
|
15 |
|
|
|
72 |
|
|
|
24 |
|
Non-partner |
|
|
127 |
|
|
|
81 |
|
|
|
256 |
|
|
|
130 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total account originations |
|
|
165 |
|
|
|
96 |
|
|
|
328 |
|
|
|
154 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross active accounts: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Historical vintages (1) |
|
|
1,452 |
|
|
|
1,947 |
|
|
|
1,452 |
|
|
|
1,947 |
|
New vintages (1) |
|
|
708 |
|
|
|
292 |
|
|
|
708 |
|
|
|
292 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2,160 |
|
|
|
2,239 |
|
|
|
2,160 |
|
|
|
2,239 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Period-end loans: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Historical vintages (1) |
|
$ |
4,887,827 |
|
|
$ |
6,596,605 |
|
|
$ |
4,887,827 |
|
|
$ |
6,596,605 |
|
New vintages (1) |
|
|
1,046,209 |
|
|
|
486,550 |
|
|
|
1,046,209 |
|
|
|
486,550 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
5,934,036 |
|
|
$ |
7,083,155 |
|
|
$ |
5,934,036 |
|
|
$ |
7,083,155 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
New vintages include credit card account originations between 2003 and 2005. Historical vintages include credit card account originations and portfolio purchases prior to 2003. |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
June 30, |
|
% of |
|
December 31, |
|
% of |
|
June 30, |
|
% of |
|
|
2005 |
|
Total |
|
2004 |
|
Total |
|
2004 |
|
Total |
Period-end balances: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Credit card loans |
|
$ |
6,505 |
|
|
|
|
|
|
$ |
68,230 |
|
|
|
|
|
|
$ |
72,491 |
|
|
|
|
|
Receivables held by the Metris Master Trust |
|
|
5,927,531 |
|
|
|
|
|
|
|
6,511,990 |
|
|
|
|
|
|
|
7,010,664 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Managed |
|
$ |
5,934,036 |
|
|
|
|
|
|
$ |
6,580,220 |
|
|
|
|
|
|
$ |
7,083,155 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loans contractually delinquent: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Credit card loans |
|
|
3,283 |
|
|
|
50.5 |
% |
|
|
7,781 |
|
|
|
11.4 |
% |
|
|
9,321 |
|
|
|
12.9 |
% |
Receivables held by the Metris Master Trust |
|
|
453,146 |
|
|
|
7.6 |
% |
|
|
593,819 |
|
|
|
9.1 |
% |
|
|
658,650 |
|
|
|
9.4 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Managed |
|
$ |
456,429 |
|
|
|
7.7 |
% |
|
$ |
601,600 |
|
|
|
9.1 |
% |
|
$ |
667,971 |
|
|
|
9.4 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
41
The decrease in the managed delinquency rates as of June 30, 2005 over December 31, 2004 and
June 30, 2004, primarily reflects an improvement in credit quality in the Metris Master Trust.
Management believes the improvement in credit quality is more than seasonal and reflects the
improvements we have made in collections, account management and new account underwriting.
Table 17: Managed Loan Portfolio (continued)
(Dollars in thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
Six Months Ended |
|
|
June 30, |
|
June 30, |
|
|
|
|
|
|
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
% |
|
|
|
|
|
|
|
|
2005 |
|
of Total |
|
2004 |
|
|
|
|
|
2005 |
|
of Total |
|
2004 |
|
|
|
|
Average balances: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Credit card loans |
|
$ |
25,529 |
|
|
|
|
|
|
$ |
80,779 |
|
|
|
|
|
|
$ |
45,439 |
|
|
|
|
|
|
$ |
103,868 |
|
|
|
|
|
Receivables held by the Metris Master Trust |
|
|
6,021,409 |
|
|
|
|
|
|
|
7,258,288 |
|
|
|
|
|
|
|
6,183,109 |
|
|
|
|
|
|
|
7,522,820 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Managed |
|
$ |
6,046,938 |
|
|
|
|
|
|
$ |
7,339,067 |
|
|
|
|
|
|
$ |
6,228,548 |
|
|
|
|
|
|
$ |
7,626,688 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net charge-offs: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Credit card loans |
|
$ |
1,476 |
|
|
|
23.2 |
% |
|
$ |
3,080 |
|
|
|
15.3 |
% |
|
$ |
3,108 |
|
|
|
13.8 |
% |
|
$ |
15,245 |
|
|
|
29.5 |
% |
Receivables held by the Metris Master Trust |
|
|
202,226 |
|
|
|
13.5 |
% |
|
|
307,563 |
|
|
|
17.0 |
% |
|
|
429,817 |
|
|
|
14.0 |
% |
|
|
635,170 |
|
|
|
17.0 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Managed |
|
$ |
203,702 |
|
|
|
13.5 |
% |
|
$ |
310,643 |
|
|
|
17.0 |
% |
|
$ |
432,925 |
|
|
|
14.0 |
% |
|
$ |
650,415 |
|
|
|
17.2 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The managed net charge-off ratio was 13.5% for the three-month period ended June 30, 2005,
compared to 14.5% for the prior quarter and 17.0% for the quarter ended June 30, 2004. For the
six-month periods ended June 30, 2005 and June 30, 2004, the managed net charge-off ratio was 14.0%
and 17.2%, respectively. These improvements resulted primarily from the improved credit quality of
the Metris Master Trust receivables.
We charge-off bankrupt accounts within 60 days of formal notification. Charge-offs due to
bankruptcies were $85.6 million or 29.4% of total managed gross charge-offs for the quarter ended
June 30, 2005, and $107.8 million or 24.8% of total managed gross charge-offs for the quarter ended
June 30, 2004. Charge-offs due to bankruptcies were $168.6 million or 32.3% of total managed gross
charge-offs for the six-month period ended June 30, 2005, and $215.6 million or 23.7% of total
managed gross charge-offs for the six-month period ended June 30, 2004. In addition to those
bankrupt accounts that were charged-off, we received formal notification of $50.4 million and $51.3 million of managed bankrupt accounts that had
not been charged-off as of June 30, 2005 and 2004, respectively.
During April 2005, new federal bankruptcy legislation was enacted that will become effective
in October 2005. Since that time, we have experienced an increase in bankruptcy filings in our
credit card portfolio. Our second quarter 2005 filings increased 13% over the comparable period in
2004. This pattern is consistent with the 12% national increase in filings during the quarter, as
reported by MasterCard International. We believe the majority of the increase we have seen in
filings will impact the timing of our charge-offs, but not necessarily our overall expected losses.
More than 95% of our bankruptcy charge-offs come from delinquent accounts. Therefore, the
increased filings become more of an acceleration of a likely credit loss, rather than additional
credit losses. We expect bankruptcy pressure for the remainder of 2005, followed by a reduction in
filings in 2006. In the future, we believe the impact of this legislation will be modestly
positive for the Company because it will allow us to recover more payments from customers whose
credit card account balances have charged-off due to bankruptcy.
Total managed loans were $5.9 billion as of June 30, 2005, compared to $6.6 billion and $7.1
billion as of December 31, 2004 and June 30, 2004, respectively. The decrease in managed loans
from both December 31, 2004, and June 30, 2004, to June 30, 2005, resulted primarily from the
charging-off of higher balance historical vintage receivables, which are being replaced with new
vintage lower balance receivables. These decreases also resulted from an increase in payment rates
in the managed loan portfolio between the respective periods. The amount of credit card
receivables in debt management programs was $438.5 million or 7.4% of total managed loans as of
June 30, 2005, compared with $540.3 million or 8.2% of managed loans as of December 31, 2004. All
delinquent receivables in debt management programs are included in Table 17.
42
Table 18: Equity Ratios
(Dollar and share counts in thousands, except per share amounts)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
June 30, |
|
December 31, |
|
June 30, |
|
|
2005 |
|
2004 |
|
2004 |
Equity to managed assets: |
|
|
|
|
|
|
|
|
|
|
|
|
Total equity |
|
$ |
1,010,164 |
|
|
$ |
947,302 |
|
|
$ |
882,746 |
|
Total managed assets |
|
$ |
6,083,216 |
|
|
$ |
6,791,478 |
|
|
$ |
7,290,591 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Ratio of equity to managed
assets |
|
|
16.6 |
% |
|
|
13.9 |
% |
|
|
12.1 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Common stockholder book value: |
|
|
|
|
|
|
|
|
|
|
|
|
Common stockholders equity |
|
$ |
472,204 |
|
|
$ |
432,757 |
|
|
$ |
390,597 |
|
Common shares outstanding |
|
|
58,446 |
|
|
|
58,127 |
|
|
|
57,957 |
|
Common stockholders book value |
|
$ |
8.08 |
|
|
$ |
7.45 |
|
|
$ |
6.74 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total stockholders equity |
|
$ |
1,010,164 |
|
|
$ |
947,302 |
|
|
$ |
882,746 |
|
Preferred securities on a converted
basis |
|
|
45,054 |
|
|
|
45,054 |
|
|
|
45,054 |
|
Diluted shares outstanding |
|
|
103,499 |
|
|
|
103,181 |
|
|
|
103,011 |
|
Total book value per share |
|
$ |
9.76 |
|
|
$ |
9.18 |
|
|
$ |
8.57 |
|
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risk is the risk of loss from adverse changes in market prices and rates. Our principal
market risk is due to changes in interest rates. This affects us directly in our lending and
borrowing activities, as well as indirectly, as interest rates may impact the payment performance
of our cardholders.
To manage our direct risk to market interest rates, management actively monitors the interest
rates and the interest-sensitive components of our consolidated balance sheets and the impact that
changes in interest rates have on the fair value of assets, net income and cash flow. We seek to
minimize that impact primarily by matching asset and liability re-pricings.
Our primary assets are Credit card loans, net of allowance of $3,751 and $12,409,
respectively and Retained interests in loans securitized. The majority of our owned receivables
and the receivables held by the Metris Master Trust are priced at rates indexed to the variable
Prime Rate. We fund Credit card loans, net of allowance of $3,751 and $12,409, respectively
through a combination of cash flows from operations, bank loans, long-term debt and equity
issuances. Our securitized loans are held by the Metris Master Trust and bank-sponsored
multi-seller commercial paper conduits and investors in term series securities issued by the Metris
Master Trust, which have committed funding primarily indexed to variable commercial paper rates and
LIBOR. Long-term debt includes $79 million at a fixed interest rate. At June 30, 2005 and 2004,
none of the securities issued out of the Metris Master Trust and conduit funding of securitized
receivables were funded with fixed rate securities.
In an interest rate environment with rates significantly above current rates, we partially
mitigate the negative impact on earnings from higher interest expense by entering into interest
rate cap contracts and, to a lesser extent, through fixed rate funding.
The approach we use to quantify interest rate risk is a sensitivity analysis, which we believe
best reflects the risk inherent in our business. This approach calculates the impact on net income
before income taxes from an instantaneous and sustained change in interest rates of 200 basis
points. In this analysis, interest rates on our floating rate debt are not allowed to decrease
below 0%. Assuming that we take no counteractive measures, as of June 30, 2005, a 200-basis-point
increase in interest rates affecting our floating rate financial instruments, including both debt
obligations and receivables, would result in a decrease in income before income taxes of
approximately $20.2 million over the next 12 months relative to a base case, compared to an
approximate $22.7 million decrease as of June 30, 2004. A decrease of 200-basis-points would
result in an increase in income before income taxes of approximately $18.1 million as of June 30,
2005, compared to an increase of $37.2 million as of June 30, 2004.
43
The change in sensitivity for the 200-basis-point increase is primarily due to a smaller
receivable base, partially offset by a greater percentage of receivables impacted by rate caps.
The change in sensitivity for the 200-basis-point decrease is due to a smaller receivable base, as
well as the retirement of $300 million in long-term debt indexed to LIBOR.
ITEM 4 CONTROLS AND PROCEDURES
Under the supervision and with the participation of the Companys management, including the
Chairman and Chief Executive Officer (CEO) and the Chief Financial Officer (CFO), we evaluated
the effectiveness of the design and operation of the Companys disclosure controls and procedures
(as defined in Rule 13a-15(e) or 15d-15(e) under the Securities Exchange Act of 1934, as amended
(Exchange Act)) as of June 30, 2005. Based on that evaluation, our management, including the CEO
and CFO, have concluded that, as of June 30, 2005, our disclosure controls and procedures were
effective. During the quarter ended June 30, 2005, there were no changes in our internal controls
over financial reporting (as defined in Rule 13a-15(f) or 15d-15(f) under the Exchange Act) that
have materially affected, or are reasonably likely to materially affect, our internal controls over
financial reporting.
Part II. Other Information
Item 1. Legal Proceedings
Reference is made to Part 1, Item 3 Business, Legal Proceedings of the Companys Annual
Report on Form 10-K for the fiscal year ended December 31, 2004, which summarizes a pending lawsuit
involving the Companys former chairman and chief executive officer and certain of its board of
directors and a number of other entities.
In September 2002, a shareholder lawsuit was filed in the United States District Court for the
District of Minnesota, naming the Company, Ronald N. Zebeck and David D. Wesselink as defendants.
The plaintiffs represent a class of purchasers of Company common stock between November 5, 2001 and
July 17, 2002. The lawsuit seeks damages in an unspecified amount. The complaint, as amended,
alleges that defendants violated the federal securities laws in connection with statements made by
the Company about its projected earnings during the periodic OCC Safety & Soundness Examination,
begun on or about November 5, 2001, that related to the Companys reserve methodology and certain
accounting practices, and in connection with the Companys alleged failure to timely disclose the
resulting impact of the OCC Report of Examination issued at the conclusion of its examination. The
parties are conducting expert discovery, and in September 2005 the Company expects to move for
summary judgment.
On July 12, 2005, the Company announced that it received a Wells Notice from the staff of
the Midwest Regional Office of the SEC in connection with their investigation concerning the
Companys reporting and treatment of its allowance for loan losses for 2001, its valuation of
Retained interests in loans securitized and other matters. That investigation was disclosed by
the Company in August 2003.
Under the SECs procedures, a Wells Notice indicates that the staff intends to recommend that
the Commission bring a civil injunctive action against the recipient for possible violations of
federal securities law. Recipients of Wells Notices have the opportunity to respond to the SEC
staff before the staff makes its formal recommendation on whether any action should be brought by
the SEC. On August 2, 2005, the Company filed its responsive Wells submission with the Midwest
Regional Office of the SEC. In addition to the Company, our current and former chief executive
officers and our current controller received similar Wells Notices regarding this matter.
The Company currently is not otherwise subject to any pending litigation other than routine
litigation arising in the ordinary course of business. Because at this time we are unable to
estimate damages that may result from the resolution of the matters outlined above, there can be no
assurance that defense or resolution of these matters will not have a material adverse effect on
our financial position.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
None
Item 3. Defaults Upon Senior Securities
None
44
Item 4. Submission of Matters to a Vote of Security Holders
|
(a) |
|
The Company held its annual meeting of stockholders on May 11, 2005 and the following
matters were voted on at that meeting. |
|
(b) |
|
The directors listed below were elected at that meeting. |
|
(1) |
|
The holders of our Common Stock elected seven directors for a one-year term: |
|
|
|
Leo R. Breitman
|
|
Edward B. Speno |
John A. Cleary
|
|
Frank D. Trestman |
Jerome J. Jenko
|
|
David D. Wesselink |
Donald J. Sanders |
|
|
|
(2) |
|
The holders of our Series C Preferred Stock elected four directors for a one-year term: |
|
|
|
C. Hunter Boll
|
|
David V. Harkins |
Thomas M. Hagerty
|
|
Thomas H. Lee |
|
(1) The election of the following directors who will serve until their successors are elected
and qualified, or their earlier death or resignation: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Broker |
Director |
|
For |
|
Against |
|
Withheld |
|
Abstentions |
|
Non-Vote |
Leo R. Breitman |
|
|
48,082,939 |
|
|
None |
|
|
5,201,716 |
|
|
None |
|
None |
John A. Cleary |
|
|
47,969,940 |
|
|
None |
|
|
5,314,715 |
|
|
None |
|
None |
Jerome J. Jenko |
|
|
47,980,009 |
|
|
None |
|
|
5,304,646 |
|
|
None |
|
None |
Donald J. Sanders |
|
|
48,084,501 |
|
|
None |
|
|
5,200,154 |
|
|
None |
|
None |
Edward B. Speno |
|
|
47,980,897 |
|
|
None |
|
|
5,303,758 |
|
|
None |
|
None |
Frank D. Trestman |
|
|
47,756,136 |
|
|
None |
|
|
5,528,519 |
|
|
None |
|
None |
David D. Wesselink |
|
|
47,205,826 |
|
|
None |
|
|
6,078,829 |
|
|
None |
|
None |
C. Hunter Boll |
|
|
44,184,008 |
|
|
None |
|
None |
|
None |
|
None |
Thomas M. Hagerty |
|
|
44,184,008 |
|
|
None |
|
None |
|
None |
|
None |
David V. Harkins |
|
|
44,184,008 |
|
|
None |
|
None |
|
None |
|
None |
Thomas H. Lee |
|
|
44,184,008 |
|
|
None |
|
None |
|
None |
|
None |
|
(2) The approval of an amendment to the Metris Companies Inc. Amended and Restated
Long-Term Incentive and Stock Option Plan: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Broker |
For |
|
Against |
|
Withheld |
|
Abstentions |
|
Non-Vote |
71,318,938
|
|
|
9,335,367 |
|
|
None
|
|
|
1,034,278 |
|
|
None |
|
(3) Ratification of the selection of KPMG LLP as independent registered public
accounting firm of the Company for the fiscal year ending December 31, 2005: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Broker |
For |
|
Against |
|
Withheld |
|
Abstentions |
|
Non-Vote |
96,400,238
|
|
|
977,502 |
|
|
None
|
|
|
90,922 |
|
|
None |
45
Item 5. Other Information
None
Item 6. Exhibits
Charter Documents:
|
3.1 |
|
Amended and Restated Certificate of Incorporation of the Company
(incorporated by reference to Exhibit 3.1 to the Companys Registration Statement
on Form 8-A12B dated April 26, 1999 (File No. 1-12351)). |
|
(a) |
|
Certificate of Amendment to the Amended and Restated
Certificate of Incorporation of the Company dated June 4, 2003 (incorporated by
reference to Exhibit 3.1 to the Companys Report on Form 10-K dated April 12,
2004 (File No. 1-12351)). |
|
|
(b) |
|
Certificate of Amendment to the Amended and Restated
Certificate of Incorporation of the Company dated September 19, 2000
(incorporated by reference to Exhibit 3.3 to the Companys Registration
Statement on Form S-3 dated September 29, 2000 (File No. 1-12351)). |
|
|
(c) |
|
Certificate of Amendment to the Amended and Restated
Certificate of Incorporation of the Company dated March 24, 1999 (incorporated
by reference to Exhibit 3.1 to the Companys Registration Statement on Form
8-A12B dated April 26, 1999 (File No. 1-12351)). |
|
3.2 |
|
Amended and Restated Bylaws of the Company (incorporated by reference
to Exhibit 3.1 to the Companys Quarterly Report on Form 10-Q for the period ended
June 30, 1999 (File No. 1-12351)). |
Instruments Defining Rights:
|
4.1 |
|
Certificate of Designation of Series C Perpetual Preferred Stock
(incorporated by reference to Exhibit 4.2 of
MCIs Current Report on Form 8-K dated December 22, 1998 (File No. 1-12351)). |
|
(a) |
|
Amended and Restated Certificate of Designation of Series C
Perpetual Convertible Preferred Stock (incorporated by reference to Exhibit 3.3
to MCIs Registration Statement on Form S-3 (File No. 333-82007)). |
|
4.2 |
|
Certificate of Designation of Series D Junior Participating
Convertible Preferred Stock (incorporated by reference to Exhibit 4.3 of MCIs
Current Report on Form 8-K dated December 22, 1998 (File No. 1-12351)). |
|
4.3 |
|
Registration Rights Agreement, dated as of December 9, 1998, between
MCI and the Investors named therein (incorporated by reference to Exhibit 10.3 to
MCIs Current Report on Form 8-K dated December 22, 1998 (File No. 1-12351)). |
|
4.4 |
|
Form of common stock certificate of MCI (incorporated by reference to
Exhibit 4.3 to MCIs Registration Statement on Form S-8 (File No. 333-91917)). |
|
4.5 |
|
Indenture, dated as of July 13, 1999, by and among MCI, Metris
Direct, Inc. and The Bank of New York, including Form of 10.125% Senior Notes due
2006 and Form of Guarantee (incorporated by reference to Exhibit 4.1 to MCIs
Registration Statement on Form S-4 (File No. 333-86695)). |
|
(a) |
|
First Supplemental Indenture, dated as of February 28, 2000,
among MCI, the Guarantors named therein and The Bank of New York, (incorporated
by reference to Exhibit 4.1 to MCIs Quarterly Report on Form 10-Q for the
period ended June 30, 2000 (File No. 1-12351)). |
46
|
(b) |
|
Second Supplemental Indenture, dated as of February 2, 2001,
among MCI, the Guarantors named therein and The Bank of New York (incorporated
by reference to Exhibit 4.7(b) to MCIs Annual Report on Form 10-K for the year
ended December 31, 2001 (File No. 1-12351)). |
|
|
(c) |
|
Agreement of Resignation, Appointment and Acceptance, dated as
of February 20, 2002, among MCI, The Bank of New York, as Prior Trustee, and US
Bank National Association, as Successor Trustee (incorporated by reference to
Exhibit 4.7(c) to MCIs Annual Report on Form 10-K for the year ended December
31, 2002 (File No. 1-12351)). |
|
4.6 |
|
Exchange and Registration Rights Agreement, dated as of July 13,
1999, by and among MCI, Bear, Stearns & Co. Inc., Chase Securities Inc., Salomon
Smith Barney Inc. and Barclays Capital Inc., relating to the new notes
(incorporated by reference to Exhibit 4.2 to MCIs Registration Statement on Form
S-4 (File No. 333-86695)). |
Material Contracts:
|
10.1 |
|
Amendment to the Modified Operating Agreement between Direct
Merchants Credit Card Bank, National Association and the Office of the Comptroller
of the Currency dated April 7, 2005 (Incorporated by reference to Exhibit 99.1 to
MCIs Current Report on Form 8-K filed with the SEC on April 11, 2005 (File No.
1-12351)). |
|
|
31.1 |
|
Certification of Principal Executive Officer Pursuant to Rule
13a-14(a)/15d-14(a). |
|
|
31.2 |
|
Certification of Principal Financial Officer Pursuant to Rule
13a-14(a)/15d 14(a). |
|
|
32.1 |
|
Certification of Principal Executive Officer Pursuant to Section 1350
of Chapter 63 of Title 18 of the United States Code. |
|
|
32.2 |
|
Certification of Principal Financial Officer Pursuant to Section 1350
of Chapter 63 of Title 18 of the United States Code. |
47
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.
|
|
|
|
|
|
METRIS COMPANIES INC.
(Registrant)
|
|
Date: August 9, 2005 |
By: |
/s/ William A. Houlihan
|
|
|
|
William A. Houlihan |
|
|
|
Executive Vice President and Chief Financial Officer
(Principal Financial Officer and Authorized
Officer of Registrant) |
|
|
48